Globalization and Offshoring of Software


The Politics of Offshoring



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8. The Politics of Offshoring


Globalization, especially in its manifestation as offshoring, is a hugely disruptive force that effects the national movement of wealth and jobs. In addition to the educational responses to offshoring discussed above, countries might adopt political responses. Developed nations might take political action to stem the loss of jobs and wealth to globalization, either through protectionism or measures to make the country more competitive. Developing nations might take political action to create an environment in which its software export industry can flourish. Our initial focus here is on the United States, which is largest global offshoring procurer.

Public policy debate about offshoring began in the United States as a result of the wide news coverage of the report in November 2002 by Forrester Research that 3.3 million US jobs would be lost by 2015 as a result of offshoring. The most common response to offshoring in the United States has been actions by the executive and legislative branches of the state and federal governments to create protectionist laws and executive decrees to control the movement of work out of the country. Bills have been introduced that limit the citizenship or visa status of workers allowed to do work for US organizations or require that call center operatives working outside the United States inform callers of that fact. There are reasons to question the legality and efficacy of this protectionist legislation. Some legal scholars believe that most proposed state laws and executive orders will be ruled unconstitutional because of the Commerce Clause of the Constitution, which leaves control of international commerce agreements in the hands of the federal rather than the state governments. Legal scholars also believe that proposed federal legislation on offshoring may break existing international agreements. There is also a risk of retaliation by other countries to protectionist American legislation. Overall, local and state responses have been small scale and limited. The attitude of the Bush administration has largely been to leave things alone, in the fashion advised by most trade economists.

A second policy approach in the US has been to propose reforms to the H1-B and L-1 worker visa programs. The purpose of these programs is to help US companies find skilled workers, but critics claim that they are being misused as part of a strategy that enables companies to export jobs, especially to India, or to bring below-market-wage workers into the U.S.

A third approach is to ensure that US tax law, in particular US corporate tax laws, provide no incentives to moving jobs overseas. These proposals would normalize tax rules between the United States and other countries so that US-based multinationals will have incentive to repatriate earnings to the United States that they earn in other countries. Tax law is hard to enact; and even if it were enacted, there would still be disparities because of costs of health care, safe workplace legislation, and environmental protection. There has also been a visible effort by the US to get the Chinese government to adjust its currency to a more realistic value.

A fourth approach has been directed at providing support to Americans who lose their jobs through offshoring. In 1962, the US Congress passed the Trade Adjustment Assistance Act to offer job training and extend the length of time of unemployment benefits to American workers who have lost their job through trade agreements. There has been a political and legal battle over whether the Trade Adjustment Assistance Act does or should apply to software workers. Progressives want to go beyond this act and also require companies to provide three months of notification to workers whose jobs are to be eliminated because of trade, extend the term length of unemployment benefits, provide wage insurance paid for by the companies that offshore work to make up some of the drop in wages typical in the displaced worker’s next job, improve retraining and reemployment services, offer temporary health care and mortgage assistance, and allow multi-year income averaging on federal taxes.

A fifth approach is to improve the innovation base. The basic idea is that, although some jobs will undoubtedly be lost to low-wage countries, America can produce a substantial number of new jobs, including many of them that are high on the value chain, through policies that create a climate of innovation. Innovation policy generally has four elements: making it more attractive for foreign students and scientists to work in the United States, improving the educational system in the United States, attracting US citizens to the science and engineering disciplines, and increasing federal support for research and development. There have been numerous criticisms that the United States is not now doing enough to build that innovation base, and there are proposals under discussion by both Democrats and Republicans in Congress, as well as suggestions from various non-profit organizations, to create new innovation initiatives.

How do policy issues in other countries that offshore work compare to those in the United States? Australia presents an interesting case study in the politics of offshoring in that Australia offshores work but is itself a country that has benefited greatly from free trade, both in terms of its important export markets for wheat, wool, coal, wine, education, and tourism, and also for the range of products that are available to its citizens through imports.

Debates over free trade arose in Australia over offshoring in 2004. There was sharp criticism from the opposition Labor Party to the lack of policies protecting Australian jobs and workers. Interestingly, the Australian Computer Society published a policy paper that advocated free trade and resisted any protectionist measures. Instead, it called for improvements in existing government programs to help displaced workers with re-training and re-tooling, check-lists that would educate Australian companies on the cost-benefit analysis of offshoring so that they would not rush headlong into it, and changes in industrial policy to enhance Australian R&D. The sitting Howard government was pleased with the report and outlined its own policy initiatives, which included more government support for displaced workers, an effort to increase foreign direct investment in Australia’s IT industry, and various improvements in teacher training, educational programs, and educational assessment.

New Australian government data appeared this year, showing that many of the temporary visas for skilled workers are held by Indians, and many of these visa holders are doing programming work. These numbers concerned the Australian Computer Society, and they have taken harder-line positions on both the skilled temporary visa program (known as “457” visas) and on a permanent residence visa program, known as the General Skilled Migration Program. While still endorsing the basic immigration policy of the Australian government, ACS has called for adjustments in the 457 system to make it fairer. It has also called for the permanent immigration program (General Skilled Migration Program) to be substantially reduced until the market can absorb ICT graduates from Australian universities, Australian computer science enrolments begin to increase, and unemployment levels for computer workers fall to the level of other professions in Australia.

Sweden provides an example of the policy stance of a Western European country that engages in offshoring. The Swedish economy and welfare has benefited greatly from a long tradition of free trade, starting in the late 19th century. The policy includes agreements between employer and worker associations on the basic principles for wage setting and job assurance and a commitment to overall Swedish industrial competitiveness in knowledge-intensive and high-wage industries. This industrial policy caused Sweden to create one of the biggest high-technological industries in the world; and it has among the highest rates of investments in R&D and outputs in terms of scientific publications and patenting. Sweden has also become one of the most internationalized economies in the world, having a high dependence on foreign trade for its Gross Domestic Product. Part of its industrial rationalization is through offshoring to countries with lower production costs.

On several occasions, specific industrial policy measures have been taken by the Swedish government to support industries with low and decreasing international competitiveness. In the 1970s, considerable industrial support was given to the steel, clothing, and marine industries when they faced large-scale failures, but the measures turned out to be futile. As a consequence, Swedish policy has to a large extent returned to the basic policy principles of free trade, so in the current globalization trends Swedish policy is almost completely free from protectionist and direct job-protection arguments. There have, however, been a number of initiatives to improve Swedish competitiveness and counteract the negative impact of offshoring. They are all related to a new national innovation strategy advanced in the spring of 2004, which has three fundamental points: technological development and R&D as the key to Swedish competitiveness, investments in large-scale public-private partnerships to achieve centers of excellence in R&D for specifically targeted industries, and reorganization and increased funding for R&D startups and growth of small and medium-sized research-driven companies. Software is not explicitly mentioned in the plan. In Sweden, software development and production is primarily embedded in other manufacturing or service-providing value chains.

Turning now to the developing countries that export software service work, there have been significant policy issues at the national and state levels that have shaped the climate for the Indian offshoring industry. These include regulatory policy as it affects foreign direct investment, taxation, building an infrastructure, protecting intellectual policy, data protection and privacy, and education and training policy.

The regulatory history is the longest and most comprehensive of all Indian policies affecting offshoring. From the 1950s to the early 1970s, Indian economic policy focused on identifying ways for domestic companies to replace imports. Policies enacted in the 1970s that severely limited foreign ownership in companies operating in India drove out some multinationals, including IBM. Regulation in the 1980s promoted the development of the hardware industry and identified software as a promising export business; however, India had limited success in the 1970s and 1980s in building an indigenous IT industry. India was forced to liberalize its economy in 1991 in the face of severe cash problems. The new industrial policy included reduced licensing requirements in most industries, allowed foreign companies to hold majority interest in Indian companies in many industries, provided for automatic approval for hiring foreign technicians and foreign testing of technologies developed in India, and reduced restrictions on the ways in which mergers and acquisitions could take place.

Tax policy also had a shaping effect on the Indian software industry. In 1981, the Indian tax code was revised to establish tax-free zones on profits and gains for manufacturers, including software manufacturing. In 1993, the law broadened the tax-free zones to include various science and technology parks. The law was again broadened in 2005 to give tax breaks to software firms outside these parks.

Infrastructure policy also shaped India’s software industry. Laws intended to build a favorable infrastructure and reduce labor regulations and other bureaucracy for the software industry were enacted primarily by individual state governments, mostly in the southern part of India. The one infrastructure issue subject to federal governance was telecommunications policy. Beginning in 1991, the telecommunications sector experienced a series of deregulations that continued until recently. Deregulation enabled the Indian software industry to have access to a completely modern telecommunications system with a capacity and cost that enabled the offshoring service companies to be internationally competitive.

China provides an interesting contrast to India. China is a policy-driven society, and one sees much more significant intervention of the state in the economic development of the software industry in China than in India. The national software strategy in India has been focused on the export service market, whereas the Chinese are interested in capturing their domestic software product and service markets as well as participating in the export market.

Until the 1980s there were mainly local rather than national companies in China. Much of the capital available to businesses was tied in one way or another to the state, and many of the decisions on capital allocation were made at the local level. Since then, internal trade barriers have been dropped, enabling companies to build scale and move into neighboring markets. In recent years, the national government has promoted economic reform through competition among provinces and growth for individual companies by access to capital through the national stock market. Consolidation and focus on the international market has not yet occurred in the Chinese software industry. As of 2002, there were over 6,000 software firms in China; only 19 of them had sales exceeding $120 million.

Chinese policy towards forming technological capabilities has changed over time. From 1978 to 1985, the focus was on central planning and state control. In the period from 1985 to 1991, the focus was on enhancing the innovation system through greater state support for both public and private R&D. Since 1992, the focus has been on enabling market-oriented reforms to improve the quality of research and the skills of the workforce, and to broaden the focus on development beyond the defense and heavy technology industries.

The government has taken a strong hand is the development of trained personnel for the software industry. This included not only new educational programs, as described above, but also concentration of highly skilled software talent in certain geographic areas, by having the government facilitate transfers of skilled software personnel to the chosen places, including providing accommodation for their spouses and children. The Chinese government has also provided incentives for overseas Chinese software workers, especially managers, to return home through such incentives as cash payments, cars, houses, and promotions.

The Chinese government supports R&D in universities, research institutes, and to some extent industry. The best known of these initiatives is the Ministry of Science and Technology’s High Technology R&D Program, known more commonly as the “863 program”, which has provided more than a billion dollars of government funding for basic research since 1986. Other programs to provide research support include the Development Fund on Electronic Information Industry, an R&D Fund on Industrial Technology, and a Technological Innovation Fund. Although the government has continued to support important state research institutes, such as the institutes of the Chinese Academy of Sciences, there has been an effort to make them less dependent on the state and encourage them to reach out to obtain external funding sources.

The government has also taken steps to improve the competitive business environment. China does not have a long history of controlling anti-competitive behavior in a technological sphere, and it has thus had to pass a series of acts that protect a competitive environment, making illegal certain kinds of behavior such as impugning another company’s reputation, bribing, threatening, and dumping. There have been targeted tax reductions to companies that meet certain sales and export figures. Exporting firms have been given favorable terms on bank loans, export insurance, and taxes and duties.

China has one of the world’s worst software piracy problems. The Chinese government has taken a series of steps to try to curb piracy. In addition to the general copyright law, China has passed several laws targeted at fighting organized crime that is manufacturing and distributed copies of pirated software. Government organizations are coordinating anti-piracy campaigns, and are being encouraged to be model citizens themselves by using no pirated software. A registry system has been established, under which owners who register their copyrighted software are given extra protections under the law. However, software piracy remains a big issue.

Politics is one of the ways (together with education, consumer boycotts, and labor action) that nations can respond to offshoring. The general movement has been to avoid protectionist legislation. Australia and Sweden have completely espoused free trade even though they risk some level of unemployment for their IT workers. In recent years, India has moved away from its protectionist and isolationist politics of the 1960s and 1970s. The United States has had a number of protectionist actions suggested, but most of these efforts have not been enacted into law, and today there are calls for policies to enhance its competitiveness rather than to protect its jobs by legal and economic barriers. China is the most protectionist of the countries studied here.

All of these countries understand that they have to make their national laws conform to some degree with global practices if they want to be players in the global marketplace. Thus China, for example, has been willing to revalue its currency despite the short-term gain from keeping it artificially low; India has eased many of its trade barriers; the United States has entered into numerous international trade agreements; and Sweden has conformed to international monetary policies.

All of the countries studied here recognize that there are certain risks of sending software work across national boundaries. These include questions of intellectual property, privacy, and data security. Europe has taken the lead in strong privacy policy, and India has seen the economic value in meeting European and US standards on privacy. China is not so far advanced in managing these risk issues as India is, but there is every reason to believe it will have to do so if it wishes to continue to attract international business. China is struggling with balancing openness of information with political control, and so far it leans in the direction of control rather than individual rights.

For the developed countries that send work offshore, a common political approach is to build new jobs and prosperity through policies that increase innovation. Sweden is increasing government support for research and development, and there are calls for this to be done in the United States. The two countries differ on parts of the innovation platform, however. Sweden currently has an abundance of highly educated workers, so it is not interested in ramping up its educational system. The United States is facing declines in foreign scientists studying and working there, as well as declining numbers of American students studying technical disciplines; so an integral part of the innovation platform for the United States is to improve the education system and attract foreign workers and students (to the degree this is compatible with national security policies).

India and China have a number of similar policies for developing their offshoring industries. Both are interested in ramping up their educational systems to supply an adequate number of skilled workers for their IT companies. Both are concerned about having adequate infrastructures (power, transportation systems, telecommunications) to provide good service to their IT companies. Both have adopted a series of policies intended to attract foreign investment. China has implemented policies to try to produce a reverse Diaspora, so that native-born scientists who have been working primarily in the United States and Europe return home to be part of the senior technical and business leadership in their IT industries; India has achieved this same effect without explicit national policies. India has more experience in developing policies to support the export software market than China, but China is advancing rapidly and has a more centralized government-planning model in place.



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