A sizable portion of the workers who lose their jobs because of free trade don't find new ones easily or must accept jobs with lower wages. From 1979 to 1999, roughly 30 percent of the people who were unemployed as a result of cheap imports in sectors other than manufacturing hadn't found jobs a year later. (Lori G. Kletzer, "Job Loss from Imports: Measuring the Costs," Institute for International Economics, Washington, DC, September 2001. To assess job displacement in sectors prone to foreign competition, Kletzer matched Bureau of Labor Statistics figures on nonmanufacturing jobs with trade data.) For those who did find them, average wages were about the same as before. Within that average, however, wages varied considerably. About a quarter of these people were better paid, but 55 percent took lower-paid jobs and as many as 25 percent of this group took pay cuts of 30 percent or more.
Public policy can help such workers make the transition. Job-retraining programs and continuing-education grants can provide them with new skills as the economy evolves. Generous severance packages can help as well, and making health benefits and pension plans more portable between jobs is essential. Tax credits might be offered to companies that hire workers who lost their last jobs because of free trade.
And for a small percentage of the savings from offshoring, companies could purchase insurance against wage losses for their displaced workers. Building upon an insurance proposal that Lori Kletzer and Robert Litan developed to help workers displaced by trade in manufacturing (Lori G. Kletzer and Robert E. Litan, "A Prescription to Relieve Worker Anxiety," Policy Brief 01-2, Institute for International Economics, Washington, DC, February 2001), we estimate that for as little as 4 to 5 percent of the savings realized from offshoring, companies could insure all full-time workers who lost jobs as a result of it. The program would compensate those workers for 70 percent of the difference between their old and new wages and offer health care subsidies for up to two years.
These policies would help produce a more flexible labor force and allow the economy's wealth creation engine to accelerate. Protectionism, in contrast, might save a few jobs in the short run, but in the longer term it will stifle innovation and job creation. And, practically speaking, protectionism makes little sense, given how enmeshed the US economy already is with the rest of the world. Earlier this year, Congress considered an amendment (to a trade bill) that in one of its initial versions would have prohibited federal agencies from contracting with companies that outsource work abroad. Congress found that under the terms being discussed, procurement for the Department of Defense would grind to a halt. The amendment that finally passed is a weaker version, which hardly constrains any activity. Similarly, Ohio considered a law to prohibit state contracts from going to companies that offshore some of their services — only to find that it would have excluded virtually all current contractors in the state. Facilitating change, not stopping it, must be the goal of policy makers.
The current debate over the offshoring of US jobs misses the mark. Short-term disruption from job losses must be weighed against the much broader benefit to US consumers and businesses, as well as the consequences of resisting change. If US companies can't move work abroad, they will become less competitive — weakening the economy and endangering still more jobs — and miss the chance to raise productivity and to concentrate resources on the creation of higher-value jobs.
Martin Baily, a McKinsey alumnus, is now a senior fellow at the Institute for International Economics and a senior adviser to the McKinsey Global Institute. He was formerly chair of the President's Council of Economic Advisers under President Clinton. Diana Farrell is the director of the McKinsey Global Institute.
Emerging Markets Must Do Their Part
The current debate about offshoring focuses upon its impact on US jobs. But it is important to take a broad and long-term view of what best serves the interests of the United States, which also stands to gain by promoting a healthy and stable world economy, particularly in emerging markets. Research over the past 12 years at the McKinsey Global Institute has shown that the real alleviation of poverty comes from the growth of the private sector. And foreign direct investment by multinational companies is one of the best ways to promote private-sector growth.
Consider how India has benefited from foreign direct investment. Outsourcing IT and business processes generates more than $10 billion a year for the country and gives employment to half a million workers. Suppliers to the companies that provide outsourced services employ another half million people. With wages in the sector 50 to 100 percent higher on average than those for other white-collar occupations, a new middle class of educated workers is being formed. Foreign direct investment played a key role in the creation of these industries: the fast-growing Indian companies that now dominate the global sector got started only after multinational companies pioneered the approach, showed the world that India was a viable outsourcing destination, and trained a critical mass of local employees. (The CEO of Wipro Spectramind, for instance, started out at GE, and the CEO of Daksh came from Motorola.) Today foreign companies continue to provide healthy competition that forces Indian companies to improve their operations continually.
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