The Real Impact of Outsourcing to India on the US Economy

Shaunvir Mahil July 11, 2018

The CTO of a company ABC LLC has come up with a revolutionary software that could go on to save the company $300,000 per year by way of majorly streamlining the company’s work processes.

But there’s a problem. To develop the new software, the company needs to hire 10 software developers. Now, let’s say the cost of hiring locally in the US would be $100,000 per developer. So, hiring 10 developers locally would cost ABC a total amount of $1 million.

Let’s assume the company has the budget and the funds to hire 10 developers locally. The problem, however, is that to develop the software at a cost of $1 million, this project will become profitable not before year four.

On the other hand, say the company ABC is rapidly expanding and the sales department is in a position to give an immediate return on investment. The CEO takes the decision to offshore. This way, the company can invest in both the departments simultaneously. By offshoring, the company can hire a developer at a cost of $20,000 per year, taking the total investment for 10 offshore developers to $200,000. As a result, the company can experience a positive return on investment in both IT and sales immediately.

Were 10 jobs lost locally as a result of the decision to offshore?

This is what anti-outsourcing advocates would have you believe. But this is clearly not the case.

The first miscalculation is that because 10 people were hired offshore, 10 people locally ‘lost their jobs’. An economy is, in short, essentially the exchange of money. The more money is exchanged, the greater is the growth of the economy or GDP. So, to understand the impact of outsourcing overseas on a local economy, we most go beyond the ‘job’ argument and focus on the money.

If the cost of hiring 10 developers offshore was also $1 million, then you could say 10 jobs were lost locally. But that is not the cost. Instead, it is $200,000. That means $800,000 remains in the USA to be invested locally.

So, the first erroneous calculation that people often make when it comes to the topic of outsourcing is to make a like-for-like comparison between roles. Anti-outsourcing advocates would have you believe that one hire in India equals one less person hired in the USA. But that’s not true. One hire in India equals 1/5th of a job role not hired in the USA. That’s simply because the cost of hiring in the USA and in India are not the same. Only if the costs were the same would one hire offshore result in a company being incapable of hiring one less person locally.

This leads to the second erroneous calculation that anti-outsourcing campaigners fail to acknowledge. The truth is that the difference in the local and offshore costs is often utilized in hiring other staff locally.

In the above hypothetical example, company ABC with its remaining $800,000 can now hire a further 8 sales representatives, in addition to the 10 offshore developers. With the original budget, company ABC could have hired 10 people locally. But after offshoring, the company can hire 8 people locally with the remaining funds. Thus, from a budgeting perspective, the company can hire 2 people less locally as a result of offshoring and not 10 as anti-outsourcing advocates would have you believe. At this point, we can say the impact of outsourcing on the local economy is ‘minus 2 local jobs’.

The third miscalculation that anti-outsourcing campaigners make is to not factor in the return on investment that you get from the offshore team. If the offshore team generates a higher ROI than the cost of hiring that team, then a company is in a better position to hire more staff locally!

In our fictitious example, the cost of the offshore team is $200,000 and the ROI is $300,000. This leads to a net saving of $100,000. This $100,000 can now be used to hire a 9th salesman. This means at the end of year one, we are now at ‘minus 1 local job’.

From year two onwards, company ABC will no longer need 10 offshore developers and may only need say 2 developers for the management and maintenance of the software. Accordingly, from year two onwards, the ROI will be $260,000 per year. This takes the company’s contribution to jobs from ‘minus’ to ‘plus’ as it now has an additional $260,000 to invest when hiring locally. Company ABC can now hire more staff locally as a direct result of hiring offshore.

This is not the end of the story. One final critical calculation needs to be made. What about the additional 8 salesmen that company ABC was able to hire as a result of outsourcing? What about their ROI? I mentioned above that at the end of year one, we are at ‘minus 1 local job’ as a result of outsourcing. But had company ABC not outsourced, it wouldn’t have been able to hire the additional 8 local salesmen.

The impact of the additional 8 salesmen needs to be factored into our calculation because as a result of outsourcing, company ABC has an additional 18 members of staff – 8 local salesmen and 10 offshore developers – as opposed to just 10 had the company not outsourced. So, to understand the true impact of outsourcing, we must factor in the ROI of the additional local 8 salesmen.

Of course, this is a hypothetical example. So any number that I cite here is meaningless. But if the 8 local salesmen generate just $100,000 in ROI, then the company is in the same position to hire as many people locally as it was before outsourcing. If the salesmen cumulatively generate more than $100,000, say $0.5 million, then the company is in a better position to hire more people locally (say, four more salesmen) than it was before outsourcing even in year one.

Let me reiterate, the company can now hire more staff locally because it outsourced.

To wrap it up, the misjudgement that anti-outsourcing advocates make is to view the impact of outsourcing as only a one-step process. This is highly erroneous deduction because an economy is extremely complex and multi-dimensional. The best example of this erroneous calculation is to think in terms of job roles. Intuitively, we think one hire offshore equals one less hire locally. This could not be further from the truth. Yet, it is not how most companies actually operate.

Here’s a realistic scenario. Company X has the budget to hire 10 digital marketers locally. But since digital marketing is an expansive field, the company needs 15 digital marketers to achieve its goals. Hence, the company hires only 7 digital marketers locally and uses the remaining funds to hire 8 digital marketers offshore. 8 people have not lost jobs locally as a result.

But if all I told you was that company X has hired 8 people offshore, automatically, your first reaction would be to think 8 people lost their jobs locally. We now know that this is not the case. 3 people did not get hired locally as a result of outsourcing. And if the 8 offshore people bring an ROI greater than the cost of their hiring, then company X will be in a position to hire a further 3 people locally. That is, once again more people can be hired locally – and not less – as a result of outsourcing.

What we must keep in mind is that any discussion on ‘outsourcing jobs’ is a subject that strongly pulls at us emotionally. That is why it is so easy to make sweeping miscalculations like the ones outlined above. If we really want to understand the true impact of outsourcing, we must set our sentiments aside and accurately look at the numbers and study the complete cycle, rather than just assume things on face value.

 

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