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Offshoring and Unemployment

  • Devashish Mitra
  • Priya Ranjan

In this paper, in order to study the impact of offshoring on sectoral and economywide rates of unemployment, we construct a two sector general equilibrium model in which labor is mobile across the two sectors, and unemployment is caused by search frictions. We find that, contrary to general perception, wage increases and sectoral unemployment decreases due to offshoring. This result can be understood to arise from the productivity enhancing (cost reducing) effect of offshoring. If the search cost is identical in the two sectors, or even if the search cost is higher in the sector which experiences offshoring, the economywide rate of unemployment decreases. We also find multiple equilibrium outcomes in the extent of offshoring and therefore, in the unemployment rate. Furthermore, a firm can increase its domestic employment through offshoring. Also, such a firm's domestic employment can be higher than a firm that chooses to remain fully domestic. When we modify the model to disallow intersectoral labor mobility, the negative relative price effect on the sector in which firms offshore some of their activity becomes stronger. In such a case, it is possible for this effect to offset the positive productivity effect, and result in a rise in unemployment in that sector. In the other sector, offshoring has a much stronger unemployment reducing effect in the absence of intersectoral labor mobility than in the presence of it. Finally, allowing for an endogenous number of varieties provides an additional indirect channel, through which sectoral unemployment goes down due to the entry of new firms brought about by offshoring.

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File URL: http://www.nber.org/papers/w13149.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13149.

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Date of creation: Jun 2007
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Publication status: published as “Offshoring and Unemployment: The Role of Search Frictions and Labor Mobility,” (with Priya Ranjan) Journal of International Economics 81(2), July 2010, 219-229
Handle: RePEc:nbr:nberwo:13149
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