Thursday, January 26, 2006

On the Nature of Economics and Outsourcing

I was browsing the Internet earlier, looking for some materials on outsourcing.

Is outsourcing good for domestic economy? Is our economy going to get better thanks to outsourcing of manufacturing of product and services to foreign countries?

What I have found more or less fits into the category "Outsourcing is great. Go for it."

That's what the gurus out there say, and I am not an economist, so I will try to convince myself that outsourcing is good.

I will try because I am not conviced at all.

So i'd like to ask a few questions to some experts out there that might help me understand.

Let's see... my rudimental understanding of economics works roughly this way:

People buy goods and services and part of the money that they get out of their pockets finds its way to fuel economic growth.

People, the majority of people, gets their money from their jobs.

If you lose your job you lose your money and you won't buy any goods or services.

Now, outsourcing moves jobs from here to some other countries XYZ. So people lose their jobs -> lose their money and cannot buy goods and services.

Now the figures out there show that people is still buying goods and services. Amazing, isn't it.
So the money must be coming from somewhere.

Is that credit? Is that savings? If it is either of the two for how long can people live on credit or savings.

Figures out there show that companies, in general, are making good money from outsourcing.

Or, in better terms, they are saving money.

How? I have tried to find an answer. My answer works roughly this way.

Lets say that you are Company ABC and you manufacture sponges.

Let say that the market price of a sponge you manufacture is 100.

Lets's break it down: 30 is raw materials 40 is labor 20 is other costs and 10 is what you charge when you sell it, that is 10 is your margin of profit.

This is how it works here.

If you manufacture the same sponge in countries XYZ your labor cost drops down to 10 and other costs go up to 30(you have more transportaion costs). So 30 materials 10 labor 30 other costs.... here is the magic , as you still sell the product here, you can keep your price at 100; which means that your profit is now 30 !

So you, Company ABC, by using outsourcing have earned a 20 percent more.

Your profits have gone up 20 percent! Great! The figures out there show this, so "the Economy is going well". So you re-invest the money from your profits. Do you reinvest your money here? No, you reinvest in countries XYZ as you want to maximize the profit of your investments.

How did things go for the guy who buys the sponge from you? Different music here; the price has not changed, so the guy has a benefit of 0 which is zero, nothing, nil, nada. So no news for that guy, which is still good news.

Let's get to the bad news. How did things go for the guy here that used to work at your plant to manufacture the sponge? This guy has been laid off, lost the job. No money to buy the sponge.

Maybe he will be able to find another job at Company DEF that manufactures umbrellas? No way. They have moved their plants to countries XYZ.

What if the two guys are the same person? Have you lost one burdensome employee or have you lost one buyer for your sponges?

Maybe some economist can answer this.