Outsourcing

Outsourcing—sometimes referred to as subcontracting—involves a firm's use of an external vendor to provide a business function that would otherwise be done by the firm. The practice has long been commonplace, and, since the 1970s, outsourcing has increasingly been done on a global scale. Firms from advanced industrial countries have outsourced many of their manufacturing operations—along with services such as accounting and call centers—to lower wage countries around the globe. Outsourcing has been facilitated both by advances in information technology, which has made it possible to coordinate suppliers of goods and services across a global space, and by containerization, which enables goods to be quickly and efficiently transported by sea and land.

Cutting labor costs is a major reason for outsourcing. In manufacturing, for example, the wage gap between advanced industrial countries, such as the United States, Germany, or Japan, and an impoverished developing country in Asia, Africa, or Latin America can be significant. In Bangladesh, manufacturing workers (if paid the legal minimum wage) might earn between US$30 and US$50 a month; in the United States, comparable minimum-wage earnings would be US$1,200. Labor cost differentials, of course, do not directly equate to cost savings: Workers in developing countries may be less skilled and thus produce fewer goods per hour, quality may suffer, and transportation costs for goods shipped long distances by sea or air have to be factored in. Increased efficiency is another reason for outsourcing: A company can focus on its key competency—for example, designing cell phones—and outsource manufacturing and assembly to other firms that are more specialized in such functions. Outsourcing can also provide access to new knowledge, intellectual property, and, more generally, a global talent pool, providing access to new skills and competencies. Tax and other economic incentives can be a factor; many developing countries offer “tax holidays” and supportive infrastructure in export processing zones where foreign firms can use local factories. Finally, easier access to markets can also be an important reason for outsourcing: Partly for this reason, Japanese automobile manufacturers such as Toyota have opened assembly plants in the United States, while many multinational corporations are now manufacturing in China in hopes of selling their products to that country's large and growing middle class.