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«The United States has a significant opportunity for increased growth through exports of business services that is going unrealized because of trade ...»

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Congressional Testimony

Opportunities for US Exports of Business Services

by J. Bradford Jensen, Peterson Institute for International Economics and Georgetown


Prepared statement submitted before the US House of Representatives Subcommittee on Trade of the

Committee on Ways and Means

September 20, 2012

Note: The material in this statement is taken from J. Bradford Jensen’s recent book Global Trade in Services: Fear,

Facts, and Offshoring (2011) and his recent Peterson Institute for International Economics Policy Brief Framework for the International Services Agreement (2012) with Gary Clyde Hufbauer and Sherry Stephenson.

The United States has a significant opportunity for increased growth through exports of business services that is going unrealized because of trade barriers in large, fast-growing countries like India, China, and Brazil.

1. The US business service sector is large (accounting for 25 percent of the labor force), growing rapidly (employment in business services increased roughly 30 percent in the decade prior to the financial crisis), and pays relatively high wages (on average more than 20 percent higher wages than the manufacturing sector).

2. Many business services are traded within the United States and thus could be traded internationally. Many service activities—software, architectural services, engineering and project management services, and insurance as examples—appear to be traded within the United States and thus are at least potentially tradable internationally.

Approximately 14 percent of the workforce is in business service industries I judge to be tradable. In comparison, only about 10 percent of the workforce is in the manufacturing sector.

3. The United States has comparative advantage in business services. The United States consistently runs a trade surplus in services. Service exports now account for almost 30 percent of US exports, and about 16 percent of US imports are service imports. The United States has consistently maintained a positive trade balance in services, with service exports exceeding service imports. The trade surplus in services was $172 billion in 2011 (triple the surplus in 1992).

4. In spite of having comparative advantage in business services and globally competitive business service firms, US service firm participation in exporting lags significantly behind export participation in the manufacturing sector. About 25 percent of manufacturing plants export; in business services, only 1 in 20 establishments export. Looking at exports-to-sales ratios in manufacturing, about 20 percent of manufacturing sales are exported; in tradable business services, less than 5 percent of sales are exported.

5. An important source of the lagging export performance is likely to be the high barriers to services trade imposed by the large, fast-growing emerging markets. India, China, and Brazil (countries where US comparative advantage is most pronounced) all have relatively high barriers to services trade, much higher than the United States or other developed countries.

6. The United States should be working aggressively to open the large, fast-growing economies to services trade. The International Services Agreement offers an excellent opportunity to initiate the process of liberalization in the service sector. The United States should seek to exploit this opportunity and create additional venues to engage the large, fast-growing economies in services liberalization negotiations.

Business Services Are Important

Most observers know that the United States and many developed economies are now “service economies,” correctly grasping that, depending on which industries are included, services account for 50 to 80 percent of US employment and close to these levels in most developed economies. But few observers know how important is the rapidly growing business service sector, which I define to include the industry groups in the North American Industrial Classification System (NAICS) 50s. This group includes the information, finance and insurance, real estate, professional, scientific, and technical industries; management, administrative support, and waste remediation industry groups; and industries such as software, engineering services, architectural services, and satellite-imaging services.

This selection may sound like a set of niche industries, but the notion that business services are a niche is incorrect. The business service sector accounts for about 25 percent of the US labor force—two and a half times the size of the manufacturing sector. Moreover, the business service sector is growing. Over the past decade or so, manufacturing sector employment has decreased by about 20 percent, while business services have increased by about 30 percent. And business service jobs are good jobs: Average wages in business services are more than 20 percent higher than average wages in manufacturing.

Many people hold an outdated view of the US economy. Just as an example, consider the relative size of one service industry, engineering services, relative to two important manufacturing industries: the automotive industry (including assembly and parts) and the aerospace industry. It might surprise you to learn that engineering services is the largest in terms of employment. Engineering services (NAICS 541330) employed 980,000 people in 2007—more than the automotive industry (910,000), and more than twice as many as aerospace (440,000), according to the most recent economic census. Average earnings in engineering services ($73,000) are significantly higher than in auto production ($52,000) or even in aerospace ($68,000).

Business Services Are Tradable

When we think of trade, most of us envision wheat, copper, crude oil, and manufactured goods such as clothing, furniture, consumer electronics, cars, and jet aircraft. We need only visit a port, border crossing, or big-box superstore to find an abundance of such goods from virtually every country in the world.

By contrast, many believe the service sector is largely insulated from the international economy. Because many services require face-to-face interaction between buyer and seller, the prevailing assumption is that most services are not tradable.

This belief has always been a misconception, and in today’s economy, it is an increasingly inappropriate one. The falling costs of travel and increased ease of communications, thanks to the Internet, have vastly expanded opportunities for services to be traded across long distances, including across borders.

But this misconception is all too easy to understand. Official data on services trade is woefully inadequate to reveal the true potential of US business services. Further, because services are intangible, trade in services can be somewhat harder to conceptualize than manufacturing. As a helpful guide, the General Agreement on Trade in Services’ (GATS) definition of trade in services embodies four modes: 1

• Mode 1: cross-border provision, such as software produced in one country and shipped via the Internet to another.

• Mode 2: consumption abroad, as when a vacationer travels to a resort in another country and purchases hotel accommodations, meals, and other services there.

The General Agreement on Trade in Services can be downloaded in its entirety at http://www.wto.org/english/tratop_e/serv_e/gatsintr_e.htm

• Mode 3: commercial presence in a foreign country, such as a restaurant chain opening a branch outside its home country.

• Mode 4: temporary movement of natural persons across borders, such as a business consultant visiting a foreign client.

I will refer to modes 1, 2, and 4 as “cross-border” trade and include them in my definition of tradable services. While Mode 3, also called foreign direct investment or commercial presence, undoubtedly benefits the US and global economy, because most employment associated with Mode 3 trade is in the “local” (meaning foreign) market, I will not refer to this as a tradable service. It is true that the parent company and its overseas affiliates exchange headquarters services, but these types of flows (and the employment associated with them) would be very difficult to identify with existing data. As a result, I will leave Mode 3 trade to the side and focus on cross-border trade.

Cross-border trade in services (both exports and imports) more than doubled from 1997 to 2011. Service exports now account for almost 30 percent of US exports, and about 16 percent of US imports are service imports. The United States has consistently maintained a positive trade balance in services, with service exports exceeding service imports. The trade surplus in services was $172 billion in 2011 (triple the surplus in 1992). This suggests that the United States has comparative advantage in tradable services, as we will discuss.

The Bureau of Economic Analysis divides “private services” into five main groups: travel, passenger fares, other transportation, royalties and license fees, and “other private services,” a catchall category that includes education, financial services, insurance services, telecommunications, and business, professional, and technical services. Other private services roughly encompass what I refer to as business services. Although all of the categories grew from 1992 to 2007, other private services grew the fastest: both imports and exports more than doubled. Other private services also contributed the most to overall service growth, accounting for more than half of the increase in service exports and about half of the increase in service imports. Business services trade is growing rapidly and is increasingly important.

It would be desirable to use detailed trade-in-services data from official statistics agencies to better understand where the growth in other private services trade (both which industries and which countries) is coming from. Unfortunately, currently available data fall far short of what is needed to adequately analyze the sources of services trade growth, let alone to understand the domestic impact of trade in services. Consider that for merchandise trade (i.e., goods), data on exports and imports of over 8,000 product categories are published monthly for most countries in the world. In contrast, only about 30 categories of service trade have only recently become available for a far more limited set of countries. Prior to 2006, even fewer categories are available. Going back to the mid-1990s, only about a dozen categories of services trade are available.

Lacking detailed official data, I pioneered a novel approach of using the geographic concentration of production within the United States—specifically, where production is concentrated and demand is not—to identify industries and occupations that appear to be “traded” within the United States. The logic for this approach is simple: If the supply of a service in one location is greater than consumers in that location are likely to want to consume, then the excess services must be being consumed elsewhere. The key advantage of this approach is that fairly detailed data for domestic production is available.

The notion of using geographic concentration to identify tradable activities is related to a long tradition among geographers and regional economists of using the geographic concentration of economic activity to identify a region's export or manufacturing base. The idea is that if a region specializes in a manufacturing activity—think airplanes in Seattle or automobiles in Detroit—it is likely to export the product in which it specializes.

When trade costs are low and there are reasons to concentrate production in one location (such as capitalizing on increasing returns to scale or accessing natural resources or workers with specific skills), we will observe concentrations of production that exceed local demand (Detroit and cars; Seattle and airplanes). Instead, if trade costs are large, we will observe production distributed ubiquitously with demand (think barber shops and grocery stores).

Geographic concentration of production allows us to identify service activities that are tradable at a very detailed level—far more detailed than official services trade data allow—and add up the amount of employment in these tradable activities.

The results are striking. In contrast to traditional characterizations of services as predominantly nontradable, a significant share of total employment is in tradable service industries. In the business service sector alone, more workers are in tradable industries (14 percent of the labor force) than in tradable manufacturing industries (10 percent of the labor force). Although it is true that some large service subsectors (such as education, health care, personal services, and public administration) have low shares of employment in tradable industries, because the service sector is much larger than the manufacturing sector, the number of workers potentially engaged in international trade in services exceeds the number of workers engaged in manufacturing.

Even more surprising than the size and scope of tradable services is how different workers in these tradable business service activities are from those in either non-tradable business service activities or the manufacturing sector. In the manufacturing industry, about 24 percent of workers have a BA, and about 7 percent have an advanced degree. Similarly, in nontradable business services, about 29 percent have a BA, and 7 percent have an advanced degree. By contrast, looking at the approximately 18 million workers in tradable business services, about 50 percent have a BA and almost 20 percent have an advanced degree.

Moreover, earnings are much higher than in manufacturing and non-tradable business services.

Even controlling for worker characteristics such as age, gender, race, education, industry, sector, and occupational category, occupations in tradable industries pay about 20 percent more than non-tradable work in the same sector and the same occupation.

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