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Politics, Economics, and Hot Buttons: G8 Countries and Outsourcing

Author: Fern Carlos

Posted: November 21, 2012

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"The topic of offshore outsourcing is as much a political topic as an economic one,
and perhaps even more so."
- N.  Gregory Mankiw and Phillip Swagel

You know it's presidential election time in the United States when outsourcing becomes a hot topic for political debate.  This time, it's U.S.  President Barack Obama versus the Republican candidate Mitt Romney.  CBS News puts the exchange of words this way:
"A simmering campaign feud over outsourcing has boiled over, with the president's campaign and Mitt Romney's accusing each other of lying about Romney's record at the helm of Bain capital."

The feud revolves around Obama's assertion that Romney had leadership experience in "companies that were pioneers of outsourcing." The Romney camp, on the other hand, insists that the claim is a "distortion" and that there is no evidence that Romney, when he was at the helm of Bain Capital, was responsible for sending jobs outside the U.S.

In short, favoring outsourcing "or even just seeming to favor outsourcing" during election time is bad for your political health.

Outsourcing Goes into Mainstream Consciousness

When politicians bring up the topic of outsourcing to the public and thrust it into mainstream consciousness, it becomes more than economic topic, as N.  Gregory Mankiw and Phillip Swagel, who co-wrote the Harvard University DASH (Digital Access to Scholarship at Harvard) paper titled "The Politics and Economics of Offshore Outsourcing," said, but also, a political topic; and a compelling one at that.

Harvard Economics professor Mankiw knows this first hand from his experience as the chairman of the national Council of Economic Advisers (CEA) under the George W.  Bush administration.  He once wrote in the CEA Economic Report of the President in 2004 that outsourcing of jobs by companies in the U.S.  is "probably a plus for the economy in the long run." These sentiments about outsourcing quickly became the focal point of a political uproar in 2004 -- also a presidential election year -- which saw politicians claiming a link between offshore outsourcing and the sluggish recovery of the American labor market in the first few months of 2004.

When you think about it, any aspect of a country's economy can easily become a political hot button, considering that these are issues that typically boil down to whether or not you can put food on the table.  But why and how would a topic such as outsourcing create a political uproar in an advanced economy like the U.S.?

What is the real public sentiment on outsourcing in advanced economies like the US and other G8 countries such as Canada, France, Germany, Italy, Japan, Russia, and the United Kingdom? What are the misconceptions, fears, and other conditions that shape public opinion on outsourcing in advanced or mature economies? Is public sentiment far from the reality? Could outsourcing "despite the negative impression harbored by a country's general population" be beneficial to these advanced economies? How are the governments in these countries managing this difference between public opinion and reality when it comes to outsourcing? How should they manage it?

Financial Challenges and Public Perception of Offshoring

Examining "mature," advanced economies like the G8 can certainly give us a perspective on how globalization "which makes outsourcing possible"“ is changing the world.  The Group of Eight (G8) most industrialized countries in the world, established in 1975, is committed to a yearly forum on key global issues.

The world, of course, has changed much since the mid-1970s.  At this year's G8 Summit, financial challenges, jobs, and growth dominated the discussions.  Also among the broader questions tackled during the summit, according to The Washington Post's Howard Schneider, included "how the developed world can bolster growth when governments are constrained by high debt and have little room for stimulus spending."

France's Francois Hollande wanted to emphasize economic growth while Italian Prime Minister Mario Monti is hoping to gain approval from the Italian parliament on far reaching labor and regulatory policy changes that are said to be aimed at boosting growth in Italy.

Canada, like the rest of the mature G8 economies, faces new challenges from an evolving international community.  The country, as the web site Canada's World puts it, should find out how to "best position itself in a decentralizing, globalizing world that is hungry for resources on one hand and fiercely competitive in knowledge-based industries on the other."

Unemployment is "at record levels in the developed world," according to Schneider, so there is an imperative "to balance growth and austerity." Obama, in an article published in The Telegraph, also said of the recent G8 summit that there was an "emerging consensus" on investing in infrastructure that creates jobs; adding that "growth and jobs must be our top priority.  A stable, growing European economy is in everybody's best interests, including America's."

Amid this atmosphere of financial challenges and the need to create more jobs in G8 economies, outsourcing can become an easy target.  The most common public perception is that outsourcing takes away much-needed jobs in home countries and gives them to employees overseas.

Here's an example of how this issue of sending jobs overseas so easily came into play in the 2004 US presidential election as described in the insider account by Mankiw and Swagel entitled "The Politics and Economics of Offshore Outsourcing."

After the release of Economic Report of the President (ERP), "the Presidential campaign of Senator John Kerry seized on the issue of outsourcing, lambasting President Bush and his advisers for supposedly favoring it, and put forward a corporate tax proposal allegedly aimed at removing tax incentives for U.S.  firms that move jobs overseas."

"Against the backdrop of a faltering labor market, outsourcing became synonymous in the public debate with job loss, and the transfer of jobs overseas came to be seen by non-economists as a major factor in accounting for the weak job market of 2002 and 2003.  The release of the Economic Report of the President in early 2004 thus came at a time when the recovery was still not viewed as robust."

Mankiw and Swagel also noted that during the entire political uproar over outsourcing in 2004, the press coverage of the issue became more about the political response or the political reaction and the subsequent fallout and not about the actual substance of what was written in the ERP about outsourcing.

Economic Reality and the Benefits of Outsourcing

That was the public perception during the heat of the 2004 U.S.  presidential campaign.  The economic reality was quite different.  Yes, there were jobs lost, but that's not the complete picture.

Mankiw and Swagel cited a study by Martin Baily and Robert Lawrence titled "What Happened to the Great U.S.  Job Machine? The Role of Trade and Electronic Offshoring" which showed the following effects of outsourcing of services on U.S.  employment:

* "The impact of service sector offshoring to India from 2000 to 2003 was small compared to the overall change in service sector employment."
* "Lower level programming jobs were lost to India but overall computer employment was surprisingly strong."
* Baily and Lawrence "provide evidence that services offshoring to countries such as India will raise U.S.  GDP and create jobs, including in manufacturing."
* Baily and Lawrence also found that "U.S.  GDP, real compensation of employees, and real profits will all be higher in 2015 as a result of lower prices for services imports associated with outsourcing."

Economists Mary Amiti and Shang-Jin Wei found in their study "Fear of Service Outsourcing: Is it Justified?" "as cited by Mankiw and Swagel" that:

* "Services outsourcing is small and plays little role in recent employment fluctuations, but possibly plays a meaningful role in accounting for productivity growth."
* Data for the United Kingdom that Amiti and Wei used also showed "that sectors with more services outsourcing do not have a slower rate of job growth than sectors without outsourcing."
* Regarding manufacturing industries in the U.S.  Amiti and Wei, wrote in the 2006 report "Service Offshoring and Productivity: Evidence from the United States" "as cited by Mankiw and Swagel" that services that were offshored accounted "for around 11 percent of firms' productivity gains from 1992 to 2000, but with little impact on employment."

Srinivas Durvasula and Steven Lysonski in their study titled "How Offshore Outsourcing is Perceived: Why Do Some Consumers Feel More Threatened?" pointed out:

* "Proponents of offshoring, on the other hand, assert that it benefits developed and
developing countries alike (Sturgeon, W.  Offshoring: It's better for everybody.).  For example, while lower-skill jobs may be lost to developing economies such as India, new jobs take their place in the developed countries.  These new jobs are superior in economic value due to their higher pay and skill levels."
* "As suggested by Nigel Holloway, director of executive services at the Economist Intelligence Unit, while some individuals may have been negatively affected, overall, offshoring has brought about positive change to the workforces and economies in developed countries (Sturgeon, W.  Offshoring: It's better for everybody.)"
* With the overall U.S.  employment of 130 million and the projected creation of 22 million new jobs by 2010, the job loss due to offshoring would affect only 0.2 percent of the U.S.  workforce (Drezner, D.  The outsourcing bogeyman.).

As for job security, Mankiw and Swagel cited research by Bradford Jensen and Lori G.  Kletzer ("Tradable Services: Understanding the Scope and Impact of Services Offshoring") which showed that while job security is lower in "tradables" or jobs that are likely to be outsourced, "Jensen and Kletzer find little evidence of weaker employment growth in tradable activities or occupations than in nontradable ones.  Indeed, their results are consistent with the data on U.S.  services trade flows that suggest U.S.  comparative advantage in the provision of services."

Public Perception of BPO in Advanced Economies

Why, then, with so many assurances and even more research that show the benefits of outsourcing does the general public in advanced economies tend to view outsourcing negatively?

Durvasula and Lysonski's 2009 study "How Offshore Outsourcing is Perceived: Why Do Some Consumers Feel More Threatened?" offers some insights.  The authors pointed to a rapidly changing and more competitive world, as discussed in The World is Flat by Thomas Friedman, with myriad technological advances particularly digitization and "the web of optical fiber lacing the planet together" further accelerating globalization.  "Countries that were historically not competitive suddenly have become juggernauts in the competitive race fostered by globalization."

So what are some of these perceptions and what are the conditions that shape them? Durvasula and Lysonski cited the following research:

  1. J.  Klein, R.  Ettenson, and M.  Morris' "The animosity model of foreign product purchase: An empirical test in the People's Republic of China" found that "in an economic sense, people exhibit a high degree of animosity if they perceive that foreign countries take unfair advantage in their trade practices."
  2. Durvasula and Lysonski further said that "with respect to outsourcing, there is a perception in North America (e.g., United States) and Europe (e.g., Britain) that countries such as China in manufacturing and India in information technology services, because of labor arbitrage, are taking away high-paying jobs from economically developed countries."
  3. S.  Cocheo's "Global think? Or job shrink?" which was published in American Bankers Association Journal spoke of "The Lou Dobbs Effect," which highlights "the disfavor of offshoring.  Implicit in this negativity is the belief that offshoring is unpatriotic and firms that offshore are "Benedict Arnold" companies; "Hire American" has become the watchword."
  4. A McKinsey and Company study titled Panel debates offshoring found that of the respondents in a large survey, 66 % believed that "American firms have a moral responsibility to hire Americans."
  5. Consumers who feel an economic threat or feeling "threatened by economic forces that are beyond their control", are likely to perceive "that foreign competitors can hurt them personally and/or their domestic economy are more likely to oppose offshoring versus those who do not feel this threat."
  6. The public may clamor for protectionist moves such as the provision in the 2004 US Congress legislation, mentioned in Baily and Farrell's Exploding myths about offshoring, "prohibits federal agencies from offshoring some types of work to private companies that employ overseas workers."

What are the forces that heighten the negative impression or the opposition to outsourcing? Durvasula and Lysonski mentioned the following:

* ethnocentrism
* economic animosity
* patriotism, 
* perceived economic threat

The authors added that "these forces intensify, consumers were more likely to have greater opposition to offshoring.  If economic threat underlies the bias against offshoring, ethnocentrism may become an even more volatile and powerful force."

Advantages of Offshoring in a Borderless World

In the previous subheading, the words "perception," "perceptions," "perceive," "perceived," "belief" and "believed" are highlighted to emphasize the fact that these perceptions about outsourcing and are not necessarily true.

In fact, as countless studies have shown "including those mentioned by Mankiw and Swagel in the earlier subheading on economic realities" that outsourcing benefits industrialized economies; in much the same way that free trade and globalization, which has hugely benefited these mature economies, continue to offer a myriad number of benefits.

It's no surprise that advanced economies are all for free trade and globalization.  In fact, the statement from the G8 leaders on the global economy following the recent summit not only emphasized, among other things, "the importance of open markets and a fair, strong, rules-based trading system" but also their "commitment to refrain from protectionist measures" and "to reduce barriers to trade and investment and maintain open markets."

The statement continued, "We call on the broader international community to do likewise.  Recognizing that unnecessary differences and overly burdensome regulatory standards serve as significant barriers to trade, we support efforts towards regulatory coherence and better alignment of standards to further promote trade and growth."

The UK Prime Minister, in an interview with The Telegraph following the recent G8 summit also spoke of the "expansion of trade freedoms - breaking down the barriers to world trade and getting global trade moving again."

It makes sense, really, that advanced economies are all for free trade and globalization.  In the race to reach, as Durvasula and Lysonski put it, more "market opportunities for multinational corporations to reach out to consumers in a more or less borderless world", the G8 countries have a comparative advantage.

And in this borderless world, where the competition for lower operation costs, efficiency, and productivity is growing even more intense, outsourcing just makes sense.

Balancing Act: Reap the Benefits of Offshoring and Lessen the Negative Perception

So it then becomes a balancing act: finding a way to reap the benefits of outsourcing while lessening the negative reaction of the public and lessening the impact on those directly affected.

"While outsourcing involves real pain to the workers and families who face displacement, the empirical evidence suggests that the hysteria over offshore outsourcing is far out of proportion to its actual impact," Mankiw and Swagel wrote.  "While trade provides benefits for the nation as a whole, some people face dislocation.  For example, workers with low skills within certain occupations such as data entry and low-end computer programming appear to have been affected by increased trade in services.  The appropriate policy response is to help affected workers adjust to change rather than give up the gains from trade in the first place."

Mankiw and Swagel recommend a "two-fold" solution:

  1. Improving the current policies that are aimed at adjustment assistance
  2. Creating an economic environment that fosters strong growth and robust job creation

"Within this cover, trade can expand into the new channels created by improvements in technology and telecommunications."

The authors pointed out that "some U.S.  jobs are certainly lost to other countries" but "on the whole, firms involved with offshore outsourcing are not shifting net jobs overseas but instead are creating jobs both in the United States and in other countries."

Looking back at the political uproar in 2004 during the US presidential election campaign, Mankiw acknowledged that it gained steam because, from a communication perspective, he made the tactical error of emphasizing the gains from trade before referring to the "dislocation of affected workers."

He also mentioned that some of the statements lacked clarity and could be "and were" easily misinterpreted to mean that he praised the loss of jobs or did not care for the loss of jobs in the U.S.  Throughout the presidential campaign, President George W.  Bush's team countered Sen.  Kerry's attacks on outsourcing by pointing out that not engaging in free trade and outsourcing is "a retreat into economic isolationism" which could lead to economic decline.  While declaring support to free trade and extolling the benefits of open markets, Pres.  Bush's team also referred to the opposing side's "economic pessimism" and a "defeatist"mindset that seemed to view "an America that could not compete."

Mankiw and Swagel expressed no doubt that the "discontent arising from outsourcing will be an issue for politicians and economists alike for the foreseeable future." And it's up to the governments and policy makers to manage this balancing act.  The bigger issue, one that encompasses the issues on outsourcing, takes us back to questions posed by Canada's World; and these questions could just as easily refer to any of the G8 countries: How do mature or advanced economies face the new challenges of a "decentralizing, globalizing world"? And how do political leaders communicate these challenges to their constituents to build consensus toward effective policy making?


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