Outsourcing
Among the list of controversial issues relating to jobs and the economy in the United States, outsourcing is right up there near the top. Politicians frequently attack each other using the phrase, “sending our jobs overseas…” and many a politician has been stung by this accusation. Thesis: While there are clearly benefits to be realized by companies that engage in outsourcing, there are also difficulties, drawbacks, and unanticipated expenses associated with outsourcing. Outsourcer, beware, should be the motto going into to any outsourcing arrangement.
IBM Takes Over Outsourcing for Auto Parts Maker Visteon
Outsourcing in many instances is a profitable alternative for technology companies. It would appear that taking on outsourcing contracts can be more lucrative than manufacturing technology components. Indeed, IBM’s outsourcing projects have meant billions of dollars in profits while the company transitions from manufacturing and selling its computer technologies to providing services instead. In the early 2000s, IBM began moving away from manufacturing software and hardware for computers — disk drives, displays, and monitors — and began moving into the business of selling “sophisticated packages of services to software clients,” according to John Hechinger writing in The Wall Street Journal (Hechinger, 2003, p. B.3).
In 2003, IBM entered a deal with Visteon to handle its data centers and help desks; Visteon was spun off from its parent Ford Motor Company, in 2000, and has a goal of moving away from operational links to Ford, Hechinger explains. Moreover, in 2002-2003, IBM won “…a number of multi-billion dollar outsourcing contracts, including one with J.P. Morgan Chase & Co.,” which had a value of about $5 billion, Hechinger explains. Typically a corporation like IBM finds outsourcing an “attractive” venture because outsourcing “…frees them from making huge investments for information technology that they may not need in the future” (Hechinger, B.3).
In 2002 IBM’s revenue from service-related contracts was listed as $36.4 billion, which Hechinger reports amounted to 45% of IBM’s “total sales” (B.3). And as a clear signal of its intention to phase out its manufacturing component, IBM “terminated” it $16 billion deal with Dell — which included the sale of IBM parts, monitors, displays, and disk drives — that had originally been set to provide Dell with those computer parts of a seven-year span of time.
Outsourcing: Pros and Cons
Noted economics professor Murray Weidenbaum — founder of the Weidenbaum Center on the Economy, Government, and Public Policy — explains to readers that overseas outsourcing is “…far more complicated than is generally understood” (Weidenbaum, 2005, p. 311). The unexpected costs and complications — on top of the controversial nature of outsourcing in terms of jobs lost to the American economy — make it vital for businesses to become fully appraised of every aspect of outsourcing prior to launching into it.
Weidenbaum offers a quick sketch of how outsourcing began, beginning that section of his article by explaining that “…the age of economic isolationism has long since passed” (311). As proof of his assertion, Weidenbaum explains that about 60% of the revenue related to American information technology (IT) companies “originates overseas” (311). Outsourcing began, Weidenbaum explains, when some domestic businesses hired “specialized workers overseas” to react to the federal limits on immigration into the United States. When those businesses did not succeed in bringing those foreign workers into the U.S., “…the need to send the work to them became real” (Weidenbaum, 312).
This process gave the American business the chance to learn how to use the newest technologies to “shift the location of work economically,” and in the meantime American corporations clearly saw the lowered costs, both in the foreign country where the work was taking place and in the domestic positions. And while the outsourcing to foreigners was something of an innovation, outsourcing itself wasn’t a new idea because “most businesses subcontract out most of the activities to other companies, mainly domestic,” Weidenbaum continues (312). The outsourcing to businesses within the U.S. is all part of the trend to “decentralize business operations,” Weidenbaum explains, and now that outsourcing has gone overseas in a big way, it allows American companies the chance to provide “round-the-clock” support that might be too expensive in the U.S. (312).
There are inherent dangers and drawbacks in the outsourcing milieu, Weidenbaum warns. For example, when a foreign vendor hired by IBM, runs into financial problems, or is acquired by another firm, IBM could find itself in trouble, left without support until a new outsourcing arrangement can be firmed up (312-313). Also, foreign companies — in India, for example — tend to lose up to 20% of their workforce annually, and that poses a threat for the American corporation expecting full cooperation and uninterrupted service.
Other limits and dangers vis-a-vis outsourcing — that students pursuing business degrees are not always privy to — situations include: a) electricity overseas may not be as reliable as in the U.S. And “blackouts” can cause embarrassing gaps in service for American corporations; b) some U.S. companies pay more for the real estate facilities they require overseas than they would in the U.S.; and moreover, the cost of upgrading “poor infrastructure overseas” can result in considerable dollars spent, and indeed can wipe out potential profits; c) there is always the fear that a company’s “core technologies” could be stolen by vendors overseas — where there is less respect for intellectual property rights — so some American companies limit outsourcing to “engineering and maintenance tasks”; d) the legal systems in some overseas environments can be “arcane,” leading to tax and regulatory snags; e) the possibility of encountering “corrupt officials” in the public sector overseas is very real; and f) overseas managers are not always competent and fully informed when it comes to the American business environment; they do not always relate well to American “…customers, lingo, traditions, and high-quality control” (Weidenbaum, 313).
In fact, so many Americans reaching a call center for Dell computers were so put off by the strange accents they got from employees in India, and so many complaints flowed into the customer service lines at Dell, that the company moved its support services back to the U.S. (Weidenbaum, 313). On the subject of the negative impact to the American economy regarding of outsourcing jobs — a subject that will find its way into the political dialogue in this year of a presidential election — Weidenbaum concludes with a reminder that proposing laws against outsourcing American jobs is absurd. That’s because foreign companies will retaliate.
“The United States is both the world’s largest exporter” of jobs but is also “the world’s largest importer” of jobs (thousands of companies overseas outsource their jobs to the U.S.; hence, Weidenbaum writes, it behooves America to keep markets open at home and overseas (314).
The Politics and Economics of Offshore Outsourcing
Writing in the Journal of Monetary Economics, authors Mankiw and Swagel present the case that notwithstanding the political posturing against outsourcing, the “empirical evidence” suggests that increased employment in the overseas affiliates of American multinational corporations can translate into “more employment in the U.S. parent rather than less” (Mankiw, et al., 2006, p. 1027). The two authors — who were both working for the Council of Economic Advisors (CEA) during the presidential campaign of 2004, Mankiw as chairman, Swagel as chief of staff — point to the release of the “Economic Report of the President” (ERP) in February, 2004, as one of the sparks that created a big outsourcing controversy (1028).
In each of the previous two years leading up to the presidential election of 2004, there were “…fewer than 300 references” to outsourcing in the four major U.S. newspapers; but in 2004, partly due to the “tepid labor market recovery following the economic slowdown of 2000 and 2001” and partly due to the release of the ERP, there were “over 1,000 references” to outsourcing, Mankiw explains (1028). Senator John Kerry, running against George W. Bush for the presidency, spend time “…lambasting President Bush and his advisors for supposedly favoring” the movement of jobs overseas; Kerry supported the idea of a corporate tax proposal that would be aimed at “…removing tax incentives for U.S. firms to move jobs overseas” (Mankiw, 1028).
This is part of the story of outsourcing that doesn’t always receive the objective attention it may deserve. It is worthy of examination in this paper, in the sense of providing perspective that perhaps isn’t apparent in textbooks. First of all, politicians always promise they will create jobs (if elected), and when a candidate for the presidency like Kerry senses that he can make voter inroads by attacking the sitting president (Bush) for advocating that more American jobs might be sent overseas, he jumps on that line of attack. This creates a theme for voters that are keen on keeping jobs here in the U.S. — a theme that can play into the hands of a candidate like Democrat Kerry. Although he eventually lost a close election contest to Bush in November, 2004, Kerry plus other Democrats did make some serious political hay by quoting the last sentence of the chapter on international trade in the 2004 ERP (which was produced by the White House, so finger-pointing had a ready-made target, Bush himself):
“When a good or service is produced more cheaply abroad, it makes more sense to import it than to make or provide it domestically” (Mankiw, 1031, quoting from the ERP). Clearly this sentence — which received a lot of publicity in the press — was seen in the country and on Capital Hill as “an affront to American workers” (Mankiw, 1031). The Bush Administration answered critics’ questions about the focus of the ERP by saying that “We’re very used to goods being produced abroad” and shipped to the U.S., but what “…we’re not used to is services being produced abroad and being sent here over the Internet or telephone wires” (Mankiw, 1032).
In the second place, in 2004 Kerry and others even questioned whether free trade was still a good idea for America, given that so many jobs were moving overseas. New York’s senior U.S. Senator Charles Schumer advocated the idea that the “modern global economy had undermined the centuries-old case for free trade,” Mankiw continues on page 1029. Taking a position against free trade is considered a radical idea in almost any political environment in the U.S., but given that close to “…750,000 jobs were lost in the first six months of the labor market slowdown” in 2000, and in the first six months after the 9/11 terrorist attacks “1.3 million jobs were lost,” politicians and economists took positions that play off those negative labor and economic statistics (Mankiw, 1030).
As to the free trade discussion, the Bush Administration’s answer to the question, “How does outsourcing affect the U.S. economy?” was the following: “At the same time that we pursue a more open trading system around the world, we have to acknowledge that any economic change, including those that come from trade, can cause painful dislocations for some workers and their families” (Mankiw, 1033). The policy goal of the Bush Administration should be “…not to stop change but to ease the transition of workers into new, growing industries” (Mankiw, 1033, quoting from the Bush Administration’s response to criticism of the ERP). The peer-reviewed Mankiw research article concludes with the thought that through the continuing development of technology, and the “deepening” of global economic relationships, “more jobs and people will be affected by actual or potential offshore outsourcing” (1055).
However, the authors assert on page 1055 that outsourcing “appears” to be linked to “increased U.S. employment and investment rather than to overall job loss.” And in fact, they conclude, firms that are involved with offshore outsourcing are “not” shifting “net jobs” out of the U.S., but rather they are “creating jobs both in the United States and in other countries” (Mankiw, 1055).
Surveying the Risks and Benefits of IT Outsourcing
G. Reza Djavanshir conducted a research project that queried 303 senior managers at IT companies in Western Europe and North America; the questionnaire that Djavanshir produced asked respondents to list the “main benefits and risks” of offshore outsourcing. The effort resulted in 137 responses, but only 114 of those responses provided “…valid, reliable, and consistent answers” (Djavanshir, 2005, p. 33). The IT managers were asked to rate the value of each factor in the questionnaire on a scale of 1 to 5 (1 rated as meaningless and 5 was the most important).
One of the responses from the 114 IT managers related to the “follow-the-sun (24/7)” continuous operations. That operation reduces the time it takes to complete a project. A software development programmer on the West Coast of the U.S. can work 9:00 A.M. To 5:00 P.M.; at that time the job can be passed off to “lower-wage programmers in India” prior to the beginning of their workday. There is 12 hours’ difference, hence the work can be completed (in India) by 6:00 A.M. Pacific time. Given today’s global competitive marketplace, “…taking advantage of different time zones around the globe” has been popular with IT companies. The IT managers ranked it 3.7 out of 5, the second most important ranking (Djavanshir, 34).
The IT managers rated the flexibility and agility that comes with offshore outsourcing at 3.4 out of 5, the third strongest response to benefits of outsourcing (Djavanshir, 34). IT companies are always looking countries with good technical educational institutions; those countries produce “…a steady stream of educated and skilled workers.” This is pivotal, because the number of students graduating with engineering degrees in the United States is “less than 10%” (Djavanshir, 34). Having good technical training centers in a country where outsourcing may be given consideration ranked fourth in the survey taken — 3.1 out of 5.
The top-rated benefit to offshore outsourcing was linked to having a ready-made and skilled workforce available — at lower costs than would be the case in the U.S. Or Western Europe. This outsourcing benefit ranked 4.9 out of 5 for the responding IT managers.
In conclusion, this paper has highlighted the benefits of outsourcing, but also provided research that shows there are drawbacks and hidden expenses linked to outsourcing as well. The outsourcing company needs to conduct research before hiring foreign workers to take on important tasks, and moreover, there is a potentially painful political price to be paid when corporations send jobs overseas while laying off American workers. To wit, a member of the U.S. House of Representatives running for re-election, who accepts campaign contributions from a corporation that has been laying off American workers and outsourcing jobs to Indonesia, is fair game for television commercials attacking that representative. Especially in this continuing American economic downturn, outsourcing can become a political football, and it can bounce the wrong way, or be fumbled, and the resulting backlash from voters can ruin candidates’ chances.
Works Cited
Djavanshir, G. Reza. (2005). Surveying the Risks and Benefits of IT Outsourcing. IT
Professional, 7(6), 32-37.
Hechinger, John. (2003). IBM Gets $2 billion Outsourcing Job — Most Computer Operations
of Visteon to Be Taken Over as It Diversifies From Ford. The Wall Street Journal.
Retrieved January 1, 2012, from http://proquest.umi.com.
Mankiw, N. Gregory, and Swagel, Phillip. (2006). The politics and economics of offshore outsourcing. Journal of Monetary Economics, 53(5), 1027-1056.
Weidenbaum, Murray. (2005). Outsourcing: Pros and Cons. Business Horizons, 48(4), 311-315.
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