The impact of offshoring on the local labor market

One of the most controversial aspects of globalization is offshoring, which means shifting manufacturing activities and business functions abroad. Although the general Ricardo-Viner model, also known as the specific factor model, suggests that the international factor movement generally enhances the well-being of both the offshore source and the host country, more general models indicate the vague effect of offshoring: source wellness. Countries may fall (e.g. Acemoglu et al. 2015, Egger et al. 2015).

Based on this understanding, the public tends to dislike offshoring. In the United States, for example, less than 2% of survey respondents consistently support it because of the potential negative economic consequences (Mansfield and Mutz 2013, Figure 1). For example, when companies move their products abroad, workers may lose their jobs. Such negative effects affect workers and the local economy (Frieden 2019), negatively affect workers of subsidiaries and local suppliers and cause local income and property prices to fall, which eventually leaves the youth area, and the collapse of social services ( Record 2021). Nonetheless, there is little consensus among academic economists on the signs of the impact of offshoring on domestic labor market outcomes, let alone its scope “(Kovac et al. 2021: 381). However, studies on the impact of offshore exposure on the local labor market are still limited.

Based on this background, in a new paper (Kiyota et al. 2022) we investigate the effects of offshore exposure on the local labor market in the Japanese manufacturing sector. Figure 1 presents the transformation of manufacturing employment for Japan from 1995 to 2016 and the share of total production in foreign production.1 The figures indicate that while manufacturing employment declined from 10.3 million to 7.6 million workers during the period under review, the share of foreign production increased from 22.8% to 40.9% during the period. These observations suggest that offshoring, as well as import competition, could lead to a decline in manufacturing employment.

Figure 1 Changes in manufacturing employment and share of foreign production, 1995-2016

Comments: The share of foreign production is defined as the foreign sales of the total (domestic and foreign) sales of the manufacturing company in Japan.
Formula: Production employment is derived from the Production Census (METI); Part of foreign production is from the Basic Survey on Foreign Business Activity (METI).

It is also important to note that the effects of offshore exposure may vary from region to region within a country. Figure 2 presents the changes in manufacturing employment from 1995 to 2016 by the Urban Employment Area (UEA), which is widely used in the Japanese version of the metropolitan statistical area and urban economics research in the United States. Green indicates a big positive change while pink indicates a big negative change. This figure indicates a spatially uneven pace of employment decline in manufacturing. While some urban employment saw a significant decline, others showed an increase. Like the local labor market impact of import competition, the impact of offshore exposure can vary within a country.

Figure 2 Changes in manufacturing employment according to urban employment area between 1995 and 2016

Comments: Some urban employment areas have been left out for visual convenience.
Formula: Production employment is derived from the Production Census (METI); From the Urban Employment Area (UEAs) Kanemoto and Tokuoka (2002).

To examine local labor market effects of offshoring, we develop innovative matching foreign affiliate-native / parent-native plant data to estimate local labor market effects of offshore exposure. This rich dataset enables us to accurately measure both local-level employment and offshoring. Note that foreign partners of manufacturing companies are involved in both manufacturing activities (e.g. manufacturing) and non-manufacturing activities (e.g. sales, financing). In order to estimate the relationship between domestic and foreign manufacturing activities, we must exclude non-manufacturing activities from foreign activities. We thus only focus on the manufacturing activities of foreign partners owned by Japanese manufacturing companies, which we refer to as offshoring. In other words, we exclude from the analysis the impact of non-productive activity of foreign collaborators.

Our sample period is 1995-2016, when the Japanese economy experienced a decline in manufacturing employment and an increase in offshoreing. We define the local labor market as the level of the urban economic zone. Urban economic sectors provide a more reasonable definition than jurisdictional areas such as cities, as labor markets sometimes extend beyond the boundaries of jurisdiction, especially in urban areas with good public transport.

Figure 3 presents the changes in offshoreing from 1995 to 2016, by urban economic area. Green indicates a large positive change while pink indicates a small positive change. This statistic indicates that offshore exposures vary from country to country.

Figure 3 Offshoring changes between 1995 and 2016, by urban employment area

Comments: Some urban economic areas have been left out for visual convenience. Offshoring is measured by the employment of foreign partners. For more details, see Kyota et al. (2022).
Formula: Offshore Data Basic Survey on Overseas Business Activities (METI); Production employment is derived from the Production Census (METI); Urban economic zones from Kanemoto and Tokuoka (2002).

Based on matching foreign affiliate-native / parent-native plant data, we conduct a more detailed statistical analysis using offshoring exposure to recall long-standing differences in local manufacturing employment. We deal with offshore exposure using the shift-share instrumental variable method. Note that the share of Chinese imports has increased rapidly during the period of our study in Japan. As auto and others. (2013) showed that Chinese import exposure had a significant negative impact on local manufacturing employment. We solve this problem by introducing Chinese import exposure in the manner of Autor et al. (2013) In our estimation equations.

The results indicate that while imports from China negatively affect local manufacturing employment, offshore exposure contributes to mitigating such negative effects. We see that 10% increase in foreign manufacturing employment leads to 1% increase in local employment. We also found that offshoring exposure has a significant positive impact on the employment of non-offshore companies in the same local labor market. As a possible process, we have found proposed evidence that offshoring results in increased domestic plant production.

These results have important policy implications. Firms’ offshore support policies are sometimes controversial because they can negatively affect domestic employment. Our results suggest that this is not the case at the local labor market level. Indeed, offshoring manufacturing activities could lead to a decline in domestic manufacturing employment. Overall, our results indicate that offshoring positively affects local employment.

Editor’s note: This column is based on a major study (Kiyota et al. 2022) first published as a dissertation by the Research Institute of Economy, Trade and Industry (RIETI) of Japan.

References

Acemoglu, D, G Gancia and F Zilibotti (2015), “Offshoring and Guided Technological Change”, American Economic Journal: Macroeconomics 7: 84-122.

Autor, DH, D Dorn and GH Hanson (2013), “The China Syndrome: The Impact of Local Labor Markets on Import Competition in the US”, American Economic Review 103: 2121-2168.

Egger, H, U Kreickemeier and J Wrona (2015), “Offshoring Domestic Jobs”, Journal of International Economics 97: 112-125.

Frieden, J (2019), “The Political Economy of the Globalization Backlash: Sources and Implications”, in L Catão, C Lagarde and M Obstfeld (eds.), Tackling the Challenges of Globalization: The Principle of Trade for AllPrinceton, NJ: Princeton University Press, 181-196.

Kanemoto, Y and K Tokuoka (2002), “Proposal for Japan’s Metropolitan Area Standards (Japanese, Nihon-no Toshiken Setai Kijun)”, Journal of Applied Regional Science (Ouyou Chiiki Kenkyu) 6: 1-15.

Kyota, K., K. Nakazima and M. Takizawa (2022), “The Impact of Chinese Imports and Offshoreing on the Local Labor Market: Evidence from Mutual-Foreign Affiliate-Domestic Parent-Domestic Plant Data in Japan”, RIETI Discussion Paper, 22-E-013, Research Institute of Economy, Trade and Industry (RIETI), March.

Kovac, BK, L. Oldenski and N. Sly (2021), “US Multinational Corporations Offshoring Labor Market Impact”, Economics and Statistics Review 103 (2): 381-396.

Mansfield, Eddie, and DC Mutz (2013), “US vs. Theirs: The Massive Attitude Towards Offshore Outsourcing”, World politics 65: 571-608.

Ricard, SJ (2021), “Officials Beware: The Impact of Offshoring on Elections”, British Journal of Political Science 52: 1-23.

Endnote

1 The share of foreign production is defined as the foreign sales of the total (domestic and foreign) sales of the manufacturing company in Japan. This definition follows a basic survey by the Ministry of Economy, Trade and Industry (METI) on foreign business activity.

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