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The Irony of Outsourcing

http://www.ventureblog.com/articles/indiv/2003/000208.html
Good piece on outsourcing by Kevin Laws:

"Economically, trade is no different than other technologies. Economist David Friedman of Santa Clara University puts it most succinctly: there are two ways to make a car -- you can either make it in Detroit or grow it in Iowa. You already know how to make it in Detroit. You get a bunch of iron ore, smelt it into steel, and have an assembly line of robots and workers shape it into a finished vehicle.

To grow it in Iowa, you plant car seeds in the ground (also known as "wheat"), wait until they sprout, and harvest them. Take the harvest and put it into a big boat marked "to Japan" and let it sail off. A few months later a brand new car comes back.

As far as the economy is concerned, it has exactly the same effect on workers and consumers if we use a boat marked "to Japan" or a fantastic new technology invented in Silicon Valley called the "wheat-to-car-converter". Either way, if it takes you less effort to grow wheat into a car than it does to make it in Detroit, then you should grow wheat. Either way, jobs in Detroit would be lost, and either way people get cheaper cars. Trade is just another technology."

Just me (Sir to you)
Thursday, November 20, 2003

I'm sure there's a dangling pointer in there somewhere...


Thursday, November 20, 2003

Does the author mean to say "technology is like any other trade"? The other way 'round doesn't make any sense.

The ultimate question on outsourcing is whether it is truly more efficient to develop software in India or Country XYZ than it is to develop software in the US. If that answer turns out to be yes, then the loss of software jobs in the US is inevitable; in the absence of protectionist intervention by the government.

Rob VH
Thursday, November 20, 2003


Actually, the analogy is not totally correct.

Toyota, and Japanese car makers in general, succeed because they do things BETTER than other car makers (this is lean manufacturing, but that's a different topic).

But why do you think that Toyota builds car plants in North America? Sure, pressure from the U.S. government might be part of that, but it's not decisive.

It's because Toyota can't remain lean while shipping product across oceans. It's a lot harder to do JIT when the stuff you need is in a ship's hold for weeks at a time.

There is a similar, though much weaker, argument against outsourcing. It's a lot harder to be agile in software development when part or all of your team is 12 time zones and 10,000 miles away.

anon
Thursday, November 20, 2003

Good article.

hoser
Thursday, November 20, 2003

The Iowa analogy is misguided.  While on the surface it appears reasonable, even logical, it fails the long term test.

If you take a long term look at the process, then everyone who produces a product from scratch will be able to buy products that are manufactured.  As "no one" works in manufacturing, this is a boon for the farmers, miners, and doctors of the world.  However, not everyone can be a farmer, miner or doctor. 

There is neither the space (land) nor the need.  Once all processes are automated beyond the need for humans then the cost is pure materials, and support.    However  ALL processes, including farming, mining, and medicine are also being automated.  What do we do now that everyone cannot be a farmer, miner, or doctor either?  It will be more cost effective to have people do dangerous jobs than machines.  People will be cheaper and easier to replace than machines.

Unfortunately, I do not see the "Star Trek" like future where we are all free to pursue our personal goals.  Instead, it will look more like the Time Machine with the Eloi and the Morlochs.  But which is which?

aNoN
Thursday, November 20, 2003

"However  ALL processes, including farming, mining, and medicine are also being automated.  What do we do now ..."

We breed like crazy, murder, rape, pilage and burn. Sounds familiar?

"Welcome to newshour ..."

The only question is: Will we do it here, or in "the Matrix"?

Just me (Sir to you)
Thursday, November 20, 2003

And how does the author of the article explain why Japan decided to go for heavy industry after WW2, when it held no chance against the US, instead of sticking to fabric and cheap gadgets?

Could it be higher added-value, and balance of power on the world scene?

Frederic Faure
Thursday, November 20, 2003

Economically, the observation is correct.

If you consider just the flow of capital and products, there is no difference.

However, the whole economic abstraction is leaky.  Very leaky.  In addition to capital and products, there is also the movement of knowledge.

Econmic development is not a static process, it is being constantly improved.

How is this process improved?  By obvserving what is happening, and working out how to do it better (better can be measured many ways.  Lets just say that the change increases your ability to compete in the market.)
   
How do you observe the process when it is taking place on the other side of the work, while you are sleeping.
   
Meanwhile, over in another timezone, the outsourcing company is busy coding to the specs they receive.

The outsourcing company, and its employees are busy learning.

What do they learn?
   
- How widgets are made.
- That their foreign paymasters, who had seemed to inconceveibly clever at making widgets, weren't so bright at all.  They could have made widgets so much better.

While this is happening its all change over at Widgets Inc.  A whole new generation of staff who don't know a thing about widgets takes over the company. 

Now Widgets Inc no longer know how to make Widgets.  They only know how to send instructions over to the other side of the world.

Some employers at Outsourcing Co go and set up there own shop.

Newcomers Ltd make better Widgets for less money, and require lower profit margins.
   
They export the Widgets and go into direct competition against Widgets Inc.

Since Newcomers Ltd have been making this stuff for years, and understand every stage of the process they are agile in the market.  There early product is laughed at, but they quickly adapt to the demands of the new market and finally dominate.
   
The people at Widgets Inc look at their gant charts and talk about opening new revenue streams.  They know about money, but not Widgets.

They fire what little staff they have left, then sell the company as a growing concern as a reseller for Newcomers Ltd.

Ged Byrne
Thursday, November 20, 2003

"But why do you think that Toyota builds car plants in North America? Sure, pressure from the U.S. government might be part of that, but it's not decisive. "

Can't say much about the USA, but the only reason there will be some car plants left in Western Europe for the next 5-10 years is massive government subsidies that have to cancel out the economics of moving.

"It's because Toyota can't remain lean while shipping product across oceans. It's a lot harder to do JIT when the stuff you need is in a ship's hold for weeks at a time. "

By that reasoning all US market Toyota plants should be found in Mexico?

Just me (Sir to you)
Thursday, November 20, 2003


Nice post, Ged.

I would just point out that while it might be implied that Newcomer Ltd is a foreign company created from outsourcing, it doesn't necessarily have to be the case. If you're an agile company, anywhere, you'd have an advantage over a less agile company regardless of whether they're outsourcing or not.

anon
Thursday, November 20, 2003

Just Me. The relative cost of labour is low for a car plant, and even lower for a steel plant.

The problem I suspect in Japan could be more price of land, though I think the American and European decisions are political and pre-emptive.

Ged, what you say is true, but firstly any company "outsourcing" its core business would probably be setting NewcomersLtd as a subsidiary.

And if it was outsourcing services, then it doesn't care about losing non-core competencies.

Stephen Jones
Thursday, November 20, 2003

All this discussion seems to leave out a few real world factors - currency exchange rates being a biggie.

About 10 years ago a friend of mine went to work in Japan for 18 months.  Part way through the yen rose dramatically (about 50% against the pound) - suddenly making Japanese goods expensive and cutting his wages at a stroke. 

If you ship a significant element of your wealth making capacity overseas your currency will devalue and your exports become cheaper. 

Currency markets, interest rates and international trade forms one big messy feedback system.  Overall subcontracting work overseas can make sense - it's just no consulation when it's your job that's exported.

A cynic writes
Thursday, November 20, 2003

Stephen,

don't forget the more stringent environmental regulations. You are right that it is much more than just the wage differences.

Just me (Sir to you)
Thursday, November 20, 2003

Your right, the situation I'm describing is about managment losing touch with what the company actually does.

Outsourcing is just one possible cause.

Ged Byrne
Thursday, November 20, 2003

"But why do you think that Toyota builds car plants in North America?"

Tariffs.

bpd
Thursday, November 20, 2003

You guys talking about tariffs and shipping costs are without a clue. It's cost effective to ship watermelons in refrigerated cargo planes from New Zealand to the US and sell them at 7 cents a pound.

The reason Japan outsources its manufacturing to the US and other areas is for one reason only -- the labor costs in the US are substantially less than in Japan. Not just salary, but it's a heck of a lot easier to lay off American staff than Japanese. And the Japanese workers tend to want stuff like benefits and so forth.

Dennis Atkins
Thursday, November 20, 2003

anon,

Ged's point was that the outsource workers have a huge advantage because they are not just fully trained in the widget domain, but they have become the world's leading experts in their manufacturer and the parent company has no domain knowledge at all beyond golfing and gutting the pension plan.

A agile startup has an advantage, but no where near that of the outsourcerees. This may be different in manufacturing but the widget outsourceree is also doing the design work as well...

Dennis Atkins
Thursday, November 20, 2003

Dennis responds: "You guys talking about tariffs and shipping costs are without a clue."

Clueless?  Perhaps so.  The questioner asked, perhaps rhetorically, why I thought Toyota builds car plants in N.A. and I gave my thought/opinion on the matter.  Frankly, it's rather rude of you to be critical - even if my opinion has no basis in fact.  I'm sure you can offer your own opinion without being critical of others'.

I don't suppose you've spoken to Toyota's upper-management to get the "cluefull" reason.  But even if you had, the criticism was unnecessary and adds nothing to the exchange.


"It's cost effective to ship watermelons in refrigerated cargo planes from New Zealand to the US and sell them at 7 cents a pound."

Perhaps the tariffs on watermelon significantly differ from those on automobiles.

bpd
Thursday, November 20, 2003

bpd,

Sorry - in these parts, 'without a clue' just means uninformed on the particular issue, meant to call attention to speculating. It's not a slam. A slam is something like 'dumbass' or 'idiot' or such and I am not using any of those. 'Without a clue' is rather innocuous. Sorry for the confusion.

Dennis Atkins
Thursday, November 20, 2003

Also, to respond more directly, Japan and the US have a zero for zero agreement on passenger cars since around 1972 I think -- neither country taxes the import of the other country's products in this area. There is however a 25% tariff on imported Japanese trucks, which does support the US truckmaking industry and explains why japanese trucks are rather rare to see. There was talk of a 100% tariff on a small class of japanese extreme-luxury cars, but that never went through.

I think I have heard but am not sure that US and NZ have a bilateral zero-tariff trade agreement on many agricultural products, which is a complementary deal that benefits both countries tremendously since the trade is similar in products and quantities but simply 180 degrees out of phase with regards to the seasons.

Dennis Atkins
Thursday, November 20, 2003

Should also mention that Europe has a 10% tariff on imported japanese passenger cars and china has a 100% tariff, yet japan does not manufacture cars in either of those countries. The reasons are that in europe, labor costs and lay-off laws are comparably restrictive to those in japan and so there is not enough of an advantage. In china, the labor costs are lower but the problem is corruption and quality control.

Dennis Atkins
Thursday, November 20, 2003

"Frankly, it's rather rude of you to be critical - even if my opinion has no basis in fact."

In other words, "The fact of my not having a clue does not give you the right to say I am clueless."

Personally, I would say that those who don't like being flamed should avoid Internet discussion groups.

Jim Rankin
Thursday, November 20, 2003

"In other words, 'The fact of my not having a clue does not give you the right to say I am clueless.'"

Rights are a whole other issue.  I was talking about politeness.



"Personally, I would say that those who don't like being flamed should avoid Internet discussion groups."

Based on your stated opinion, you either like being flamed or normally avoid Internet discussion groups.  Which is it?

How about:  Those that wish to flame (i.e., be critical or insulting) should avoid Internet discussion groups.  Wouldn't that make for better discussion groups?

bpd
Thursday, November 20, 2003

Leaving aside the flaming issue, the original post is about economic efficiency. If it is cheaper to develop a similar quality product (or service) offshore, there is where the jobs will go. Not doing it is equivalent to artificially keeping prices up for consumers.

Of course the real question is "can we get similar quality for a lower price?" In some cases we will be able to get it and in other we won't. I don't know what is the percentage for each case, but eventually offshoring will be a majority. Programming and programmers are becoming a commodity, and only those with very distinctive skills (or very specific niche) will stay afloat.

uncronopio
Thursday, November 20, 2003

To follow up on uncronopio's post... there remains to determine what "economic efficiency" means. Currently, economic theory is brain-dead (smoking, then dying from lung cancer both increase the GNP) because, for intellectual convenience, it leaves out all information that cannot be modelized.

As for offshoring code... that reminds me of a book on MS, which explained that, originally, MS had development teams scattered accross the US, but at some point, decided to move everyone back to Redmond and build the big campus they now have, simply because the lack of face-to-face interaction resulted in higher costs. In other words, the _real_ cost had to include lost productivity and lower quality due to misunderstandings, etc.

If Adam Smith and his beautiful theory of private self-interest were true (ie. humans only care about $)... members of the first world would have stopped having kids decades ago, since they're a cost, while it makes a lot of sense in the short term to keep having a lot of kids in the third world, where kids are put to work at 5, and take of their parents when they're old. Likewise, why bother entertaining a wife/gf when you can just have your sexual needs outsourced by a prostitute? :-)

Frederic Faure
Thursday, November 20, 2003

The funny thing is that programmers have been churning out code for quite a while, and their work had the effect of massive staff reductions in other sectors of the economy. Programmers did not say anything about these effects because they were not the ones being layed off. Now that things don't look that great for programmers you worry...

uncronopio
Thursday, November 20, 2003

uncronopio - That is a decent point. I remember my first large IT program I finished; we were told that they could now get rid of five people from the support staff. This was disturbing to me, but I didn’t worry so much at the time because it was the booming .com era.

Efficiency is a national pastime.

m
Thursday, November 20, 2003

Dennis,

On the NZ-US trade thing that's not the way it is. Australia and US are approaching a free trade deal, and the US makes special concessions to Australia (e.g. tarriffs do not apply to Australian steel imports but they do apply to most other importers). I'm not 100% sure if such a free trade deal would include agricultural goods (or more acurately I'm not sure of how agricultural trade would be handled under such a deal).

Australia has aligned itself pretty closely to the Bush doctrine relative to other foreign powers and I have the impression that John Howard (Australian PM) would do anything to get a free trade deal with the US. My reading is that he sincerely believes that would be the best possible thing for Australia (even if it makes Australia a greater target for terrorism for instance; annoys neighbouring states, e.g. Indonesia, Malaysia; etc).

Conversely New Zealand historically (at least under left-wing governments in the mid-80s and currently) has made a point of emphasising its own foreign policy agenda (e.g. no nuclear [war]ship visits since 1984; disagreement over the recent Iraq war) and is also saddled with the fact that it has a small population (just went over 4 million this year, while Australia just went over 20 million this month).

There is talk that a free-trade deal between NZ and the US might follow a deal with Australia, but the benefits to the US aren't as significant as those from a deal with Australia - NZ's consumer base is too small, 70% of NZ's exports are agricultural [not sure of the measurement criteria, but that's what I heard recently] and farm subsidies in the US are substantial (i.e. Indian farmers cannot compete with US and European agricultural products imported to/dumped on [pick one] India because US and Europe subsidise so heavily) which would still make untarriffed NZ goods expensive to US consumers despite $NZ 1 being about $US 0.50 [currently around $0.60] and NZ possibly/probably being a cheaper place to produce goods (and for Larry Ellison to sail his yachts and to make movies and Brad and Jen to honeymoon, etc).

If we look at tarriffs/subsidies the question is do the subsidies benefit the US or hurt the US? Although goods may be cheaper, consumers are basically paying what they save through their taxes. If uneconomic farms are being propped up then the consumer is actually paying more than they need to via taxation. Conversely removing subsidies will lead to job losses, business closures, etc.

The situation is that agricultural producers who want to get access to the US market want the subsidies to stop and (most) agricultural producers in the US don't want the subsidies to stop. This issue is a significant one for US senators with a large enough percentage of farmers as potential voters, i.e. even if GWB wanted to remove subsidies the majority of senators would probably vote against such a move.

NZ abandoned farm subsidies in the mid-80s partly under the impression that most other nations would follow suit (and partly because it couldn't afford to keep paying them). Right now we are a long way from international agricultural free trade. Despite the hardship to the local farming community at the time, my impression is that the consensus opinion is that removing the subsidies was ultimately a good thing. Sort of the situation Ged was outlining - survival of the fittest.


Maybe the solution is to stop farm US subsidies so Indian farmers aren't forced to get jobs for Winpro. :)


PS. I suspect Australia may be a better source of watermelons than NZ - I don't think NZ has the climate.

PPS. I heard that Joel briefly studied at Auckland University (NZ) or something like that. Is this true, Joel?

Walter Rumsby
Thursday, November 20, 2003

Frederic, actually if you look at numbers, birth rates are falling in the US and (especially) Western Europe.

http://news.bbc.co.uk/1/hi/health/2895109.stm

Jeremy
Thursday, November 20, 2003

I know that the birth rate is falling (although not in Sweden and France, probably due to better accomodations and gov't subsidies, making it possible for women to manage kids and work), but the trend is there.

At any rate, I took this example to show that classic theories from the usual suspects (Smith, Ricardo, Malthus) start with a modelization of society that is so simplified as to be plain wrong (my example on having kids), or were only true at some point in history (Malthus, who didn't take into account a little notion called "productivity"... making his theory on overpopulation rather pointless.)

It's amazing that otherwise rational people prefer to stick to theories that they realize to be wrong by experience rather than go without some form of "explanation". Just like little kids :-)

Frederic Faure
Thursday, November 20, 2003

I'm in the US, have a farm and do not recieve any money from the government, nor do any other farmers I know in my area. Yet I'm sure there are some out there.

As it is, most family farms are barely getting by, or are consistently losing money. The big factory farms are doing better since their cost of production is lower, due to the use of pesticides and GMO.

I'd much rather see the government end corporate welfare instead.

X. J. Scott
Thursday, November 20, 2003

Try growing sugar cane - I saw a documentary about the subsidies US sugar cane growers get. Pretty high.

Salon had an article about US farm subsidies that I recall being pretty informative:
http://www.salon.com/tech/feature/2002/05/01/farmers/index.html

Walter Rumsby
Thursday, November 20, 2003

Walter, your discussion of free trade deals is a bit naive, to say the least. So is your inclusion of defence alignment, and I note you neglect to define the relevance of that.

New Zealand's gung-ho economic reforms under the conservative Muldoon government are generally considered to have been disastrous for the bulk of the population. That's why New Zealand kicked the Muldoon government out so convincingly.

Similar reforms by the conservative Kennett government in Victoria, Australia were equally disastrous for the bulk of the population, which is why he again was kicked out by such a thumping margin he went into depression.

(Programmers, think you've got depression! Try politics.)

Many groups in Australia are extremely concerned about the pending US trade deal, and that even includes farmers. Your glowing description of John Howard suggests you're gullible. Many groups in Australia consider the trade deal will largely benefit corporate managements and no-one else.

From the office of ...
Friday, November 21, 2003

Agriculture subsidies in the US generally benefit large agribusiness companies, not family farmers. It's the old story.

From the office of ...
Friday, November 21, 2003

In general agriculture subsidies might beneift huge agribusiness, but where i grew up (minnesota) agriculture subsidies certainly benefitted a number of lazy-ass family sugar-beet farms, one of the STUPIDEST subsidies in the world. If only I could have beat the shit out of every lazy sugar beet farming motherfucker who voted against a school bond , because it would raise the property tax on his stupid fucking useless farm , i maybe could have fucking taken calculus in high school. instead we got to cut the band program so that these idiots could buy their illiterate children a new snowmobile. FUCK YOU.

sven
Friday, November 21, 2003

The real problem with US and EU subsidies isn't just that they prevent Indian and other third world producers from exporting to the market but that they actually prevent them from producing for their own home markets because US subsidized food can be imported cheaply.

And the US government candidly admits that food aid is used to help US agribusiness, and also as a backdoor for the introduction of GM crops.

Stephen Jones
Friday, November 21, 2003

Frederic,

I still see the world population exploding at an alarming rate ( http://www.prb.org/Content/NavigationMenu/PRB/Educators/Human_Population/Population_Growth/Population_Growth.htm ). You seem to believe that since it is not in your backyard, it is not your problem. Guess what: technology made it so you're not going to keep them out by putting up a simple fence.

Just me (Sir to you)
Friday, November 21, 2003

>>I still see the world population exploding at an alarming rate

... which confirms what I was saying, ie. it does make a lot of sense to have a lot of kids when you're living in a dirt poor nation (5 year olds to the factory, kids taking care of their parents when they're old)... but don't make _any_ sense financially in the first world.

In other words, no, human beings are not motivated just by money alone. If they did, we wouldn't have kids and wouldn't bother with marriage :-)

>>You seem to believe that since it is not in your backyard, it is not your problem

Er.. Quote me, please :-)

Frederic Faure
Friday, November 21, 2003

From the office of ...

I think you've got me all wrong. I don't really think very much of John Howard's policies - in part they motivated me to leave the country. I didn't say that Australian's in general want the free trade deal, rather that John Howard in particular does. Despite some reservations about his politics I do believe that John Howard (and most politicians) have some desire to improve things - Howard seems to believe that above all else a free trade deal is the thing that's needed, never mind that neighbouring countries have huge populations and could provide even greater economic benefit. If you're not a JH fan and want a laugh - http://johnhoward.blogspot.com/

Re: the relevance of defence groups. If you listen to what the US ambassadors to NZ and Australia say about the position of both countries' Labour/Labor parties it seems quite clear to me that at the very least vague threats are made about trade deals and defence policy. US diplomats in NZ seem to be suggesting that NZ should be a little more like Australia. And right-wing political parties in NZ also make the claim that NZ's foreign policy is putting a free-trade deal with the US at risk (I subscribe to the idea that there isn't as much beneifit to the US of a free-trade deal with NZ - something the NZ finance minster said in an interview with the Economist a few months ago).

Do you remember the bombing of the Rainbow Warrior? French government agents sunk a Greenpeace ship in Auckland harbour. Supposedly US (and other) nations knew of the French plan, but didn't tell the NZ government because they were being punished for their anti-nuclear stance. Foreign policy shapes other policies... why do you think there are export restrictions to Iran, Syria and North Korea? Why does Australia get concessions on its steel imports? How many foreign leaders have got to stay at GWB's ranch (John Howard has, but not many others have).

Also, you've got your facts wrong re: Muldoon. Muldoon was the right-wing leader of NZ from the mid-70s through to the mid-80s. Although his alignment was right-wing he was basically a socialist. His greatest legacy is probably destroying the superannuation scheme put in place by an earlier Labour government that resembles the scheme instituted in Australia in 1992 (and the absence of which seems to be a major concern of the finance spokesmen of the major NZ political parties). From 1984 NZ under both left and right-wing governments has embarked on a series of economic reforms to reduce the state's role. Some of the legislation has been rolled back by the current Labour government (e.g. reacquiring rail and electricity infrastructure) where it seemed that a competitive market would be less efficient and less beneficial to consumers.

Essentially "dry" economics has been the political orthodoxy in New Zealand for 20 years - the major point of difference between the significant political parties is the "wetness" of their social policies. Unions, for instance, are significantly more powerful in Australia, even under Kennett and Howard than they have been in New Zealand since (at least) the mid 80s. I personally regard much of economic policy in Australia under John Howard as to the left of the NZ Labour party - GST has been poorly implemented in Australia because of vagaries about its applicability to certain goods.

Walter Rumsby
Sunday, November 23, 2003

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