From Bloomberg columnist Andy Mukherjee ….
When economists debate the merits of outsourcing, they always invoke the early 19th-century thinker David Ricardo and his theory of comparative advantage of nations.
Businessmen’s collective memory doesn’t go that far back. When chief executive officers decide to move jobs to India, they draw intellectual sustenance from a 1990 Harvard Business Review article written by C.K. Prahlad and Gary Hamel. It was titled “The Core Competence of the Corporation.”
Outsourcing, when you apply the model of core competence to business processes, is all about companies parceling out activities that they aren’t best equipped to undertake.
If you sell computers, you shouldn’t run your own helpdesk. If you are an airline, you mustn’t waste your time juggling cash collected in different countries and currencies. No company needs to tie up resources in managing accounts receivable, or preparing payroll, in-house.
You can buy all these services from third parties, which will either automate them or manage them with cheaper manpower in India, Latin America or eastern Europe.
This offloading of non-core work to specialists has been the main driver for the business-process outsourcing industry, projected to grow 10 percent a year to $618 billion by 2010.
Now outsourcing companies are pushing the frontier, forcing global CEOs to define their core competence more sharply. It’s difficult to predict how it will all pan out, though it looks like Western companies may finally be left with processes with minimal labor content. And that will be one of the biggest political challenges developed-country governments will face.
Shrinking Core
As the service providers add depth to their own organizations by hiring engineers, doctors and statisticians, they are now able to do things that a client company has always considered to be integral to its main business.
“Can I do what you do better than you?” That, is going to be the question specialist companies like his will increasingly be asking prospective customers. The operative word in this question is: “better.”
Most economists believe that services outsourcing is only about getting things done “cheaper.” They think it is transient and self-adjusting:
A rise in the inflation-adjusted exchange rate of the exporting nation will make its cost advantage disappear; the same relative-price mechanism will also increase developed-country exports to places such as India and China. New jobs will be created to replace the ones that are now being lost.
What this argument misses is that the third-party providers who are winning ownership of business processes will move them from one developing country to another. Profits will be repatriated to developed-nation companies by the truckload. But the jobs won’t go back. Not for a long time.
Gains from free trade in services will occur, though not to the same people — or even the same class of people — who lose from it.
The manufacturing economy may serve as an example. Apple Inc. had fewer than 18,000 employees as of Sept. 30, 2006. Revenue per worker was in excess of $1 million. That’s 10 times the value an average worker produced last year at Taiwan’s Hon Hai Precision Industry Co., a contract manufacturer — among other things — of Apple iPod music players. However, Hon Hai, according to Bloomberg data, had 382,000 employees. That’s 382,000 paychecks.
From contacting a potential customer to making him sign the outsourcing agreement takes 18 months to two years. Outsourcing of core operations is something that the market is still learning.
If outsourcing becomes as widespread in services as it already is in manufacturing, Western economies may still grow strongly, thanks to surging corporate profits. However, the falling share of wages in economies across the developed world will keep offshoring a hot political issue for decades to come.
