The Harsh Truth About Outsourcing

Business Week ^ | March 22, 2004 | Paul Craig Roberts

[sarcasm]

It's not a mutually beneficial trade practice -- it's outright labor arbitrage

Economists are blind to the loss of American industries and occupations because they believe these results reflect the beneficial workings of free trade. Whatever is being lost, they think, is being replaced by something as good or better. This thinking is rooted in the doctrine of comparative advantage put forth by economist David Ricardo in 1817.

It states that, even if a country is a high-cost producer of most things, it can still enjoy an advantage, since it will produce some goods at lower relative cost than its trading partners.

Today's economists can't identify what the new industries and occupations might be that will replace those that are lost, but they're certain that those jobs and sectors are out there somewhere. What does not occur to them is that the same incentive that causes the loss of one tradable good or service -- cheap, skilled foreign labor -- applies to all tradable goods and services. There is no reason that the "replacement" industry or job, if it exists, won't follow its predecessor offshore.

For comparative advantage to work, a country's labor, capital, and technology must not move offshore. This international immobility is necessary to prevent a business from seeking an absolute advantage by going abroad. The internal cost ratios that determine comparative advantage reflect the quantity and quality of the country's technology and capital. If these factors move abroad to where cheap labor makes them more productive, absolute advantage takes over from comparative advantage.

This is what is wrong with today's debate about outsourcing and offshore production. It's not really about trade but about labor arbitrage. Companies producing for U.S. markets are substituting cheap labor for expensive U.S. labor. The U.S. loses jobs and also the capital and technology that move offshore to employ the cheaper foreign labor. Economists argue that this loss of capital does not result in unemployment but rather a reduction in wages. The remaining capital is spread more thinly among workers, while the foreign workers whose country gains the money become more productive and are better paid.

Economists call this wrenching adjustment "short-run friction." But when the loss of jobs leaves people with less income but the same mortgages and debts, upward mobility collapses. Income distribution becomes more polarized, the tax base is lost, and the ability to maintain infrastructure, entitlements, and public commitments is reduced. Nor is this adjustment just short-run. The huge excess supplies of labor in India and China mean that American wages will fall a lot faster than Asian wages will rise for a long time.

Until recently, First World countries retained their capital, labor, and technology. Foreign investment occurred, but it worked differently from outsourcing. Foreign investment was confined mainly to the First World. Its purpose was to avoid shipping costs, tariffs, and quotas, and thus sell more cheaply in the foreign market. The purpose of foreign investment was not offshore production with cheap foreign labor for the home market.

When Ricardo developed the doctrine of comparative advantage, climate and geography were important variables in the economy. The assumption that factors of production were immobile internationally was realistic. Since there were inherent differences in climate and geography, the assumption that different countries would have different relative costs of producing tradable goods was also realistic.

Today, acquired knowledge is the basis for most tradable goods and services, making the Ricardian assumptions unrealistic. Indeed, it is not clear where there is a basis for comparative advantage when production rests on acquired knowledge. Modern production functions operate the same way regardless of their locations. There is no necessary reason for the relative costs of producing manufactured goods to vary from one country to another. Yet without different internal cost ratios, there is no basis for comparative advantage.

Outsourcing is driven by absolute advantage. Asia has an absolute advantage because of its vast excess supply of skilled and educated labor. With First World capital, technology, and business knowhow, this labor can be just as productive as First World labor, but workers can be hired for much less money. Thus, the capitalist incentive to seek the lowest cost and most profit will seek to substitute cheap labor for expensive labor. India and China are gaining, and the First World is losing.

Paul Craig Roberts is a former Assistant Treasury Secretary in the Reagan Administration and a former BusinessWeek columnist.

[Southack]

"You have yet to prove that the study which I posted is wrong. I await your detailed and sourced critique."

That's pretty disrespectful. I posted U.S. government data (message #50) as well as a blow by blow list of irrefutable evidence of wealth (e.g. more Americans have air conditioning now than in 1959, Americans own more cars per household, more Americans own their own homes now than then, more Americans invest in the stock market and the stock portfolios themselves are larger, etc.).

All of that subsequent evidence (none of which you refuted) supports the original U.S. government data that I posted to you in message #50...which heaps mountains of doubt upon your Canadian study.

Yet you now ignore all of that evidence, as well as my original data (with source link), in order to pretend that a foreign study that agrees with how you *want* to think is really true.

That's disrespectful of my time. I posted data, a source link, and then listed seperate substantiating evidence that supports my original point. In contrast, you've made lots of snippy remarks and posted one Canadian study.

If you've already made up your mind, facts be hung, then why bother wasting my time with your messages? What *MORE* evidence can I give you that would even remotely sway you away from your current preconcieved notions??

Are you unemployed or underemployed? Are you looking to try to find company for your misery? Do you want to pretend that Marx is correct that we are getting more poor by the year? Will that make you feel better to wallow in such an illusion?

[sarcasm]

It's the same reason they still don't understand why we refer to American "citizens" while they only refer to "consumers".

Citizenship is an outdated concept in the globalized economy.

[LibertyAndJusticeForAll]

But it isn't just toasters, that's the worry.

Here's one example. 88% of all high-quality magnets used to make smart bombs are now made in Communist China. We no longer make these high-quality magnets at all. The last factory closed last year and moved to Communist China.

Another specific example: Intel is building a $200 million dollar semiconductor plant in Communist China.

Senator Lieberman, Henry Kissinger, Duncan Hunter and many others have all spoken out against the kinds of manufacturing and technology that is being given away to Communist China.
Everything from Wrigley's Gum to Cisco Routers is being re-made and sold by China.
Communist China is demanding intellectual property and the CEOs cannot hand it over to them fast enough, in exchange for cheap labor.

American college students are veering away from engineering degrees because they know the job market is lousy now. If this continues we will be facing a shortage of engineers in the near future.

[LibertyAndJusticeForAll]

Citizenship is an outdated concept in the globalized economy. So are borders.

[Southack]

"BTW, I don't have a comprehension problem - I think that you have a problem with reality."

Oh please. Did you even read the conclusions to your own Canadian study??

VI. Conclusions
The current business cycle has enjoyed both relatively low unemployment and low inflation rates. ... Wages in the middle and top of the wage distribution have grown more slowly over the current cycle than they did in the 1970s or 1980s."

[dennisw]

Your argument isn't persuasive - you haven't addressed that fact that most families have two full time workers today as opposed to one in 1959.

Also in 1959 we were not deeply in hock to foreigners due to cumulative trade defcits, the Federal debt was a lot smaller, same for consumer debt. Plus the unfunded liabilities (such as pensions and Social Security) of the Federal government are colossal today.

[sarcasm]

Disrespectful because I don't believe the government propaganda which you linked?

Disrespectful because I asked for a detailed critique of the data which I posted? The data which you specifically requested.

Disrespectful because I don't fall into line and bow down before your supposedly greater intellect?

You ought to look up the definition of hubris - it describes you to a "T"

[dennisw]

And we have fewer children today, because most couples don't feel that they can afford to have more than 1 or 2 children. There were 3-6 children per family on my block in 1959.
No one talked about not being able to afford having children. Of course, there was no day care expense, because all the moms were home; able to help at PTA, in the classroom, Scout troops, church, etc.

Crimes against children were negligible. Parents weren't paranoid about their children's safety. You just went out and played unorganized baseball, tackle football in the snow and other sports until the sun went down. I bycycled everywhere. Boys just ran amuck in the best sense of word. Ran amuck until dinner time.

[Southack]

"in 1959 we were not deeply in hock to foreigners due to cumulative trade defcits"

Who has access to more credit: the very poor or the very wealthy?

[sarcasm]

I read both the statistical tables and the conclusion. As per the table I posted, wages are lower now than they were in the mid 1970's. Since you agree with the conclusion, I must assume that you agree with the posted table.

[Southack]

"Disrespectful because I asked for a detailed critique of the data which I posted? The data which you specifically requested."

No, disrespectful because you pointedly ignored the data and supporting evidence that I gave you for the American study; insisting instead on blindly relying upon your Canadian study (a study, btw, whose conclusion was still that we grew richer, only at a slower pace).

[M-cubed]

For how much longer?..<<.....Good point!....The Roman Empire lasted a 1000 years, but began to fall when they felt they no longer needed the rules and morality that got them there...

[dennisw]

"in 1959 we were not deeply in hock to foreigners due to cumulative trade defcits"

Who has access to more credit: the very poor or the very wealthy?

Laughable. You consider that a reply to my point about trade deficits? Part of the problem is too much access to credit and borrowing.

[Southack]

"I read both the statistical tables and the conclusion. As per the table I posted, wages are lower now than they were in the mid 1970's. Since you agree with the conclusion, I must assume that you agree with the posted table."

What a poor thing to assume. Your Canadian study used an alternative U.S. government CPI calculation to derive its tables, and then it concluded thusly:

"VI. Conclusions
The current business cycle has enjoyed both relatively low unemployment and low inflation rates. ... Wages in the middle and top of the wage distribution have grown more slowly over the current cycle than they did in the 1970s or 1980s."

So even your own Canadian study concludes that wages grew, albeit more slowly.

[sarcasm]

If you want to play the "dis" game"

You disrespected me by linking statistics from the administration budget - a political propaganda piece.

[LibertyAndJusticeForAll]

Crimes against children were negligible.

And children were not left alone to get into trouble. When I was about 7 I rode my bike past the corner. Before I got home 3 neighbors had already called my mother and reported my disobedient behavior.

[Southack]

"Part of the problem is too much access to credit and borrowing."

Surely you wouldn't prefer the tight credit era of 1929 through 1939...

[sarcasm]

So even your own Canadian study concludes that wages grew, albeit more slowly.

They are, of course, lower than they were in the mid 1970's - so much for the much vaunted progress in your government propaganda.

[Southack]

"Wages in the middle and top of the wage distribution have grown more slowly over the current cycle than they did in the 1970s or 1980s."

Based solely upon the single sentence above, are the wages that still *grew* in the current cycle higher or lower than the wages in the 1970's?

[sarcasm]

Before I got home 3 neighbors had already called my mother and reported my disobedient behavior

Did we have the same neighbors?