Is Outsourcing Good or Bad? The Economic Effects of Outsourcing

Hieu Nguyen

Hieu Nguyen | 12/10/2022

Is Outsourcing Good or Bad? The Economic Effects of Outsourcing

Is Outsourcing Good or Bad? The Economic Impact of Outsourcing

Outsourcing has become more prevalent as a large part of the workforce is switching to remote and flexible work. Companies grappling with economic turbulence also turn to outsourcing as a cost-saving measure.

Despite the rise in outsourcing as a common business practice, there have been concerns that it may negatively impact the economy, among which the biggest issue is unemployment for the staff who have been replaced by outsourced workers.

Outsourcing has three types: onshore, nearshore, and offshore. The unemployment concern is most relevant to offshore outsourcing, where client companies, usually in developed economies such as the US, Europe, and Australia, outsource jobs to a vendor, often in an emerging economy in Latin America and Asia.

In the technology industry with its inherent international scope, outsourcing may not be as bad as it sounds. Let’s consider the good and bad of outsourcing to see why this is the case.

Why Outsourcing is Good

Outsourcing Reduces Software Development Costs

Foreign workers in emerging countries in Latin America and Asia can provide the same IT services as domestic workers do, but at much lower salaries thanks to the global differences in living costs. Undeniably, this is a good deal for companies: they pay less for similar competencies. The advantage of cost savings has been a significant factor why companies in developed economies outsource jobs to emerging economies.

With outsourcing, companies can serve domestic consumers at competitive prices. Otherwise, consumers may have to bear higher costs of services and goods, as an indirect result of higher salaries. Cost savings by outsourcing have become such a prevalent practice that companies which do not find alternative ways to save costs can be priced out of the market.

Taking advantage of the differences in living costs globally is not a bad thing. You may have heard of retired couples who, having accumulated enough savings, moved to live in a cheaper place overseas. Being able to stretch the budget, especially during economic hardship, could determine whether struggling companies may stay afloat or sink.

Outsourcing Enhances Software Quality With Economies of Scale

Let’s get back to the basics. The technology industry produces large-scale software products like any other manufacturing industry. Companies need these products to offer cutting-edge services and goods. While Software-as-a-Service (SaaS) is definitely an option, some companies have unique functionality needs, cybersecurity concerns, and data infrastructure, so custom software solution is often the only way to go.

However, not all companies can hire a winning team of software engineers to develop and maintain the necessary products. The shortage of tech talents has been ongoing for several years. It’s hard enough for small tech start-ups to hire software developers; it’s even harder for non-tech companies to compete for suitably skilled workers.

Outsourcing companies, on the other hand, have favorable economies of scale: they are savvy tech employers with comprehensive training programs that incubate tech workers from internships to permanent contracts. They offer a range of opportunities that facilitate tech employees to build competitive skills. For clients, outsourcing companies can provide deep industry insights from seasoned tech experts with experience developing similar software solutions. These are just some of the most attractive offerings that can only be made feasible with economies of scale.

Hence, it’s reasonable that companies decide to enlist outsourced tech talents to develop innovative solutions. Consumers benefit from such digital transformation, from ultra-personalized services powered by AI, to tighter security enabled by blockchain technology, and streamlined workflow made possible by cloud computing. These technologies are several steps ahead of the legacy systems of just a decade ago. Outsourcing empowers many companies with the capacity to effectively manage such rapid and challenging transitions.

Outsourcing’s Positive Impact on Emerging Economies

How does outsourcing affect economic development in an emerging country? Countries such as Vietnam and India have a young and educated workforce. They welcome foreign businesses to establish partnerships, development deals, and direct investments, in turn creating jobs and training opportunities for the local workforce.

Particularly in technology, establishing an offshore software development center is quite prevalent among mid-sized companies and enterprises from the US, Europe, and Australia. These enterprises bring in international expertise and open up growth opportunities for young tech workers to build fruitful careers. Outsourcing investments also bring in capital to help emerging countries modernize their technological infrastructure. Thus, the global outsourcing industry grows in capability by meeting its clients’ international expectations of standards, quality, and professionalism.

Outsourcing has allowed a mutual exchange of benefits - client companies enjoy access to large affordable talent pools, and outsourcing companies profit from growth opportunities and sizable investments.

Outsourcing Isn’t The Leading Cause of Unemployment

The main consequence of outsourcing, according to its opponents, is that it increases the unemployment rate in the clients’ countries. This issue has been most serious in the US. This may be because US salaries are some of the highest in the world, which is even more true in technology. US tech workers earn an average of $110,000USD/month. This is a very high salary, almost too high for many small and medium companies to afford. The salary burden pushes companies to offshore software development.

In this sense, offshoring to cheaper countries isn’t the leading cause of unemployment; rather, it is companies’ necessity to keep overheads low and optimize their budget. Outsourcing is one way to do so. Automation is another way. This isn’t a bad thing.

To counter the risk of unemployment due to outsourcing, it is necessary to sharpen the competitive edge of a local tech worker compared to an offshore tech worker. Cultural fit is a big plus for a domestic tech worker, in addition to time zone compatibility and easy in-person collaboration. Outsourcing does have its challenges, and some companies do prefer to hire domestic employees. It depends on a company’s vision, culture, and business objectives. Some software products cannot be made anywhere but domestically, especially when developed countries hold the patents for some of the most pioneering technological solutions in the world.

Moreover, compared to other industries, unemployment isn’t such a big problem in the tech industry. There is a shortage of tech workers, so tech workers aren’t short of options for jobs. The demand for tech workers has been higher than supply. The critical issue here is having the right skill set at the right price, so as long as tech workers keep updating their skills to keep up with current technologies, they are in demand, in any labor market.

Opponents of outsourcing may also cite the fact that junior tech workers may have a hard time competing against lower-priced outsourced workers. This may be true, especially when they live in a highly competitive metropolitan. But this is also true for any junior tech worker in any country, including outsourcing countries. Junior workers have to prove their worth to be employed. Competition is an inevitable part of building one’s career, and thus, it should not be singled out as a particular consequence of outsourcing.

Outsourcing Doesn’t Cause Reverse Brain Drain

Opponents of outsourcing cite reverse brain drain - when top jobs and human capital migrate from developed countries to developing countries. Since developing countries provide outsourcing services, the opponents fear that outsourcing removes highly specialized jobs from the domestic economy.

In fact, the opposite may be more prevalent. From years of remote collaboration with client companies, outsourced tech workers have had the chance to get to know what’s it like working there. As long as you build a good company for your employees, you stand to attract talents from anywhere in the world, even if you outsource some non-essential functions to offshore teams.

Tech workers in outsourcing countries understand the high pay and growth opportunities in developed markets such as the US. They admire the professionalism and extraordinary growth potential at US-based multinational corporations. Many of them aspire to join their rank one day.

As a result, outsourcing countries suffer from brain drain to developed countries: senior tech workers with ambition and capabilities try to compete with domestic tech workers. Similarly to any other competition, the best of them win the top jobs. It all boils down to the right fit, and not the person’s background.

This may be a personal loss for a domestic tech worker who loses out to an overseas candidate, but it is a win for the economy. The economies of developed countries have benefited and will continue to benefit from highly skilled immigrants from around the world. This is an indirect benefit of outsourcing - a marker of soft power showing how developed countries stand to attract top talents. The incoming seasoned professionals potentially raise the overall quality of existing staff and bring in decades of international experience, enriching the diversity of organizations.

Outsourcing Is a Post-COVID Reality

As a cost-saving practice and an advantage of economies of scale, outsourcing does not bring about negative economic impacts. We have discussed the benefits of outsourcing for companies wishing to thrive in the competition. Especially for the tech industry, outsourcing does not directly cause unemployment; automation may be a bigger threat. The path forward is not to condemn a widespread practice that helps companies offer quality services and run effective operations - it is to upskill the workforce to meet the demands brought about by new technologies.