Decline, Part IV

I never saw you look like this without a reason
Another promise fallen through
Another season passes by you
--Big Country

Twenty years ago, the coated paper industry was in the groove. Today, it's in shambles. The company I used to work for has been bought twice over. Today, there is barely a trace of evidence that the firm even existed. And the host communities have been hammered in kind.

What exactly happened?

It seems straightforward point the finger at 'free market capitalism.' After all, Schumpeter famously labeled capitalism a process of 'creative destruction' for good reason, didn't he? To be sure, fundamental market forces such as supply and demand, risk and reward, fear and greed, innovation, etc exerted influence on this situation.

However, we know that markets everywhere have not been operating freely for a long time. The paper industry has been no exception. The intellectually honest question relates to how interventionary forces may have distorted the playing field to drive unnatural outcomes--i.e., outcomes that may not have occured if markets were unhampered.

Let me propose a few interventionary forces that likely twisted outcomes in a significant and negative fashion.

The first one is central bank interest rate policy. Beginning in the early 80s, the Federal Reserve reversed the multi-year hawkish interest rate policies of former Fed chair Paul Volcker designed to 'break the back' of inflation that dominated the 70s. Central banks worldwide basically followed in kind. We began the 1980s with 10 yr T-note yields at close to 20%. The Fed has been pushing rates lower ever since (currently they're at less than three).

Lower yields mean cheaper credit. Cheaper credit means more borrowing. In capital intensive industries where managers are always tempted to borrow more to expand, well, you do the math here. Is it likely that firms in this sector would have borrowed as much, expanded as much, weakened their balance sheets as much if borrowing costs were higher at priced 'at market'? No way.

A second one is unions. I think that unions do have some utility. For example, I found them excellent communication channels. However, the primary goal of most unions is to fix the price of labor higher than market, and then use coercive means to 'close the shop' to outsiders willing to do the same work for less. To the extent that employers are coerced by law to comply with this arrangement, then production costs will be artificially high. Competitive positions of those operators will be compromised.

Unions also tend to make workforces more rigid and resistant to change. When the inevitable game changing environments arrive, workers are unprepared to make major adjustment in their career courses. This inflexibility hurts not only workers, but it impairs a community's ability to adapt.

Third and finally is government subsidy. Critical to the decline of this particular sector was the influx of foreign supply and, subsequently, foreign capital in the form of buyouts. When governments identify particular industries as 'strategic' and are willing to shower them with priviledges, then global competitive behavior gets distorted. Often, however, the distortions occur in localized areas. Thus, favorable government treatment of paper companies in Finland can wind up devastating communities in central Wisconsin. Moreover, capital gets misallocated in huge quantities. Somebody paid (or is paying) for the multi-billion dollar loss when my former firm was bought out, then bought out again at much lower prices.

Parenthetically, I shudder when I see our government picking industries for favorable treatment. See, for example, the Obama administration's treatment of alternative energy. There is a very good chance that this will end in tears somewhere for somebody, and that average standard of living will take a large hit. Just what we need given our current predicament...

It is easy, and somewhat sad, to speculate where things in the US coated paper industry (and these communities) would be today if government had kept its hands off of things.