The Battle
Over Outsourcing

Does Exporting Jobs Really Help Create New Ones at Home?

By Bob Davis, Michael Schroeder and Timothy Aeppel
Staff Reporters of The Wall Street Journal

The debate over "offshore outsourcing"-when companies shift certain job functions to workers in other countries to save money-used to be fairly simple. On one side were labor unions and blue-collar workers who were displaced or idled when their employers moved their manufacturing work to foreign factories with lower-paid workers. They believed that this trend would depress wages and increase unemployment here in America.

COVER STORY

ECONOMICS The Battle Over Outsourcing Does Exporting Jobs Really Help Create New Ones at Home?

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On the other side were business and government leaders who advocated free trade and "globalization," the integration of markets around the world. They believed that when a rich country sends blue-collar jobs overseas, it creates new opportunities back home for workers to move up the skill ladder and make more money. The more recent corollary was that sending service jobs overseas would do the same for white-collar workers back home.

Now, however, some of those free-trade advocates aren't so sure. The rising number of skilled, white-collar jobs migrating from rich nations to developing countries is raising fears that well-paid workers in developed countries will have trouble finding equally well-paid computer, design and medical jobs at home. Many of the true believers in globalization worry that outsourcing also could erode political support for free trade internationally.

"When auto-manufacturing jobs went to Mexico, we said we'd push the bar up and create better jobs," says William Daley, who guided the North American Free Trade Agreement through Congress for former President Clinton and is president of SBC Communications. "Can you keep going up the job chain?"

Other skeptics note that there are substantial differences between how trade affects workers in manufacturing and services. In the manufacturing sector, developed countries can try to protect domestic jobs and industries by imposing tariffs on imported goods. High import tariffs eliminate some of the economic argument for using lower-cost labor abroad to make goods that will be more costly to import into the U.S. But the service trade isn't affected much by tariffs, and can move as rapidly as the improvements in computers and communications allow. Therefore, the job loss in the service sector can be more sudden.

So long as it was just manufacturing jobs at stake, opinion leaders didn't take much note, says Dani Rodrik, a Harvard University economist. The alarm is being sounded now, he says, because "the opinion leaders are seeing their neighbors being displaced."

Software programming has been outsourced for years to India. Low-paying jobs in call centers also have been shifted to English-speaking countries around the globe. Now high-end computer-systems integration is leaving the U.S., too, as is architectural and design work. An estimated 200,000 service jobs, a large percentage in information technology, have been shipped abroad to foreign affiliates of U.S. companies during the past three years.

'Mad in the U.S.A.'

As a result, a new and vocal anti-free-trade movement is emerging in the U.S., made up of highly skilled workers who once figured they would be big winners in the globalized economy. They include design engineers, skilled machinists, information-technology experts and chief executives of specialized manufacturing companies, among others. They once believed that they were largely protected from foreign competition because of their advanced degrees, English-language skills and the supposed necessity of dealing face-to-face with customers. But now they worry that their jobs are at risk.

These white-collar free-trade opponents are linking up with organized labor and old-line manufacturers, deepening the opposition in the U.S. to liberalized trade and making congressional passage of any trade pact more problematic. "We're not a bunch of whining businessmen, but we needed to focus our anger," says Fred Tedesco, founder of a group called Mad in the U.S.A., which brings together highly skilled manufacturers.

Mr. Tedesco, owner of Pa-Ted Spring Co. in Bristol, Conn., says his company followed a strategy that he thought would preserve its market share. Pa-Ted invested heavily in the latest equipment and has moved into producing ever-more sophisticated products. Among these are tiny clamps made of an exotic alloy used to pinch off arteries in the human body. Still, his business is down 30% in the last two years as big customers relocate abroad and competition grows from ever-more-sophisticated Chinese manufacturers.

The outsourcing opponents got a boost recently when Intel Chairman Andy Grove, a pioneer in the American high-tech industry, warned that the U.S. could lose the bulk of its information technology jobs to overseas competitors in the next decade, largely to India and China. Mr. Grove called on government and industry to create public policy to help reverse the trend. He advocates taking 1% to 2% of U.S. agriculture and other subsidies to increase university research and development funding; tightening patent application and litigation requirements; and expanding the number of U.S. households with access to the latest Internet technology.

But Mr. Grove acknowledges that Intel has been part of the trend he describes. Given cost and productivity pressures, the microchip company "has no choice" but to continue sending work abroad, he says.

Overblown Fears?

For the past few decades, U.S. presidents have promoted free trade and global integration as an economic-development strategy. Although the U.S. would lose some manufacturing jobs to developing nations where labor costs are lower, the argument went, the U.S. would gain higher-paying, higher-skilled jobs that poor nations were unable to master. The more recent trend of outsourcing service jobs makes that argument less compelling.

Still, some economists and globalization advocates think the fears of outsourcing are overblown. A recent McKinsey study concluded that at least two-thirds of the economic impact from sending jobs offshore flows back to the U.S. economy in the form of lower prices, expanded overseas markets, and fatter profits that U.S. companies can plow back into even more innovative businesses.

If Indian programmers, for instance, produce software at lower prices than Americans can, that would reduce costs for the many users of information technology. As that lower-price software spreads through U.S. and European companies, those companies become more efficient, more productive and more able to hire new workers. At the same time, as India and China develop economically, they would become more-lucrative markets for U.S. exports.

Catherine Mann, an analyst at the Institute of International Economics, estimates that U.S. companies were able to reduce the cost of computers and communications equipment by about 10% to 30% by making the equipment in factories around the world. That lifted U.S. economic growth by about 0.3 percentage point a year between 1995 and 2002, as more companies made use of less expensive information technology. She expects similar economic gains if computer software is produced in an internationally efficient fashion.

Alan Greenspan, chairman of the Federal Reserve, says the real problem for U.S. workers isn't trade, but the fact that in the past 20 years, highly educated, high-skilled workers have seen their wages rise briskly while those of low-skilled workers have stagnated. The solution, he says, is more education for those with few skills to close the gap.

At the same time, he says, as demand for high-tech workers in India and China surges, the low-wage advantage in those countries would disappear. He says Americans were worried in the 1950s and 1960s about the loss of jobs to highly educated, lower-paid Japanese, but as demand for those Japanese workers climbed, "Japanese wage rates just took off. So it's not as though Chinese and Indian software engineers are always going to be at a very significant differential. Eventually the gap will close."

Moreover, supporters note, free trade works both ways. Just as U.S. companies see advantages in moving jobs abroad, foreign companies are increasingly seeing benefits in setting up operations and creating jobs in the U.S. (See article on Page 11.)

Presidential Politics

For now, though, outsourcing is becoming an increasingly hot political issue, especially with the presidential campaign accelerating. Since Mr. Bush has taken office, the U.S. has lost more than two million jobs-a statistic that has become a major point of attack for Democrats, who cite outsourcing as one cause.

But on this issue, the lines between the two parties are not so clearly drawn. The White House's chief economist, Gregory Mankiw, set off a political firestorm recently when he said that outsourcing U.S. jobs "is probably a plus for the economy in the long run." Mr. Mankiw may have been trying to put the outsourcing issue in perspective, and speaking more as an economist than a politician. But to some critics he sounded cavalier-for instance, in suggesting that high-paying jobs in radiology might be better done abroad than in the U.S.

His remarks brought sharp rebukes from lawmakers, including some Republicans. House Speaker Dennis Hastert of Illinois said Mr. Mankiw's "theory fails a basic test of real economics."

The president, too, has tried to distance himself somewhat from Mr. Mankiw's comments. "There are still some people looking for work because jobs have gone overseas, and we need to act in this country," he says. Mr. Bush has touted his budget proposals to increase spending on job-training programs at community colleges.

But even some prominent Democratic economists echo Mr. Mankiw, and see outsourcing as a net positive. "Basically I agree with Greg's thrust," says Janet Yellen, who was President Clinton's chief economist. "In the long run, outsourcing is another form of trade that benefits the U.S. economy by giving us cheaper ways to do things."

That won't stop the Democrats from using it as a campaign issue, though. "On efficiency grounds, he [Mr. Mankiw] is right," says Robert Reich, President Clinton's labor secretary. But Mr. Reich, now an adviser to Democratic candidate John Kerry, says the Bush administration hasn't made "a serious attempt to deal with the profound structural problems of an economy in transition as it affects middle-class jobs."

Sen. Kerry is looking at tax-law changes to discourage companies from shifting jobs abroad and requiring workers in call centers to identify the nation in which they are located. He also argues that reforming the health-care system to make it more affordable would save companies money and give them one less reason to move jobs abroad.

Congress is charging into the debate, too, taking up a number of anti-outsourcing bills ahead of the fall campaign. (See article at wsjclassroom.com/related.) Meanwhile, about a dozen states are considering putting curbs on the use of outsourcing in government contracts. Last year, a bill in the New Jersey Legislature to limit state computer work to U.S.-based employees stalled because of lobbying by multinational companies. Still, New Jersey forced a computer-services contractor to relocate an 11-employee help-center to Camden, N.J., from Bombay, India-at an additional cost to taxpayers of nearly $1 million a year.

Do you think outsourcing is good for the economy in the long run? Write to us.