Is Globalization beneficial for the Lab

SESSIONS IN MACROECONOMICS/INTERNATIONAL ECONOMICS
Autumn 2014

Subject: The Globalization Debate and the labor market

Paper Number 03/04
Prepared for the meeting of October the 13th, 2014

Title of the Paper: Is Globalization beneficial for the Labor Market?
Written by: Caleena TAN, Rémy PHIJFFER
ID: I6098547, I6054500 Introduction

Globalization is defined as the interaction and integration internationally. Globalization, accelerated by an expansion in trade and foreign direct investment (FDI), has a huge influence on the labor market in each country. The global supply of labor has increased tremendously with emerging countries such as China and India opening up. Multinational companies have shifted much of their operations to these emerging countries due to low wages and lack of regulations. With the international labor market opening up and foreign talent programs, there has been growth in migration of skilled labor from developing to developed countries in search of better job opportunities. The question everyone asks, is globalization beneficial for the labor market?

Outsourcing

As globalization progresses, markets become increasingly more integrated and connected. With technological advancements, leading to reductions in communication and coordination costs, it has allowed for the development of global supply chains that are increasingly geographically fragmented. One of the major benefits of globalization is the establishment of outsourcing, whereby companies transfer activities to outside sources, typically located in developing countries that have the comparative ability to perform the activities more efficiently and cheaply, as compared to local sources. Outsourcing has increased tremendously over the years.

Companies now search the world for sources that can manufacture their products or provide their services as cheaply as possible. With the increase in effective global workforce, most of the labor intensive production work goes to developing countries such as the vastly populated China and India – they are the only countries in the world with populations exceeding a billion. Even though their economies are growing very quickly and catching up with the developed countries, due to the large population, they remain relatively poor, with per capita incomes well below the average of developed countries. (Coe, 2007) The same applies to most developing countries. Thus, with the disparity, developed countries are able to take advantage of the gap in wage levels adjusted for productivity and offer much lower wages. These countries have been participating more actively in world trade and emerged as the leading manufacturers of many items, ranging from garments, shoes to electronics and service providers such as call centers, with developed countries shutting down local manufacturing plants and services.

With the emerging countries competing with each other to attract foreign investors, they often “sell out their labor” by suppressing labor unions and allowing low wages and standards in the factories. An example is the Cavite EPZ in the Philippines – where factory workers assemble Nike running shoes, Gap pajamas an IBM computer screens, among other branded products, under harsh working conditions. Twelve hour long work days are normal and managers are brutal and military-like. The factories are cheaply constructed and it is often not safe. Wages are typically below the legal minimum wage of $6 per day. (Segerstrom, 2010) It has been estimated that roughly 27 million workers are employed in countries whereby manufacturing plants are often subjected to sweatshop conditions and low wages. (Segerstrom, 2010) Child labor is also an issue. Bangladesh garment factories are still using child labor where girls as young as 13 work up to 11 hours a day in harsh conditions. They are abused physically and often threatened if they are not working fast enough. (Brignall & Butler, 2014) Many children work in the developing world due to poverty. However, it is important to note that child labor in factories is rare, most of it stems from domestic household work, for example, in the agricultural farms. If outsourced jobs offer higher wages, parents earning more would usually choose to use the increase in wages to reduce their children’s work, instead of making them work more. (Edmonds, 2002)

In the past, outsourcing had a larger effect on the manufacturing sector, it is now also increasingly affecting workers in the service sector – such as relocating call centers from United States to India. The Indian workers would have to go through training courses for their accents and worked graveyard shifts, living US time in India. They often had no time for social life. However, the jobs paid better than others, 15000 rupees instead of the 5000 rupees a typical job pays and that it is why the jobs are so highly sought after. (Hartley & Walker, 2012)

Skilled workers are not longer spared from outsourcing as well, with many companies having outsourced their accounting, technology development, financial and administrative jobs to overseas markets. For example, a Java programmer earns $60,000 a year in the US and makes $5,000 annually in India. (Corbett, 2004) It is no wonder countries would outsource more of their operations to benefit from all the cost savings.

With the outsourcing of jobs, the displaced workers in the developed countries are left unemployed and it is often difficult to find reemployment. Between 1997 and 1999, Levi Strauss shut down 22 plants and laid off 13,000 North American workers. (Segerstrom, 2010) Workers are now exposed to international competition – well-trained professionals who earn a fraction of their salaries.

With the rising popularity of outsourcing, the bigger problem is whether the potentially outsourcable jobs will be outsourced eventually as well and much more people in the developed countries would lose their jobs to lower paid but equally qualified workers abroad.

Economic Analysis

Unemployment in Developed Countries due to Outsourcing
It is estimated United States loses about 230,000 jobs a year due to outsourcing (Dixton) and many workers have a hard time finding a new job, especially for the low-skilled. Demand for the low-skilled has decreased relative to the medium and high-skilled workers, since there is an abundance of cheap low-skilled labor in the developing countries.

Reduced Share of Labor Income in Developed Countries
The share of labor income has been falling across the world since 1980s. (Figure 6) Outsourcing contributed to it as jobs are going out of the developed countries and caused some unemployment. For example, a greater reliance on imports, which means the companies are outsourcing more manufacturing and then importing the finished goods, leads to a greater decline in the share of labor income. (The Economist, 2013)

Income Inequality & Wage Inequality
Most developing countries remain relatively poor in comparison to developed countries. For example in 2013, China and India has GDP per capita of $6807 and $1449, compared to $53143 in USA and $39337 in the UK. (The World Bank, 2013) They are often paid relatively less for the same job in a developed country. (Refer to Table 1)

With the abundance of cheap unskilled workers, it has led to a demand for skilled workers, increasing wage inequality – relative sharp decline in wages for unskilled workers and wages increased for the high-skilled. It was found that for 1980-1999, 38% of the widening wage gap between unskilled and skilled workers could be accounted for by outsourcing. (Canals, 2006) The opposite would hold for developing countries with regards to wage inequality. Due to the increase in demand for unskilled workers, it actually reduces the wage inequality, even more so since they are often paid more. Studies have found that openness to trade and hence allowing outsourcing to create jobs, has helped to reduce the wage inequality in the East Asia (Wood) and Bangladesh (Munshi, 2012).

Higher Efficiency and Lower Costs
Companies outsource jobs to countries with abundance of suitable labour as they can do the jobs more efficiently and increase productivity. By outsourcing low-skilled jobs abroad – for instance customer service, data entry, or labor-intensive manufacturing – to vastly populated countries with a large supply of low-skilled labor such as China and India, companies can obtain products and services at a lower cost than if they had tried to create or perform them locally. Furthermore, the developing countries are also producing more skilled workers, for example, India has 870,000 IT graduates a year compared to the 8,000 in the UK. (Dixton) These graduates are often just as qualified for the job and are willing to work at much lower wages. Net savings on operations can be between 20% to 40% (Corbett, 2004) and efficiency increases too, which in turns translates to cheaper prices for consumers. In today’s prices, the old television of 12 inches costs $10,000 back in 1939 and now you can easily find a superior television, flatter, clearer, more colorful, bigger, for just a mere $300. (Thompson, 2011) With reduced prices, this can in turn promote economic activity as people are able to consume more. As outsourcing increased, the US economy actually boomed. (Corbett, 2004)

Employment and Higher Wages in Developing Countries
Many of these outsourced jobs account for a huge amount of employment in the outsourced destinations – roughly 27 million workers are employed by the export processing zones. For example, garment factories in Bangladesh employ approximately 4 million workers (Powell, 2013) and Foxconn in china employs close to 1.5 million workers, churning out products for Apple and many other brands. (The Economist, 2013) The employment often provides a consistent level of income compared to other alternatives. It is true that the companies take advantage of the income disparity and pay incredibly low wages compared to the same jobs in their home countries, however these outsourced jobs usually pay more than any other local jobs. Affiliates of US companies pay a wage premium up to double the local average in developing countries. Nike contract factories in Vietnam provide wages used to increase total household income for extended-family households and single workers can generate discretionary income in excess of the basic daily expenses. (Brown, Deardorff, & Stern, 2004) Their daily costs of living are lower (Refer to Table 2), and even though the companies pay them much lesser than what is paid back in the host country, the workers are able to enjoy a better standard of living as their wages can afford more things. Through creating jobs in the developing countries, we are closing the rich and poor gap.

Increase in Quality
The outsourced jobs are often held in high regard in the outsourcing destination as they are better paying than the typical job, whereas people in the host country hold them in low regard. For example, most Indian call center operators have college degrees (Corbett, 2004) and many people would travel long distances to work in the manufacturing plants. This would lead to greater quality. For service and white-collar workers, some of them see it as a stepping stone for better prospects for career growths, eventually getting jobs in the developed countries. Hence, they will often work hard and efficiently to make sure they rise up the corporate ladder. (Hartley & Walker, 2012)

Future Unemployment and loss of Job Security in Developed Countries
As developing countries are producing more highly skilled workers that are willing to work for much lower wages, it widens the range of jobs that could be potentially outsourced and it is no doubt more jobs will eventually be outsourced overseas. There are also other potentially outsourcable jobs, such as jobs that do not require face to face interaction. With the exposure to international competition, the workers have less job security as they do not know when the company might decide to outsource their jobs.

Brain Drain The migration of skilled and unskilled labor is caused by several forces. Differences in supply and demand of skilled and unskilled labor caused by unemployment and depressed wages and reduce economic opportunities in one economy which are offset by the inborn drive to increase living standards and their personal position. The unskilled workforce, who finds employment in tourist industries, construction and agricultural sectors where nobody normally fusses about, but when it comes to highly skilled people who profited subsidized education paid with tax money all of a sudden a big discussion erupts. "Brain drain" is the term which comes into play which defines in highly educated workers migrating to another country because of better chances and better payment, leaving the home country with the sour taste of having invested heavily without having returns, considered to be sunk costs and foregone investments. In this part we would like to shed light on the advantages and disadvantages of brain drain and the more general migration of labor. As for the unskilled workers, to fully comprehend the general story one has to go 55 years back in time. Where developed countries prospered in 1960 with rapid technological advancement, the developing countries lacked severely behind. The developed countries tried to implement tons of policies with regards to taxation and subsidized constructions for low-skilled education to fight against the scarce pool of domestic potential employees. Consequently, at times where global benefits were recognized and global mobility increased, companies and institutions shifted their scope to leveraging arbitrage in segments where human capital supplied was abundant wherewith the migration of talent abroad would fill the gaps. Additionally, because of an increased global demand in vehicles of transport (e.g. airplane costs) it got cheaper because of price and cost reductions and thus directly reducing total costs to go back to the home country and bring with every possible benefits elaborated later on. Even more, creation of criticism could not be left out with respect to the treatment of the immigrants as in e.g. underpaid wages. Although, the domestic point of view could be very well true, the wage levels in such developing countries will be much lower defined as the wage gap between poor and rich nations as proved in the example of the Java programmer who earns $60,000 a year in the US and makes $5,000 annually in India. Directly translating in a favorable argument to migration of labor that the percentage remitted of the higher salary could be a lot more for the sending than otherwise, would the migrant have stayed. Figure 5 provides insight on annual expenditures by country on education by institutions. To derive even more positive effects than critics believe, it may not be negative for the sending country in the first place because the migrating talent provides a motivational signal to the host country as the population is encouraged to educate their selves to have the same prospects. Furthermore, emigrants may well be transmigrants later turning into remigrants in any stage of their life, bringing back information, experiences and effectively promoting knowledge flows. A point could be made about the actual loss of talent from the sending country. It is disproved by the increased nature of communications technology, wherewith networks are built with help of soft- and hardware effectively putting a limit on the overall loss of skills. (Commander S., Kangasniemi, M. & L.A. Winters, 2004) In addition, these (social) networks enhances trade and thereby capital flows of imports and exports for example Rauch and Trindade (2002) found that people immigrated to Canada increased exports and imports by 3 and 1 percent respectively. There also exists a strong possibility that the migrant would be otherwise jobless would they have not chosen to migrate and stay at home, implying a globally beneficial allocation of labor. Moreover, governments for example in India argue that they could well stop subsidizing Institutes of Technology because brain drain suggests they are leaving the country and end up in Wall Street or Silicon Valley anyways (The Economist, 2011). Contrarily, evidence suggests that the cost of education will be well covered by a migrant in his total life span with help of remittances and could be seen as a return on investment. According to Davesh Kapur of the University of Pennsylvania(The Economist, 2011) in his book about the Indian diaspora, he argues that Indians working in several IT branches in the US, after demonstrating and proving their capabilities and quality, vouching US companies to invest in India and set up IT companies and vice versa. Effectively, it reverses the theoretical negative effect of developed countries by creating jobs for the locals and could be seen as a delayed foreign direct investment. Eighthly, positive contamination exists in a way that the receiving country is influencing the regulatory institutions of the sending country by integrating for example European standards of corporate cultures wherein there is no room for corruption; improving systems and disproving negative habits. Furthermore, does it provide huge insight for migrants and companies located at a receiving country to explore the Western efficiencies and relate them back to their own country not only economically but also social and politically. Disadvantages in general could be the unfriendly approach to unskilled workers as well for skilled workers by giving them too many working hours or unfriendly working conditions or false promises by the receiving countries which propagated their welcoming with too good to be true advertising. Additionally, only the best and the brightest would qualify for a job and thus people who cannot afford proper education are left out. Furthermore, one could ask himself how much is invested of the remittances in durable and long-term growth projects like infrastructure; how much is absorbed? Finally, the “brain drain” overall negative effect assumptions would be under pressure taking all the above reasons and weighing the cost and benefits, pros and cons, one could argue talking about “brain gain”, thus pointing to positive welfare effects. Migration of labor is an almost natural and instinctive allocation process as wind in high and low pressure areas and could not be stopped but can be constrained as we will elaborate in the solutions section of this paper.

According to Hans Timmer, director of development prospects at the World Bank it is absorbed as he says in an interview: “Remittances lead to more investments in health, education, and small business. With better tracking of migration and remittance trends, policy makers can make informed decisions to protect and leverage this massive capital inflow which is triple the size of official aid flows,”
As the European Union introduced the General Agreement on Tariffs and trade and free trade of people, commodities and services this is effectively the same but in a smaller scale, reflecting the importance of immigration of labor but also and is the contrary of stopping brain drain; The EU stimulates migration.
Also, a good reason for choosing the road as an emigrant is to earn more money also for their families whereat a good part of the income is repatriated, increasing wealth for both sides again.

Economic Analysis

In the heated discussion of critics that the developing countries would only lose on the migration to developed countries, The World Bank provides data to clear up how things really are. Overall remittances to the developing countries are $414 billion and as there is a strong progressive trend it is expected to cross the $500 billion in 2016. (The World Bank, 2013) According to Kaushik Basu – Senior Vice President and Chief Economist of the World Bank – remittances are showed to be very powerful with regards to the latest estimates: Tajikistan remits half or their GDP to give an example (35% of the GDP in 2009 as seen in Figure 1). Furthermore, India with $71 billion in remittances positions itself on the top of the global chart. Despite the fact that Antigua, Chile, Latvia, Lithuania, Russia and Uruguay are now classified as high-income countries, still the left developing countries project an increasing trend (Figure 2). Even more, the remittances constitute three times the official development assistance (ODA). Global remittance costs are globally fluctuating at broadly simple average of 9 percent (Figure 3) as the latter costs are falling in high-volume corridors e.g. from Japan to India (Figure 4), but higher and rising costs for smaller remittance corridors over 12 percent for example from Saudi Arabia to Pakistan. One would expect these costs to decrease in further years because of technological improvements and falling information costs. This seems not to be the case when looking at the high remittance costs of other countries. The high remittance costs can be accounted to so-called “lifting fees“ to recipients: it could reflect the efforts of some countries’ bank to compensate for falling interest income in previous years. Another explanation provides that banks are not fully engaged and promising because of fear with respect to terroristic financing, money laundering and other illegal practices and therefore are more prudent which translates into administrative, research and other “prudency costs“. It is of great importance to drive down these costs as to increase remittances values. Another interesting thing to take a look at is the expenditures on education by institutions (Figure 5) as being the foregone investment to see that for example in Brazil, positioned second place in the top 10 recipient countries with a value of $4.3 billion in 2010 in remittances whilst it only takes $2000 dollar for education.

Recommended Solutions

Outsourcing
To tackle the issue of the sweatshop conditions, consumers can pressurize companies to source garments from the developing countries under safe factory conditions instead of abandoning the factories as the workers need the jobs and the better wages offered. Companies can use part of the cost savings from outsourcing to help displaced workers gain new skills and find new jobs. As for the workers, they have to gain as much education and skills to stay ahead in a global labor market.

Brain Drain
Several policies and constructions could be implemented in a country to prevent them from migrating. Subsidies could be shortened or lessened, levied taxes for migrant to put a threshold and limit to discourage the outflow, tax reductions on every labor unit taken in a company, start-up subsidies and other beneficial incentives and reduction in cost of land to build. Stimuli to incentivize young potential entrepreneurs to stay.

Conclusion

In this paper we examined the globalization and the labor market in which we conclude several findings. First of all, there are always two sides to a coin. It is no doubt that outsourcing caused some job losses in the developed countries, however, outsourcing brought about increased efficiency by allocating resources more efficiency and decrease in consumer prices. Furthermore, it created many jobs for the heavily populated developing countries. It would be impractical to stop outsourcing completely just to protect the affected industries of the developed countries. The companies would need to strike a balance. Furthermore, outsourcing is not the only factor destroying jobs in developed countries – most of it can actually be attributed to the development of technology that has replaced manual labor in certain industries such as manufacturing. For example, Foxconn plans to add 1m robots to its factories. By then, even the recipient countries of outsourcing will not be spared from loss of jobs. Brain drain is among schools of thought and critics to have a negative connotation, but in fact there are plenty of reason to disprove the negative effects thereof. Disadvantages would be exclusion to take part of the brain drain phenomenon because of lacking resources. Additionally, it is said that the sending country is left with only low skilled workers therefore, but a majority of positive arguments could be provided to show a cost benefit trade off wherewith the benefits weigh more than the costs and cons. Advantages are creation of knowledge flows, communication and social networks, positive influences to the home country and learning curves for the sending one. Even more, higher wage settings in the receiving countries result in higher remittances sent back wherewith the remittance amounts could be higher than a person who stayed to work in the respective country. Furthermore is it impossible to stop the brain drain and the concerns about the negative effects with it, but could be constrained by the posed solutions as of beneficial structures and policies imposed by the local government and corporate companies to attract the potential employees and incentivize them to stay.

Appendix

Table 1
Country
Hourly Direct Pay in Manufacturing (USD)
Average World Wages in PPP
United States
23.32
3263
China
1.36
656
India
1.17
295
UK
21.16
3065
Sources:
Hourly Direct Pay in Manufacturing (USD) -http://www.ilo.org/wcmsp5/groups/public/---dgreports/---dcomm/---publ/documents/publication/wcms_194843.pdf
Average World Wages in PPP - http://www.bbc.com/news/magazine-17543356

Table 2
Country
CPI
United States
76.97
China
52.64
India
27.72
UK
103.14
Source: http://www.numbeo.com/cost-of-living/rankings_by_country.jsp

Figure 1

Figure 2: Remittances flows are large, and growing

Figure 3: Total cost of sending $200, including fees and exchange rate margins (%)

Figure 4: Total average cost of sending about $200 (including fees and exchange rate margins)
Source: World Development Indicators and World Bank Development Prospects Group http://siteresources.worldbank.org/INTPROSPECTS/Resources/334934-1288990760745/MigrationandDevelopmentBrief21.pdf Figure 5

Figure 6

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