How the Shifting Global Economy Affects Local Economies
After struggling for years, Baltimore, MD’s Sparrows Point steel mill declared Chapter 11 bankruptcy on May 31. As part of the process, it will shut down operations and shed nearly 2,000 jobs over the next few weeks.
On the one hand, as a substantial employer of Baltimore residents, many are searching for answers as to what could have been done to prevent this closure and save those jobs.
On the other hand, as the United States struggles to revive its economy, Sparrows Point also serves as a parable for the manufacturing sector as a whole.
You see, Sparrows Point was largely a victim of international forces beyond its own control. Those forces demonstrate the story of an industry in flux and the future of America, as we continue to transition from an industrial nation to a “knowledge economy.”
Steel producers faced declining prices from international competition for decades, but the global nature of the business became most apparent in 2005, when Indian steel maker, Mittal, bought Sparrows Point’s parent company, ISG.
Mittal went on to buy Arcelor a year later, creating a massive steel conglomerate known as ArcelorMittal (NYSE: MT).
On the whole, the steel market is very fragmented. Different producers excel at producing specific products, whether it’s sheets, rods, or finely finished steel.
Sparrows Point’s strength was tin mill product, which are fine steel sheets covered with tin or chrome, like the kind used in food cans. After the merger, the Department of Justice considered Mittal’s control of the market for tin mill products too strong, so Mittal was forced to sell off Sparrows Point to maintain a competitive market.
This tossed Sparrows Point into the competitive fray at the worst time. And from 2006 onward, everything began to move in an unfavorable direction.
Global steel production grew – increasing supply substantially – and low-cost facilities in China produced 43% of the world’s steel supply, up from 17% in 2000.
At the same time, construction – virtually the only source of steel demand – declined as a result of the 2008 economic crisis.
All told, steel prices dropped 42%. Utilization rates of steel producers dropped, meaning more assets went unused and there was less production to cover the fixed costs of maintaining a plant.
Even as steel prices dropped, the cost of iron ore – steel’s main raw ingredient – rose, squeezing steelmakers’ margins even tighter.
Across the steel industry, profit margins declined during the economic crisis, recovered slightly and then fell sharply over the last six months.
This final decline pushed Sparrows Point to the edge and it could no longer continue to operate.
Under these conditions, it’s a wonder that Sparrows Point survived this long…
A Victim of the Industry Forces, Too
Aside from these global forces, transitions in the steel industry left Sparrows Point in a bind.
There are two kinds of steel mills: large integrated steel mills and smaller, more nimble mini-mills. The smaller mills use a cheaper type of furnace, allowing them to maintain lower fixed costs and react more quickly to changing market conditions.
In fact, Clayton Christensen, bestselling author of The Innovator’s Dilemma, highlights mini-mills as the perfect example of a new technology toppling an established industry.
Sparrows Point was a large integrated mill.
The mini-mills focus on lower-quality steel and were able to capture that market. Meanwhile, integrated steel producers in China and India faced much lower labor costs than Sparrows Point.
Integrated U.S. steel mills got squeezed between these two new developments and most went out of business. Sparrows Point was the last large integrated mill on the East Coast.
Unfortunately, it doesn’t appear that a difference in management, an injection of capital, or government support could have sustained Sparrows Point. As painful as it may be for Baltimore, this was an outdated business that couldn’t survive on its own.
Sparrows Point steel represents the inevitable decline of some industries, but Baltimore also shows how the economy can evolve.
The shift away from production toward a “knowledge economy” carries a negative connotation. Many people picture a service economy with no tangible benefits. But that’s an unfair picture to paint.
Case in point: About seven miles up the Chesapeake Bay from Sparrows Point is Under Armour (NYSE: UA), a company that has amassed 1,800 employees since it began 16 years ago. While Under Armour manufactures most of its products overseas, its U.S.-based “knowledge workers” certainly contribute to the production of actual goods.
Only 4.6% of Maryland’s employees work in manufacturing, one of the lowest percentages among all U.S. states. But its unemployment rate is 6.7%, tied for sixteenth lowest. The shift to a knowledge economy, it turns out, can be healthy and productive.
If you’re still partial to heavy industry, Baltimore was the fastest-growing major U.S. port last year thanks to the opening of a new, deeper berth for larger ships. And the Sparrows Point site is already being considered for use as a new shipping terminal.
When it comes to business, local problems are rarely based on local factors. But the global economy works two ways. Growth giveth, and growth taketh away.
Ahead of the tape,
Matthew Weinschenk
Related Topics: Economy and Politics, International
