Services Offshoring and its Impact on the Labor Market

Since the new tradability of services has made services vulnerable to relocation, the public awareness of services offshoring and its potential labor market effects has increased strongly. People's uncertainty and ignorance about the effects of services offshoring on the domestic labor market often encounter pessimistic press articles and contradictory statements by CEOs, politicians, and economists. Therefore, measuring the influence of services offshoring on the German labor market is extremely important. Socially, this study meets the interest of wide parts of the population, whose jobs have become vulnerable to relocation. Scientifically, our study remedies the lack and deficiencies of economic studies on this subject. The first chapter introduces three kinds of labor market effects: productivity, employment, and employment structure. Section 1.1 presents the development of each labor market effect in Germany, which is followed by a literature survey of existing studies that relate this effect to offshoring. Deficiencies of existing research, notably the lack of studies on services offshoring, are pointed out, motivating our own empirical analysis. Section 1.2 outlines the structure, contents, and methodology of this work. Although our focus is put on the specific German case, many insights of our work are also applicable to other developed countries.

In this second chapter, we develop a “Framework of Services Offshoring”, which contains a thorough analysis of the classification and drivers of services offshoring. The classification, in Sect. 2.1, examines how services offshoring is defined, which forms it can take, and which service activities are involved. First, we compare and contrast outsourcing and offshoring before deriving our own working definition of services offshoring. Second, we focus on the service part of services offshoring, defining services and describing the implications of their new tradability. We also classify services trade and the relevant service activities. Third, we focus on the offshoring part of services offshoring and discuss the make-or-buy decision in efficiency-based, resource-based, and transaction costs-based theories of firms. Section 2.2 identifies the main drivers of services offshoring. We first describe changes in the global environment, namely developments in ICTs as well as multilateral and regional liberalization of trade in services. We then discuss market-oriented, cost-oriented, and procurement-oriented services offshoring motives of firms, also including newer developments. Finally, we focus on developments in the destination countries, namely the availability of human capital, the presence of multinational companies, and the liberalization of service sectors.

This third chapter uses descriptive statistics to analyze the “Structure of Services Offshoring”. We identify the position of German services offshoring relative to other countries. We also look at the sectoral and regional structure of services offshoring. The analysis is based on balance of payments statistics, input–output data, and existing studies. Section 3.1 gives an overview of the largest offshoring countries at absolute and relative consideration, followed by the development of services offshoring in selected OECD countries. We then calculate services offshoring intensities as a more sophisticated measure of services offshoring. Services offshoring intensities measure the proportion of imported service inputs in total non-energy inputs used in home production. German offshoring intensities are then compared to previously available offshoring intensities for other countries. The sectoral structure of services offshoring in section 3.2 identifies the main offshoring sectors as well as the kind of service activities that are most commonly being offshored. First, the global development is discussed before moving on to specific trends in Germany. Finally, the regional structure of services offshoring in section 3.3 presents the major destination countries from a global and a German perspective.

This fourth chapter “Labor Market Effects in (Neo)classical Models of Offshoring” evaluates the labor market and national welfare effects in existing classical and neoclassical theories. Section 4.1 studies offshoring of final goods in the Ricardian, Heckscher–Ohlin, and specific-factors model. We first study the welfare gains from trade in Samuelson's (2004) Ricardian model. The model also shows how technological progress in the foreign non-comparative advantage sector erodes all or at least some of the domestic country's previous gains from trade. Second, we evaluate the gains from trade in the basic Heckscher–Ohlin model, before presenting four theorems. Third, we analyze the effects of offshoring in the specific-factors model of Bhagwati et al. (2004). Generally, offshoring leads to social gains, but there are also scenarios where offshoring can generate welfare losses. Section 4.2 focuses on offshoring of intermediate goods. We use the Grossman and Rossi-Hansberg (2006a, b) general equilibrium model, which includes a set of intermediate tasks, to evaluate the wage effects of offshoring. Different scenarios are studied, namely the effects of offshoring low-skill-intensive tasks in a small and a large economy, the labor-supply effect and offshoring of skill-intensive tasks.

This fifth chapter constitutes the major contribution of this work. It comprises a collection of three empirical studies, which estimate the effects of services offshoring on productivity (Sect. 5.1), labor demand (Sect. 5.2), and the relative demand for less-skilled labor (Sect. 5.3) in German manufacturing. The formulation of the hypotheses is based on the underlying theoretical models. Our econometric estimations use both unrevised (1991–2000) and revised (1995–2004) input–output data. We use two different estimation methods for all of our studies, which increases the reliability of our estimation results. Services offshoring had a positive effect on total factor productivity and labor productivity in German manufacturing, while it affected labor demand negatively. Both effects were stronger between 1995 and 2004. The overall results suggest that labor demand decreased, because labor-reducing productivity and substitution effects dominated labor-augmenting scale effects from services offshoring. Moreover, services offshoring significantly reduced the relative demand for less-skilled labor from 1991 to 2000. Interestingly, the results for 1995 to 2004 indicate a relative demand shift away from high-skilled labor, mitigating the declining wage share of less-skilled labor.

This sixth and concluding chapter summarizes the main findings of our study in Sect. 6.1. Section 6.2 discusses some implications and economic policy recommendations for Germany. Our own results combined with the literature survey indicate that, besides Germany, other developed countries have also experienced negative labor market effects due to offshoring. Considering labor market insecurity as one of the most important implications of offshoring, we show indicators of labor market insecurity in selected OECD countries. We then identify different country models with respect to labor market security and flexibility, and analyze several measures and reforms to promote “flexicurity” in Germany, by continuing high levels of labor support and raising labor market flexibility above current levels. Finally, we address possibilities to counteract the shortage of skilled labor in Germany. If political factors require limits on offshoring and migration as the only short-term solutions, a medium- or long-term option would be an effective education policy to produce enough talent at home. We describe the measures that have been taken in recent years to reduce the shortage of workers with the use of vocational education. We also show that fewer measures have been taken to face the shortage of workers with tertiary education.