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Can Insourcing Trump Outsourcing?

Do the benefits of international trade and investment outweigh the outsourcing pain?

June 9, 2004

Do the benefits of international trade and investment outweigh the outsourcing pain?

There is a new specter haunting the international trade debate. Under this grim construct called “outsourcing”, one might think the middle classes of the United States, Germany and similarly advanced countries have a rendezvous with ruination.

Are they being betrayed by the western world’s own creation — free trade in a global economic system — while workers in less developed societies reap the benefits?

Each anecdotal account of a western enterprise’s seeking lower labor costs in India, China or Slovakia contributes to what threatens to become a new conventional wisdom — that outsourcing is the evil spawn of free trade and must be smothered by protectionism.

Against this backdrop it will be no easy task to reinvigorate the WTO round of free-trade negotiations within the brief window of opportunity that remains this summer before the upcoming U.S. elections and the establishment of a new EU commission.

Time is of the essence to narrow the remaining differences before the crucial WTO General Council meeting on July 27.

As far as outsourcing is concerned, Albert Einstein’s definition of conventional wisdom as the sum of all prejudices is quite apt.

To be sure, outsourcing inflicts hardships on individuals and communities. These can and should be mitigated by retraining, coordinated relocation programs and unemployment benefits.

But many more people would suffer for decades to come if we succumb to the current assault on free trade – and jobs would not be more plentiful.

The biggest victims would likely be the economies of the United States and Germany. As the world’s two leading exporters, they have the largest stake in achieving progress toward fewer restrictions on trade.

To maintain support for positive momentum, it is helpful to focus on the hard facts.

First, free trade — including outsourcing — does not cause the type of employment dislocation that is now the subject of debate.

Second, free trade in its broadest sense does produce a huge dividend that is often overlooked. Policy wonks give it the inelegant label of “insourcing”.

On the first point, movement of jobs across frontiers and oceans is a familiar phenomenon that is part of structural changes in the global economy. It did not spring from the spirit that created the WTO — or the regulations administered by it.

Free-market economies constantly exploit potentials to increase productivity. Whoever limits this freedom and prohibits the necessary adjustments ultimately wastes economic resources and makes citizens of all trading countries poorer.

With the accession of ten new member states on May 1, 2004, the European Union embraced potential for new economic growth that will ultimately benefit all of its citizens, rather than sealing itself off from unwanted competition.

Free-market economies can cope with such changes better than other systems because they are more capable of promoting growth through innovation and allow local business people to fine-tune the adjustment process.

The active promotion of innovation and creative adjustment to change are essential to growth and increased employment in countries like Germany and the United States.

Businesses invest in these countries for a variety of reasons. One of them is that adherence to WTO rules on the free movement of goods and capital provides a solid legal basis for management and investment decisions.

And invest they do – producing the “insourcing” dividend that features creation of good jobs. In 2002, European companies held more than $1 trillion in direct investment in the United States.

Germany’s share of that figure was $137 billion. Goods and services produced by U.S.-based subsidiaries of European businesses accounted for over 12% of U.S. foreign trade in 2001.

U.S. subsidiaries of foreign companies employ 6.6 million employees in the United States, a record number. They earn, on average, 16.5% more than employees of U.S. businesses.

In some sectors, the United States enjoys a favorable job creation balance: since the mid-1990s, foreign companies have created 400,000 jobs in U.S. heavy industry, while 300,000 such jobs have moved abroad. Many of these new jobs are in mid-western states that are ostensibly the worst U.S. victims of outsourcing.

Reciprocal direct investment, which is particularly robust between the United States and Germany, is clearly vital to continued prosperity in both countries. So are other forms of global commerce.

And just as clearly, the future health of these relationships requires that the international community build on the strong foundations now in place.

Initiatives by the United States and the European Union to reinvigorate the WTO negotiations are promising. A successful completion of the WTO round of talks will enhance the prospect for growth and further develop the trans-Atlantic marketplace as the world economy’s engine.