The Lost Decade for the U.S. Manufacturing Jobs: A Story of Cost and Risk

We propose two perspectives on U.S. manufacturing job losses to countries in Asia in 1990-2011: production cost arbitrage and the management of supply-demand mismatch. In our model, a firm facing demand uncertainty decides between investing in domestic or overseas production capacity. The model predicts greater investment overseas when the cost arbitrage is high, switching cost is low, demand volatility is high, and the systematic risk in demand is above a certain threshold. Empirically, we observe strong support for the cost arbitrage motive in 1990-2000 and the risk management motive in 2001-2011, i.e., after China's entry into the WTO.