Consternation over the loss of manufacturing jobs to China was aroused again recently when Evergreen Solar announced that it would move 800 manufacturing jobs from a decommissioned Devens, Mass. military base to China. In an article by Keith Bradsher of The New York Times, Evergreen’s CEO claims that producing in China is more competitive because its local governments offer partnerships that bring very low-interest rate loans from state-owned banks compared to what U.S banks were offering.

For U.S. policy makers and clean economy advocates like us this is particularly disconcerting for two reasons. 

First, Evergreen was helped in just about every way imaginable. The Boston Globe reported that it received $21 million in direct grants, $22.6 million in tax credits (that were unrealized because of low profits), $17.5 million in loans, $13 million in infrastructure upgrades to roads and electrical transmission lines, and 23 acres of space (worth $2.3 million) for $1 per year. Furthermore, as Ed Glaeser uncovered, the National Renewable Energy Lab provided $3 million in R&D funding in 2002. Likewise, the state has a variety of programs--from renewable portfolio standards to tax incentives--that are designed to stimulate demand for solar energy.

Second, it cuts against the grain of economic theory on comparative advantage. Rich countries are supposed to do the manufacturing that, like Evergreen, entails a high capital to labor ratio (e.g. automobiles, airplanes, pharmaceuticals) or requires intensive R&D because physical and human capital are abundant but unskilled labor is expensive relative to developing countries. To a large extent this is what the United States does through companies like GE, Boeing, Microsoft, Apple, Pfizer, and Eli Lily. Evergreen should have fallen into this category. The patented technology used by Evergreen was invented by an MIT mechanical engineer in the 1980s and the costs of its factory were reportedly $430 million. Yet, the problem was that the U.S. financial market--the largest and most sophisticated market in the world--couldn’t or wouldn’t supply the capital at competitive terms, or, at least, that is what Evergreen’s CEO told Bradsher.

Of course, not everyone sees this as a finance problem. Harvard economist Ed Glaeser argues that the United States faces such bleak competitive prospects--mostly because of labor costs--that it simply shouldn’t try to do large scale manufacturing anymore, and should create jobs based on knowledge, education, and small, early stage manufacturing in the development of products. He also believes economic activity is more successful in densely populated and highly educated cities and that Evergreen erred by moving to the former Ft. Devens.

I share Glaeser’s enthusiasm for cities but believe clusters are more important than density per se. It’s clear that businesses can enjoy the positive benefits of proximity to their co-industry compatriots in small metros or even rural areas where space is much cheaper and more abundant. Indeed, many small metros, like Wichita, Raleigh-Durham-Chapel Hill, and Austin, are thriving manufacturing hubs. Likewise, the fact that, through foreign direct investment, European, Korean, and Japanese firms build factories--often away from large cities--in the United States suggests that market forces are more optimistic about U.S. manufacturing than Glaeser.

But what if Evergreen, as portrayed by Bradsher, is right, and this is basically just a financial problem? Maybe there is no significant comparative advantage that makes China a more attractive place to produce advanced technologies than the United States. Differences in labor costs, while significant, are a small share of total costs, and U.S. workers might be more productive because of educational advantages at the management level. Moreover, U.S. infrastructure--roads, seaports, airports, and electricity--is certainly competitive, even if under-funded.

If this is the case, then a one or two things might explain the Chinese advantage: They are cheating, or U.S. financial markets are failing.

If the Chinese government is cheating and their state owned banks are absorbing loses in order to subsidize U.S. companies to produce there, then I say, let them have it. Why should we throw money at an industry in order to drive prices below the costs of production when China is doing the same thing? Why not, just enjoy the low prices for solar equipment and make something else, as Glaeser suggests?

But there is no evidence that Chinese banks are losing money on these low interest loans, and there is another more important way in which they are “cheating.” Because of their under-valued currency (and large trade surplus), abundant U.S. dollars are officially over-priced in China. Chinese banks take deposits from exporters in dollars, convert them to yuan, lend them out, and get artificially high returns by virtue of the enhanced buying power of yuan. There is evidence that this is causing inflation in China, and some speculate that many Chinese loans will not perform.

As experts at the Peterson Institute for International Economics have argued, this form cheating--currency manipulation--deserves to be challenged by an international body like the World Trade Organization, though it may lack the necessary legal framework, leaving it to the United States and its allies to reform the rules on currency manipulation enforcement.

The other explanation for the Chinese advantage is that U.S. banks are subject to serious market failures related to late-stage technological and commercial risk, and that China somehow overcomes these failures (while creating new and worse problems in the long run) through state ownership of banks or other policies. The failures of U.S. banks might even be exacerbated by the financial reform bill’s requirement that they hold more capital reserves. The solution to this type of problem lies in a federal effort to step in and repair financial markets for large scale production.

The Senate has already outlined what such a solution could look like in its Clean Energy Deployment Agency, which would do things like provide performance and loan guarantees and facilitate the creation of a secondary market. Federal interventions in housing and higher-education financing show that such steps can dramatically expand access to loans. If the United States is serious about retaining and creating manufacturing jobs, Congress will have to take a hard look at problems with existing financial markets. As Harvard Business School professors have argued, venture capital firms grew out of the much less capital intensive IT sector and just don’t have the resources or long-term focus required for large-scale manufacturing investment.

Whatever the reason for Evergreen’s departure, and the general difficulty of solar manufacturing in the United States, there doesn’t appear to be a strong case for direct grants, free land, and tax credits to favored clean economy manufacturers--or any business for that matter. These policies might have an environmental rationale, but they don’t have an economic one. They create un-productive bidding wars between states and jurisdictions and, at least in the case of Evergreen, waste tax payer money that could be better spent on shoring up budgets or providing important services. Strategic U.S. interventions in lending markets could have more dramatic effects without any net spending of taxpayer money.