NORTH AMERICAN INDUSTRY CLASSIFICATION SYSTEM (NAICS)

The North American Industry Classification System (NAICS) is a detailed industry coding system designed to facilitate the collection, analysis, and presentation of economic statistical data in the United States, Canada, and Mexico, which comprise the member nations of the North American Free Trade Agreement (NAFTA). First implemented in 1997, the NAICS is the successor to the Standard Industrial Classification (SIC) system, which had been used by U.S. agencies to compile and track national business data for more than six decades.

The U.S. Census Bureau touts the NAICS as "a unique, all-new system for classifying business establishments. It is the first economic classification system to be constructed based on a single economic concept. Economic units that use like processes to produce goods or services are grouped together. This 'production-oriented' system means that statistical agencies in the United States will produce data that can be used for measuring productivity, unit labor costs, and the capital intensity of production; constructing input-output relationships; and estimating employment-output relationships and other such statistics that require that inputs and outputs be used together…. NAICS is forward looking and flexible, anticipating increasing globalization and providing enhanced industry comparability among the NAFTA trading partners while recognizing important national industries and providing for periodic updates through three country review [the United States, Canada, and Mexico]. NAICS recognizes the structural and technological changes occurring in the economies of the three North American countries and provides the means to measure these changes well into the next millennium."
THE SIC SYSTEM

NAICS's predecessor—the Standard Industrial Classification system—was the first comprehensive classification system used by American government agencies to formulate economic statistics.

This information, available for study and use by both public and private entities, was arranged in a set of hierarchical numeric codes that sought to identify every single industry in the United States. The result was an establishment-based industry classification system that classified each establishment (defined as a single physical location at which economic activity occurs) according to its primary activity. For each of these recognized industries, the government kept detailed statistics in such areas as employment, payroll, receipts, profits, and capital investment.

After its unveiling in 1937, the SIC system's universe of economic data became a heavily utilized tool for conducting business research and tracking economic trends. Government agencies, nongovernmental organizations, and private businesses alike made extensive use of the data. But despite periodic updates and revisions to the SIC classification system, its inadequacies became more glaring with the passage of time.

The fundamental problem was that the SIC system was based on concepts developed in an era of American history—the 1930s and 1940s—when manufacturing was the dominant economic engine. Many service activities were not separately identified, and as service-oriented businesses became more important, SIC revisions did not keep pace. The economic statistics contained in the SIC system thus became progressively more obsolete and/or incomplete in some significant areas. This under representation of important economic sectors was further exacerbated by the SIC's framework, which lumped unrelated industries together into similar categories.

Despite its imperfections, however, the Standard Industrial Classification system continued to be widely used by business marketers through the 1980s. The SIC data did provide them with a method for classifying organizational customers and gauging industry trends (especially in manufacturing sectors), and it remained the only source of these important economic statistics. In addition, the 1987 revision added approximately 20 new service industries and tweaked several manufacturing industry classifications to reflect changing technological realities. Ultimately, however, the SIC system remained an outmoded one. For example, of the 1004 industries recognized in the 1987 Standard Industrial Classification program, nearly half (459) represented manufacturing, even though manufacturing's share of the U.S. Gross Domestic Product (GDP) has shrunk to less than 20 percent of the nation's total. "The SIC did a superb job of describing and detailing the structure of the footwear industry in the United States, but failed to recognize and account for the information age in which we live and work," summarized Carole Ambler in Business America. "The SIC scattered the production of high-tech products such as computers, semiconductors, and communications equipment in groupings of industrial machinery and electrical equipment, and included the reproduction of shrink-wrapped software in the same industry with software publishing."

The various inadequacies of the SIC system finally prompted America's public and private sectors to unite and call for a new industry classification system that would be based on the reality of today's service-based, Internet-driven, technology-powered global economy. The ultimate shape and character of this new system was dramatically influenced by the implementation of the North American Free Trade Agreement between the United States, Canada, and Mexico in 1994. This major trade treaty highlighted the need to develop a new industry classification system that would take into consideration the increased flow of goods, services, and capital between the three North American nations. Moreover, it emphasized the need for a system that could provide users with country-to-country comparability of statistical information.

CREATION OF THE NAICS

The North American Industrial Classification System was a cooperative effort that required the active involvement of U.S., Canadian, and Mexican government agencies. The primary U.S. body involved in NAICS creation and implementation was the Economic Classification Policy Committee (ECPC) of the Office of Management and Budget, but the Bureau of Economic Analysis, the Bureau of Labor Statistics, and the Census Bureau all contributed to the initiative. Statistics Canada and Mexico's Instituto Nacional de Estadistica, Geografia e Informatica (INEGI), meanwhile, worked with the ECPC to ensure that the new system would be able to provide comparable statistics for industries in place in all three countries, while simultaneously providing flexibility so that each country could accommodate industries unique to its own economy.

In 1997 the Office of Management and Budget (OMB) announced its decision to adopt the new NAICS as the industry classification system used by statistical agencies of the United States. During this same period, the nuts and bolts of the NAICS were unveiled to largely positive reviews. "NAICS recognizes new, emerging, and advanced technology industries; NAICS acknowledges the information age in which Americans live and work; NAICS considers over 150 new service industries; NAICS provides for comparability of data with other NAFTA trading partners; and NAICS is based on a production-oriented conceptual framework," observed Energy Conservation News. Marketing professionals were particularly pleased with the new proposed system. "NAICS is based on an entirely different concept than SIC," stated Suzanne Sabrosk in Searcher. "Its goals were not only to identify new industries but to acknowledge a more consistent economic principle—namely types of production activities performed, rather than the mix of production and market-based categories in the SIC. This process orientation, as opposed to an approach stressing supply and demand, accounts for the presentation of more detail in the service sector. NAICS classifies industries based on what the industries do, rather than whom the industries serve. For example, NAICS classifies bakeries that bake and sell on the premises under manufacturing, instead of as retailers, because of the way in which the bakeries produce their baked goods."

FRAMEWORK OF THE NAICS

The North American Industry Classification System defines a total of 1, 170 industries in the United States. Nearly 360 of these industries are delineated for the first time (many in high-tech fields such as fiber optic cable manufacturing and satellite communications), while 565 are service-based. These industries are grouped in 20 industrial sectors that are progressively subdivided into three-digit subsectors, four-digit industry groups, and five-digit industries. The definition of most five-digit industries is the same in all three countries (the United States, Mexico, and Canada) so that they can produce comparable data, but some U.S. industries feature a sixth digit. The old SIC system was a four-digit one that did not have any linkages between the NAFTA-member economies. "NAICS allows each country to recognize activities that are important in the respective countries, but may not be large enough or important enough to recognize in all three countries. The sixth digit is reserved for this purpose," explained the Census Bureau.

The base two-digit NAICS Industry Sectors are as follows:

1. 11 Agriculture, Forestry, Fishing and Hunting
2. 21 Mining
3. 22 Utilities
4. 23 Construction
5. 31-33 Manufacturing
6. 42 Wholesale Trade
7. 44-45Retail Trade
8. 48-49 Transportation and Warehousing
9. 51 Information
10. 52 Finance and Insurance
11. 53 Real Estate and Rental and Leasing
12. 54 Professional, Scientific, and Technical Services
13. 55 Management of Companies and Enterprises
14. 56 Administrative and Support and Waste Management and Remediation Services
15. 61 Education Services
16. 62 Health Care and Social Assistance
17. 71 Arts, Entertainment, and Recreation
18. 72 Accommodation and Food Services
19. 81 Other Services (Except Publish Administration
20. 92 Public Administration

Of these base sectors, five of them are primarily goods-producing (manufacturing) in nature, while the remaining 15are services-oriented. This is a dramatic departure from the manufacturing-oriented perspective of the old Standard Industrial Classification system. Complete NAICS listings are available on the Census Bureau website at www.census.gov/naics.

Many of the NAICS sectors feature combinations of old SIC divisions, while others are long-neglected economic sectors. For instance, the NAICS has an information sector that includes all establishments that create, disseminate, or provide the means to distribute information. "So everything from data-processing services to motion pictures, broadcasting, and sound recording industries ended up here, as did newspaper, book, and periodical publishers, previously classified as manufacturing, and software publishers, previously included in SIC services," explained Sabrosk. "There are 34 industries in this sector, of which, 20 are new, such as paging, cellular, wireless, and satellite communications. In NAICS, publishing—including reporting, writing, and editing—appears as a major economic activity in its own right, whereas printing remains in NAICS manufacturing. Software publishing goes here because creating a copyrighted product and brining it to market equates to the creative process for other types of intellectual products." This sector's creation will enable the U.S. government and business (and other governments and business enterprises for that matter) to track the tremendous impact of information-based industries on the U.S., Canadian, and Mexican economies for the very first time.

Other important new or overhauled sectors in the North American Industry Classification System include:

Professional/scientific/technical services—This grouping consists of businesses whose major input is "human capital," such as physicians and attorneys.

Health care/social assistance—The number of industries classified in this sector nearly doubled from those listed under the old SIC system. Among the 27 new industries included in this sector, particularly notable ones include health maintenance organizations (HMOs), organ banks, and continuing care retirement facilities.

Computer and electronics manufacturing (including software reproduction, compact disc reproduction, and printed circuit assembly).

Arts, entertainment and recreation—This new sector includes a variety of ascendant industries that reflect our changing lifestyles, such as fitness and recreational sports centers, casinos, skiing facilities, and outfitting companies.

Insurance and real estate—the parameters of these important economic sectors have been expanded and extensively reshaped to reflect current realities.

Wholesale and retail trade—"The distinction between retail and wholesale trade is now based on how the establishment conducts its business rather than on the class of customer that it serves," wrote Ambler in Business America. "Those businesses that operate from a store-front, advertise to the general public, and provide retail-type services are considered retailers in NAICS regardless of whether they sell primarily to businesses or consumers. This new definition reflects the changing structure of retail trade."

DIFFERENCES BETWEEN NAICS AND SIC SYSTEMS

Analysts have pointed out a number of significant differences between the new NAICS system and the Standard Industrial Classification arrangement that it replaces. Key areas in which the two systems differ include:

Focus—The NAICS focused on services industries and new industries driven by advanced technology, whereas the SIC system was heavily weighted toward manufacturing. In addition, the NAICS benefits from a unified, production-oriented conceptual framework. "Businesses that use similar production processes to produce a good or service are grouped together," explained Ambler. "This single conceptual framework ensures that the classification system will produce data for improved analysis of input/output patterns, productivity, unit labor costs, and industrial performance. There was no consistent conceptual framework for the SIC." However, analysts note that the differing definitions that exist between the NAICS and the SIC will make historical trend analysis a difficult undertaking in many instances. "Comparative statistics and bridge tables may help at the 2-digit SIC and 3-digit NAICS level of activity," noted Robert Haas and Thomas Wotruba in Agency Sales Magazine. "[But] more detailed comparisons and links with past data may require what the Census Bureau calls 'synthetic estimates.' These involve applying proportions or trends from details making up one data set to the totals in a related data set or category."

Nomenclature—Groupings within NAICS are known by different names than those in the SIC system. For example, the SIC called the highest level of aggregation in its system a "division," whereas the NAICS calls it a "sector." The SIC's next highest level of aggregation, meanwhile, was designated "major group," but in the NAICS it is known as a "subsector."

Update-friendly—NAICS codes will be reviewed and updated on a regular five-year cycle by NAFTA member countries to make the system as useful and relevant as possible. The old SIC system, on the other hand, was only revised every 10 or 15 years.

Comparability—The Four-digit SIC system was not linked to the economic data tracking systems of Canada or Mexico in any way. The NAICS system, on the other hand, enables analysts to directly compare industrial production statistics collected and published by all three NAFTA members. In addition, NAICS provides for increased compatibility with the International Standard Industrial Classification System, developed and maintained by the United Nations and widely used in Europe.

The ECPC is currently working on revisions that are expected to be integrated into the 2002 version of the NAICS. New industries covered in this update will include data processing services and Internet service providers, and it is anticipated that the telecommunications industry will be further segmented into its service and manufacturing components. In addition, a North American Product Classification System (NAPCS) is also in development. This program will ultimately track economic activity by industry product.

In the meantime, the North American Industry Classification System continues to be regarded as a welcome development, despite the choppy conditions that may prevail during the transition away from the old SIC framework. "The SIC system was dated and badly in need of revision," stated Haas and Watruba. "The new system should provide much more detailed information on a wider spectrum of industries, which in the long run should prove more beneficial to all concerned. In addition, its application to Canadian and Mexican markets and its compatibility with the ISIC system should greatly facilitate more effective global marketing by U.S. marketers. Once NAICS has been adopted and implemented over an extended time period, the short-run problems may well be forgotten because of the long-run benefits of the new system."

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