Stephen Roach on Outsourcing

[via Yuvaraj] Writing from Bangalore, Stephen Roach of Morgan Stanley has yet another incisive piece on outsourcing:

While I think offshoring is an inevitable by-product of free trade, comparative advantage, and globalization, I don’t think it should be minimized as a contributor to America’s jobless recovery. Sure, there are other factors at work — especially the high fixed costs of hiring associated with the benefits inflation that Dick Berner has stressed. And there is the post-Enron, post-Sarbannes-Oxley risk aversion that continues to constrain Corporate America.

At the same time, I do believe the impacts of globalization are likely to be an increasingly big deal in driving the great American job machine in the future. This conclusion is best understood within the context of the mix of forces that drive turnover in the US labor market — namely, the interplay between the constant flux of hiring and firing. The sum of these flows is considerably larger than the net changes that get such great attention when the state of nonfarm payrolls is reported each month by the US Bureau of Labor Statistics (BLS). For example, the BLS Business Employment Dynamics tabulation puts the sum of gross job gains and losses at some 15.2 million workers in 2Q03 (latest data point) — dwarfing the net change of -180,000 they estimated for the quarter. According to Alan Greenspan, layoffs have not been the dominant force shaping America’s jobless recovery. Instead, it’s the lack of hiring. He argues that “Gross separations from employment, two-fifths of which have been involuntary, are about what would be expected from past cyclical experience, given the current pace of output growth. New hires and recalls from layoffs, however, are far below what historical experience indicates”.

What matters most in shaping macro trends is change at the margin. The global labor arbitrage could well be having a differential effect on the gross flows in the US labor market. It’s not that domestic jobs are being eliminated on a large scale in the US and shifted offshore to the developing world. Instead, it’s far more likely that the impacts are being felt on the hiring side of the equation. US companies are now letting the “opportunity cost” of the domestic hiring decision be shaped increasingly by the alternative of highly-educated, well-skilled, low-cost workers now readily available in many developing countries. At the same time, by lowering the perceived incremental cost of the “next hire” in many occupational categories, the arbitrage could also be playing an increasingly important role in the wage determination process that effects a much broader cross-section of American workers. In other words, the globalization of labor input need not be large in the absolute sense to make a difference in shaping change at the margin. The increased prevalence of offshoring suggests that such a critical mass may well have been attained in the United States. As a result, US companies have no choice other than to become more global in both their perspective and structure.

Like it or not, this is the way globalization is supposed to work. Which takes us to the toughest aspect of the problem — the distinct possibility that there may be strong social and political objections to the very concept of globalization itself. The idea that job contracts need to get re-written because of trade liberalization and an increasingly integrated borderless world doesn’t sit terribly well with disenfranchised workers on the front line of making the adjustment. Globalization may work well in the long run but it appears to have profoundly disruptive impacts in the short run. That could reflect its inherent asymmetries — developing countries first come on line as producers long before they emerge as consumers. That leaves a very tenuous interregnum, where the creation of new markets in the developing world lags the penetration of old markets in the developed world.

And that’s what takes us to the most dangerous point of all — the politicization of the offshoring debate. In this election year, the American body politic has been forced to take sides on this highly charged emotional issue. Analytics and empirics ring hollow in this deeply personal context. Free trade and now offshoring lie at one end of the spectrum — protectionism at the other. For America — complete with its jobless recovery and gaping trade deficit — the pendulum is now swinging in an ominous direction. Out here in Asia, that is a huge and puzzling concern.

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Rajesh Jain

An Entrepreneur based in Mumbai, India.