One of the articles of faith these days is that free trade is a panacea for all sorts of evils. Proponents of free trade and the concomitant globalization argue that comparative advantage is key. That is, each country or region should produce what they can do better than anyone else. Others will buy this product, and in turn, sell things that they themselves have an advantage in making.
In theory, this is all well and good. Thus, for instance, India, which is good at making polished diamonds, should sell these to the US which in turn sells India aircraft engines, which it is good at. Thus, capital will flow to India as investors wish to own equity in diamond polishing companies; similarly capital will flow to the US to make aircraft engines.
The fly in this ointment has always been the insistence of the developed nations that such capital flows were good and proper; but not similar labor flows. For instance, why shouldn't said diamond polishers be allowed to immigrate to the US, since there is a demand for their skills there? We have been told, however, that transferring labor was not good. Why? The West said they'd prefer not to, much like Bartleby the Scrivener. No further reason was given.
The reason is of course obvious: they do not want even skilled Third World types crowding into their nice, well-ordered countries. After all, they have enough trouble absorbing the guest workers they brought in already to do the menial tasks they themselves do not wish to do. Just look, they say, at Turks in Germany, Algerians in France, and Mexicans in the US, all brought in as cheap, unskilled labor, and now causing problems in host countries.
In addition, the West has been adept at something called 'managed trade' or 'fair trade.' That is, even in items where the non-West has a genuine competitive advantage, the West has fixed things so that they win. This is called 'fair trade,' a magnificently Orwellian term, as it really means 'unfair trade.' The West has managed this through either tariff barriers or non tariff barriers.
The best examples are the uncompetitive farmers of Europe and the US. There is a butter mountain and a wine lake in Europe, unsellable overproduction, because inefficient producers are subsidized by governments out of political considerations. On the other hand, the US government pays some farmers to let their fields lie fallow. These are clear barriers to entry: protectionism by subsidy.
There are some interesting statistics in Businessworld ('Don't say Cheese,' December 30, 2002) about the subsidies enjoyed by farmers in the rich world:
| US | EU | Japan | India | |
| Daily subsidy per cow |
$2 | $2.50 | $7.50 | Nil |
| Added milk cost for consumers |
71% | 76% | 400% | Nil |
There are other facts too, quoted in the same article:
- Support to wheat farmers in the EU amounts to 46 per cent of receipts and adds 86 percent to their income
- The subsidy for rice growers in Japan equals more than seven times the world price of their output
- India's farm subsidies are negative. It offers no direct subsidies but provides $1 billion worth of indirect support on inputs to about 110 million farming families
- The number of farmers in rich nations is falling. In Japan and the EU, it's down to 2 per cent of the population, in the US it is 1 per cent. 900,000 US farmers get subsidies that rose 700 times since 1996
This, in addition to highly creative non-tariff barriers. The article above quotes the tale of the camel cheese makers of Mauritania. Low in cholesterol, high in vitamins, the product had some appeal. The EU ruled that 'in the interests of hygiene' the cheese could only be imported if the camels were milked mechanically. Right, the poor desert nomads of impoverished Mauritania were going to invest in milking machines!
The best non-tariff barrier that I can remember is the one that the French imposed on Japanese video players in the 1980s. Alarmed at surging imports, the French came up with a winner: each Japanese VCR had to be examined at the customs facility in tiny, Poitiers, which is far from every port. The result? The obviously superior Japanese product was in effect eliminated from the market, and local producers benefited. Of course, local consumers did not benefit, but then nobody worries too much about them.
So that lovely euphemism, 'fair trade,' should be seen for what it is: the prettified face of protectionism. The mercantilist governments of the West, especially the US, specialize in this; naturally, they have loaded the WTO procedures in their favor, as well.
Similarly, since the free movement of labor would have been unpopular, they arrived at a simple formula: export the dirty and dangerous jobs to locations where the poor locals could be exploited and paid a pittance. Thus the maqiladoras on the US Mexico border, the sweatshops in Southeast Asia, and the brutal gulag factories of China.
This way, the highly paid and appealing service jobs remained in the West, and there was no need to worry about what to do with immigrants once they and their children started demanding the good life, too. This, I guess, was a good example of 'fair trade.'
But then along came the Internet. Like all really good inventions, the inventors had no idea what the thing would eventually be used for. This is like the case of the motorcycle, which the original inventor thought would be a good vehicle for the village postman! The Internet has made it possible, despite the best efforts of Western politicians, to transfer those highly paid and appealing service jobs to the rest of the world.
This is the crux of the matter: if the labor couldn't migrate to the jobs, the jobs are now migrating to the labor. With a good Internet connection, anybody anywhere in the world can offer their skills to the job market. To begin with, it was indeed the highly-paid service workers in the West who started to make use of this: thus, management consultants would repair to Aspen, Colorado, and offer their advice, say, après-ski.
But it soon become apparent that it is just as possible for software developers in Bangalore to do the same thing: thus the flow of IT jobs, and an arbitrage opportunity that has been taken advantage of by a number of firms. Similarly, the new area of IT enabled services, including Business Process Outsourcing can result in a wholesale exodus of back-office work to less developed nations with lower costs, but trained human resources: such as India, the Philippines, much of Southeast Asia, Eastern Europe, etc The New York Times said recently:
Forrester Research of Cambridge, Mass, predicted in a recent report that the acceleration in outsourcing would result in 3.3 million American jobs moving offshore by 2015, an exodus reminiscent of the tide of American blue-collar jobs that moved to East Asia in the 1980s. Forrester estimates that 70 percent of these jobs will move to India, 20 percent to the Philippines and 10 percent to China.
This would be even more alarming than the exodus of manufacturing jobs from the US. It would, in effect, amount to a défi Asienne, with apologies to Jacques Servan-Schreiber and his idea of the American challenge to Europe.
For, there are a lot of moderately well-paid clerical jobs performed by moderately intelligent, middle class people in the US and Europe that can as easily be performed by some bright youngster in an outsourcing center in India. Assuming that the PPP (purchasing-power-parity) multiplier for India is about 4, then the fully loaded cost of the Indian youngster can be as low as 30 to 33 per cent of the loaded cost of the American/European.
Clearly an arbitrage opportunity exists for the Indian youngster and the American employer. The Indian youngster will live roughly as well as his counterpart in the US, because he is being paid the PPP equivalent of the latter's income, which incidentally also reduces his incentive to emigrate. The company saves a significant amount because of the differential costs in nominal dollars. Well, as for American employee, he needs to upgrade his skills.
As heartless as it sounds, this is simply the consequence of Adam Smith's Invisible Hand: in the absence of market distortions, the more efficient producer wins.
Of course, this is not something that said middle class people in the US will sit by and watch idly: they vote, and can get their voices heard in the state legislatures. The first broadside in this campaign was the recently-introduced Bill in the New Jersey legislature that will prevent any call centers for state business from being run offshore.
On the face of it, this is immaterial, because there are not so many deals for call centers run by states. However, the intent is to set a precedent that could be used to press against the movement of service jobs offshore. Other states, sensing a good political cause, will jump on this. And, of course, they will raise all sorts of jingoistic America-first slogans.
It is highly likely, of course, that this will end up in the WTO eventually. I believe the Americans will lose, because this is a blatantly anti-competitive activity, and the raising of a unilateral, non-trivial non-tariff barrier. However, as in the Helms-Burton bill and the banana wars of a couple of years ago, we can expect the Americans to create much bad blood and to threaten all sorts of one-sided acts, such as invoking 301c.
There have already been rumblings: The New York Times ran a story ('Experts See Vulnerability as Outsiders Code Software,' January 6, 2003) which contains a fairly preposterous suggestion that national security is at stake just because standard business software is being coded offshore.
Similarly, the San Francisco Examiner ran a story ('A Crime against Americans,' December 24, 2002, which is a complaint by a Livermore, CA programmer wherein he squarely lays the blame for his unemployment on Indians as though the business cycle and the dot.com bust had nothing to do with it.
An excellent example of Americans talking out of both sides of their mouth comes from their dealings with Vietnamese catfish farmers, from the Economist ('Case of the ghostly catfish,' December 14, 2002):
In essence, the dispute is simple: cheap imports of Vietnamese catfish threaten to put United States' producers with higher costs out of business A trade agreement between the two countries, eliminated tariffs on catfish a year go But instead of submitting to the free market principles aired while pushing [the pact] , America's lobbyists and lawmakers are seeking to crush the Vietnamese producers.
Predatory mercantilism in action, of course. First, the Catfish Farmers of America insisted that Vietnamese catfish could not even be called catfish' because it was raised in the Third World. (Note to the Indian government: soon Americans will try to take over the very names such as neem, basmati and ayurveda, some of which has already happened in Germany.) Next they came up with something amusing to determine if the Vietnamese were dumping' the product in America. The Economist story continues:
So they asked the Department of Commerce to work out how much it would cost to raise hypothetical catfish in India, fillet and freeze them in imaginary factories, and ship them in phantom boats to America.
But the fact of the matter is that Vietnamese farmers will be competitive under practically any circumstance, contends the article, because of their abundant cheap labor. This is the core issue: because of abundant, comparatively inexpensive labor, Asian countries such as India will come to dominate the offshore services market. That is, unless the WTO and the West come up with some splendid new arrangement to undermine their competitive advantage.
The Americans, bless them, are trying: they have come up with a brand new proposal to reduce tariffs on everything to zero by 2015. Robert Zoellick, US Trade Representative, made a formal pitch to the WTO in 2002. However, despite rosy predictions of how this will help everybody, many others, especially in the Third World, remain unconvinced, fearing that the net result may be beneficial only to America.
There is some reason for skepticism, it appears. A paper by Andrew Rose of the University of California, Berkeley, titled Do We Really Know That The WTO Increases Trade?, answers its own question with a simple 'No.' The author suggests that 50 years of trade data covering 175 countries indicates that it was other factors, not the WTO or GATT itself, that has caused world trade to boom in recent years.
While the jury is still out on this one, and the catfish controversy will be argued over, the simple lesson for India's call centers and other backoffice operations should be: carpe diem! Seize the day. I agree with what Narayan Keshavan, director of the Indian American Forum for Political Education, said on rediff.com ('US legislators demand end to offshore outsourcing,' February 11, 2003):
Indian corporates, in my view, have been sanguine and not pro-active in countering this growing phenomenon of legislative protectionism to serve populist sentiments although they make no economic sense.
They cannot afford to be.
Postscript: I am distressed to receive by email certain allegations about the editors of Rediff (and its subsidiary India Abroad). These allegations suggest that the editors of Rediff are ideologues who favor a particular political perspective, specifically an anti Hindu perspective. I'd like to go on the record and emphatically deny this, strictly based on my own experience. I can tell you the facts: the Rediff editors I have dealt with (and their apparent editorial policy) are very fair and balanced, and, in the interests of journalistic ethics, willing to accomodate multiple perspectives. I believe this is what responsible editors do, rather than push their own points of view and censor opposing points of view. In my personal opinion, Rediff may be the most open English language publication dealing with India, in being the publication most willing to provide the reader with all sides of the issue, and allowing them to think and make up their own minds, instead of belaboring some vested interest or agenda. I cannot state with more emphasis that I disagree with the above allegations; I request those making them to stop forthwith.
