Finance @ Knowledge Zone


U.S. Software Outsourcing
Analysis Of Factor-Price Equalization Theory

- by Bhaskar Roy *

Part - I

1. Introduction

One important piece of the modern neo-classical theory of international trade is the celebrated Factor Price Equalization Theorem, developed independently by Lerner (1952, though written in 1932) and Samuelson (1948, 1949, 1953). This Theorem states that under certain conditions free trade leads to complete equalization of production factor rewards independently of factor mobility. A similar result - a tendency towards equalization of the profit rate - was obtained by Mainwaring (1978) in a Ricardian-Sraffian framework, but in this paper it has been tried to prove that this theory may not work in case of software outsourcing to India.

2. Background

Let's compare with 2 factors (Capital, labor) between India and US.
US - Capital is cheaper and labor is expensive, so US will focus to Capital-intensive industries.
India - Capital is expensive and labor is cheaper, so India will focus to Labor-intensive industries.
But as per this theory factors are not movable.

Now look at the Indian Software industry background -

Software market started growing in India in last 10-15 years, Indian companies were mostly users of software, then some companies came forward to take the advantage low wage labor, but these are mostly Indian companies those who were trying to get maintenance work in U.S. Then mostly these companies started sending people in U.S. to do the onsite jobs, which helped lot of Indians to migrate to U.S. and gradually Indians stepped in the software industry in U.S. big way, result - lot of Indian entrepreneurs developed in U.S. (50% of VC funded tech. Companies started by Indians), and U.S. corporate sector realized the potential of Indians. When in 2001 U.S. economy went into recession, and specially technology sector got very bad hit, then lot of U.S. companies started the outsourcing work to India, and lot of Indians again moved back to home.

3. New Scenario

Some new things happened in last few years -

  • Communication cost has dropped like anything

  • Huge number of Indian young graduates moving to IT sector, that's foremost carrier objective for majority

  • Movement of capital has become lot easier

  • Labor movement from India to U.S. has reduced (visa restrictions)

Next

* Contributed by -
Bhaskar Roy,
B.Tech. (Civil Engg), IIT Kharagpur,
PGDBM (Marketing), XIME Bangalore,
Currently working as Project Lead in Oracle India Pvt. Ltd.