Sunday, June 18, 2006

Paper in progress - Economists on outsourcing software jobs - part-1/draft-1

I am working on a paper regarding the fathers of economics and what their views would be on offshore outsourcing and related issues impacting software professionals. Because I am a software professional and amateur economist a good way to prepare this paper is to get feedback during the construction of it.

The paper's goal is to tie the modern day with the works of Adam Smith, John Stuart Mill, and David Ricardo. The target audience are other software professionals with no background in economics. Concepts should be at a level that people without an economics or finance degree can still understand.

Fortunately, each of these authors are dead - and has been dead more than 70 years. Well, fortunately for us and probably not them. Because of this, their books are open source and can be read freely online as can books from other economists past: http://www.econlib.org/index.html.

In addition to reading literature, I will be watching the Adam Smith DVD which should arrive shortly. That should put me on par with all the economics students who were drinking and partying when they should have been studying.

I need your help, if you are so inclined. Simply post comments as this topic builds.

So in short, be nice. Call me out on something if I am wrong or if you believe me to be wrong. And make suggestions on how to advance the topic. When complete, I think software professionals should have a better understanding of offshore outsourcing and a respect for thinkers of the past.


Adam Smith, John Stuart Mill, and David Ricardo on the Software Profession
(A work in progress) Part 1, Draft 1
By Roy Lawson

If some of the most revered economists could speak, we can only wonder what they would say about issues facing software professionals today. This article examines the writings of Adam Smith, John Stuart Mill, and David Ricardo. Although electronic based machines, software, and modern day communication technologies were not invented during the lives of these men, their theories are still applicable today. Most software professionals don't have a background in economics; this article is intended to give them a background on the subject and an understanding of how it applies to themselves.

Traditionally a commodity describes unprocessed goods that can be traded or sold such as grain, metals, and livestock. In corporations today you will often hear managers refer to software developers as a "commodity". This term is not meant to have an endearing connotation and is in fact used to describe a service based occupation that corporations wish to trade freely on the global market. These individuals don't make a distinction between the trade of cattle and the trade of human services, nor do they take interest in the social implications of such a concept. There is an indifference to nationalistic interests and a priority given to short term drivers of the market economy.

Software is a significant aspect of our modern day economy and is intended to make corporations more productive. Productivity enables workers to focus on more valuable endeavors, which is directly responsible for increased profits. Productivity can also be gained through lower labor costs. Modern day communications such as the Internet enable companies to move software production to regions where labor costs are lower. This shift can increase productivity because the same output can be gained at a much lower cost.
Moving software development and related service jobs to lower cost regions is known as arbitrage, or the practice of taking advantage of the state of imbalance between two markets.[3]

As a modern day example of arbitrage it is often more affordable for companies to outsource jobs to Indian companies where there is a large supply of educated workers who are able to live and produce the same services at a fraction of the cost. This is achieved through a variety of market imbalances. First, India is a less developed economy with a large population of low-skilled producers. The vast supply of workers at the bottom of the class hierarchy enable those at the top, such as software developers, to have a much lower cost of living than their counterparts in the United States. Thus their cost to produce the same amount of output is much lower. In this case, success in global trade is achieved artificially by means of mass poverty.

Other market disparities also exist in India such as a currency regime that is pegged to a basket of other currencies, meaning it is not traded on the open market as is the custom of more developed nations. Because of this the growth in the Indian currency regime will not be the same as the growth in the Indian economy. This creates an imbalance between other markets and an opportunity for arbitrage to exist.

Another form of arbitrage in American labor markets include the importation of workers from other countries on certain guest worker visa programs. These workers are often exploited because of their immigration status; company sponsorship is required for immigration purposes so their ability to work freely in the open market is restricted. Because of such restrictions, these workers produce the same product for lower salaries and will work longer hours in what amounts to a modern day form of indentured servitude. Should the workers request higher salaries or more advantageous working conditions the company may terminate not only their employment but their right to live and work in the United States. This unfair advantage makes many foreign guest workers more productive (by means of disparity) and thus a natural choice for employment over indigenous workers.

All of the conditions described are hardly new concepts but there are most certainly some modern day twists when compared with the times of our economic forefathers. In 1776 Adam Smith published An Inquiry into the Nature and Causes of the Wealth of Nations.[1] One obvious answer to global trade disparities is of course trade restrictions. According to Smith creating a "monopoly of the home market" through high duties or absolute prohibitions secures the domestic industry employed in the protected market which "gives greater encouragement to that particular species of industry which enjoys it, and frequently turns towards that employment a greater share of both the labour and stock of the society than would otherwise have gone to it."

Despite the obvious benefits of such home market protections to a specific industry, Smith cannot be certain that it is beneficial to the whole of society. He goes on to say that "to give the monopoly of the home-market to the produce of domestic industry, in any particular art or manufacture, is in some measure to direct private people in what manner they ought to employ their capitals, and must, in almost all cases, be either a useless or hurtful regulation."
What we learn from Smith is that in general trade restrictions are not always a good thing, but when Smith refers to such protections he refers to trade of true commodities such as cattle and corn. During his time it was not conceivable that large portions of the skilled labor performed in one nation could be performed in the other by means of technology. Another difference between the economy as Smith knew it and today is that the economies Smith studied throughout Europe were either engaged largely in agricultural or industrial endeavors; high-tech services of today are a relatively new phenomenon.

One could argue that the world as Adam Smith knew it (Europe) was actually flatter than the world as we know it today, to borrow from Thomas Friedman. The economies throughout Europe were much more similar to each other than the economies of India and China when compared to more mature economies like the United States and Japan. These differences have an enormous impact on domestic labor markets.

Smith did address the inequalities of labor and pointed out three major sources. These inequalities include restraining competition, increasing competition beyond what it naturally would be, and finally obstructing the free movement of labor from employer to employer and place to place.

The software occupations are not restrictive at all; there are few unions, no apprenticeships, and no professional licensing requirements as seen in professions such as law, finance, and health care occupations. Generally, employers prefer a four year degree and some form of certification from software professionals. Given the advanced knowledge required to practice in the profession this seems reasonable.

A clear inequality found in the United States is increasing competition beyond what it naturally would be. This can be seen in the importation of foreign labor intended to artificially increase the supply of workers in software occupations. An example of this is the authorization of foreign guest workers via the H-1b visa. According to the U.S. Department of Labor in 2002 American companies reduced employment in the software occupations by 139,000 while increasing foreign guest workers by 110,713 workers in the same occupations.[2]

As previously stated, these foreign guest workers also face obstructed movement from employer to employer; immigration policy requires that employers sponsor them and they are restricted from changing employers. Doing so can reset any pending immigration requests such as permanent residence. A pause in employment may also require the worker to leave the country, creating an unnatural tie between employee and employer. This satisfies the third inequality identified by Smith.

Smith plainly separated the trade of goods and labor; he recognized that "the only property which every man has is his own labour, is it is the original foundation of all other property, so it is the most sacred and inviolable." Smith goes on to say that hindering man from practicing their trade is "a plain violation of this most sacred property." Smith would no doubt take offense to the results of outsourcing service related jobs to foreign nations for the sole purpose of labor arbitrage. This is not a desirable result of trade relationships as described by Smith.

So are software developers commodities? No, and absolutely no. A more probable technology based commodity may be the trade of bandwidth; our current networks have a limited capacity, there is no concentration of supply or demand, and pricing is both volatile and indexed. This is simply not the case with software services, although most companies would love for it to be so. Could software products and not the producers themselves be commodities? Under some circumstances and debatable use of the word, it is possible. An example of this may be open source software or commercial off the shelf software (COTS), however even this is quite a loose interpretation of the word.

The term "commodity" as applied towards software professionals is used incorrectly by technology companies to define jobs which are targets of outsourcing to a foreign market. Semantics aside, the reasons for outsourcing these jobs (lower wages) are, as established by Adam Smith, based upon unfair trade conditions that allow companies to take advantage of the disparities between U.S. and foreign markets. Trade protections should exist to remedy disparities but not to the point of creating a "monopoly of the home market." Ideally, Adam Smith would prefer that countries correct disparities but in the interim he would not fault a nation for protecting their national interests through duties designed to correct such disparities.

David Ricardo was drawn into economics after reading The Wealth of Nations. He greatly expanded upon Smith's works and developed the theory of Comparative Advantage in Principles of Political Economy which was published in 1817. His theory is often used to justify trends such as outsourcing. To be sure, outsourcing is not inherently a bad thing unless the motivations are based upon unfair trade practices; this can currently be demonstrated with the nations of India and China.

Part two...
Comparative Advantage...
Shortages of labor...
John Stuart Mill...

3 Comments:

At 9:44 AM, Anonymous Anonymous said...

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Application Engineer DFT
MTS/SMTS (Testing Requirement)
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At 9:45 AM, Anonymous Anonymous said...

Application Engineer DFT
MTS/SMTS (Testing Requirement)
SMTS/Project Lead( Testing - Scripting Languages )
Software Engineer (C++/Unix)
Senior QA Position
MTS/SMTS
MTS/SMTS
Senior Software Engineer/Lead Engineer / Project Lead Lead Engineer/ Project Lead

 
At 5:43 AM, Blogger mani said...

The mushrooming of the companies dealing in outsourcing software development has no doubt given rise to a lot of competition but it has offered a plethora of options for the takers to choose the best deal from the lot.

 

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