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International Outsourcing: When Does It Make “Cents”?

Labor outsourcing is a production strategy, aimed at reducing the cost of production, through apportioning work to firms or workers that can complete it at a cheaper price or in a more effective manner. The benefits of outsourcing are enormous to the host country that provides the cheap labor, as the practice offers the unemployed labor force a source of income. Outsourcing – both international and local – presents benefits to the different parties involved, despite the fact that economist get skeptical about the short and medium term effects of outsourcing on the outsourcing economy. From a political and social viewpoint, outsourcing is viewed as a practice that could lead to unemployment in America, despite the explanation of models like the Ricardian comparative advantage model. The model proposes that nations should focus on the production of the products that they are likely to produce better – both in the short and the long term. Outsourcing presents benefits to both the outsourcing nation as well as the country that offers the cheap labor. The benefits include the shift towards more specialized production, the reduction of product prices locally and internationally and the corresponding opportunities that result from increased productivity. Other advantages include that firms reduce their costs of production, therefore are more likely to invest in capital investments as well as the creation of more employment. In conclusion, outsourcing presents advantages to all involved parties – though some are felt in the long term.
In the case of a developing national economy like India, which has a large population of skilled labor; outsourcing presents a huge economic opening. A study carried out by the McKinsey Global Institute projected that the IT sector is likely to employ more than 4 million Indians. The study had projected that the employment inflow would generate an income of USD 57 billion, which would account for 7% of India’s 2006 GDP (Bardhan and Kroll, 2003). The advantage of outsourcing is that it offers employment options to skilled persons, without presenting the need for labor mobility. Outsourcing also presents macroeconomic advantages, as the increased employment of Indians increases India’s purchasing power and national income. These changes increase the demand that leads to increased economic growth (Jain and Mukand, 2005).
From the viewpoint of the Western world, outsourcing is guided by the views of neo-classical economists. These views are that, firms outsource based on the acknowledgement that outsourcing a certain portion of the work processes will attract a lower cost, especially when outsourcing is done from developing economies. Therefore, outsourcing presents a form of labor mobility, which is not accompanied by the actual movement of workers. For this reason, outsourcing minimizes the costs incurred by such firms, while at the same time increasing productivity levels. In the long term, both the economy and individual firms benefit from the increased profitability and the reduction of costs. However, in the short term, outsourcing leads to unemployment, which should be given consideration – when exploring whether outsourcing is productive or counterproductive (Jain and Mukand, 2005).
From the Indian viewpoint, outsourcing is a win win situation, as it brings in employment for the large population of jobless graduates. For that reason, as pointed out by (Besley and Coate, 1998), India has grown into a vital offshoring destination, mainly because of the more than 300,000 graduates released by the Indian education system in a year, who are then accommodated by outsourced opportunities. Factoring the macro effects of the inflow of outsourced employment, the results include creating more savings, reducing expenditure and increasing the demand for goods and services (Alden, Lu Ce and Merchant, 2004). Based on the theory of comparative advantage, the service industry has been streamlined, where outsourcing complements locally-held areas of specialization. This situation fosters increased productivity. The shift enlarges the sectors that are outsourcing, while shrinking those that are outsourced from, in terms of employment and output. This study will explore the costs and the benefits of outsourcing, using the examples of US and India – both in the short, medium and in the long term   (Bhagwati, Panagariya and Srinivasan, 2004).
Traditionally, outsourcing was described as the sub-hiring of services between one company and another. The field has expanded to encompass the trends of hiring services from low-cost providers at offshore locations. The process is commonly known as offshoring. The outsourcing of Information technology has transformed over the years, where the rapid changes have made it faster and more cost effective to transfer large amounts of information. For instance, developments in telecommunications have led to an 80 percent reduction in the price of a one-minute call between India and the UK or the US, since 2001. This has made it very effective to outsource services from India (Alden, Lu Ce and Merchant, 2004).
Outsourcing has expanded from its IT services strongholds, to deliver other services. An example is the “call center”, which handles service-based problems. The field has also grown to cover the back room operations of many companies. In this case, companies in different sectors: information and communication, health care and Industries are setting up R & D centers in Asia, particularly India and China. Examples include Microsoft, which has established an R & D arm in China, while GlaxoSmithKline, during 2004, staged offshore clinical trials in India. Other companies like Visteon which is an industrial company launched an R & D center in China, while General motors outsource their technical white-collar labor from India. Following this heavy reliance on the services drawn from outsourcing imply that the benefits outweigh the costs that result from the strategy.
The political and social viewpoint of outsourcing
The export of services has caused public anxiety. This outlook disregards the outlook that the outsourcing of manufacturing jobs has gone on since the 1970, and therefore affected many more workers. In this light, the 2004 American election was characteristic with demands for the regulation of offshoring among political and organizational bodies. However, based on the arguments of Steven (2004), there is little difference between the production of goods on overseas location, which are shipped to the west for consumption and the outsourcing of services (Fernandez and Dani, 1991). Drawing from this explanation, the anxiety created by the increase of outsourcing is based on assumptions and not factual information.
Arguments in support of international outsourcing
Based on the views of Ricardian comparative advantage, a nation, despite its ability to produce all the goods it needs, benefits from focusing on the production of the goods in which its comparative advantage is highest – then imports the rest. Following this line of argument, it would be correct to argue that America would be more advantaged if it specialized in the high technology industry, where it produces products like supercomputers, defense equipment and NASA rockets. India, on the other hand, will benefit more from specializing in the delivery of services like computer code writing and call center operations (Kohler, 2001). In such a case, the two nations will have maintained comparative advantage, as America could easily specialize in the production of the products it sells in India, while India specializes in the production of the goods or the services it sells to America. Such a situation would result in the best form of national specialization, which will in turn increase national productivity, welfare and growth among the different nations (Samuelson, 2004).
International outsourcing, further benefits America, as companies get services at a cost lower than they would, from the American labor force. This scenario basically means that these companies save the cost difference, therefore are able to invest the extra resources in the creation of more jobs, or other areas of American specialization (Kohler, 2001). On the other hand, India will benefit from the income generated from the flourishing service industry, as well as the employment opportunities created, which foster economic development. In such a case, the outsourcing business becomes a win win situation for both nations – which shows that it is a practice that earns money.
In support of outsourcing, Balls and Swann (2004) argued that historically, it is evident that with increases in the productivity of a nation, the wage levels offered in the particular economy also tend to increase: that was the case with South Korea. In defense of outsourcing, Besley and Coate (1998) point out that the labor potential of economies like China and India have been overestimated. The argument points out that the supply of highly skilled labor, capable of taking away the white collar jobs of Americans is lower than anti-outsourcing economists claim. In backing the views that outsourcing can not hurt developed economies like America, for-outsourcing economists present this counterargument: the levels of outsourcing are too minimal to account for the turnover of jobs within the American economy.
Trends in outsourcing
Outsourcing started in the areas of back office work and software development. However, the trend is moving towards highly technologically specialized service industries. For instance, cost saving estimates from outsourcing touch on information technology, engineering, and other support functions within the automobile parts industry (Samuelson, 2004). These estimates are in the range of 50 percent of the costs expected to accomplish the same roles, in the case the services are performed in America. For instance, the process of developing a new drug, which is estimated at between USD 600 and 900 million in America, could be reduced by up to USD 200 million, in the case the work of development is outsourced from the Indian labor market (Jain and Mukand, 2003).
The direct Benefits of Outsourcing
To an outsourcing firm, preference is offered to countries where a part of the work, which could have been performed at higher cost, is done at a fraction of the given cost. Therefore, in the interest of profit maximization, firms outsource services or functions, so they can increase their profitability, which is repatriated into business for investment increment or capita development. As a result of the increase realized in the production levels of these firms, the customer population served by the produce is met to a larger extent, which has a long term effect on the economic balance of the host country (Samuelson, 2004). For example, the cheaper production of car parts will mean that a Japan based company will export more vehicles to other countries, as well as sell more to the local market. As a result, the demand for cars will be offset to a higher level, as compared to a case where the level of production was limited. This implies that the benefits of outsourcing advantage the different players within the distribution chain, including the customer population.
Another advantage, despite the fact that it is felt in the long run, is the shift in productivity areas of the country affected by the infiltration of outsourcing. For instance, in the case of America, outsourcing low value service staff from India will result in the partial loss of the employment of low value service employees based in America. However, the same employers of this low value service workers benefit from the savings made due to the cost realized through outsourcing. As a result, the employers will redirect their focus on productivity to higher level service centers, which will offer better paying employment to the victims of the resultant loss of employment. Additionally, more money is rechanneled into the host economy as savings or capital investments, which result in the redirection of resources towards other areas of labor specialization (Samuelson, 2004).
Another effect of outsourcing, which shows that it yields positive results is that expressed through the findings of Alden, Lu ce and Merchant (2004) who argue that the globalization of computer manufacturing led to a decline in the prices of computers – ranging between 10 and 30 percent. This change made these equipments more inexpensive – both among local and internal customers – which led to the creation of further avenues of job creation (Jain and Mukand, 2003). As a result, the jobs created – both at the host as well as other countries – are the value impact of the process of production outsourcing (Schumer and Paul, 2004). Taking into account these long term effects of labor outsourcing, it is clear that it presents more benefits than disadvantages, therefore a process that should be embraced towards the long term sustenance of sustainable employment creation.
Outsourcing results in the increment of the competitive gains of small businesses. This is the case, as new startups and small firms benefit more from the knowledgeable input of outsourced labor. However, these smaller, relatively newer enterprises tend to benefit more from the advantages of outsourcing as compared to larger corporations. The difference results from the fact that large corporations have administrative models that limit their capacity to exploit the full potential of outsourcing (Jain and Mukand, 2003). This association results in the fact that younger and smaller companies are easier to adjust to the input of outsourced labor, which boosts their sales and competitive capacities (Schumer and Paul, 2004).
From the Indian side of the explored exchange between the US and India, another positive effect of outsourcing is the rise in the standards of living at the receiving end. This is the case, as the Indians doing the jobs outsourced from America are experiencing a rapid increase in wage levels and the corresponding change of living standards (Schumer and Paul, 2004). From a survey documented by Drezner (2004), for every USD 1 outsourced, the overall economic gain to America is USD 1.2 to 1.4; India, which is the country to which the job is outsourced from, gains approximately 33 cents. This relationship shows that there is a mutual exchange of value between the country outsourcing and the source of the labor. For instance, in the current case, America gains the monetary value, while India gains in different areas including the improvement in living standards (Steven, 2004).
Labor outsourcing is the strategy of getting a part of the production process taken by an external party. In an organizational situation, the external party can be locally or internationally sourced. In the case of international outsourcing, different economies are benefiting from the inflow of employment, while other economists are skeptical about the impact of international outsourcing. Taking the example of America and India, India benefits form the inflow of employment, while American firms are benefiting from the access to cheap labor – which reduces their production costs. From the different viewpoints, it may seem that outsourcing is not beneficial to both parties but an exploration of the advantages that accrue to the different countries; it is possible that the process advantages both. From a political view point, there is disregard of the long history of outsourcing, as focus is diverted towards the impacts of service industry outsourcing. In support of outsourcing is Ricardian comparative advantage, which argues that firms and nations should focus on the production of the products they can produce best and most easily. The trends in outsourcing show that outsourcing is moving towards more skilled professions, which is making the economists of developed economists, despite the fact that the long term effects of outsourcing favor their economies. Among the direct effects of outsourcing are the shifts towards more specialized production, the reduction of product prices and the rise in living standards as well as the competitive advantage gained by start up enterprises.

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