Offshore Debate: Who Is Better Off; Who Worse Off?

Listener: 26 June 2004.

Keywords: Globalisation & Trade;

Economists have traditionally divided the economy into the primary, secondary and tertiary sectors. The justification is long forgotten, but geographically, the primary sector – farming, fishing, forestry and mining – had to be close to the resources it processes, while the tertiary sector – services are the most prominent – had to be near its customers. Secondary – manufacturing – had more locational choice, which is why much policy was directed towards influencing its location. The categorisation was never perfect. Tourism is in the service sector, but it brings its customers to its location. Perhaps it should be reclassified as primary. Other service activities – the education of foreign students – also bring the customer to them. But in recent years, other chunks of the service industry have gone walkabout, as telecommunications costs have collapsed.

Who, a couple of decades ago, would have envisaged virtual retailing such as In the US 14 percent by value of books are sold online, as are 5 to 10 percent of music, event tickets, leisure travel, videos, clothing and computer hardware and software. Traditional bookshops have survived with their customer service, the opportunity to browse and (in the US) the wafting smell of coffee through the store from their internal coffee shops.

A big transformation, which has generated much more political heat in the US, is “outsourcing”. A decade ago, outsourcing referred to government departments privatising some of their internal activities (say, the army using private caterers), or corporations doing broadly the same thing (eg, abandoning their internal legal division and using a law firm). Today “outsourcing” refers almost exclusively in the US to using foreign suppliers. Sometimes it is called “offshoring”.

Perhaps the most familiar outsourcing/offshoring is the call centre, so when you book your airflight, you may interact with someone in another city or another country. A bigger issue is the outsourcing of business processes. For example, an Indian based in Bangalore (India is always the example) may enter the data embodied in an emailed image of a form filled out in the US into an electronic file that is emailed back to the US. Or he may decide whether a US applicant is creditworthy (because of the time-zone differences, this reduces the decision period by two days). Or he may develop some software rather than have it done in the US. (Of course, the Indian could be transferred to the US, but apparently many would prefer to stay at home.)

The US appears to be losing jobs to India, causing much anxiety, especially for those in occupations and regions that lose out. An economist observes this is a middle-class parallel to the working-class concerns of US steelworkers becoming redundant as the result of steel imports from, say, Korea. The political responses are not too different, either. The US Parliament has just passed legislation prohibiting foreign outsourcing by government departments.

But that won’t stop private firms, although there are conflicting views on the relevance of outsourcing to each business. Costs may be key. Some US firms have found cheap local alternatives (eg, using students for data entry). And those that do go overseas are facing rising wages – they went up 10 percent last year – for outsourcing Indians, for there is not an unlimited supply of those with the required skills.

In contrast, there is an almost unlimited supply of Chinese peasants able to man (and woman) their manufacturing plants. It seems likely that China can supply unlimited quantities of general manufacturing to the world without major wage rises. But an Indian peasant doesn’t have the English fluency for an outcall centre, nor the college degree for computing.

Despite the prosperity that outsourcing has generated, the Indian peasants threw out their government last month, because they weren’t sharing in the “Shining India”. (China doesn’t have elections as free as India, so we don’t know what their peasants think.)

So globalisation is changing the location of the world’s industry, just as outcall centres are shifting jobs into New Zealand’s regions out of Auckland and Wellington. Some Americans and their localities are worse off from losing business to India and elsewhere. The offset is the lower costs to those who are charged for the outsourced services (which is the rest of the US). It is exactly the same argument as applies to outsourcing steel – or any international trade. The theory says that the US as a whole is better off, provided that the unemployed workers are absorbed back into the labour force (probably at lower wages), but the theory involves numerous assumptions that may take time to apply, if they apply at all. Practice suggests that much international trade is beneficial.

I was in the US on a grant from Fulbright New Zealand when I wrote this column.