Offshoring Implications: Innovate to Succeed

By Cameron
September 12, 2006

I was planning to post part two of the Fall tech agenda next, but the U.S. General Accounting Office released a good report last week studying offshoring in the semiconductor and software industries. Actually this is the third report on this subject in the past few weeks. (We blogged about the Department of Commerce’s report here, and the National Bureau of Economic Research released one that we haven’t reviewed yet.) The more we read these reports, the more we are struck by the similarities that they have with ACM’s report on offshoring released earlier this year. (The ACM report focused just on software.)

The GAO report was written at the behest of several members of Congress, so it has a distinctly US perspective. These reports cover so much ground it is often hard to do them justice in blog posts, but here are some of the top-level highlights of the GAO report:

  • Offshoring from the US continues to grow, creating deeply interconnected global markets.
  • As technical sophistication of offshoring partners continue to develop, offshoring is tending to move up the value chain
  • Despite this trend, the United States continues to be a leading producer of both software and semiconductors. U.S. firms are leaders in both industries, and foreign companies have also established the own operations in the United States in order to access talent, technology, and markets.
  • The U.S. software industry has largely rebounded since the tech bubble burst fairing better than the semiconductor industry, which has seen revenue rebound but jobs remain flat.
  • Even in the face of offshoring, jobs and wages in the software industry have recovered since the tech. bubble burst (discussion of this is on page 32).
  • Lower cost labor is an important factor in offshoring decisions, but increasingly US companies are looking for high-quality talent and access to local markets. Further, foreign governments are increasingly using incentives to attract global investment.
  • Offshoring firms face risks from geopolitical events, uneven quality of infrastructure and intellectual property protection.

The report does a particularly good job of providing some context and implications for these industries. Semiconductors and software are key components of the broader information and communication technology (ITC) sector. Although this sector is only about 4 percent of the overall U.S. economy, it accounted for about 11 percent of the total economywide value-added growth in 2004. Further, the sector is once again rapidly growing with a 12.9 percent real growth rate in 2004. Advances developed by the sector are also responsible for driving overall productivity, which, in turn, drives economic growth.

Growing global competition, fueled partly by offshoring, has implications for this important sector. The report clearly outlines that investments in innovation infrastructure — “world-class universities and research centers, a talented labor pool, and high levels of spending on research and development” — have led to U.S. dominance in the software and semiconductor field. It concludes:

“As numerous recent studies have reported, the ability of the United States to continue to compete at the most advanced levels in high technology industries depends on a range of reinforcing factors: high-level R&D investment by companies and government, innovative academic environments attracting and training the highest-skilled researchers, a competitive business environment that fosters development and commercial application of new technologies, and a flexible and skilled workforce. These factors are being nourished in China, Taiwan, and India, as these countries seek to move further up the value chain and to “leapfrog” advanced country capabilities where possible. The United States is an integral part of this dynamic world economy—in which it will be important for U.S. businesses and policymakers to keep alert to technological changes, to anticipate competitor countries’ strategies, and to preserve and enhance the elements of the innovation environment that helped make the United States a model.”

Congress and the Administration have put forward several different proposals to meet this challenge. One promising effort, and likely the most effective one, is increasing R&D funding for federal science agencies, like the National Science Foundation. With both the House and Senate poised to act on these increases this fall, Congress seems clearly intent on taking steps to further invest in the innovation economy.