Outsourcing and the Welfare State

On economic issues, I am probably much to the left of the median voter in the US. I am a fan of the social welfare states of Europe. Therefore, I found this paper by Peter Lindert (via A Fistful of Euros) on the effect of a welfare state on GDP interesting.

All our well-known demonstrations of the large deadweight losses from social programs overuse imagination and assumption. There are good reasons why statistical tests keep coming up with near-zero estimates of the net damage from social programs on economic growth. It’s not just that the tales of deadweight losses describe bad policies that real-world welfare states do not practice. It’s also that the real-world welfare states reap offsetting benefits from a style of taxing and spending that is pro-growth.

The keys to the free lunch puzzle are:

1. For a given share of social budgets in Gross Domestic Product, the high-budget welfare states choose a mix of taxes that is more pro-growth than the mix chosen in the United States and other relatively private-market OECD countries.
2. On the recipient side, as opposed to the tax side, welfare states have adopted several devices for minimizing young adults’ incentives to avoid work and training.
3. Government subsidies to early retirement bring only a tiny reduction in GDP, partly because the more expensive early retirement systems are designed to take the least productive employees out of work, thereby raising labor productivity.
4. Similarly, the larger unemployment compensation programs have little effect on GDP. They lower employment, but they raise the average productivity of those remaining at work.
5. Social spending often has a positive effect on GDP, even after weighing the effects of the taxes that financed the spending. Not only public education spending, but even many social transfer programs raise GDP per person.
6. The design of these five keys suggests an underlying logic to the pro-growth side of the welfare state. The higher the social budget as a share of GDP, the higher and more visible is the cost of a bad choice. In democracies where any incumbent can be voted out of office, the welfare states seem to pay closer attention to the productivity consequences of program design. In the process, those countries whose political tastes have led to high social budgets have drifted toward a system that delivers its tax bills to the less elastic factors of production, in the Ramsey tradition.

On the other hand, I am a big fan of globalization, free trade and outsourcing. The move of IT jobs to India and other countries has been in the news lately. Via Virginia Postrel, here is her article in the New York Times about the effects of jobs moving offshore.

The loss of people’s jobs definitely does affect them. And as an industry moves to cheaper places, some of those people need to change careers. This is one aspect where the government and/or US industry could help workers.

[P]rogrammers may need new training. […] To encourage companies to invest in such training, Dr. Mann argues for a “human capital investment tax credit,” similar to the credit for investing in physical equipment. She also believes that the federal aid given to displaced manufacturing workers should be extended to cover information industries. And she suggests that information technology itself may help with job searches, crossing the old boundaries of classified ads.

The article talks about the work of economist Catherine Mann who concludes that:

• Globalization of IT hardware production is a model for the global evolution of IT services and software. Although technological change is the most important driver of IT price declines, globalized production and international trade made IT hardware some 10 to 30 percent less expensive than it otherwise would have been. These lower prices translated into higher productivity growth and an accumulated $230 billion in additional GDP (1995—2002). Real GDP growth might have averaged 0.3 percentage points less per year from 1995 to 2002, if globalized production of IT hardware had not occurred.
• As IT hardware prices have declined, the importance of IT services and software in the IT package has increased from 58 to 69 percent of IT spending in 1993 and 2001, respectively. Over the same period, growth in software and services spending at 12.5 percent overwhelmed growth in hardware spending at 6.7 percent. In the face of this demand, and enabled only since the mid-1990s by the Internet and standardization of methods, software and services are now beginning to be produced globally. Just as for IT hardware, globally integrated production of IT software and services will reduce these prices and make tailoring of business-specific packages affordable, which will promote further diffusion of IT use and transformation throughout the US economy.
• When some production of software and services is done abroad, some jobs will be done abroad too. Recent efforts to quantify IT-related and other white collar job loss “offshore” frequently use the peak of the economic and technology boom as the base for analysis, thus ignoring the business cycle, trend decline in manufacturing employment, dollar overvaluation, and technology bust. Cutting through the technology boom and peak of the business cycle and comparing end-1999 with October 2003, employment in architecture and engineering occupations is stable, that in computer and mathematical occupations is 6 percent higher and in business and financial occupations, 9 percent higher.
• Going forward, broader diffusion of IT throughout the economy points to even greater demand for workers with IT skills and proficiency. In the 1990s, investment in IT propelled job growth for workers with IT skills to twice the rate of job growth in the overall economy. Over the next decade, the Bureau of Labor Statistics (BLS) projects that job growth to 2010 in occupations requiring IT skills will be more than three times the rate of job growth in the overall economy.
• Globalization of software and services, enhanced IT use and transformation of activities in new sectors, and job creation are mutually dependent. Breaking the links, by limiting globalization of software and services or by restricting IT investment and transformation of activities or by having insufficient skilled workers at home, puts robust and sustainable US economic performance at risk.

And she focuses on the only the US. I am interested in the effect of just jobs on the poor countries where these jobs have moved as well. I am pretty sure the rise in the standard of living of Indians and others has been great.