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Current Trends in Offshoring
ISSUE 2 - 2004

   4/1/2004
 
Though offshoring has been around for many years, current trends are raising its profile. The most important is the change in the types of jobs that are being moved overseas. But the changing nature of both the economies and the workforce of nations where jobs are being sent are also adding weight to the notion that offshoring has the potential to dramatically impact the U.S. jobs outlook.

Types of jobs being offshored

What started with low-skilled manufacturing jobs moved into higher-skilled manufacturing jobs and has now penetrated the service and IT sectors. The impact on the IT sector has had the highest profile recently. Stories abound of software engineers with master's degrees and decades of experience being laid off and unable to find work after their jobs were offshored to India. But most analysts agree that the trend is likely to move beyond the high-tech and manufacturing sectors as well as higher up the job and skills ladder. This movement into high-skilled jobs has already happened in those sectors where offshoring has been around the longest; the manufacturing jobs that moved overseas in the 1980s were mainly low-skilled but those being offshored today are increasingly high-skilled jobs. Likewise, some of the IT jobs now being offshored involve such high-level tasks as software development.

According to a recent study from consulting firm A.T. Kearney, financial service companies are planning to move about a half million jobs offshore by 2008. These include high-level financial analyst and research jobs. Other jobs often cited as likely targets of offshoring include call centers, accounting, legal research, architecture and design. Though A.T. Kearney predicts that back-office processing of information and IT-enabled services will continue to be offshored, the greatest impact and most growth will come from services requiring higher skill levels.

Destination countries

Because the level of skill required in these jobs is higher than that of many of the manufacturing jobs that were previously moved overseas, national education and skill rates are the basis on which countries compete. These intangible assets are a crucial piece in the offshoring debate and the main reason why some countries stand out more than others as potential destinations for offshored jobs. One key factor is English language skills; offshoring is dominated by English-speaking companies and countries where large numbers of workers in the labor pool are fluent in English. This is true of both the countries doing the offshoring as well as the countries where the jobs are being sent.

One reason why out of all of the Asian countries where jobs have been offshored India is seen as the country likely to benefit the most is because so many members of the population speak English fluently. Another factor is that India produces nearly 2 million university graduates every year, with many of these graduates holding degrees in science and engineering.

China is another major destination for offshored jobs. Though it has fewer English-speaking workers compared to India, it does have high numbers of engineering and science graduates and has long been the destination of offshored U.S. manufacturing jobs. According to many economists, China will overtake the U.S. economy in size by mid-century. China is not only getting offshored jobs from the United States, but due to the language factor is also getting many offshored jobs from Japan. This is occurring in certain regions in China where some members of the population are fluent in Japanese.

Brazil, Russia and the Philippines are also leading offshoring destinations. The Philippines benefits from a large English-speaking population and Russia benefits from large numbers of science and technology graduates and its close proximity to Europe. Western European countries such as Germany and France are also offshoring jobs to Central European countries such as Poland, the Czech Republic and Hungary. The United Kingdom is offshoring jobs to other English-speaking countries such as Ireland and South Africa.

Just as Western European countries are offshoring to Central European countries in close proximity, U.S. companies are also offshoring jobs to countries close by, namely Canada and Mexico. This practice is often referred to as nearshoring or nearsourcing. While Mexico has been part of the trend toward offshoring manufacturing jobs for some time, Canada, with its relatively similar legal system, workforce and shared time zones, is more likely to be sent jobs in the IT sector.

A.T. Kearney recently created an index of most attractive countries for offshoring based on costs, the economic and political environment and the nation's human capital. As expected, India came out on top, but China was ranked lower than expected, as shown in Figure 1. This type of ranking may influence where companies decide to set up offshoring operations. Clearly, consulting companies will be dedicating more and more resources to advising businesses on where, when and how to offshore.

Figure 1

Aside from language proficiency and skill levels of the workforce, several other factors come into play when companies decide where to offshore. Political stability is one issue but economic conditions are perhaps the most critical. The establishment of foreign operations is a major investment and even contracted outsourcing relationships tend to last over several years. If wages in a country are rapidly rising or the currency shifts in relation to the dollar, this will have an impact on the level of long-term cost savings U.S. companies may experience. Wages in India, for example, are rising rapidlyespecially at the highest skill levels and some analysts believe that the cost savings in these high-skill areas will shrink over the next few years.

The legal framework of the destination country is also a consideration. More rigorous internal processes and safeguards may need to be put in place in offshored operations because of security reasons as some countries have few laws or legal precedents for dealing with issues such as identity and data theft. Protection of sensitive and confidential employee data is already a key concern for HR professionals who may be called upon to develop data protection measures that are tailored to specific regional needs and take into account a complex network of relationships with foreign contractors. Security issues are one reason why there is a growing trend toward legislation that stipulates which kinds of government contracts on both a state and federal level can be fulfilled overseas.

Reverse offshoring and multishoring

Some countries-even those traditionally viewed as destinations for offshored U.S. jobs such as China-have also been sending jobs to the United States, a trend referred to as "reverse offshoring." The most well-known examples of this have been the German and Japanese automakers' plants in the South. In this case, organizations may adopt "multishoring" as a strategy, where different parts of the production process take place in several different countries based on the specific advantages offered in each.

With a possible increase in the trend toward multishoring, HR will increasingly be called upon to manage human capital across several countriesinvolving issues from training to understanding local labor regulations. A key strategic contribution from HR will be determining to what extent the labor costs associated with offshoring will be offset by other costs, such as structural costs and training and skills development, a task that will require knowledge of the local labor pool and education systems. In the short term, most analysts expect offshoring to continue at a brisk pace because these costs remain so low in comparison to those in the United States. Though some analysts believe the cost savings will decrease the further up the skills ladder a job is, this view is in direct opposition to the observation that it is precisely the higher skilled jobs that are seeing the most growth in offshoring. These different factors make the decision to offshore more complex than simply sending jobs to those countries with the cheapest labor costs, and could further encourage the trend toward multishoring, where a mix of operations in both high-cost/high-wage countries and low-wage countries are used.

The political response

Most of the political debate about offshoring has traditionally focused on manufacturing jobs, but the emphasis is now shifting to white-collar jobs, due in part to active campaigning on the part of laid-off IT workers and to the activism of some service-sector unions. It was a major topic of discussion in the most recent annual Economic Report of the President. It has also become a standard topic on the presidential campaign trail; democratic presidential candidate Sen. John F. Kerry has introduced legislation that would require employees of offshore call centers to identify their locations and President Bush in response to the trend has sought funding for job re-training, community colleges and "personal re-employment accounts."

Among lawmakers, some of the debate has been around the claim that companies are using visa rules to bring in foreign employees to be trained in the United States, as a precursor to setting up overseas operations. The angriest protests to offshoring have frequently come from professionals who claim they have been forced to train foreign employees only to see their own jobs eliminated and their trainees sent back to their country of origin in order to help set up offshored operations. This accusation has most often been aimed at high-tech companies, who for their part argue that there simply are not enough science and technology graduates in the United States to fill these jobs. The debate has resulted in several proposals on the part of lawmakers to change existing visa rules. In the summer of 2003, legislation was introduced to repeal the H-1B visa program, which allows U.S. companies and universities to import foreign workers in science and engineering fields. There were also proposals to make changes to the L-1 visa, which allows multinational corporations to bring into the United States employees from their overseas subsidiaries on an intracompany transfer basis.

In other developments, proposals on both a federal and state level aim to curb the use of foreign companies in government contracts. Early in the year, the U.S. Senate approved a buy American bill for some government contracts. And many states are beginning to introduce legislation concerning offshoring. Most of these involve limiting state contracts for services to work performed by U.S. workers. But some are more radicalNew Jersey has introduced a bill stipulating that all employees at call centers answering a call from a customer must identify themselves by stating their name, the name of their employer and the location of the municipality, state and country in which the employee is located.

In response to these latest developments, chief executives from companies such as Hewlett-Packard, Intel, Dell and IBM have come together to form the Computer Systems Project. The group aims to counter the hostility, both popular and political, to offshoring and to take action against legislation that seeks to impose limits on the practice. Though most experts estimate that the number of jobs these recent proposals would impact is still fairly small, critics of the new measures say they could have major negative consequences for the U.S. high-tech industry. They argue that such steps could bring about retaliation from U.S. trade partners and, with the United States continuing to dominate the world in the IT services market, damage one of the country's most successful industries as a result. 

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