A new future for outsourcing?

For the first few years of the new millennium, the business buzzword and main issue of global business was outsourcing - the off-shoring of a lot of jobs from the developed countries to the developing world.

This was the subject of endless discussions, many sleepless nights among workers whose jobs were either in danger of, or already being, outsourced. Many pundits either wrote about it, opined for it, against it, praised it as the saviour of businesses racked by high employee costs, or deplored as the bane the would destroy the livelihood of many hard-working middle class workers.

Clearly, from the vantage point of the developing countries, outsourcing was hailed as their way out of poverty, as a slew of outsourcing companies set up in their homelands signified the start of abundant opportunities, rising incomes, and secure futures.

Outsourcing grew out of corporate strategy that chases after ever-growing shareholder returns on investment by constantly lowering over-all expenses of the firm. As institutional and private investors demanded constantly increasing stock prices, this necessitated constantly increasing earnings growth of the firms, which necessitated both constantly increasing revenue growth and cost reduction. And for many firms, the single biggest cost, and most likely candidate for cost-cutting, was wage and salary cost.

Increasing global proficiency in English, rising quality of education in the developed countries, significant improvements in telecommunications and information technology – all have contributed to making the phenomenon known as outsourcing possible.

At first, the major activity outsourced by many firms was manufacturing. Since the factory entailed the highest number of employee headcount, and since factory work was the most easily broken down into easy, repetitive tasks, this was the first to go out the door from corporate head offices in the developed countries.

As time went on and information technology improved, higher value-added back office processes were next to go. In-bound and out-bound call centers were outsourced to countries that had a sizable population of English-speaking workers. Next to go were other back office work – ticket processing, order handling, forms preparation, various dictation and transcription work, logistical management processes, and manually repetitive computer programming tasks.

The latest round of outsourcing was starting to target high value-added work, the kind of work that was the done by a company’s highest-paid professionals – accounting, tax management, financial and marketing research, legal research, software design, architectural and engineering design, compliance work, even R&D work of major bio-tech firms.

This latest round of planned outsourcing threatened to eradicate the last of the remaining knowledge work jobs from the developed countries, save that of upper management – the management positions of those levels high up enough to enjoy status of becoming project managers, or become relationship officers handling the accounts with the outsourcing service providers. Not in danger of losing their jobs either were those who maintained face to face contact with a company’s actual clients, and secured continuing sales orders. In other words, marketing and sales jobs in developed countries were safe (At least those where sales cannot be made as effectively by telemarketers working out of out-bound call centers).

The road to the virtual corporation seemed to go one way- forward. All companies were expected to eventually have various support units based in different locations across the globe. The main yardstick for choosing which location was which location enabled the corporation to achieve the highest return to its shareholders, in other words, who promised to provide the most seamless service at the lowest cost.

People were sill talking about the outsourcing phenomenon just when the costs of doing business globally started rising, and rising steeply.

These costs are being exacerbated by rising global inflation, rising cost of oil, rising food prices, all of which contribute to rising volatility of global currencies. Ten years ago, global exchange rates were very tame and did not suddenly go in unexpected directions. A country that effectively controlled inflation and kept a balanced budget easily maintained a stable currency.

Not so anymore in this new age of rising inflation; and of more and more hedge fund managers contributing to increased world-wide volatility in all asset prices, including currencies, commodities, and just about all financial instruments you can identify and imagine.

A major assumption of companies seeking to control costs by outsourcing processes was that the cost translation of these outsourcing providers was going to be constantly below the cost of doing the process at home. This was possible for as long as outsourcee countries had tame inflation.

Now hard-charging inflation is threatening to put just about every major outsourcing vendor out of business. The experience of many of these firms nowadays is, their rising over-all cost of providing the service is threatening to wipe out their already razor-thin margins, as rising inflation results in rising local wages, rising financing costs, and rising over-all costs of doing business .

In addition, the recent depreciation of the US dollar by itself completely eradicated the profit margins of many aggressive outsourcing vendors who signed long-term contracts with corporate clients at specified rates denominated in their appreciating home currencies. They had simply assumed currency exchange rates will remain at predictable levels.

In just a matter of a year, the burgeoning outsourcing industry, for some years the bogeyman of many workers from the developed world, suddenly finds itself fighting for its very survival. What does the future hold for these firms? For the outsourcing phenomenon itself?

My guess is that in the next few years, if the current inflationary environment persists and the US dollar maintains its current depreciated value, outsourcing will cease to grow, and may even contract in a big way.

Many previously-outsourced jobs may end up going back to their home countries, as the wage differential between developed countries and developing countries narrows due to inflation. Inflation is getting to be the big equalizer of wages between developed and developing world. Since inflation generally is higher in the developing world, the costs of doing business has increased to a greater extend in those places.

Also, the current economic stagnation in the US economy is resulting in a lot of cutbacks in consumer spending. This is then leading to lower corporate profits for US-based companies, many of whom are leading outsourcers. As they cut back on their operations, to account for decreased b volume, they are likely to decrease, or pull out altogether, from their operations set up in foreign countries.

My best guess is that the first outsourced jobs to go back to the developed countries i.e., the US, are the low skill back office work - the call centers, the ticket processing, order handling, forms preparation, various dictation and transcription work, etc. After all, it is the lower-skill jobs that are easiest to migrate back and forth. Barring low costs of packing up and re-deploying in another location, they can quickly be closed and dispersed.

The manufacturing jobs will probably be scaled down but largely stay in the developing countries, and probably not necessarily go back to the developed countries. It is more costly and time-consuming to pack up an entire factory and its various machinery.

Some companies will still accelerate outsourcing though, specifically in those areas where developing countries have already developed a local infrastructure that can sustain a competitive advantage to developed markets. Processes that would otherwise be done by highly paid staffers in the developed world will continue to be outsourced, i.e., tax and legal back office support, and maybe finance and accounting support, too.

Therefore, the developing world would probably need to quickly upgrade its skills, so that it can compete, pound for pound, in the higher value-added work – the accounting, tax management, research and design jobs. These jobs, however, are done best and most relevantly to a client’s needs, by those on the ground where the client resides. In other words, if the clients are in the developed countries, the workers in these countries will constantly be able to out-maneouver the outsiders.

Hence, we are probably seeing a considerable backlash in the latest manifestation of globalization – the globalization of work processes. We are probably also seeing a fallback as well in a more primary form of globalization – global trade.

I don’t know by how much the developed country workers will enjoy it either, because the entire pie has shrunk anyway, meaning there’s less for everyone to begin with. There’s less for you, that is, if you happen to be one of those with focused and narrow skills, a phenomenon which accompanied the previous decades’ high growth in business volumes. It was overspecialization which largely enabled the outsourcing phenomenon to happen anyway.

So to the narrowly skilled workers of the developed world, now that global business is cutting back, and getting back to basics, are you ready to do more of what you assumed other people were already supposed to be doing?