What Would Lean Trade Look Like?

WOMACK’S YOKOTEN – Between the upcoming Brexit negotiations and the protectionist stance of the new US Administration, trade is making the headlines once again. But what would trade look like in a world of lean organizations?

Words: Jim Womack, Founder and Senior Advisor, Lean Enterprise Institute

The world today is full of acrimony about the rules of trade: free trade, fair trade, managed trade, or even autarky. (The latter means self-sufficiency with little or no trade and is embraced only by North Korea for the moment, but you never know.) And it is clear that the amount of job disruption in recent decades, due to cross-national shifts in production from higher- to lower-wage countries, has been highly upsetting in national politics in the more advanced economies. So cross-national trade may now be significantly restrained.

As the debate on the rules of trade continues to heat up I have been thinking recently about trade from an opposite perspective: What would trade patterns look like – even in a world with no trade barriers – if all enterprises were lean? Or, more simply, how does a truly lean enterprise think about trade? In this month’s column I’d like to share my conclusion.

Lean enterprises first and foremost want to solve their customers’ problems by providing them with the greatest value at acceptable prices. This means they want to avoid competition with commodity products (which will always be about price and never customized to specific customer desires) by tailoring their offering to exactly what customers want at just the right time. This desire has an important consequence: Lean enterprises need to locate production as close to customers as possible to shrink lead-times and to gain rapid feedback, which ideally means locating and sustaining production in high-wage areas near consumers. Thus lean enterprises don’t like to move products across borders. Distance is muda.

Even the leanest enterprises, however, can’t ignore the reality of the wage gradient that currently exists between high- and low-wage countries. So, to sustain production close to customers in high-wage markets they strive to apply and sustain lean thinking in every value-creating activity, to introduce flow wherever possible and pull rather than push. This also means employing lean product and process development to offer more creative products with greater refinement at lower development costs, so that selling prices can go up (because the products offer more value to consumers) while production costs go down.

In some cases, wage gradients are so large that it is impractical to manufacture products with significant labor content in a high-wage market of sale. So lean producers may have to shift production to a lower-wage location but, if possible, only within the region of sale. Trucks for intra-regional shipments are pretty fast and pretty cheap while container ships for cross-global shipments are cheap but very slow, and airplanes are fast but very expensive. For most products where lead-time are short and wages are a high fraction of total costs, trucking within the region of sale is the sweet spot.

Moving further from the customer is never desirable but it’s not all bad for the country losing some jobs if the growth of a nearby, low-wage economy jumps as a result of increased manufacturing. This will pull in imports from the high-wage neighbor (creating new jobs) and the flow of immigrants from the low-wage to the high-wage country is likely to decrease, as has happened in Mexico since 2008, with net immigration (people going back subtracted from people coming in) reported to be at zero. (The tragedy of the NAFTA agreement, which I advised the Mexican government on, was the failure of Mexican economy to grow in the 15 years after 1992, Continuing economic stagnation failed to pull in imports and pushed the wave of job-seeking immigration that had started decades earlier and continued until the Great Recession.)

Finally, lean enterprises, which survive and flourish by continually improving and even dramatically transforming every value stream, do this by fully engaging and continually developing every employee. This means they make a commitment to their employees in high-wage regions facing cost pressure to stick with them until every possible improvement in product offering and design and production methods has been tried.Toyota, the poster child for lean, never laid off employees in Japan due to the outsourcing from Japan required by European and American governments in the 1980s. And not a single employee was laid off anywhere in the world during Toyota’s quality crisis of 2010. (The only exception to Toyota’s no lay-offs policy in the past 60 years has been in Australia, where all of the automotive assemblers left in the last decade, with Toyota the last hold-out until the supply base that had served the other assemblers also disappeared.)

In summary, lean enterprises apply the basic principles of lean thinking: correctly specify value, identify the value stream for every product, make products flow continuously and smoothly from start to finish wherever possible, introduce pull to replace push when flow is not possible, and pursue perfection. By virtue of their hard work to apply lean methods, they feel less of a need to move production locations due to changing factor costs. (Labor, energy, raw materials, etc.) These principles haven’t changed since Dan Jones and I described them 20 years ago in Lean Thinking.

What I have been discussing is the trade pattern of a world of lean enterprises. But the actual world is full of mass production enterprises with modern managers. These managers usually believe in free trade as a philosophical proposition. But they don’t correctly calculate the total cost of purchased goods, imaging the benefits of off-shoring to be vastly greater than they are. (If they had done “lean math” they would have realized that the transfer of production for the US market to China often failed to save significant money.) And they don’t apply lean principles to their production systems, when they could save large amounts and serve their customers better right where they are, with little or no capex needed for automation (the other way to deal with high-wages.) Moreover, they have no loyalty to their employees, who are voting in droves for anti-trade politicians.

Let me cite one example to show that this backward thought process is still alive and causing trouble: I recently visited an American manufacturing company that has fallen far behind in upgrading its products to changing tastes. As a result, it competes with commodity products and its volume per product line is falling, taking away the cost advantage it once had with its mass production equipment. It is now planning to abandon its current high-wage location and conduct the low-volume, high-variety operations it now needs in low-wage regions. Yet the managers have made no calculation of the total cost of the product from the new location, have not thought of applying the full complement of lean practices to the low-volume, high-variety production system now needed in their current location, and feel no loyalty to long-time employees, who are treated as costs rather than as assets able to help the employer continuously improve its competitive position.

The consequence of behavior of this sort across the advanced economies over the past 20 years is a political debate in which even win-win trade is threatened. As I see it, bad management behavior has created a backlash that threatens the managers’ free-trade ideology. So thanks a lot, you modern managers. I hope this all works out in the end but I fear something different will happen.

If trade is restrained and significant production is on-shored to high-wage economiesbut with no change in the stance toward the customer and no improvement in the inferior production practices employed before production was off-shored, we will see high rates of inflation (which hurts low-income workers more than high-income professionals) and higher employment but with lower wages until mass production firms learn how to substitute capital for labor through automation. A lose-lose.

Here’s what we should do instead: Apply lean thinking to reduce unnecessary cross-national flows of goods and treat employees with respect as partners in improving every business. Trade politics will then take care of themselves.