After a decade of outsourcing helped transform India into much of the world's back office, Indians are worried that President Obama's new Administration - and the slowdown in the global economy - will cast a shadow over one of the fastest-growing sectors of their economy.

Obama's $787 billion stimulus plan will make it increasingly difficult for US companies receiving bailout money to hire foreigners on temporary work permits known as H-1B visas. The budget the President recently presented may also make it harder for US companies that send jobs overseas to receive tax benefits.

In India, where the $63 billion IT sector makes up almost 7 per cent of the national GDP, the moves are worrying government officials. Acting Finance Minister Pranab Mukherjee groused about it over the weekend in an interview with CNN-IBN, a content partnership with Time Warner's CNN owned by India's TV18. "We will have to address this issue," said Mukherjee, whose ministry has spent the last five months trying to restart India's slowing economy with tax cuts and spending plans. "We are opposing protectionism, not only here but at every forum."

What's next?

Even more vexing for India's outsourcing industry is the lack of clarity about what might be coming next from the US. During a Feb. 24 speech to Congress, Obama said the Administration will eliminate "incentives for companies that ship jobs overseas," but the White House has not provided additional details.

A line item in Obama's budget titled "Implement international enforcement, reform deferral, and other tax reform policies" is the only hint tax experts in the US and in India have had about the policy. The estimates for tax revenues generated by that budget change start at $15 billion in 2009 and go up to $25 billion in 2012.

Those inexact estimates, says Rosanne Altshuler, co-director of the Tax Policy Center (a joint venture of two Washington think tanks, the Urban Institute and the Brookings Institution), is an indication that the changes in tax policy have not yet been worked out, and likely will not become public until April.

Indians with a stake in the outsourcing industry are now waiting and watching. "Of course we are concerned," says Mohandas Pai, a board member and director of human resources at Infosys [Get Quote], India's second-largest IT company by revenues. "But nobody knows what the devil is being referred to (in the Obama statement)."

At a time when nearly 5 million Americans have applied for unemployment benefits and another 1.7 million are working part-time jobs because they can't find full-time work, immigration and outsourcing have become key political issues in the US. As he did during his campaign, Obama has made clear during the first weeks of his Presidency that he intends to pursue policy changes to discourage outsourcing and the use of US work visas - especially H-1B visas - that could cost American jobs.

At no time has he made the exact policies clear, says Altshuler. Even within the government, the changes remain a mystery. Edward Kleinbard, the chief of staff for Congress' Joint Committee on Taxation, was forced to offer up a guess about the cryptic item in the budget during a meeting with a group of international lawyers last week.

"Deferral will certainly be at play," he said, according to a report in Tax Notes, a publication of the Tax Policy Center. He was referring to how corporations are able to defer paying tax on income earned overseas until they bring that money back to the US.

That may not do enough to discourage outsourcing, says Andrew Kokes, vice-president for marketing at Sitel, a Nashville-based outsourcing firm with 4,000 employees in India. Even if the US proposes a punitive tax on companies doing work offshore or offers a tax break for those that do not, the changes wouldn't be large enough to offset the 20 per cent to 30 per cent benefit companies get in lower labor costs when they do certain work offshore, he says. "A tax break can't compete with that kind of arbitrage," says Kokes.

A worldwide trend

The US is not alone in this increasing aversion to foreign labor and to outsourcing. As the pain of the global economic crisis intensifies, countries all around the world are adopting policies that make it tougher for foreigners to get jobs. In the Gulf countries, where several million Indians are employed in jobs ranging from construction to banking, governments have cut down on work visas and sent unemployed Indians home by the planeload.

A Dubai-based official with an airline (who asked not to be named) says construction companies chartered more than 30 flights in January alone to fly workers back to India. In Malaysia, 43 Indian workers who have overstayed their visas expect to be deported this week, as thousands more leave voluntarily. On Mar. 2, the British government started an inquiry into whether immigrant workers should be restricted to sectors of the economy that have documented worker shortages.

In India, these decisions have raised hackles. India's IT sector is seen as a source of national pride - an area where Indians see themselves as competing successfully on the global scene. Moreover, the millions of Indians living overseas send back more than $30 billion a year in remittances, making up 3 per cent of the country's GDP, according to estimates by the International Labor Organization.

Political groups, parlaying for support in upcoming elections, have grasped the issue, threatening boycotts and asking the Indian government to intervene on behalf of its expatriates. "We feel that in the current economic environment it is imperative for global corporations to collaborate on technology and innovation," says Suresh Senapaty, the chief financial officer of Wipro [Get Quote], one of India's largest IT services companies. "Policies of protectionism will only hinder the revival of the world economy."

While the change in rules for H-1B hires may be popular in the US, it could have a long-term impact that policymakers are not foreseeing, according to a report released Mar. 2 by researchers at Duke and Harvard universities.

Disheartened by the change in visa rules, nearly 100,000 foreign workers could leave the US and return to their home countries, researchers concluded. The two-year study asked those who had returned why they left the US, and found that increased opportunities in India and China made it easier for these highly trained workers to leave jobs in Silicon Valley and start businesses back in their home countries.

"Short term, this will have no impact on the US, but long term this could spell disaster," says Vivek Wadhwa, the lead researcher on the study and a research associate at Harvard's law school. "When we start recovering, then the people we need are going to be in India and China."

Since 1990, the H-1B program has allowed foreigners holding at least a bachelor's degree to work for six-year spells at US companies and to have a chance to apply for a green card. Companies such as Microsoft and Google have hired thousands of foreign workers on H-1B visas.

It is unclear how many of them applied for - or received - green cards, but the green card backlog in the US in 2006, the last year for which data are available, was more than 1 million.

At the same time, Labor Dept and US immigration statistics indicate that just a little more than half of the allotted H-1B visas went to the high-tech sector; others included workers in fields as diverse as academia, medicine, and the nonprofit world.

Several studies have shown that while there is documented fraud in the H-1B visa system and that H-1B workers often depress the local wages for similar US workers, these highly trained immigrants do fuel a disproportionate portion of US innovation.

Wadhwa points out that nearly half of Silicon Valley startups - including Google - were started by immigrants, and nearly a quarter of U.S. global patent applications are from foreigners. "Without doubt, these H-1B workers are adding to the innovation pool in the US," says Wadhwa.

With Moira Herbst in New York.