Consequences of Offshoring to Developing Nations: Labor-Market Outcomes, Welfare, and Corrective Interventions

Abstract

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Offshoring to a Developing Nation with a Dual Labor Market

“…Finally, if technological improvements do not spur a lot of offshoring, then cost savings that raise scale must raise the demand for labor in the developed nation's manufacturing sector, pushing up w * . This is similar to the productivity effect on the developed nation's wage noted in both GRH and Bandyopadhyay et al (2020). The effect of β on the equilibrium share δ is more complicated and is discussed below.…”

“…While GRH and Bandyopadhyay et al (2020) both point to developed-nation wage increases due to the productivity effect, we find that the dual labor-market feature can overturn this effect. We see this in Proposition 1 of this article, which notes the possibility of a reduction in the developed nation's wage, in contrast to Proposition 1 of Bandyopadhyay et al (2020). The reduction is possible because when offshoring elasticity is large, the increase in labor demand in the developing nation can push up costs on two fronts: a higher informal wage and a greater share of the work performed in the relatively higher-cost formal sector.…”

“…1 Bandyopadhyay et al (2020) also present their main results in the context of two nations that are small in the output market. The appendix of their paper considers how the analysis may be extended to large countries and how that can modify their findings.…”

“…The paper by GRH focuses on the developed nation, and the nation that performs the offshored tasks is modeled simply as a nation with a fixed wage. Bandyopadhyay et al (2020) provide a model for the joint determination of wages in the developed (source) nation that offshores tasks and a developing (recipient) nation that completes the tasks. Within the context of this model, they derive several results that show that while a developed nation may gain from technological improvements in offshoring, the developing nation could lose if the labor-saving effect of technological improvements outweighs the scale-expansion effect.…”

“…Within the context of this model, they derive several results that show that while a developed nation may gain from technological improvements in offshoring, the developing nation could lose if the labor-saving effect of technological improvements outweighs the scale-expansion effect. One major issue not considered by Bandyopadhyay et al (2020) is the importance of the informal sector in developing nations. Indeed, while the formal sector can feasibly be monitored by the government, the informal sector is often out of reach of government regulations.…”