Globalization and IT: Setting the Record Straight

Over the last three years there has been an explosion of public concern about the wage and employment impacts of global outsourcing. As a result, worries about globalization have begun to move up the income ladder, infecting white-collar middle-class workers. For instance, a poll conducted in May 2004 for the Associated Press reported that sixty-nine percent of Americans believe outsourcing hurts the economy. Recognizing the potential threat this shift of public opinion poses to corporate globalization, business groups have been busy playing a game of catch-up seeking to allay these new more broadly shared public fears.

Recently, the world renowned Washington DC based Institute for International Economics (IIE) released a study praising the benefits of off-shoring the information technology (IT) industry, titled “Accelerating the Globalization of America: The Role for Information Technology.” The study argues that IT is good for the economy, and globalization is good for IT. Ergo, globalization is good for the economy. The only problem is that the argument does not stack up.

The IT industry provides an opportunity for observing the effects of global outsourcing on a cutting-edge “new economy” sector. A close inspection of the facts confirms the fears of the public, not the claims of corporations. The IT industry is not the apparel or shoemaking industry, which means the adverse effects of global outsourcing cannot be casually dismissed as just the inevitable shedding of outmoded industry.

The study’s thesis is that IT investment yields a high rate of return for the economy. Moreover, IT investment is very price sensitive, so that lower IT prices yield a proportionately larger increase in IT investment spending. Finally, globalization has driven down the price of IT products. Putting the three pieces together, globalization has been good for the economy by driving down IT prices, increasing IT spending, and thereby spurring growth.

Sounds very reasonable. Unfortunately, there is little evidence that globalization has caused lower IT prices, and without that the argument crumbles. IT hardware prices are driven by two factors – long-term trends and the business cycle. The long-term price trend captures the impact of technological innovation, and the trend of prices has been down for a long time. That trend is sometimes referred to as Moore’s law - after Gordon E. Moore a co-founder of Intel – and it states that the unit cost of computing power halves every eighteen months. Moore’s law was coined in 1965, long before the current period of globalization began, and there is no evidence that globalization has accelerated the trend of computing power price decline.

With regard to the business cycle, there is clear evidence that the price of computing power (DRAM or dynamic random access memory) is related to the utilization of DRAM production capacity. Prices fall when there is excess capacity, and they rise when capacity is tight. That is standard supply and demand analysis, which rests on economic principles that applied long before globalization. The only contribution of globalization is that much DRAM production capacity is now offshore because U.S. corporations have been building new capacity offshore rather than at home.

All of this casts huge doubt over the claim that globalization has benefited the economy by benefiting IT. However, whereas the benefits are in doubt, the costs are not. One clear cost is that the U.S. IT hardware industry has been significantly hollowed out. The U.S. used to run an IT goods trade surplus. Now, it runs a huge IT trade deficit, with many U.S. companies importing products made offshore by their subsidiaries or under license by foreign producers. In 2005 the U.S. trade deficit in information and communications products was $83.2 billion. The deficit with China alone was $50.8 billion, reflecting the huge off-shoring of IT production that has taken place.

With regard to jobs, there has also been a clear contraction in the level of U.S. IT employment. In 1999 there were 4.9 million technology-related jobs, but this had fallen to 4.6 million in May 2005 – a loss of 300,000 jobs. The bulk of these job losses were for workers earning less than $30,000 per year, but there was also significant job loss of 140,000 among computer programmers who made an average of $67,400 per year.

With regard to wages, the average real wage for lower paid technology related jobs was essentially stagnant between 1999 and May 2005. For mid-level computer support specialists whose annual pay averaged $43,380 in 2005, real wages actually fell 1.3 percent annually over this six-year period. However, the real pay of higher skill tech workers rose 1.6 percent per year. The bottom line is that global outsourcing of the U.S. IT industry has not been good for workers in the bottom half of the wage distribution. The IT sector therefore appears to be following a similar path to manufacturing, confirming the fears of working families about outsourcing.

An underlying claim is that outsourcing of IT hardware production has been a boon to the U.S. economy because it leads to lower IT prices from which the U.S. economy benefits. According to this logic, the U.S could benefit from outsourcing of its IT R&D capacity and from outsourcing its software industry. Indeed, these developments are to be encouraged, and under current globalization policy they are. Yet, this entire way of thinking has recently been challenged by Nobel laureate in economics, Paul Samuelson. Samuelson has shown that when the U.S. off-shores those industries in which it has historically held a comparative advantage (such as IT), the U.S.’s future gains from trade and standard of living can fall.

Changes in the structure of the U.S. IT industry are being driven by corporations, which are intent on maximizing their own profits. In a nationally based economy, such as was the case in the 1950s and 1960s, profit maximization by companies tends to maximize national income. In a global economy, that is not the case. Instead, profit maximization promotes the maximization of global income rather than national income. Companies are happy to outsource because they earn the profits on outsourced production, but that does not maximize national income. This fundamental insight is not yet appreciated within Washington policy circles.

There is no disagreement that IT is good for the economy. There is also agreement that globalization relies significantly on IT. However, there are two dangers. The first is that opposition to the current form of globalization gets misinterpreted as opposition to technology – a misinterpretation that advocates of corporate globalization encourage with charges that opponents are “Luddites”. The second danger is that globalization gets credited with the benefits of IT because of its heavy reliance on IT - that’s tantamount to a case of bait and switch.

The debate over globalization is not about the benefits of IT, and opposition to globalization does not mean opposition to technology. Instead, the debate is about the character of globalization – the absence of labor standards, the absence of rules for exchange rates, the implications of outsourcing for workers, and changed power relations that enable corporations to set economic policy and collar productivity gains for their top management and owners. The lesson from Moore’s law is that the benefits of IT would have flowed regardless of expanded globalization, and for working families they might have been even larger under an alternative globalization.

A final generic lesson for policymakers concerns numbers and public debate. The enormous resources of the business community means that it can commission studies, launch them with fanfare, and then broadcast their findings. In this way controversial calculations can quickly become received fact. That is a problem for which there is no easy solution. However, it does suggest that policymakers and journalists be skeptical of studies about trade and globalization promising four course free lunches.

Copyright Thomas I. Palley

7 Responses to “Globalization and IT: Setting the Record Straight”

  1. Colin Lee Says:

    Your point seems right, Thomas, but just one comment with regard to the accuracy of defining computer power in DRAM. There are many overall measures of computing power and DRAM is simply not one of them. Dynamic random access memory’s speed has very little bearing on the absolute speed of a personal computer. A 5% overall increase in one year is practically unheard of and there have been serious concerns with DRAM not keeping up with Moore’s Law. Even its memory size, while important, only has bearing when the size of the programs increase, as seen by the artificial increases in the size of the Windows operating system and applications in order to justify buying new computers.

    Common measurements of computing power are in MIPS and FLOPS and horribly inaccurate marketing numbers that determine the clock speed instead of program speed like Megahertz and Gigahertz.

    Another interesting economical part of the IT outsourcing debate is the impact of H1B visas and their limitation to disallow incoming workers from changing jobs until they obtain a green card. If there is a real skilled worker shortage as corporations are implying, the clear answer would be to open the floodgates to these Indian workers, but instead we have strict limits that give employers unlimited power over the few immigrant workers we allow in, giving them the power to depress wages.

  2. camille roy Says:

    You are correct but fail to note that decining career prospects in IT has decimated enrollements in computer science, even at the high end like MIT. Declines of 30-50 %.
    We’ve outsourced our technological future, even while mainstream economists fondle their theories as though they were the latest IPod. They’re not - and the next generation gadgets won’t be designed here either, because of those blasted theories.

  3. Jerry Harris Says:

    I teach at DeVry University which in the 90’s turned out thousands of mid-level IT
    graduates. Today these departments have collasped shrinking to about a third of
    their previous size and students reporting hard times in obtaining full time jobs after graduation.

    In terms of IT and globalization I agree with the article’s basic view. but its also
    important to understand that IT is the skeleton around which globalization has been
    built, allowing capitalist to construct a world spanning command and control structure
    that functions in real time. Of course IT can be put to different uses, but for capitalism
    it is a change in the tools of production which has lead to a change in the relations. So the power relationships are closely intertwined with the uses of the technology.

  4. C Vanella Says:

    Dear Mr. Palley,
    You present here I think an even more compelling argument for the flawed economic logic of Globalization as it is.
    In a separate resonse you directed me to the Econ Policy Institute, Shwartz and PERI which have been very helpful and I thank you.
    The inevitable surfing of related materials available on economics brought me across summary discussions of the work of the economist Herman Daly who sounded a warning in the late 70’s I think, regarding the globalization impetus resulting in the outsourcing of “national core competencies”(my phrase) to the detriment of all.
    He struck me as a courageous voice, like yours willing and able to buck the prevailing wisdom. He particularly focuses on uneconomic growth and limit’s to growth.
    Would it be useful to discuss his work from your perspective?
    Respectfully,
    Charles

  5. zak Says:

    Per “Colin Lee’s” posting, I have to say I disagree with his premise that the US should open itself to MORE H1B workers. Under normal supply and demand concepts, if there is a supply shortage of workers (in this case IT) then the pay of those workers would then increase—showing a supply “shortage”….This in fact has not occured in the IT field. Instead IT job pay has stagnated (or increased slightly) while the total number of IT workers has decreased—This is not an indicator of increasing domestic demand. Company’s now realize they can get the work done on the cheap and so you have them begging for new “foreign” workers to fill the void to this supposed IT “shorage”. As Jerry Harris pointed out, IT grads are having a difficult time finding work. I know this because I am one of them. Unfortunately, outsourcing have put a squeeze on entry-level positions, and have left fewer mid-high level jobs than what were previously avaiable. It appears as if this trend for outsourcing as much as possible will lead to continual drains on our countriy’s ability to produce, and therefore fund our consumption. I equivalate this to an athelete giving up his high protein and vegatable diet for one of candy and sugar. Sure, sugar product sare far cheaper than meats and vegatables but eventually you’ll lose your muscle mass and probably wind up with diabetes and large medical bills—At which point you become destitute and uterterly broke. Like the athlete, the US can’t live if it continually gives up the things that make it healthy for those that cause malnurishment, and evenual debilatation.

  6. blaze Says:

    I have been reading http://www.thomaspalley.com/ lately, and I have a lot of respect for him .. especially his analysis of what’s going on in the world.

    However, his solutions, I think are wrong. I get the sense that he feels greater trade barriers and a return to a manufacturing base is the solution for generating real wealth in the US.

    I think this is fear of the unknown talking. The new economic model will be a pure information based economy where we mostly trade in ideas rather than goods. With things like virtual reality, telepresence, and better patent laws
    the restrictions of time, labor, and physical space will become a minor variable in the majority of economic trade.

    However, to develop that economy, is complex and risky and very very hard. We basically need to forget everything else we’re doing (ie, manufacturing) and get very very innovative. By handing over all the keys of manufacturing to china, we certainly have done the first part.

    The question is, will america have the character to do the next part? Will we simply enjoy their wealth (the dollar tribute of the world has paid us a massive retainer to lead) and forget to innovate, or will we get down to business and make the 21st century happen?

    This is a very interesting question. I think Mark Warner (co founder of Nextel) could have made that happen. I believe Powell was trying to at the FCC.

    However, presidents like George Bush most definitely belong in another era and are very unsuitable to lead the world into the future. McCain and Clinton, I suspect, are the right leaders and therefore it is appropiate that they are by the far the two most likely candidates for the US presidency in 2008.

  7. Cari Says:

    I really enjoyed the honesty of this article. Every where you turn you are told how great globalization is for everyone involved. You never hear about the higher paying jobs that do leave and go to a country where the same position pays thousands less. The article also hits on the issue of lower or non existing labor standards in the countries where companies have chosen to move to. I believe that there is a line that has to be drawn that states the safety of the workers is more important than the bottom line. I also agree that policy makers and the public in general need to question the findings of corporations that state globalization is the new wave of the future and that there are no problems that are foreseen. I agree in part with globalization I do believe however that all workers around the world need protection from the explotation of big corporations. Policymakers need to come up with somw way to battle this problem and to ensure proper working conitions around the world.