WORKING PAPER January 2008 School of Accounting College of Business Administration Florida International University 11200 SW 8th Street

Miami, FL 33199 USA

THE ECONOMIC, ETHICAL AND CULTURAL EFFECTS OF INTERNATIONAL OUTSOURCING

Leilani O. Baumanis, Johnson & Wales University Robert McGee, Florida International University ABSTRACT
This study focuses on the economic, ethical and cultural effects of international outsourcing, particularly in India. Outsourcing has been castigated in the press for being a domestic job killer in the US. But such a conclusion is one-sided because it only looks at the job-loss side of the coin. Outsourcing also creates jobs by increasing economic efficiency. Another economic effect of outsourcing is to put downward pressure on prices, which benefits consumers. Part one of this paper uses economic analysis and ethical theory to examine various aspects of outsourcing. Part two examines cultural aspects. Traditionally, economic activity in India has been influenced by its caste system, which strictly limits the progression of a person from one caste to another. However, as wealth has improved the economic wellbeing of many families, parents have been able to educate their children, breaking this social barrier. This phenomenon creates a problem, as uneducated parents of educated children often see their children move from the countryside into the cities where jobs and opportunities are more available. This exposes the children to more Westernized lifestyles, creating a new rift among the families.

INTRODUCTION Global outsourcing affects the economic and social infrastructures of recipient societies at varying levels. Traditionally, it has been viewed as a positive step towards progress and countries crave for the injection of foreign direct investment into their economies. However, as social infrastructures evolve, the cultural evolution may create a social revolution between the old culture and the new culture. Such is the case in India, where global outsourcing continues to be a phenomenon. Families are changing, businesses are evolving and societal norms are transforming. Until recent years, employment and the ability to provide a living wage was the main focus of the Indian economy. India, with the second largest population in the world and currently the largest contributor to the worlds population growth, has an income per capita of $3,139 with adjustment for purchasing power parity in comparison to the US

income per capita of $39,676 (CultureGrams World Edition). The economy is supported mainly by agriculture, where 60% of the population is employed in the agriculture industry. According to 2007 statistics, the literacy rate among adults remains comparatively low, with 59.8% among men and 48.3% among women.
Table 1: Comparison of US and India Population Area (square Real GDP (per Adult Literacy Population miles) capita)* literacy (male) 1,269,338 1,095,351,995 $3,139 61% 73% 3,618,765 298,444,215 $39,676 99% 99% Literacy (female) 48% 99%

Nation India United States

Before 1991, Indias government tended to practice protectionism, due mostly to its exploitive experience during the 200-year British colonial rule, which ended in 1947. Mahatma Gandhi, Indians most beloved religious leader who led the people to gain independence from British colonialism, encouraged self sufficiency - to exist without the influence of the outside world. This was practiced and enforced by the government until 1991, when India reached its most challenging economic era. After 1991, as it matured into independence, India saw a need to move toward a free economy, more specifically the elimination of subsidies in farming, the elimination of many public monopolies, and the allowance of foreign direct investments. This move towards liberalization of the economy, where free trade and technology innovation were set forth, encouraged the development of the technology industry the newest industry not yet dominated by other countries. The government set out to develop a technologically educated labor pool with the intent to make India a premier source of human resource capital. Today, India, the worlds largest democracy, is also the worlds largest provider of IT labor. (Norton, 2008) ECONOMIC AND ETHICAL ASPECTS Economic Aspects Outsourcing the hiring of nonemployees or foreign employees to do jobs that domestic employees would otherwise do has increased in popularity in recent years. But it has not been without its critics, especially in the United States, where the practice is viewed as destroying American jobs. One of the biggest beneficiaries of outsourcing has been India, whose workforce is English-speaking, educated and relatively inexpensive. But in reality outsourcing is nothing more than the exercise of free trade. It is an example of the separation and division of labor that Adam Smith spoke about in 1776. It is an example of comparative advantage, which David Ricardo spoke about in 1817. The evidence that free trade is a positive-sum game is overwhelming. Free trade creates far more jobs than it destroys. Various studies have found that removing trade barriers creates two or three or more jobs for every job that is destroyed and that imposing restrictions on trade destroys many more jobs than are saved (Barringer and Pierce, 2000; Denzau, 1987; Francois and Baughman, 2001; Hufbauer, Berliner and Elliott, 1986; McGee, 1994). Some figures on the cost of various protectionist policies are shown in Table 2.

The problem with outsourcing, or rather the perceived problem, is that outsourcing destroys jobs. Schumpeter (1942) described this process as creative destruction. In order to have a dynamic economy it is necessary to be able to shift resources from less productive uses to more productive uses. Outsourcing does that. When that happens, jobs must necessarily be destroyed. That is what is seen. But what is often more difficult to see is the fact that allowing this process of shifting resources makes it possible to create even more jobs than are destroyed. This idea of what is seen versus what is not seen has a long history in the economics literature. French economist Frederic Bastiat (1964) spoke about it in the 1840s. Outsourcing is a modern example of this phenomenon. What is seen are jobs seemingly moving offshore. But what is far more difficult to see is all the jobs that are saved or created by outsourcing, a policy that makes the economy work more efficiently. For the outsourcing countrys point of view, outsourcing is a way to lower the cost of production, which is then passed on to the consumers in the form of competitive prices. Other advantages of outsourcing include 1) the outsourcing of jobs that most Americans, particularly the skilled and educated, are unwilling to do. We should also recognize that as we outsource jobs that we are unwilling to do at a certain price point, we also insource jobs that Americans are willing to at a certain price point, equalizing the corporate fit of the workforce. 2) The improvement of quality of life at a lower cost, specifically families with fixed low incomes, and 3) the replacement of the workforce as the aging population retires. Moreover, as we outsource these jobs, we are also able to insource jobs that are more appropriate for the American labor force. Table 2 The Cost of Protectionism Cost to Cost per Consumers Job Saved ($ millions) (dollars) 2,650 200 230 95 116 525 91 27,000 6,800 45 520 700 420 55 110 35 5,800 104 3 1,000,000+ 200,000 30,000 47,500 135,000 240,000 76,000 42,000 750,000 90,000 1,000,000 55,000 420,000 93,000 550,000 117,000 105,000 150,000

Industry Benzenoid Chemicals Glassware Rubber Footwear Ceramic Articles Ceramic Tiles Orange Juice Canned Tuna Textiles and Apparel Carbon Steel Ball Bearings Specialty Steel Nonrubber Footwear Color Televisions CB Radios Bolts, Nuts, Large Screws Prepared Mushrooms Automobiles Motorcycles

Jobs Saved 2,650 1,000 7,667 2,000 859 2,187 1,197 642,857 9,067 500 520 12,727 1,000 591 200 299 55,238 693

Maritime Industries 3,000 270,000 Sugar 930 60,000 Dairy Products 5,500 220,000 Meat 1,800 160,000 Fish 560 21,000 Petroleum 6,900 160,000 Lead and Zinc 67 30,000 Source: Hufbauer, Berliner & Elliott (1986). Data compiled by the authors.

11,111 15,500 25,000 11,250 26,667 43,125 2,233

Ethical Aspects The above discussion is utilitarian based. Free trade is good because the result is a positive-sum game. The overwhelming majority of economists subscribe to utilitarian ethics, so any discussion of economic policy that does not address utilitarian views is necessarily incomplete. But limiting the discussion to utilitarian views also results in an incomplete discussion. Utilitarian ethics has several structural flaws (McGee 2004; Rothbard 2004). One of the major flaws is that it is not always possible to accurately measure gains and losses. Estimates can be made, of course, but how can one determine whether the gains exceed the losses when it is not even possible to identify who is affected and by how much? Estimates and assumptions must be made based on information that is far from complete. It is also impossible to measure the extent of consumer preferences. For example, one can say that Jack prefers McDonalds hamburgers to Burger King hamburgers but it cannot be said that he prefers them by 13.7 percent. Yet that is what economists often assume when they construct their preference models. Another structural flaw in utilitarian ethics is the failure to recognize the existence of rights. For a utilitarian, all that matters is that the result is a positive-sum game. A policy is acceptable if the winners exceed the losers. The fact that rights might have to be violated to achieve that positive-sum result is irrelevant. Rights theorists take a completely different position. For them, a policy is automatically bad if someones rights have to be violated even if the result is a positivesum game. For a utilitarian, violating ones rights is seen, at best, as a negative, to be offset by positives. Some utilitarians would not even take rights violations into account in the equation. One of the strengths of a rights approach is that it is not necessary to measure gains and losses. All that is necessary is to determine whether anyones rights have been violated. If they have, then the policy is automatically a bad one. The flow charts below summarize the two positions.

UTILITARIAN ETHICS

START

GAINS > LOSSES?

Yes ETHICAL

No

UNETHICAL

RIGHTS-BASED ETHICS

START

Rights Violated?

Yes

UNETHICAL

MAYBE No ETHICAL

If rights are not violated, it does not automatically follow that the act is ethical. It merely means that the act may be ethical. Victimless crimes like prostitution, gambling and drug abuse, for example, may or may not be ethical, but no ones rights are violated by engaging in these activities (Feinberg, 1990; McWilliams, 1996; Rich, 1978). Thus, rights theory is an incomplete tool for determining whether an act is ethical. Violating rights is always unethical but engaging in acts that do not violate rights may be either ethical or unethical. Outsourcing meets the utilitarian test because the result is a positive-sum game. The winners exceed the losers. Outsourcing also meets the rights test because people who engage in outsourcing are exercising their right to trade what they have for what they want. Rights are violated only if outsourcing is not permitted. Where that occurs, both property and contract rights are violated. CULTURAL ASPECTS OF INTERNATIONAL OUTSOURCING Traditionally, economic activity in India has been influenced by its caste system, which strictly limits the progression of a person from one caste to another. According to caste traditions, there are four Varnas that divide society into broad classes: Brahmin is the group represented by teachers, scholars and priests; Kshatriyas are the Kings and warriors, Vaishyas are the merchants and traders, the Shudras are the farmers, craft artisans, and service providers. There is also a fifth group, the Parjanya (also known as untouchables), who belong outside of the caste and conduct the dirtiest jobs in the society because they are too inadequate to belong within the caste system. (Pinch, 1996) Although the caste system was abolished by the government, communities still use it to distinguish their belonging within societies. The caste system still influences what life one will have and what marriage will be acceptable. In fact often times, marrying outside of your caste may not be accepted by families and society. (Sen, 2003). According to 2002 estimates, about 25 percent (over 250 million people) of the population live below the poverty level. (Norton, 2008) In comparison to the US population of 300 million, it is a horrific number of people. Of the 250 million people, 193 million live in the rural areas and live on a meager subsistence earned from the agriculture or cottage/craft industry. The remaining 67 million people live the urban areas and work mostly in factories or in the service industry in support of the factories. (Norton, 2008) Poverty is polarized mainly to specific social groups - predominantly in the lowest caste. Nearly two-thirds of the population is employed by the agriculture industry but only contribute to less than one-fourth of the GDP. (Norton 2008) The lack of opportunities in India creates a very disparate income distribution system where the social and economic elite control the majority of the wealth. Though the majority of Indias population still lives below the poverty level, there is a growing middle class that is affecting the social order. As wealth has improved the economic wellbeing of many families directly or indirectly through foreign direct investments, parents are slowly able to educate their children, breaking social barriers. This phenomenon creates a problem, as uneducated parents of educated children often see their children move from the countryside into the cities where jobs and opportunities are more available. This exposes the children to more Westernized lifestyles, creating a cultural rift among the families. 6

Indias huge number of English speaking, rote learning students was the commodity that was the impetus in creating this competitive advantage in human resource outsourcing and a proper education was the venue through which they were able to accomplish this goal. Prosperity to a young Indian worker is defined differently than from that of his parent. With more than 50% of the population younger than 25, Indian children who are able to go to school learn to be fierce and competitive, vying for the best job opportunities. The call center industry has directed much of the education of Indias students. The ability to speak American English means that one can easily obtain jobs in the city and receive pay that may be more than their parents combined income. Moreover, employers teach their young employees about the American lifestyle, so that they can better service their customers. This has permeated into the society and today Americanstyle malls and American-style consumerism has been interwoven into the Indian culture encouraging the social transformation of these young people. Because many of them have moved to the city to work, free of family responsibilities, not only do they have a lot of disposable income, but their newfound freedom also gives them lots of disposable time. Today, young Indians are more materialistic, more brand conscious, own Vespas, cell phones and like to eat pizza for lunch. A September 2007 research study shows that among Indias youth, 60 percent of the population who are under the age of 30 are very optimistic. It is evident that this optimism is derived from strong economic growth, 9.4 percent for fiscal year 2007. But in a country where collectivism and family values have always been important, it appears that living and eating well and spending time with friends receives more emphasis (David, 1997) The older generation argue that human beings are being reduced to consumers and the world has become a market the precise goal of globalization. Parents are worried that American influence is eroding family values. They are concerned that these sudden changes are compromising the family traditions, which include rituals that keep the culture intact. According to Hofstede (2001) there are cultural dimensions that make a society unique. He identifies them as Power Distance, the degree to which society accepts the way that power is distributed in a society; Uncertainty Avoidance, the degree to which uncertainty is accepted within a society; Collectivism, the degree to which individuals rely on the power of the group for acceptance and protection; Masculinity, the degree to which gender roles are imposed in a society; and Long-Term Orientation, characterized by perseverance and thriftiness as opposed to short-term orientation, the concern of tradition, fulfilling social obligations, and saving face (Hofstede & Bond, 1988).

Figure 1: Hofstedes Dimensions of Cultures India Compared to the World Source: Geert Hofstede (1991) Data collected by author In a high power distance society such as India, respect within the family is highly regarded. This teaching spills over between children and adults, between students and their teachers, and eventually between subordinate employees and their superiors. Moreover, high power distance has been found to be prevalent in highly populated countries where the wealth distribution is disparate an obvious characteristic of the Indian population. However, this power distance is slowly being eroded through the exposure of Western values. For example, Prakash Gupta, president of IMC Global Services Ltd., travels frequently between the US and Pune, India between his two corporate offices. During one of his visits to Pune, Gupta entered the room and the employees began to stand as a sign of respect. This is a very common tradition among subordinates and their superior. But Gupta waived them on to continue with what they were doing. And rather than address him as Sir or Mr. Gupta, he asked them to call him Prakash, as employees would if they were in the United States. (Kalita, 2006) With the onset of globalization, cultural influences from the US have had a significant effect on Indias up-and-coming professionals. Once upon a time, social classes were forbidden to commingle but today education and hard work is the gateway to the new transformed culture. There is a cultural revolution per se, of having a tendency to become more equitable based on professional qualifications irrelevant to ones social class, a clear difference from their parents belief system of power distance. People in their early 20s are driving nice cars, purchasing homes at an early age, and becoming more materialistic, irrespective to their social class. India is a collectivist society where families rely on nuclear and extended families for support and protection. Members of the family are extremely group oriented and make decisions based on what is best for the group in exchange for trust and loyalty of group members. India continues to be an extremely collectivist society, however, changes in the family situations indicates that there is a progression towards change. Children are being drawn by the societal change of globalization and they are moving to cities where jobs are more readily available. Young women are waiting to marry and prefer to work in the cities to help provide for their families. Though not enough change

is evident to measure, the trend is happening and is predicted to continue to happen. (Pradhan & Benjamin, 2005) Uncertainty avoidance is the degree of tolerance that a culture has for ambiguity and uncertainty. Countries with low uncertainty avoidance, such as India, are more comfortable with the unknown and can tolerate risks more readily. Hofstede suggest that low uncertainty avoidance cultures are more open to unstructured ideas and conditions. Clearly, the rapid growth of Indias economy where its openness to new ideas and risks tolerance has created an environment of change is the consequence of this low uncertainty avoidance. Indias openness and the availability of a highly educated working population for a very affordable price are irresistible to Western high tech companies and this is only the tip of the iceberg. According to Information Technology and Communications Minister Andimuthu Raja, by 2011 information technology exports are expected to grow 30 percent annually, to $80 billion. (David, 2007) Today, India is a top provider of back office outsourcing and they are the major exporter of highlyskilled workers for technical support and customer service. For example, IBM employs 57,000 staff members from India and plans to grow with another 80,000 employees in the next few years. (Hague, 2007) Accenture currently employs 35,000 Indians, 4,000 less than their American staff. Ministry officials are declaring that this is only the beginning of a long journey to superpower status. Their goal is to create opportunities for all the children of India, irrelevant of class. Thats another 500 million or so. Gender roles in India are still very masculine. Distinct expectations between male and female are the norm in India. The father is the head of the household and the mother is the caretaker. Traditionally, female children leave their home only upon their arranged marriage to an acceptable husband chosen by her family and she enters the home of his family. However in todays India, the call center industry is drawing daughters from their families to work in the big cities. The cultural implication of the call centers is discernable in the way family structures are changing. According to Pradhan & Benjamin (2005) call centers prefer to hire women because they are patient, attentive, less aggressive and are more interpersonal than men. Indias call center industry boom has opened opportunities for thousands of women throughout India. For these women, rather than marrying young and raising families, they have become working professionals helping to provide for their families. Indias higher level of long-term orientation is indicative of a society that is thrifty and persistent, a value that appears consistent with its drive towards accomplishment. However, as younger people become more independent from their family, they are becoming more attracted to short-term orientation with consideration of social obligations, and building their reputation. CONCLUSION India is perhaps the biggest recipient of outsourcing contracts and the outsourcing trend is growing at a healthy rate. While this phenomenon is good from the perspective of utilitarian ethics, and does not violate anyones rights, it is having effects on Indias culture. Last year, the software service grew by 30.7 percent, with revenues of $39.6 billion (David 2007) and to support the evolution, Indian businesses are becoming more Westernized with lessons brought in from Western cultural values. Power distance is 9

shrinking, the society is becoming less masculine and tendencies of individualism are evident. From a strictly economic perspective these changes are probably good, but they are also causing tension in the society and within families. The benefits of globalization, at the cost cultural transformation, are forcing the families to evolve for the prize of success. Perhaps that is the price of progress.

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