Is Outsourcing an issue for our economy?

A recent entry by a frog in a well in tomorrow.sg discuss about his mixture of emotions to Singapore hospital’s Xrays are being outsourced to India for analysis. In that article, he also discuss from an outsourcing industry person’s viewpoint what possible consequences and problems would arise in outsourcing.

For discussion purposes, I would like elaborate a bit more on the whole process of outsourcing. From the wikipedia definition, one defines outsourcing (or contracting out) as the delegation of non-core operations or jobs from an internal production within a business to an external entity (such as a contractor) that specializes in that operation. One can relate outsourcing to offshoring, that means specifically transferring the work operation to another country typical overseas. Offshoring is similar to outsourcing when companies hires overseas subcontractors, but differs when companies transfers work to the same company in the same country. For good examples of outsourcing and offshoring, I will suggest a book by Thomas Friedmann entitled “The World is Flat” where he gave an example of an Indian company Infosys, where the company pioneers a new generation of offshore outsourcing of IT services.

Why do people outsource their operations out to outside companies (or subcontractors) that specializes in a particular operation than doing it themselves? One can view it as a business decision that is often made to lower costs or focus on core competencies. Take an example, if my company specializes in a particular product, say, a sound card to the computer, it would be easier for a computer manufacturer to outsource the operation of producing the sound cards of the computer to us, because we have the capability and core competency. There is a recent trend where big companies start trimming down some of their operations to focus on core competency, the reason is to save cost and also not waste too much money in developing a new capability. In developing a new capability, the company will need to inject funds, manpower and time to build it.

There are different types of outsourced work in different industries. For example, in the area of biotechnology (which is my area of specialization), you are seeing increasing outsourcing of manufacturing drugs to China and India. The reason for outsourcing is that the costs to produce these drugs in China are far lower than in US. The wages for the workers are cheaper and you can get more output. Hence it make sense to oursource.

However, there are also pitfalls to outsourcing as well. One problem is the product quality which can suffer because you are now using cheaper craftsmanship and materials to assemble a product. An example is Dell who moved customer service divisions back to America as a result of poor quality. The other problem is communication, if I am a customer of a bank in England, and the customer’s service is outsourced to India, I will be speaking to an Indian operator who might not sort out my problems because of distance. If we bring the picture back to the X-rays issue raised by Frog in the well, depending on the timeframe, we might not get back our X-ray analysis quick enough for review. Of course, outsourcing takes away jobs and regardless whether you are in Singapore or US, if your job can be outsourced for a cheaper wage, it is very likely that you will be retrenched. This creates resentment of locals towards foreigners who they felt their jobs are stolen away from them.

There are some long term benefits for outsourcing, for example, it reduces the rich-poor gap between developed and developing countries. Sooner or later, the economies that benefitted from the outsourcing situation will slow down, and that will shift the wages of the workers similar to that of those in the developed countries.

The real problem is how to deal with the retrenched workers in the short term. In some countries like the US and possibly, Singapore, outsourcing of jobs has become an election issue for the voters. Of course, there are only two possible solutions for governments or ruling parties to deal with their voters: either retrain these workers to another industry or provide means and ways to these workers to start their own business as entrepreneurs.

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