As the US presidential election approaches, both candidates have been focusing on the state of the middle class. In the first presidential debate, Mitt Romney claimed: "the people who are having the hard time right now are middle income Americans. Under the president's policies, middle income Americans have been buried". At the same time, Barack Obama has made the middle class the centrepiece of many of his campaign proposals, with his official website claiming that "President Obama is fighting to grow the economy from the middle class out, not the top down."
This concern for middle-income workers is not just political rhetoric. Labour economists have presented extensive evidence documenting a relative decline in wages at the middle of the income distribution relative to wages at the top and bottom, or a 'polarisation' of the US labour market. This pattern is something new. In the 1980s and 1990s the trend was a more straightforward increase in income inequality between high- and low-wage workers, with wages over time increasing more or less monotonically with a worker's position in the income distribution. Yet sometime around the start of the new millennium that pattern shifted, with relative wage gains concentrated at both the top and the bottom of the distribution and relative losses in the middle. This polarisation has been well documented in both the US and Europe (Autor 2010).
Another issue making headlines this election season is offshoring by US firms. One of the Obama campaign's talking points has consistently been to criticise Romney for the offshoring done by Bain while Romney was the head of the company. A key component of Obama's campaign is the promise that he will “end tax breaks for corporations that ship jobs overseas.” Yet at the same time, Obama has been actively involved in negotiations for the Trans-Pacific Partnership. While the president has emphasised the export promotion aspects of the Trans-Pacific Partnership in his campaign speeches, the partnership would also facilitate offshoring to Asia by US firms, with a number of provisions to protect investment and "facilitate the development of production and supply chains among TPP members."
Is there a link between these two election year issues, i.e. offshoring and relative declines for middle income workers? So far, the connection between wage polarisation and technology has been well documented (e.g. Autor et al. 2006, Goos and Manning 2007 or Acemoglu and Autor 2010). Recent technology changes have generally augmented the productivity of high-skilled workers (e.g. research and management), substituted for middle-skilled workers (e.g. data entry, manufacturing) and left the low-skilled workers unaffected (e.g. janitorial and food service). Offshoring has been mentioned as another potential contributing factor to this trend of polarisation. It seems intuitive that the same jobs that could easily be replaced by a computer are likely to also be offshorable. Yet the existing studies have not empirically tested that link.
New evidence on the relationship between offshoring and polarisation
In a new working paper, I document an empirical link between offshoring and the polarisation of the US labour market (Oldenski 2012). This study, which will be presented in November at both the Empirical Investigations in International Trade conference in Santa Cruz and the US Department of Labor Centennial Celebration in Washington DC, uses detailed data on offshoring from the US Bureau of Economic Analysis paired with occupational wage data from the Bureau of Labor Statistics and occupational task data from the Department of Labor's Occupational Information Network. The results show that when the share of offshoring increases in a given industry, there is a significant increase in the gap between wages earned by workers in the highest-paid occupations relative to workers in the median-wage occupation in that industry. At the same time, the gap narrows between wages earned by the lowest-paid workers and workers in the middle of the distribution.
The relationship between offshoring and polarisation is driven by two important forces. The first, which has been mentioned in earlier work on polarisation, is the relative ease with which different types of occupational tasks can be fragmented across borders. The second, which has been neglected in the labour literature, is comparative advantage.
First, fragmenting the production process in a way that moves certain intermediate inputs or processes to another country is easier for some types of tasks than for others. For example, activities that involve direct interaction with consumers, such as haircuts or food service, are extremely difficult to offshore while those that are not location specific, such as data entry, can be performed anywhere. In addition, firms are more likely to offshore routine tasks and keep non-routine tasks in their headquarters. Routine tasks can easily be broken down into a clear set of steps, which can then be communicated to someone located in another country. Non-routine tasks involve decision making, problem solving, or creativity. These non-routine tasks are both more difficult to communicate to overseas contractors or foreign affiliates and more crucial to a firm's core mission or strategy, and thus they are more likely to be performed in a company's US headquarters rather than offshored.
Yet focusing on the ease with which a given task can be traded does not tell the whole story. Many extremely high-skilled tasks, such as engineering and research, are becoming increasingly tradable as well. Yet US workers in professions that require these tasks have seen their wages rise. Interactions between offshorability (or, more accurately, tradeabilty) and comparative advantage can explain both the overall widening of the wage gap in the US, as well as disproportionate gains for workers at the top of the skill distribution and disproportionate relative losses for workers in the middle of the distribution. Non-routine and communication intensive occupations are concentrated at both the top and the bottom of the skill distribution in the US. However, US workers at the top of the distribution also perform the jobs in which the US has comparative advantage. Thus we should expect these high-skilled, high-wage workers to gain the most from the increased tradeability of certain tasks both because the areas they specialise in are activities that are more in demand in the US as trade expands and because they are made more productive by the availability of cheaper complementary low-skilled tasks through offshoring. Middle-skilled workers gain the least, as they are not in occupations for which the US has comparative advantage and are also more likely to perform routine, easily offshorable tasks. Workers at the bottom of the distribution are not in sectors in which the US has comparative advantage, yet many of the tasks they perform are either non-routine manual or location specific and thus less vulnerable to offshoring than middle-skill jobs.
New evidence shows that there is indeed a link between offshoring and relative declines in the wages of middle-skilled workers. However, it also shows that offshoring has had a positive effect in terms of increasing the demand for workers in the most highly skilled, highly paid jobs. Given the benefits of offshoring, the policy message this election season should not be to try and restrict offshoring, but rather to find ways to match workers to the areas where labour demand is growing. This paper suggests that a focus on training workers to perform more highly skilled, non-routine and communication intensive occupations is one component of that policy.
Acemoglu, Daron and David H Autor (2010), "Skills, Tasks and Technologies: Implications for Employment and Earnings", Handbook of Labor Economics Volume 4, Orley Ashenfelter and David E Card (eds.), Amsterdam: Elsevier.
Autor, David (2010) The Polarization of Job Opportunities in the U.S. Labor Market: Implications for Employment and Earnings, Center for American Progress and The Hamilton Project.
Autor, David, Lawrence F Katz and Melissa S Kearney (2006), "Measuring and Interpreting Trends in Economic Inequality: The Polarization of the U.S. Labor Market", AEA Papers and Proceedings.
Goos, Maarten and Alan Manning, (2007), "Lousy and Lovely Jobs: The Rising Polarization of Work in Britain", Review of Economics and Statistics 89(1).
Oldenski, Lindsay. (2012), (Offshoring and the Polarization of the US Labor Market), Working Paper.