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Apple's Ethical Blindness Selects for Criminal Suppliers in Fraud-Friendly Nations

Apple and its Western counterparts have driven the creation of an Asian network of fraudulent firms that has distorted international trade, hollowed out U.S. manufacturing, and created a bizarre hybrid: quasi-communist crony capitalism.
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The New York Times is presenting a series of important articles by Charles Duhigg and Keith Bradsher on Apple's overwhelming reliance on foreign suppliers. The first article ("How the U.S. Lost Out on iPhone Work": January 21, 2012) was driven by this anecdote:

People will carry this phone in their pocket, [Steve Jobs told his top officers working on the iPhone]. People also carry their keys in their pocket. "I won't sell a product that gets scratched," he said tensely. The only solution was using unscratchable glass instead. "I want a glass screen, and I want it perfect in six weeks.

After one executive left that meeting, he booked a flight to Shenzhen, China. If Mr. Jobs wanted perfect, there was nowhere else to go.

It is a revealing anecdote, but what it reveals most was not discussed directly by the authors in their articles. What if Jobs cared as much about his suppliers' workers' lives and health as he did about scratches on an iPhone screen? What if he demanded that Apple's suppliers comply with the law "perfect[ly] in six weeks?" The authors provided facts establishing Jobs' selective approach to problems. Scratches had to end within six weeks -- endemic fraud endangering workers' lives and health has persisted for over five years. The endemic fraud will continue as long as Apple selects suppliers through a process that gives fraudulent firms operating in fraud-friendly nations a decisive advantage over honest firms operating in the U.S. The second New York Times article sets forth specific examples of the endemic, persistent anti-employee fraud that Apple's suppliers commit.

More than half of the suppliers audited by Apple have violated at least one aspect of the code of conduct every year since 2007, according to Apple's reports, and in some instances have violated the law. While many violations involve working conditions, rather than safety hazards, troubling patterns persist.

The authors plainly view "violations [of] working conditions" to be relatively unimportant. That is a dangerously inaccurate view from the perspective of white-collar criminology. First, illegally coercing workers to violate labor law protections against working exceptionally long hours, laws forbidding the theft of workers' pay, and laws forbidding child labor directly put workers' live and health at risk. The workers are exposed to repetitive motion injuries and mistakes characteristic of exhaustion. Such mistakes endanger the worker, particularly children, who his exhausted and often endanger his or her co-workers. The working conditions damaged the employees' physical health.

Some workers' legs swelled so much they waddled. "It's hard to stand all day," said Zhao Sheng, a plant worker.

Banners on the walls warned the 120,000 employees: "Work hard on the job today or work hard to find a job tomorrow."

What the workers are describing is not simply "hard" on the workers. When legs swell to the point that the worker cannot even walk normally they have swollen to a point where they can pose life threatening circulatory problems.

The combination of exhaustion brought on by the suppliers' violations of labor laws, unsafe working conditions, low pay, and the endemic theft of workers' pay by Apple's suppliers puts workers' health and lives at risk by causing depression and suicides. The Apple supplier that the NYT authors focus on primarily, Foxconn, has anti-suicide nets stretched between its dormitories for workers to try to reduce the rash of suicides brought on by the suppliers' dehumanizing "working conditions." Working conditions can maim and kill -- and the conditions at Apple's suppliers are so inhumane that they have done both.

The article offers no evidence that that Jobs ever thought in these terms. There is no indication that Jobs had any recognition or concern that Apple's bidding process for suppliers created a perverse Gresham's dynamic in which bad ethics would drive good ethics out of the markets. Apple created such an intensely criminogenic environment that it was certain that its suppliers would frequently engage in anti-employee control fraud that would put their workers' lives and health at risk. The authors made this point in their second article in the series.

"You can set all the rules you want, but they're meaningless if you don't give suppliers enough profit to treat workers well," said one former Apple executive with firsthand knowledge of the supplier responsibility group. "If you squeeze margins, you're forcing them to cut safety."

There is no indication that Jobs recognized or cared that "there was nowhere else to go" than China because China was one of the most fraud-friendly nations and would permit the suppliers to commit control fraud with impunity. The combination of fraudulent (primarily) Asian suppliers and fraud-friendly host nations made it impossible for honest suppliers in the U.S. to compete for Apple's business.

I provided an overview of a criminologist's perspective on "anti-employee control fraud" and how and why Apple's suppliers defraud their employees in two earlier columns.

In this column I illustrate how white-collar criminologists would analyze key facts presented in the two recent NYT articles about Apple's suppliers. The first article claims that cheap labor is not the reason Apple's suppliers locate in the most fraud-friendly nations with adequate infrastructure to support moderate and low-skilled manufacturing jobs. The authors argue that the central reasons are network economies and the ability to draw on an enormous pool of engineers. Paul Krugman wrote to express his agreement with the authors' arguments about network economies.

There is some truth to both of these arguments, but both miss key underlying points that arise from the central advantages provided to suppliers by the ability to commit anti-employee control fraud with impunity because they are located in fraud-friendly nations. Both arguments miss a key aspect of cultural and ethical differences. As both of the New York Times articles about Apple's suppliers confirm, the suppliers' initial advantages did arise from the "flexibility" provided by being able to violate laws and contracts purportedly protecting the workers and from the exceptionally low real wages (v. the higher wages fraudulently reported by the suppliers) the suppliers paid their workers after one takes into account the vast amount of theft of straight and overtime wages owed, but not paid, to the workers. What the articles missed is what provides the "flexibility" is the Chinese suppliers' ability to violate the law and their contracts with workers with impunity. Consider this statement, which initially appears false, but reveals a great truth.

"We shouldn't be criticized for using Chinese workers," a current Apple executive said. "The U.S. has stopped producing people with the skills we need."

The statement seems to be absurd. The U.S. produces people with the substantive skills to manufacture iPhone and iPad components. Most of the jobs are low skill processes involving tasks learned at the job site by workers with no job experience. America has millions of unskilled workers. The real argument is about our supply of engineers, which is limited. But the kicker is the unusual skills that Apple's suppliers are looking for in their engineers and managers. The suppliers want engineers and managers who will selectively apply their substantive skills. American engineers and managers cannot be counted on to provide the necessary selectivity. Apple's suppliers' often seek managers willing to order their workers to exceed the lawful workweek, to refuse to pay them for significant portions of the wages they have earned, to unlawfully employ child labor, and even to coerce abortions. American managers are often unreliable in terms of their willingness to engage in these forms of illegality. American engineers are generally even more unsuited than American managers for exercising the selectivity required of engineers working for Apple's suppliers. Apple's suppliers must recruit engineers and senior managers who are willing, as the second NYT article illustrated, to produce high quality components, cheaply, with limited regard for worker safety if safety would impair either of the primary goals.

In January 2010, workers at a Chinese factory owned by Wintek, an Apple manufacturing partner, went on strike over a variety of issues, including widespread rumors that workers were being exposed to toxins. Investigations by news organizations revealed that over a hundred employees had been injured by n-hexane, a toxic chemical that can cause nerve damage and paralysis.

Employees said they had been ordered to use n-hexane to clean iPhone screens because it evaporated almost three times as fast as rubbing alcohol. Faster evaporation meant workers could clean more screens each minute.

The engineer did not order the workers to use the nerve poison because he hated the workers. It was "just business." The nerve poison reduced cleaning time, so an engineer knowingly ordered the workers to use it and scores of other engineers did nothing to prevent the usage. U.S. engineers have the skills to recognize the greater efficiency of forcing workers to use a nerve poison to clean the screens. However, even if motivated solely by concerns about their own health, it is difficult to believe that more than a handful of American engineers would have ordered workers to use a nerve poison to clean the screens.

The second article also gives the example of aluminum dust at two of Apple's suppliers. The Chinese engineers had the technical ability to know that the dust posed a high risk of explosion. The Chinese managers at one of the suppliers were expressly warned that the build-up of aluminum dust posed an immediate risk of explosion. The managers and the engineers refused to act on their expertise, in response to the warning, or even (in the case of the plan with the second explosion), in response to the explosion of aluminum dust. It would have been expensive, however, to close the plants and fix the problem and Apple was demanding the fastest conceivable delivery of the new generation products, so the engineers had to use their expertise to improve the quality of the components and produce them faster while not using their expertise to protect the workers from what could have been catastrophic explosions. Apples' suppliers do not trust American engineers to ignore the risk to workers in order to increase production efficiency.

To sum it up, the Apple official who said that America does not produce the type of engineers Apple needs was speaking the truth. What we are observing is the essence of a Gresham's dynamic in which bad ethics drives good ethics out of the market.

Two aspects of this Gresham's dynamic are obscene, and both are produced by neoclassical economics dogma. Calling this process "creative destruction" is baseless and dishonest. It is the fraudulent destruction of honest businesses, professions, and labor. The Gresham's dynamic is bad for China and bad for the U.S. It is also outrageous that the World Trade Organization (WTO) ignores this non-tariff barrier to free trade and treats efforts to fight anti-employee control fraud as suspect. A few years ago, the World Bank was finally embarrassed into admitting that its purported index of economic freedom was flawed because it treated compliance with International Labor Organization (ILO) rules preventing labor abuses as a denial of economic freedom. The WTO should rule that anti-employee control fraud is impermissible and that nations that permit such frauds with virtual impunity are in violation of their WTO obligations and are subject to sanctions.

Asia's network of fraudulent suppliers of goods and services located in fraud-friendly nations is the greatest barrier to successful competition from (more) honest U.S. suppliers. Viewed today, the network's crushing advantages appear natural. That network, however, is the product of hundreds of individual firms that became large over the last 25 years by engaging in anti-employee control fraud with impunity. It is revealing that such frauds remain the norm decades after the creation of the network. Defrauding and putting the health and lives of workers at undue risk remain defining, core practices of the members of the network. Other factors contributing to the creation of the network include governmental subsidies, particularly by China, Taiwan, and South Korea, the education of large numbers of engineers in these nations, the removal of traditional trade barriers, and widespread anti-public control fraud (tax evasion and tax fraud) by the suppliers.

I repeat my earlier caution -- firms that are anti-employee control frauds are likely to commit other forms of control fraud. Apple and its Western counterparts have driven the creation of an Asian network of fraudulent firms that has distorted international trade, hollowed out U.S. manufacturing, and created a bizarre hybrid: quasi-communist crony capitalism. It boggles the mind that theoclassical economists celebrate the corrupt result as the essence of creative destruction. The network is corrupt. It will not play by the rules. Firms like Apple help create the perverse incentives that encourage the network to cheat. Surviving U.S. manufacturing firms are whipsawed by the powerful Gresham's dynamic that the frauds produce. U.S. firms and workers are constantly pressured to reduce wages and workforce to try to compete with the foreign frauds. This is the "Road to Bangladesh" strategy that has caused U.S. working class wages to stall for decades. Europe is retreating along this same road at an even more rapid rate. The Gresham's dynamic tilts the world in favor of fraudulent firms operating in fraud-friendly nations. It also tilts the world against workers in the developed world.