Insourcing: A Silver Lining Ahead?

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They say ‘figures don’t lie,’ so if statistics are reliable yardsticks to gauge the performance of the U.S. economy, this data is sure to catch the eye of everyone: the rise in a cheap and productive labor force.

According to the U.S. Bureau of Labor Statistics, non-farm business sector labor productivity increased at a 0.5% annual rate during the first quarter of 2013, while unit labor costs declined 4.3%. Although the numbers are not huge, they are significant enough, and indicate an evolving trend in one of the most hotly-debated topics in the country, Insourcing.

As the U.S. labor market improves with more productivity at lesser wages, several companies have begun wondering whether to continue with their outsourcing strategy for cost advantages or whether they should revert to insourcing. Let’s dig a little deeper for the answer.

A Resilient Economy

Despite continued softness in most European markets, the U.S. economy has shown resilience with 175,000 new jobs added in May. The average increase in new jobs in the last 12-months aggregate 172,000, which if compared with other developed economies would rank as one among the highest. A healthy rebound in the housing market (See: REITs Breakthrough: Real or Bubble?) and a continuous uptrend in stock prices across most indices have been the primary growth drivers for the economy.

The unemployment rate has increased marginally in May to 7.6% from 7.5% in Apr, as the labor participation rate inched higher to 63.4% with the influx of 420,000 job-seekers in the labor force. These are encouraging signs for the economy and signify higher hopes for new job prospects. However, the labor participation rate has still got a long way to go to reach its zenith of 67.3%, attained in 2000 when the baby boomer generation was an integral part of the labor force.

The Tilting Scales Against Outsourcing

The dramatic change in the labor market has unruffled the ergonomics and tilted the equilibrium against outsourcing. As most of Americans have learned the hard way of survival through the pangs of a prolonged recession, wages have declined and productivity has increased as a percentage of total product or service costs.

On the other hand, as wages in emerging markets have been steadily rising largely due to increased global demand, new labor laws and greater worker voice, the profit perspective has failed to justify the cause of shifting the manufacturing operations outside.  

In addition, technological advancements and eroding geographical barriers have been encouraging most companies to modify their supply-chain mechanism and often co-locate some of the vital operations such as research and development, design and marketing and assembly closer to the markets served. This is also serving the purpose of better aligning their products with faster innovation in tune with changes in consumer behavior.

Consequently, de-verticalization of manufacturing operations have been gradually getting replaced with re-verticalization, making companies skewed towards insourcing.

Changes in Legislation

In order to further propel the rising tide of insourcing of jobs, the Senate is currently working on the ‘Senate Immigration Bill,’ under which foreign outsourcing firms will need to pay more to avail the services of temporary foreign workers on H-1B visas, thereby discouraging its use and offering a larger pool of domestic workers to these companies.

The bill also pledges to stop issuing new H-1B visas after 2014 for those companies that employ over 75% of their workforce in the U.S. on temporary visas, and the threshold is further expected to be scaled down to 50% by 2016.

To make matters favorable for domestic workers, even foreign workers who work at the offices of their customers, typically known as ‘outplacements,’ will be prohibited to work on temporary visas, forcing companies to look for local talent. Even while scouring the local job market, the bill imposes strict guidelines for advertising jobs to further deter foreign recruits.

All these measures are likely to have some adverse effects on companies like IBM Corp. (IBM), Cognizant Technology Solutions (CTSH), Genpact Ltd. (G), and Hewlett-Packard (HPQ), as they have a significant chunk of their jobs outsourced.

To Conclude

So although a silver lining does appear on the horizon, outsourcing has ingrained the economy as a key element for exploiting cost advantages. Consequently, it might take considerable effort to dethrone outsourcing from its current position and establish the insourcing of jobs as the next big thing in the economy.

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