International Trade: Current Government Data Provide Limited Insight into Offshoring of Services
Published: 2004-09-22T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Much attention has focused on the topic of "offshoring" of information technology (IT) and other services to lower-wage locations abroad. "Offshoring" of services generally refers to an organization's purchase from other countries of services that it previously produced or purchased domestically, such as software programming or telephone call centers. GAO was asked to (1) describe the nature of offshoring activities and the factors that encourage offshoring, (2) discuss what U.S. government data show about the extent of this practice by the private sector and federal and state governments, and (3) discuss available data on the potential effects of services offshoring on the U.S. economy.
section_title: What GAO Found
paragraphs: No commonly accepted definition of "offshoring" exists, and the term has been used to include various international trade and foreign investment activities. Services that U.S.-based organizations purchase from abroad are considered imports. They may also be linked to U.S. firms' investments overseas--for example, U.S. firms may invest in overseas affiliates as a replacement for, or as an alternative to, domestic production. In recent years, services offshoring has been facilitated by factors, such as the Internet, infrastructure growth in developing countries, and decreasing data transmission costs. Organizations' decisions to offshore services are influenced by potential benefits such as the availability of cheaper skilled labor and access to foreign markets, and by risks, such as geopolitical issues and infrastructure instability in countries that supply the services. U.S. government data provide some insight into the extent of services offshoring by the private sector, but they do not provide a complete picture of the business transactions that the term offshoring can encompass. Department of Commerce data show that private sector imports of some services are growing. For example, imports of business, professional, and technical services increased by 76.8 percent from $21.2 billion in 1997 to $37.5 billion in 2002. From another perspective, Commerce's data also show that in 2002 U.S. investments in developing countries that supply offshore services were small compared to those in developed countries and that most services produced abroad are sold primarily to non-U.S. markets. Regarding public sector offshoring, the total dollar value of the federal government's offshore services contracts increased from 1999 through 2003, but the trend in the dollar value shows little change relative to all federal services contracts. No comprehensive data or studies show the extent of services offshoring by state governments. Government data provide limited information about the effects of services offshoring on U.S. employment levels and the U.S. economy. The Department of Labor's Mass Layoff Survey data show that layoffs attributable to overseas relocation represent a small fraction of overall total mass layoffs. However, the survey identifies only a portion of total layoffs because the survey does not cover establishments with fewer than 50 employees. Other government data show greater than average job declines since 2001 in occupations and industries commonly associated with offshoring, but other factors, such as the recent recession, may contribute to these declines. Some private researchers predict that offshoring may eliminate 100,000 to 500,000 IT jobs within the next few years, while others note that offshoring can also generate benefits, such as lower prices, productivity improvements, and overall economic growth.

section_title: Letter
paragraphs: Although attention has long focused on offshoring in the manufacturing  sector of the U.S. economy, more recently concerns have been raised about  the nature and extent of offshoring in the services sector and its effects on  the U.S. workforce. Offshoring generally refers to the practice, by either  U.S. companies or government entities, of replacing services produced  domestically with imported services. Advances in information technology  (IT) and communications, coupled with a large pool of educated workers in  some developing countries, allow organizations to move services jobs  overseas as part of a larger trend towards globalization. Organizations  move services jobs, such as those involved in software programming or  telephone call centers, to lower-wage locations, such as India, the  Philippines, and Eastern Europe. Offshoring causes controversy because  some jobs are lost immediately and visibly, while other potential impacts  such as lower costs, job creation in other sectors, and economic growth are  less visible, more diffuse, and typically delayed.
You requested that we examine the available data to provide more  information about the offshoring of information technology and other  services. As agreed with your staffs, we (1) describe offshoring activities  and describe factors that encourage offshoring, (2) discuss what U.S.  government data show about the extent of this practice by the private  sector and federal and state governments, and (3) discuss what the data  show about the effects of offshoring IT and other services on the U.S.  economy.
To do so, we analyzed available U.S. government data and private sector  studies on international trade-in-services and foreign investment. We also  interviewed government officials familiar with the trade-in-services and  employment data that provide the bases for most analyses of offshoring.  We also met with private sector experts who have published analyses of  services offshoring. We assessed the reliability of the federal government  data discussed in this report and found it to be sufficiently reliable for the  purposes of this report. We also provide information from private sector  studies on offshoring and discuss the limitations of these studies. However,  we did not assess the overall reliability of these studies. We conducted our  analysis in accordance with generally accepted government auditing  standards from January to August 2004. A detailed description of our scope  and methodology appears in appendix I. This report is one of a series of  reports that GAO plans to issue on offshoring.
subsections: section_title: Background
paragraphs: Services purchased from foreigners are considered U.S. imports: a U.S.  import occurs when a U.S.-based company pays for a service produced  abroad and supplied to the United States (either to the company or directly  to its customers, as in the case of the call center). Although the service  (e.g., a computer program, a database, or a telephone call) may be supplied  digitally through telecommunication lines, rather than physically crossing  the border like a good (e.g., an automobile import), it still is supplied by a  foreign-based producer and paid for by a U.S.-based importer.
Most U.S. domestic output consists of services. In 2002, services-producing  industries accounted for about 78 percent of the U.S. private sector  economy (when measured in terms of gross domestic product) compared  to 22 percent for goods-producing industries. (See fig. 1.)  Similarly, U.S.  private sector employment is concentrated in service-producing industries  (79 percent) compared to goods-producing industries (21 percent).  However, it is important to note that goods-producing industries may also  employ workers in “services” occupations (e.g., computer programmers or  accountants).
Services are a relatively small share of U.S. imports, compared with their  share of the U.S. economy. Services make up about 16 percent of total U.S.  imports, compared with 84 percent of imports covered by goods. (See fig.  2.)  Services make up a greater share of U.S. exports but still account for  only 30 percent of the total. Services trade may be relatively small relative  to the size of services output in the U.S. economy partly because some  services (e.g., haircuts, housing, and hospitals) are difficult or impossible  to trade internationally. Overall, U.S. imports of services accounted for only  about 3 percent of U.S. consumption of services in 2002.
According to the World Trade Organization, the United States is the world’s  largest importer of commercial services, with 13.3 percent of the world’s  share. (See fig. 3.) The United States is the world’s largest exporter of  commercial services, as well. Overall the United States exports more  services than it imports and therefore maintains a surplus in services trade.
section_title: “Offshoring” of IT and Other Services Includes Several Types of Business Activities and Is Facilitated by Telecommunications Improvements
paragraphs: The term “offshoring” generally refers to an organization replacing services  produced domestically with imported services. However, no commonly  accepted definition for offshoring exists, and the term has been used in  public debate to include several other types of business activities. Services  offshoring has been facilitated by improvements in information technology,  decreasing data transmission costs, and expanded infrastructure in  developing countries. Organizations may choose to move some business  functions, such as accounting and payroll operations, offshore to gain  certain benefits, such as lower labor costs and access to skilled workers.  Nevertheless, organizations also face risks, which influence their decisions  whether or not to offshore certain business functions. Business functions  that are offshored tend to share some common characteristics related to  job content and customer focus. Based on BLS data and other sources,  some analysts have also identified occupations that appear to be vulnerable  to being offshored.
subsections: section_title: Offshoring Covers a Range of Activities
paragraphs: U.S. organizations, such as private firms or governments, may decide to  import certain services from offshore that they had previously obtained  domestically (whether through their own production or from another  domestic firm). This is commonly called offshoring. However, no standard  definition of offshoring exists, and the term has been used broadly to  discuss a range of business activities related to international trade and  foreign investment. In addition, definitions of offshoring frequently define  it as imports or investment that result in the displacement of U.S.  production and employment.
In table 1 we present several types of business and government activities  associated with offshoring. We also indicate the potential data sources for  each type of activity that we discuss later in this report. The first two  activities in the table are widely associated with offshoring. The third,  fourth, and fifth examples show more complex business activity, which  may involve aspects of offshoring. The sixth example involves government  offshoring activities. Definitions of offshoring and related business  activities are discussed in more detail in appendix II.
All the activities listed in table 1 also have the potential to impact a variety  of economic measures. These impacts are typically identified through  economic modeling and not through direct data reporting. This is because  either the impacts are difficult to capture directly or because they are one  of many impacts on broad, aggregate measures of economic activity. These  measures can include, but are not limited to, consumer and producer  prices, productivity, profits, job creation, and economic growth.
section_title: Information Technology Advances and Business Benefits Encourage Offshoring
paragraphs: Offshoring of services has been encouraged by information technology (IT)  improvements and expected business benefits. In particular, recent  developments in the telecommunications industry, such as technology  improvements, infrastructure growth in developing countries, and  decreasing data transmission costs, have facilitated the use of offshoring.  First, according to several studies, improvements in telecommunications  capabilities, such as advances in routing and switching technologies that  enable the distribution of voice and data services, have increased the  reliability and service quality of global voice, data, and Internet  communications. Second, the growth of the global telecommunications  infrastructure has provided developing countries cost-effective  infrastructure options, such as wired landline and satellite communication  services to communicate across national borders. Third, global data traffic  has substantially increased since the early 1990s, while the cost of  transporting data has declined, thereby making the offshoring of services  that rely on the transmission of data more cost effective.
Other IT advances, such as greater standardization of business applications  and network protocols, have increased system interoperability and thus  further facilitated offshore sourcing. Among others, universal computing  standards and protocols, such as the Transmission Control  Protocol/Internet Protocol, have enabled businesses to communicate  worldwide through the use of e-mail and collaborative tools, such as video  conferencing, instant messaging, and shared whiteboard technologies.  Additionally, the worldwide use of the personal computer in conjunction  with the global availability of the Internet have enabled organizations to  digitally share and transmit documents over private networks using  encryption applications for added security. According to a technology  research firm’s forecast, the use of private networks will continue to  increase due to widely available network-based solutions that support  increased access options, security, and new applications.
In addition to technological factors that allow services to be conducted  offshore, an organization may choose this option because it expects to  realize various benefits. According to several business studies, the primary  reason organizations engage in offshore sourcing is to reduce costs.  Specifically, due to competitive pressures and increasing customer demand  for innovative products, businesses are using offshoring as a way to reduce  their internal costs structures, such as sales, general, and administrative  costs. The labor cost differential between the United States and developing  nations can be significant. According to a technology research firm,  organizations that offshore accounting and customer service to China can  potentially save 30 to 50 percent in labor costs compared to keeping those  processes in Tokyo, London, or Chicago. Moreover, the hourly wage rate  for programmers in the U.S. can be up to three times that of programmers  in India. For example, a leading e-business software company reportedly  was able to achieve 40-45 percent lower costs per overseas employee  compared to hiring equivalent senior developers in the United States.
Other expected benefits of offshoring include access to skilled workers and  providers that use disciplined processes and the facilitation of a round-the- clock work schedule. For example, according to the National Association  of Software and Service Companies, India’s chamber of commerce for the  IT services and software industry, approximately 140,000 students  graduated in an IT-related engineering field from degree and diploma  colleges and universities in India during the 2003-2004 academic year.  According to one study, a media and publishing company incorporated  highly skilled overseas senior developers, architects, and project managers  into its Web site development project, which reportedly led to an  accelerated delivery schedule, reduced costs, and increased customer  service. In addition, as of July 14, 2004, of the 74 worldwide organizations  that have been certified at the highest rating in the Capability Maturity  Model Integration model created by the Software Engineering Institute at  Carnegie Mellon University, 48 are headquartered outside the United  States. This is important because our work and other best practices  research have shown that the application of rigorous practices to the  acquisition or development of IT systems or the acquisition of IT services  improves the likelihood of success. Moreover, offshoring can facilitate  operating on a 24-hour, 7-day schedule across numerous time zones,  thereby allowing companies to meet worldwide customer needs. For  example, according to one study, a financial services unit of a Fortune 50  company has operations in overseas countries that provide around-the- clock in-bound and out-bound call centers, accounting services, IT help  desks, document storage, and software implementation.
Although offshoring can be beneficial, organizations also face risks that are  relevant to decisions about whether or not to offshore services. Commonly  cited offshore sourcing risks include unrealized cost savings due to  unforeseen expenses, geopolitical concerns, cultural differences, and  infrastructure instability. For example, organizations that engage in  offshoring can incur additional costs in conducting overseas business  operations in order to, for instance, establish high-speed  telecommunications links, acquire new software licenses, and pay for  travel expenses. According to one study, expectations in cost reduction  are not always met because outsourcing contracts can be developed with a  poor understanding of current costs and little insight into how costs will  change as the environment changes. In addition, it is important to  consider the destination country’s stability, legal system, and contract  enforcement in making offshoring decisions. For example, one factor in  assessing the legal system is whether adequate intellectual property  protections, such as laws and regulations, are in place to ensure that  sensitive company data are protected from unauthorized disclosure or use.  Cultural differences can also pose a potential risk because business  attitudes, including timeliness and punctuality, country accents, and  holiday schedules, may be different than those in the United States. For  example, overseas call center and customer service employees have  reportedly sometimes found it difficult to establish a rapport with  consumers due to a lack of understanding of language accents. A leading  financial services company reportedly requires its application managers to  go through a cultural exchange program designed to foster a better  understanding of domestic and overseas business norms. Lastly, despite  public utility infrastructure improvements, some countries’ businesses still  face infrastructure risks, such as the reliance on energy, telephone, and  networks that may be susceptible to intermittent disruptions and outages.  Our prior work indicates the importance of organizations considering both  the benefits and risks associated with sourcing decisions before adopting  any particular approach, such as offshoring, into their business strategies  and plans.
section_title: Services Offshoring Affects Various Types of Business Functions and Occupations
paragraphs: Business functions and service occupations associated with offshoring,  combined with other distinguishing process features, provide additional  detail on offshoring of services. Business functions associated with  offshoring tend to be those that are digitized, capable of being performed at  a distance, and whose product delivery can be managed using relatively  new forms of advanced telecommunications. Examples of these business  functions include software programming and design, call center  operations, accounting and payroll operations, medical records  transcription, paralegal services, and software research and testing.  According to some studies, the criteria for successful offshoring of services  include business functions that involve 1) a high information content that  can be standardized and digitized, 2) job processes that can be separated  and documented step-by-step, and 3) no face-to-face customer service  requirements. Although occupations associated with services offshoring  were predominantly in the IT sector, IT-enabled jobs are also vulnerable to  offshoring and span several occupational classifications. These categories  include business and financial operations, office and administrative  support, medical transcriptionists, paralegals and legal assistants, and  architecture and engineering. In comparing services offshoring to the  parallel offshoring dynamic in the manufacturing sector, one recent study  states that services offshoring is structurally simpler in terms of resources  and space and equipment requirements. The authors conclude that  offshoring of services may therefore proceed more quickly.
section_title: Federal Statistics Provide Limited Insight into Offshoring Trends
paragraphs: U.S. government data provide some insight into the trends in offshoring of  services by the private sector, but they do not provide a complete picture of  the business transactions that the term offshoring can encompass. In  particular, they do not identify U.S. imports of services previously  produced by U.S. employees. Similarly, federal procurement data on  purchases of IT and other services provide some insights, but it can be  difficult to determine where such work is performed. The available data  indicate that the trend in offshoring show little change over the past 5  years.
subsections: section_title: Services Trade Data Cover Some Transactions Associated with Offshoring
paragraphs: U.S. government data provide some insight into the trends in offshore  sourcing of services by the private sector, but they do not provide a  complete picture of offshoring of the business transactions that the term  offshoring can encompass. The Department of Commerce’s Bureau of  Economic Analysis (BEA) collects data on trade (imports and exports) in  private services between the U.S. and foreign entities. BEA includes in  “Total Private Services” trade five subcategories:  travel, passenger fares,  other transportation (e.g., freight and shipping), royalties and license fees,  and “Other Private Services.” The category “Other Private Services”  includes many of the services that are generally associated with offshoring.  Imports in this category have grown from $23.9 billion in 1992 to $69.4  billion in 2002. These imports represent about a third of 2002 services  imports.
The category “Other Private Services” is further divided into six  subcategories:  education; financial services; insurance services;  telecommunications; business, professional and technical services; and  other services. Services captured in the subcategory of “Business,  Professional, and Technical” (BPT) services are those that are generally  associated with offshoring, such as accounting and bookkeeping and  computer programming services. BEA publishes detailed data annually for  more than 20 types of BPT services. In 2002, total BPT services accounted  for $37.5 billion, or 54 percent of “Other Private Services.”  (See fig. 4.)
The Department of Commerce’s trade data show that imports of services  associated with offshoring are growing. For example, U.S. imports of BPT  services grew from $21.2 billion in 1997 to about $37.5 billion in 2002, an  increase of 76.9 percent. U.S. exports of BPT services increased 48.6  percent during this same period. It is important to note that these import  data show that U.S. entities have been purchasing these services offshore,  but they do not indicate whether these entities had previously been  purchasing these services from domestic U.S. sources.
In addition, BEA data differentiate between affiliated and unaffiliated  trade, where affiliated trade occurs between foreign affiliates and their  parent companies. In 2002, affiliated trade accounted for $26.8 billion, or 71  percent of all BPT services imports. Data for affiliated trade in BPT  services are not broken down by country or by the particular subcategories  of BPT services discussed below. Data for unaffiliated trade do provide this  detail and show that U.S. imports of BPT unaffiliated services grew from  $6.4 billion in 1997 to $10.7 billion in 2002, an increase of 67.2 percent.
This partial list of subcategories under BPT services include the following  offshored services:  accounting, auditing, and bookkeeping;   architectural, engineering, and other technical;   computer and data processing;   database and other information;   management, consulting, and public relations; and   research, development, and testing.
Certain unaffiliated BPT services imports—most notably accounting and  auditing services; computer and data processing services; and research,  development and testing services—have grown rapidly in recent years. For  example, imports of computer and data processing services have grown  steadily from $636 million in 1997 to $1.5 billion in 2000 and declining to  $1.1 billion in 2002 for an overall increase of 66.2 percent between 1997 and  2002. The increase in 2000 may be due in part to the Year 2000 date change  crisis. U.S. firms, in response to a tight supply of computer programmers in  the late 1990s, turned to companies principally located in India to make the  code fixes needed to avert problems with computer systems when the year  2000 arrived. (See fig. 5.)
Although much attention is currently focused on developing countries that  are increasingly exporting services to the United States, Canada, and the  United Kingdom, nevertheless these three countries remain the leading  exporters of services, both for Total Private Services and the subcategory  unaffiliated BPT services. In 2002, Canada and the United Kingdom  accounted for 43.6 percent of all imports of unaffiliated BPT services to the  United States, and they were also major destinations for U.S. exports of  these services. (See fig. 6.)
As figure 6 also shows, India is ranked eighth among countries from which  the United States imported unaffiliated BPT services in 2002. Some BPT  services’ subcategories (e.g., data and computer processing services) are  available by country. In some BPT services’ subcategories, imports from  India have increased. In particular, imports of India’s computer and data  processing services rose from $8.0 million in 1997 to $133.0 million in 2000,  but then declined to $76.0 million in 2002, for an overall increase of 850  percent from 1997 to 2002. (See fig. 7.)
Besides importing services provided offshore, the United States is also a  supplier of services to the rest of the world. These U.S. services exports  include some services that can be characterized as “inshoring.” While we  did not examine U.S. services exports in detail, some of these exports  would contribute to domestic U.S. employment. In addition, the United  States maintains a trade surplus in private services and most subcategories  of services trade. BEA estimates that in 2002, the United States exported  $279.5 billion and imported $205.2 billion in Total Private Services, for a  surplus of $74.3 billion (down from a high of $87.9 billion in 1997). The  average annual growth rate for U.S. Total Private Services from 1992 to  2002 was 5.6 percent for exports and 7.3 percent for imports. (See fig. 8.)
See appendix III for a table on U.S. imports and exports by country of trade  in business, professional, and technical services and for further details on  the limitations of that data for analysis of offshoring.
section_title: U.S. Foreign Investment Captures Other Aspects of Offshoring
paragraphs: U.S. government data on direct investment abroad by U.S. multinational  companies producing services abroad provide information on aspects of  offshoring, such as supplier countries and the distribution of labor between  parent companies and affiliates. U.S. direct investment in developing  countries that are frequently cited as suppliers of offshore services (e.g.,  India, the Philippines, and Malaysia) is relatively small—about 4 percent or  less of total U.S. direct investments in each case. U.S. direct investment in  these countries tends to be concentrated in the manufacturing sector and,  to a more limited extent, in certain services industries associated with  offshoring, such as the professional, scientific, and technical industry, and  the information industry. However, the majority of U.S. direct investment  is concentrated in other developed countries. For example, 60 percent of  U.S. direct investment abroad in 2002 was accounted for by the European  Union, Canada, and Japan. Table 2 lists selected developed and developing  countries and their share of total U.S. direct investment abroad in 2002 (the  most recent year available), as well as these countries’ share of investment  in different industries. See appendix IV for a table on U.S. foreign direct  investment and further details of the limitations of that data for analysis of  offshoring.
Data on U.S. multinational companies’ operations also provide information  on the distribution of labor and assets between the U.S.-based parent  companies and their foreign-based affiliates. These data show that the  share of these companies’ employment in the United States has declined  somewhat over the past decade, although about 71 percent of their  employment is still based in the United States and only 10 percent of their  overseas employment is located in developing countries. (See table 3.)  However, according to BEA, the labor force in low-wage countries is  growing at a slightly faster rate (7 percent per year) than the labor force in  high-wage countries (3 percent) from 1991 to 2001. Similarly, the great  majority of U.S. companies’ assets are located in the United States (70  percent) or in other developed countries (26 percent), rather than in  developing countries (4 percent).
Data on operations of majority-owned foreign affiliates of U.S.  multinational companies indicate that they are primarily investing in  overseas markets to produce services for those markets, rather than  supplying services back to the United States. As figure 9 shows, except for  a few countries (e.g., Israel, Bermuda, and Barbados) less than 15 percent  of the sales of U.S. companies’ majority owned-foreign affiliates’ services  are exported to the United States. Rather, most of the services sales take  place in the foreign market in which the affiliate operates or in another  foreign market. According to BEA, the available data on U.S. multinational  companies’ operations do not show whether multinational companies’ new  investments are replacing their U.S.-based operations or substituting for  exports to foreign markets that would have been supplied by their U.S.- based operations. However, the data currently available do not show any  significant shifts or sizable investment in developing countries that may be  used as a platform for offshoring. As more recent data become available,  they will provide additional insight into the importance of these trends.
section_title: Recent Trends in Federal Government Offshoring Show Mixed Results, While Comprehensive State Data Do Not Exist
paragraphs: The total dollar value of the federal government’s services contracts with  offshore performance or manufacture locations has increased over the past  5 years; however, relative to all federal contracts for services, the 5-year  trend in offshoring is relatively stable. In the federal government, the  General Services Administration’s Federal Procurement Data System  (FPDS) is the central database of information on procurement actions.  FPDS contains detailed information on contracting actions for amounts  over $25,000, including the amount obligated, the types of goods and  services purchased, and information on principal place of performance  and country of manufacture. However, FPDS has limitations and may  understate the total amount of IT and other services that are offshored by  the federal government. For example, some agencies are not required to  report their procurement activities to FPDS, and the system excludes  detailed information on contract actions of $25,000 or less and purchase  card data. Moreover, as we have previously reported, because FPDS relies  on federal agencies for procurement information, these data are only as  reliable, accurate, and complete as the information provided by the  agencies, and not all agency data are reliable. In particular, the principal  place of performance for the service can be difficult to determine,  especially when work is performed at multiple contractor and/or  subcontractor locations. According to a GSA official responsible for this  system, agencies may report company billing or home office addresses if  the place of performance cannot be determined.
Although a reliable total amount of the federal government’s offshoring  activities is not available from FPDS, the FPDS data over the last 5 years is  sufficiently complete and consistent to be used to illustrate trends. As  shown in figure 10, from fiscal years 1999 through 2003, the total dollar  value of all services contracting actions increased about 40 percent.  Moreover, during the same period, the total dollar value of all services  contracts with performance or manufacture locations in foreign countries  increased by about 64 percent, from $6.4 billion in fiscal year 1999 to $10.6  billion in fiscal year 2003. However, the percentage of total dollars  associated with foreign performance or manufacture locations relative to  the total dollar value of all services contracts performed in all locations  (U.S. and foreign) remained relatively stable, with a range of 5 percent to 7  percent over the 5-year period. Similarly, in the case of IT services alone,  the percentage of total dollars associated with foreign performance or  manufacture locations was relatively stable throughout the period, ranging  from 1 to 3 percent of the total value of IT services contracts. In addition,  there were large dollar value fluctuations (both increases and decreases)  from year to year.
With respect to state governments’ procurement of services from offshore  sources, comprehensive data depicting the extent to which offshoring is  used do not exist. However, there are anecdotal accounts of the use of  offshoring by state governments. For example, in response to a legislative  request, one state asked all its cabinet agencies, statewide elected officials,  and institutions of higher education whether they had knowledge of any  contracts awarded by their respective organizations in which all or part of  the work was being performed overseas. Responses showed that 29 of 42  organizations reported knowledge of some contract awards that involved  overseas work, such as contracts for software development performed by  an Indian subsidiary of a U.S. firm. Nevertheless, organizations  representing state executive and legislative officials, chief information  officers, and procurement officials told us that they had no comprehensive  data, studies, or research that indicated how much state governments were  using offshore sourcing in procuring IT and other services.
section_title: Federal Statistics and Private Sector Research Provide Limited Information about the Effects of Offshoring on the U.S. Workforce and the Broader Economy
paragraphs: Offshoring has direct, short-term effects on U.S. employment that available  data can partially capture. One federal employment data series identifies  some job layoffs that are attributable to offshoring. In contrast, other  federal employment data series provide contextual information about  changes in employment levels for various industries and occupations,  including those that have been associated with offshoring. Private sector  studies have sought to analyze not only the employment effects of  offshoring but also the indirect, longer-term effects on the broader  economy.
subsections: section_title: Employment Data Provide Limited Information about Offshoring’s Impact on the Workforce
paragraphs: The Department of Labor collects a range of labor market data that provide  information on trends in employment, but generally its data series were not  designed to identify causes for employment changes. As a result, these data  do not lend themselves to providing information on the employment effects  of offshoring. However, the Mass Layoff Survey provides some limited  information on offshoring, and several other labor data series show general  employment trends that provide a context for understanding offshoring’s  effects. In addition to offshoring, other factors affecting employment  trends in the last few years include the economic recession and the  collapse of the dot.com bubble. The Labor data series include the  following:  Mass Layoff Survey (MLS). The MLS is a national survey that collects  information on reasons for long-term job losses with reports published  by the Bureau of Labor Statistics (BLS) on a quarterly basis. The  survey is a federal-state program which tracks major job cutbacks based  on state unemployment insurance databases. Establishments with over  50 employees that have at least 50 initial unemployment insurance  claims during a 5-week period are contacted by the state agency. If the  separations are for at least 31 days, data are collected from the  employers on the total number of separations as well as the reasons for  separation. The employers are asked to provide the reason for the  layoff, and the state official then picks from a list of more than 25  possible reasons for the layoff action. Prior to 2004, one of these reasons  was “overseas relocation” allowing the MLS to capture limited data on  offshoring activity. In January 2004, to enhance its collection of  offshoring-related data, the BLS began to ask specific questions about  job losses involving domestic and overseas work relocation. While this  change will result in better information on offshoring in the future, the  2004 data on overseas relocation are not comparable to pre-2004 data.
Current Employment Statistics (CES). The CES survey is an employer- based survey of payroll records that provides monthly data on the  number of payroll jobs in nonfarm industries. CES data, which cover  more than 300,000 businesses on a monthly basis and provide  employment statistics by industry, are often used as indicators of  current economic trends. CES provides information on employment  trends in industries, including those that have been associated with  offshoring.
Occupational Employment Statistics (OES). The OES program provides  information on employment and wages by occupation. The OES survey  gathers data from 400,000 establishments each year on employment and  wages. The survey covers 400 industries, 23 major occupational  groups, and more than 770 detailed occupations. Until 2001, the OES  survey sampled about 400,000 establishments during the fourth quarter  of each year. In November 2002, the OES survey began sampling about  200,000 establishments in November and May of each year. OES  provides information on employment trends in occupations, including  those that have been associated with offshoring.
Employment Projections. BLS uses projections of the labor force and  economic growth, as well as expert judgments about future trends in  different occupations, to develop an occupational projection model.
subsections: section_title: The Mass Layoff Survey Provides Limited Information on Services Offshoring
paragraphs: Because it is based on interviews with employers, MLS provides a vehicle  for collecting direct, timely data on offshoring. Due to the MLS’s coverage  limitations, however, its data should be viewed as an imperfect indicator of  offshoring-caused job losses. MLS identifies only a portion of total layoffs  because it does not include small establishments or layoffs involving fewer  than 50 employees. For example, in 2003, the survey covered 4.6 percent of  all U.S. establishments and 56.7 percent of all U.S. workers. In addition,  some employers may be unwilling to provide information when  interviewed about reasons for layoffs. For the first quarter of 2004, 7.2  percent of firms with mass layoff events refused to participate in the  survey. Pre-2004 MLS data had additional limitations regarding reasons for  layoffs. According to BLS officials, in surveys prior to 2004, offshoring may  have been involved in some instances when reasons such as “financial  difficulty,” “business ownership change,” or “reorganization within the  company” were provided by MLS respondents.
Even with these limitations, MLS data provide some information that is  useful for understanding services offshoring. For example, the data show  that “overseas relocation” was given as a reason for mass-layoff job loss for  a small fraction of workers laid off during the 1996-2003 period—of 1.5  million layoffs reported in the 2003 MLS, 13,000 (0.9 percent) were  reportedly due to overseas relocation. The data also indicate that almost all  layoffs (about 96 percent) occurred in the manufacturing sector. The data  also indicate that layoffs associated with “overseas relocation” reported by  MLS peaked in 2002 (after rising sharply in 2001) but declined in 2003.  Preliminary data for the first quarter of 2004 show that of a total of 239,361  separations, 4,633 (or 1.9 percent) were attributable to offshoring.  Domestic work relocation accounted for 9,985 separations (4.2 percent).
section_title: Current Employment Statistics Show Overall Trends in Offshoring-Associated Industries
paragraphs: Although general employment data such as CES are not designed to isolate  job losses attributable to any specific causes, they can provide some  contextual information relevant to understanding job losses. CES data  indicate that overall employment, including industries associated with  offshoring, began to decline after peaking in 2001. Figure 11 shows  percentage changes in employment between March 2001 (the beginning of  the recession) and June 2004 for selected industries associated with  offshoring. Job declines after March 2001 varied widely among industries  associated with offshoring and generally were more severe than declines in  the overall private-sector economy. For example, the average annual rate of  decline over this period was 5.7 percent in computer systems design and  related services industries and 7.9 percent for accounting and  bookkeeping, while the decline in the business support services was about  1.2 percent. During this period, total nonfarm employment increased by 0.2  percent.
CES data show recent signs of improvement in employment. After falling in  each of the first three quarters of 2003, total nonfarm employment edged up  in the fourth quarter. (See table 4.) From the last quarter of 2003 until the  second quarter of 2004, the overall economy gained about 1.1 million jobs  (a 0.9 percent increase). By comparison, selected industries associated  with offshoring saw deeper job losses and slower, more volatile recovery.  Job loss for these industries began to gradually ease in the second quarter  of 2003. Overall, employment in the selected industries has increased by  about 21,000 jobs between the second quarter of 2003 and the first quarter  of 2004 (a 0.3 percent increase). In a few of these industries, job losses  appear to have reversed. The employment level in the architectural and  engineering services industry began to rise in the second half of 2003. Other  industries, such as legal services, computer systems design and related  services, business support services, and Internet service providers, search  engines, and data processing, experienced job gains in the second quarter  of 2004.
The changes in the national employment level over time reflect the net  result of jobs added and jobs eliminated—for all causes. Services  offshoring has been frequently associated with the jobless recovery of  2003, but studies suggest that much of the job loss is due to the 2001  recession, increases in productivity, and corrections in the wake of the  dot.com bubble. However, general employment data do not allow isolating  job losses attributable to offshoring. It is also important to note that even if  there were no net job losses during a particular time period—meaning that  the number of job losses did not exceed the number of job gains—it is still  possible that some jobs could have been lost as a result of offshoring.
Most industries associated with services offshoring that saw sharp declines  after 2001 had also experienced unusually strong job growth during the  previous decade. As figure 12 shows, during this expansion, growth in  employment was especially strong in IT-related sectors. For example,  employment in the computer systems and design industry grew at an  average annual rate of 11.1 percent, compared with 1.7 percent in the total  nonfarm employment. This supports the view that at least some of recent  job losses are due to the collapse of the dot.com. bubble in IT-related  sectors.
Although some analysts have raised concerns that services offshoring has  been affecting higher-skill, higher-paying jobs, the occupational earnings  data show a mixed picture. As shown in table 5, OES data indicate that  average wages of most occupations associated with offshoring are above  the U.S. average wage. However, the average wages for the two largest  occupations in terms of numbers of workers (office and administrative  support and sales and related occupations) are below the U.S. average  wage.
Like CES, OES employment data are not designed to isolate employment  changes attributable to specific causes. The data, however, offer recent  employment trends by occupation relevant to understanding offshoring.  The OES data indicate that some occupations associated with offshoring  saw declines in employment, while others saw increases in employment  between 2001 (the year of recession) and 2002—the latest year for which  comparable occupational data are available. Table 6 shows percentage  changes in employment in 2001 and 2002 for selected occupations  associated with offshoring. Employment in management, computer and  mathematical science, and architecture and engineering declined by 1.7  percent, 1.9 percent, and 3.1 percent, respectively. Employment in business  and financial operations, legal, and life, physical, and social science  categories increased by 2.0 percent, 2.8 percent, and 1.0 percent,  respectively. On average, employment in all occupations declined by 0.4  percent.
BLS’s employment projections for 2002 through 2012 provide some insight  into the future trend of employment and, to some extent, of offshoring.  Total employment is projected to increase by 21 million jobs to 165 million  jobs in 2012. The projections, however, indicate a slower overall growth  trajectory than the previous projections (for 2010), in part reflecting the  impact of the 2001 recession. While total employment is projected to  increase by 14.8 percent to 165.3 million jobs over the 2002 through 2012  period, this figure represents 2.4 million fewer jobs than the level projected  for the 2000 through 2010 period.
Projections indicate that IT-related occupations are expected to grow  faster than most occupations by 2012. Seven of the 30 fastest-growing  occupations are computer related, all requiring a bachelor’s degree or  higher. The rate of growth for these occupations for the 2002 through 2012  projections is significantly lower than the rate projected for the period 2000  through 2010. Thirteen of the occupations with the largest projected  declines are office and administrative support, none requiring a bachelor’s  degree. Generally, the rate of decline for these occupations increased from  the 2010 to 2012 projections.
According to BLS officials, BLS did not systematically take into account  offshoring in its 2012 employment projections, prepared in 2003, but some  analysts took offshoring into account during the survey when they were  considering projected changes in occupational staffing patterns. Moreover,  some of the impact of recent offshoring was likely reflected in the baseline  employment level used in the projections. As a result, the 2012  projections, which generally indicate a lower level of employment, a slower  rate of growth for many occupations, and a faster rate of decline for some  occupations than do the 2010 projections, might partially reflect the impact  of offshoring. The difference between the two sets of projections, however,  also reflects the impact of other factors, such as the collapse of the dot.com  bubble, recession, and increases in productivity.
BLS is in the process of implementing changes to better capture the impact  of offshoring trends on employment patterns for its 2014 projections. As  part of this effort, BLS is developing a list of occupations that face high risk  of offshoring; the list is intended to alert BLS analysts to systematically  seek out better information on offshoring in determining employment  trends in those occupations. BLS does not expect to produce quantitative  assessments of offshoring.
section_title: Private Sector Research Studies Contribute to Discussion of Offshoring Data
paragraphs: Some private sector research studies have sought to provide projections of  the likely number of jobs that might be affected by offshoring in future  years. Other researchers have provided insight on, and to some extent  quantified, the broader effects of offshoring on other economic factors  such as productivity, prices, and economic growth.
subsections: section_title: Private Sector Studies Provide Forecasts of Potential Employment Effects
paragraphs: Private researchers and consultants have attempted to forecast the effects  of offshoring on employment in certain occupations potentially affected by  offshoring. The studies vary by the range of industries or occupations  examined, the economic variables measured, and the time frames of their  analyses. However, these studies face challenges in estimating the effects  of offshoring because these studies often base their projections on federal  statistics, and, as previously described, federal statistics currently provide  limited information on the current level and effects of offshoring.
A number of these studies forecast the effect of offshoring on U.S.  employment in the industries or occupations that may be affected by  offshoring. For example, some studies project that between 100,000 and  500,000 information technology jobs will be displaced within the next few  years, and potentially several million jobs across all occupations will shift  outside the United States over the next decade. A widely cited study by  Forrester Research estimates that about 3.3 million jobs across all  occupations will be shifted outside the United States by 2015. Of the 3.3  million, Forrester estimates that about 600,000 will move between 2000 and  2005. The study looks across services occupations from the OES series  and subjectively weights the impact of offshoring on current employment  in the occupation over time. Table 7 presents a summary of several studies  that project the effect of offshoring on U.S. employment.
Many of these studies of job losses do not take into account other  economic effects of offshoring that may offset the job losses, or they focus  on only one industry, such as financial services. For example, Forrester  does not try to estimate any other effects from offshoring, such as potential  expansion of employment in other sectors. In addition, some studies base  their estimates of future employment effects due to offshoring on the  employment level at a given point in time, rather than taking into account  how the size of the labor market or a particular industry may change over  time due to other factors. Also, several of the studies rely on discussions  and interviews with industry representatives, rather than statistically valid  surveys.
Although the importance of these projected job losses to particular firms  and industries may be considerable, overall they are relatively small in  terms of the U.S. economy. For example, BLS’s Business Employment  Dynamics (BED) series shows that the U.S. economy creates and destroys  millions of jobs each year. In 2002, for example, gross quarterly job gains  and job losses averaged 7.9 million and 8 million, respectively. Even during  the economic expansion period in the late 1990s, job losses ranged  between 7.4 million and 8.4 million per quarter, although job gains were  even larger.
Some studies have attempted to further identify and, to some extent,  quantify the impacts of offshoring beyond the potential number of jobs lost  in particular occupations. For example, an Institute for International  Economics study argues that data on productivity are likely to be  positively affected in industries that are now able to afford IT services that  are relatively less expensive because of offshoring. The study compares  services offshoring to the increased use of information technology  hardware and the resulting productivity improvements by a range of  industries during the 1990s due to falling prices from cheaper imports.  Similarly, a study by the economic consulting firm Global Insights uses a  macro-economic model to produce data estimates on productivity benefits,  as well as other potential effects on the economy due to offshoring.  Assuming that offshoring leads to lower prices for information technology  services, the study predicts that by 2008 offshoring will lead to lower  inflationary pressures and, therefore, to lower interest rates and borrowing  costs and ultimately a higher gross domestic product of more than $100  billion (an increase of more than 0.1 percent over estimated growth  without offshoring).
Like other federal statistics discussed above, data on productivity, prices,  and growth would capture these effects, but it may be difficult to  differentiate the effects of offshoring from other economic phenomena  occurring simultaneously. In addition, the magnitude of these effects may  be limited. As discussed in the background section, annual U.S. imports of  services only account for about 3 percent of total U.S. consumption of  services, and offshored services comprise only a subset of total services  imports.
Other researchers argue that the effects of offshoring may show up in data  on the distribution of earnings among workers. For example, a study by the  Brookings Institution argues that offshoring may impact the  compensation of different types of workers over the longer term, rather  than on the overall level of employment in the United States, as well as  affecting the share of returns that go to profits rather than workers.  Similarly, Dani Rodrik of Harvard University has argued that in a global  economy, international trade generally increases the size of the labor pool  companies can draw upon to produce their products. Although this  increased competition among laborers may not always result in direct job  losses, it can place downward pressure on wages as businesses use the  threat of relocation to affect the bargaining position of workers. Therefore,  workers in occupations that face greater labor market competition from  abroad may experience stagnant or declining wages and other  compensation, relative to other workers. These studies suggest that data  on these types of distributional effects are important to examine, since the  direct impact of offshoring on labor and other economic variables may be  hard to capture or distinguish from other factors that affect the overall  economy.
section_title: Observations
paragraphs: Recent growth in offshoring has created an extensive debate about the  extent of this activity, as well as the advantages and disadvantages for U.S.  workers, U.S.-based firms, and for the U.S. economy as a whole. The  reasons for the rapid growth are relatively well understood and have to do  with information technology and the adoption of offshoring as a business  strategy. On the other hand, less is known about the specific extent of  offshoring to date. Federal statistics provide some clues as to the extent of  this activity and show that relative to imports of other services, offshoring  is a small but growing trend in the U.S. economy. Private sector researchers  have provided additional information in the form of forecasts as a result of  the high level of interest in this activity.
However, a more complete understanding of the extent of this  phenomenon will require further efforts. Discussion of this issue is similar  in many ways to prior discussions of other significant changes that  inevitably occur in a dynamic economy. In these cases, federal statisticians  and other researchers attempt to use and modify existing series and  develop new measures to provide insight into the phenomena. As more  recent data are collected and additional studies are completed, some  questions about the extent of the offshoring phenomenon will be  addressed.
Finally, the policy consequences of this change are an important  component of this debate. Policymakers, analysts, and others inside and  outside the government combine those statistics with theory and models of  the economy to define the indirect and longer-term implications of the  particular changes that are of policy interest. To some extent, the policy  decisions are dependent upon the results of the ongoing research on the  extent of the activity and a better understanding of the indirect effects of  this activity on the U.S. workforce and the economy. This research will also  help address questions as to the potential policy measures that might have  some effect on this activity and that might enhance the advantages or  reduce the disadvantages. This study, which focuses on the data that are  available on the phenomenon of offshoring, is just one component in this  evolving discussion.
section_title: Agency Comments and Our Evaluation
paragraphs: We provided a draft of this report to the Departments of Commerce and  Labor, the General Services Administration, and the Office of Management  and Budget. Representatives of Labor, the General Services Administration,  and the Office of Management and Budget indicated that they did not have  comments. We received written comments from Commerce, which  generally agreed with our observations. (See app. V.) Commerce and Labor  provided technical comments, which we incorporated in the report as  appropriate.
In her response to our draft report, the Under Secretary for Economics  Affairs at the Department of Commerce stated that Commerce’s statistical  agencies are committed to refining their understanding of the issues  surrounding offshoring. She noted that “disentangling the causes and  effects of changes in production, employment, and incomes involves not  simply added data collection but  complex analysis….” She  characterized this report as a useful reference and suggested that we add a  discussion of “inshoring.” We clarified this point by adding the specific  characterization of “inshoring” to our discussion in the report of U.S. net  exports of services abroad.
As agreed with your offices, we are sending copies of this report to  interested congressional committees, the Departments of Commerce and  Labor, the General Services Administration, and the Office of Management  and Budget. Copies will be made available to others on request. In addition,  the report will be available at no charge on the GAO Web site at  http://www.gao.gov.
If you or your staff have any questions about this report, please contact Mr.  Yager on (202) 512-4128. Other GAO contacts and staff acknowledgments  are listed in appendix VI.
section_title: Scope and Methodology
paragraphs: We were asked to (1) describe the nature of the offshoring of IT and other  services, (2) discuss what the data show about the extent of this practice,  and (3) discuss what available data show about the effects of services  offshoring on the U.S. economy, including labor and business.
To obtain information about the nature of offshoring sourcing of services,  we reviewed available research studies, attended several conferences on  the subject, interviewed high-level government representatives at the  Departments of Commerce, Labor, and State; the Office of the U.S. Trade  Representative (USTR); the General Services Administration (GSA) and the  Office of Management and Budget (OMB). We interviewed representatives  at several private sector associations representing business and labor  interests. We also met with experts who have published on the offshoring  phenomenon, and we interviewed representatives of several research  organizations that provide industry-wide studies and data. To identify  technical factors that encourage offshoring of information technology (IT)  and other services and potential business benefits and risks associated  with this offshoring technique, we performed a literature search and  obtained information from private research firms, such as the Brookings  Institution, Gartner, Inc., Meta Group, Inc., McKinsey and Company,  Forrester Research, Inc., Yankee Group, and Aberdeen Group. In general,  these sources provided consistent information regarding technical  advances and potential business benefits and risks associated with  offshoring. We determined that the data were sufficiently reliable for the  descriptive purposes of the report. We also interviewed organizations  representing IT services businesses and workers, including the Information  Technology Association of America; India’s IT services and software  chamber of commerce, the National Association of Software and Service  Companies; the Institute of Electrical and Electronics Engineers, Inc.;  American Federation of Labor-Congress of Industrial Organizations; and  the Washington Alliance of Technology Workers/Communications Workers  of America.
To obtain information about the extent of services offshoring, we examined  U.S. government data on international trade and foreign investment from  the Bureau of Economic Analysis (BEA). We reviewed technical notes in  BEA publications and related documentation to assess limitations and the  reliability of various data series and discussed these topics with officials at  BEA. We also reviewed available research studies, attended a conference  on these data, interviewed persons in the private sector familiar with these  data, and surveyed the available literature on the subject. We determined  that the data were sufficiently reliable for the purposes of this report.
To identify trends in offshore sourcing of IT and other services contract  work by the federal government over the past 5 years, we obtained data  from the General Services Administration’s Federal Procurement Data  System (FPDS) on the federal government’s procurement of IT and other  services for fiscal year 1999 through fiscal year 2003. To assess the  reliability of the FPDS data fields required for this engagement, we  performed electronic tests for obvious errors in completeness and  accuracy (e.g., we tested for completeness by checking for missing data in  key fields dealing with products and services, place of performance, and  country of manufacture and found one percent or less missing in all cases).  We also discussed the reliability of FPDS data with GSA officials. We  determined that the relevant fields were sufficiently reliable for the  comparative purposes of this report. Using FPDS data, we calculated for  each fiscal year in the 5-year period (1) the total dollar value of IT and other  services contracting actions in which an agency reported a foreign country  as the principal place of performance or manufacture and (2) the  percentage of total dollars associated with foreign performance or  manufacture locations relative to the total dollar value of all services  contracts performed in all locations (U.S. and foreign countries). All FPDS  data cited in the report were adjusted for inflation and represent constant  fiscal year 2003 dollars.
To identify trends in offshore sourcing of IT and other services by state  governments, we contacted the following organizations to request data on  states’ use of offshore sources:  Gartner, Inc.
National Association of State Chief Information Officers  National Conference of State Legislatures  National Association of State Procurement Officers  National Governors Association  National Center for Policy Analysis  Washington Alliance of Technology Workers/Communications Workers   American Federation of Labor-Congress of Industrial Organizations Although none of these organizations could provide or were aware of any  comprehensive data, we obtained anecdotal accounts and some limited  data on contract awards by specific states in which all or part of the work  was being performed in foreign countries. We did not independently verify  this information.
To determine the effects of services offshoring on the U.S. economy, we  examined available federal data as well as private sector studies on  offshoring. To determine the effects on the U.S. workforce, we analyzed  available U.S. government employment data from the Bureau of Labor  Statistics (BLS), including some unpublished data. We cross-checked  various employment data and reviewed technical notes in BLS publications  to assess data limitations and the reliability of various data series. We  compared changes in employment from March through the end of 2003  using the comprehensive Quarterly Census of Employment and Wages  (QCEW) and the more timely sample-based Current Employment Statistics  (CES) programs. These comparisons showed some divergence in  magnitude and direction of change for detailed services industries  associated with offshoring. Because the latest QCEW data are available for  December 2003, we were unable to determine the extent to which the  divergence might affect the March 2001 to June 2004 comparisons  discussed in this report. (CES data for March 2003 to March 2004 will be  revised to incorporate QCEW data in February 2005.) We also discussed the  limitations and reliability of these data with officials at BLS and state  employment agencies responsible for collecting them. We determined that  these data were sufficiently reliable for the purposes of this report. We also  reviewed available research studies, attended several conferences on the  subject, and interviewed representatives of private sector associations  representing business and labor interests. We also met with experts,  interviewed representatives of research organizations that produced  industrywide studies and data, and surveyed the available literature on the  subject. With regard to private sector studies on the effects of offshoring,  we are reporting these studies and their results primarily for descriptive  purposes since limited information about offshoring is available. Although  we discuss some of the methodological limitations of these studies, we did  not assess the studies’ overall validity, accuracy, or reliability.
We conducted our review from January to August 2004 in accordance with  generally accepted government auditing standards.
section_title: Definitions of Offshoring
paragraphs: No commonly accepted definition of offshoring currently exists, and the  term has been used in the literature on the subject to include a wide range  of business activities. Generally, offshoring is used to describe a business’s  (or a government’s) decision to replace domestically supplied service  functions with imported services produced offshore. This definition  focuses on a business’s sourcing decision—should it produce the services  internally, source them domestically, or source them from offshore? The  imported services can include a wide range of functions, such as computer  programming, payroll and accounting, and customer call centers. When a  business replaces services it had produced internally (or had sourced from  a domestic supplier) with imported services, those services and the  domestic jobs associated with them are said to have been “offshored.”
Offshoring, though, has also (though less frequently) been used to describe  the movement of domestic production (and the related jobs) offshore. In  this case, the definition focuses not on imports of services from abroad, but  on U.S. companies investing offshore. The services that companies  produce offshore may be used to supply imports to the U.S. market or to  supply foreign markets. Companies may decide to invest abroad for a  variety of reasons, such as accessing foreign markets, reducing their  production costs, or utilizing foreign labor and expertise.
In either case, whether focusing on the use of imported services or on  moving services production offshore through foreign investment,  definitions of offshoring frequently define it in terms of the displacement of  U.S. production and employment. U.S. production and employment are  affected when U.S. producers replace services produced domestically with  imported services. Similarly, when U.S. producers move production  operations offshore, U.S. domestic production and employees are affected.  Figure 13 shows the complex range of business activities that results from  the intersection of imports, investment, and displacement of production  and employment. The business activities captured by different definitions  of offshoring may also be seen as subsets of the broader concept of  globalization, which involves increasing interaction and interdependence  among national product and factor markets.
In the figure, the upper left oval represents imported services, the upper  right oval represents U.S. investment offshore in services production, and  the lower center oval represents U.S. production and employment  displaced for reasons including offshoring. The darkest shaded regions  (marked “A” and “B”) are the business activities most commonly associated  with the term “offshoring.” Region A represents those imported services  that directly replaced services (and therefore jobs) previously produced  domestically. Region B also represents imported services that directly  replaced domestically produced services. However, the imports in region B  are provided by the U.S. company’s offshore affiliate (either acquired or  started through U.S. direct investment abroad).
Regions C through F include other business activities that are sometimes  included in broader definitions of offshoring or are difficult to distinguish  from offshoring in U.S. federal government statistics. For example, region  C covers services imports from U.S. companies’ foreign affiliates that did  not directly displace U.S. employment. A company that decides to expand  its operations by producing some services offshore, but does not reduce its  U.S. workforce, would be included in this region. Whether or not this  constitutes offshoring depends on whether the displacement of U.S. jobs is  a factor in the definition of offshoring. Region D is similar to region C,  except that the imported services are supplied by an unaffiliated company  offshore (rather than a U.S. affiliate). Regions E and F are captured in  broad definitions of offshoring that focus on the movement of services  production offshore through investment, but don’t focus on this production  returning to the United States in the form of imports. Region F involves the  case in which the offshore production actually displaces U.S. exports in the  foreign market. That is, the product was previously produced in the United  States and exported, but now it is produced by a U.S. company offshore  and sold offshore.
The term “offshoring” is sometimes used synonymously with the term  “outsourcing.” However, outsourcing means acquiring services from an  outside (unaffiliated) company, which can be either another domestic  company or an offshore supplier. In contrast, a company can source  offshore services from either an unaffiliated foreign company (offshore  outsourcing) or by investing in a foreign affiliate (offshore in-house  sourcing). In the latter case, the services supplied by the company’s foreign  affiliate would not be considered outsourcing since the company has an  ownership stake in both the U.S. and foreign operations. Figure 14  demonstrates the difference between outsourcing and offshoring.
Example:  Company uses services supplied  by its own foreign-based affiliate  (subsidiary)
section_title: Data on U.S. Imports and Exports of Services and Their Limitations
paragraphs: Trade in services data are cross-border transactions between U.S. residents  and foreign residents and cover affiliated and unaffiliated transactions.  Affiliated transactions consist of intrafirm trade within multinational  companies—specifically, the trade between U.S. parent companies and  their foreign affiliates and between U.S. affiliates and their foreign parent  groups. Unaffiliated transactions are with foreigners that neither own, nor  are owned by, the U.S. party to the transaction.
Cross-border trade in private services comprises five broad categories used  in U.S. International Transactions Accounts (ITAs)—travel, passenger  fares, “other transportation,” royalties and license fees, and “other private  services.”  Other private services, the focus of this report, include affiliated  and unaffiliated services. The unaffiliated services consist of six major  categories: education; financial services; insurance; telecommunications;  business, professional, and technical services; and other unaffiliated  services.
subsections: section_title: Business, Professional, and Technical Services Trade in 2002
paragraphs: Business, professional, and technical (BPT) services is further subdivided  into several categories of particular interest in discussions of offshoring.   Table 8 shows the value of unaffiliated U.S. exports and imports of BPT  categories for selected U.S. trade partners.  The United States maintained a  trade surplus in categories of BPT services in 2002.  For example, U.S.  exports were more than $3 billion in computer and data processing  services, compared with a little over $1 billion in U.S. imports.  Table 9  presents the relative shares among these trade partners in exports and  imports of BPT services.
section_title: Bureau of Economic Analysis Data Collection
paragraphs: To prepare the estimates of other private services, the Bureau of Economic  Analysis (BEA) conducts benchmark and four annual surveys of cross- border trade with unaffiliated foreigners that cover (1) selected services  (mainly miscellaneous business, professional, and technical services), (2)  construction, engineering, architectural, and mining services, (3)  insurance, and (4) financial services. Beginning in 2004, BEA began the  collection of quarterly data that cover services for which data previously  were collected annually.  These services include detail of business,  professional, and technical services, such as computer and data processing  and legal and operational leasing services; financial and insurance services;  and telecommunication services.
Separate surveys are conducted by BEA to collect cross-border trade with  affiliated foreigners.  Quarterly data are collected on all other private  services; annual and benchmark data are collected (usually about every 4  to 5 years) for insurance; financial; computer and information;  management and consulting; research, development, and testing; and other  services.
section_title: Data Limitations and Reliability
paragraphs: Quarterly estimates of other private services are released about 75 days  after the end of the reference quarter as part of the U.S. International  Transactions Accounts. These estimates consist of six types of services for  transactions with unaffiliated foreigners and a single estimate for  transactions with affiliated foreigners.  These estimates are subject to  revision 90 days later and each June, as part of historical ITA revisions.  The  initial quarterly estimates of services transactions with unaffiliated  foreigners are based on past trends, supplemented with data from other  sources.  The initial estimates of services transactions with affiliated  foreigners are based on quarterly BEA surveys.  In the first June revision,  annual estimates for the past year are revised to reflect preliminary results  of (1) an annual survey of transactions with unaffiliated foreigners and (2)  annual data on transactions with affiliated foreigners.  In the following  June revision, more complete survey results are incorporated.  However,  the detailed types of services for transactions with both unaffiliated and  affiliated foreigners, as well as country data, are not released until October  of each year.  For example, the latest year for which we had annual survey- based detail was 2002.
In addition to the lack of quarterly survey data for unaffiliated transactions  and lack of quarterly product detail for affiliated services, there are  reliability issues related to the mandatory filing requirements and survey  coverage.  Under regulations implementing the International Investment  and Trade in Services Survey Act, U.S. persons and intermediaries are  required to furnish reports that are necessary to carry out BEA surveys and  studies provided for by the Act. Reporting annual transactions with  unaffiliated foreigners is required for transactions of over $1 million in any  one kind of service; the same size transaction is used for the benchmark  survey.  Respondents whose transactions fall below this level must report  the total level of transactions in all services. For transactions with affiliated  foreigners, the limitations are expressed in terms of the size of the affiliate.   Quarterly and annual reporting are required only for affiliates whose total  assets, sales, or net income exceed $30 million.  Although the services  surveys are mandatory, the mailing list BEA uses is constructed from  publicly available information and not from a comprehensive business  register such as those used by BLS and the Census Bureau for their  surveys.  Consequently it is likely that BEA’s coverage of small or new firms  is limited. Finally, for transactions between affiliated firms, there are  questions about the reliability of the prices used to value these intrafirm  transfers.
A standard method for measuring data reliability is to compare initial  estimates with subsequent revised estimates.  This approach assumes that  estimates based on benchmark surveys are more reliable than estimates  based on annual estimates that, in turn, are more reliable than estimates  based on quarterly surveys.  Thus, for the ITAs, preliminary quarterly  estimates are released about 75 days after the end of the reference quarter  and a “first revision” to these estimates occurs 90 days later. The following  June, a historical revision is completed.  These historical revisions usually  cover the preceding 4 years and reflect the incorporation of more reliable  source data, such as more complete or new survey data, as well as changes  in definitions, data sources, and estimating procedures.
In accordance with the requirements of OMB’s Statistical Policy Directive  Number 3, “Statistical Policy Directive on Compilation, Release, and  Evaluation of Principal Federal Economic Indicators,” BEA recently  prepared a report evaluating the accuracy of the ITAs.  This evaluation,  which covered the period from first quarter of 1999 to the fourth quarter of  2001, reported that large changes were made to the preliminary and first  revised quarterly estimates with the release of historical revisions.   However, the revision also reported that the changes primarily reflected  major improvements to the accounts that were concentrated in the services  and income accounts.  According to BEA, “This study provides support for  the observations that only relatively small revisions are made to the  accounts in the 90 days following publication of the initial estimates, and  that more sizable changes occur at the time of the first June estimate.”  For  example, the report cited the incorporation of BEA’s benchmark surveys of  services as a major source of historical revision.
section_title: Data on U.S. Direct Investment Abroad, Multinational Company Operations, and their Limitations
paragraphs: The U.S. Bureau of Economic Analysis (BEA) collects data on an annual  basis from U.S. multinational companies (MNCs). The data provide detail  on U.S. foreign direct investment (FDI) abroad and the operations of U.S.  multinational companies and their majority and minority-owned affiliates  (e.g., assets, sales and purchases, employment). Table 10 presents  information on U.S. FDI across countries for 2002. It also provides the  growth rate of this investment from 1999 to 2002 and the share of  investment in the manufacturing; information; and professional, scientific,  and technical industries.
subsections: section_title: Multinational Companies’ Outsourcing to Domestic and Foreign Suppliers
paragraphs: Data on U.S. MNC parent companies’ operations in the United States,  which lag by a year the data on direct investment, have the potential to  determine the extent to which these companies are using offshore goods  and services in their production. (See table 11.) The data show that U.S.- based operations have tended to increase their outsourcing over time,  particularly in parent companies classified in manufacturing industries.  However, these data do not indicate whether the outsourcing is to purchase  goods or services or whether domestic or offshore companies are  supplying the outsourcing. For example, in the manufacturing sector, the  degree to which U.S. multinational companies are using intermediate  inputs in their domestic production has risen from under 60 percent in the  1980s to over 70 percent in 2001. Industries such as the information  industry and the professional, scientific, and technical industry are  outsourcing around 50 percent of their production value. The Bureau of  Economic Analysis has reported that it is evaluating the feasibility of  preparing estimates of indirect purchases from offshore suppliers; it  already collects data on direct purchases from offshore suppliers.
section_title: Data Limitations and Reliability
paragraphs: BEA data on MNCs and their affiliates have limitations relating to firm and  item coverage, timeliness, and frequency. The reliability of the BEA data on  MNCs relates both the exemption levels of the annual and benchmark  surveys and the collection of additional detail in the benchmark surveys.
To a large extent, the limitations and reliability of these BEA data relate to  efforts to restrict respondent burden as required under provisions of the  Paperwork Reduction Act of 1995.
With regard to coverage, annual BEA surveys exclude banking activities of  both U.S. and foreign MNCs and provide no data on employment by  occupation of U.S. MNCs or their foreign affiliates. In addition, because  some U.S. MNCs may be foreign owned, there is some duplication between  the data on U.S. parent companies and on U.S. affiliates. BEA recommends  that data on U.S. parents should not be added to U.S. affiliates to produce  U.S. totals. Certain data items relevant to offshoring, such as trade in  selected services, are collected only in benchmark years and do not cover  all types of services. In addition, in the benchmark survey, data on sales of  goods and services by country of destination are not collected for minority- owned affiliates and small majority-owned affiliates.
With regard to timeliness and frequency, BEA data on MNC operations are  not available quarterly, and annual data become available with a 2-year lag.  For example, when this report was completed, the latest year for which we  had annual survey-based detail was 2001. These estimates are subject to  revision when the results of benchmark surveys are incorporated. The  most recent benchmark data on U.S. MNCs and their foreign affiliates are  for 1999. The most recent data on U.S. affiliates of foreign MNCs are for  1997. Results of the 2002 benchmark survey are scheduled to be released  later this year.
In 2004, BEA initiated an effort to improve the timeliness of these data. In  April 2004, BEA released summary estimates for 2002 of employment,  sales, and capital expenditures by U.S. MNCs and their foreign affiliates,  and by U.S. affiliates of foreign MNCs. The 2002 estimates to be released  later in 2004 will be based on more complete source data and include  country and industry detail.
As noted above, the reliability of the BEA data on MNCs relates primarily to  the exemption levels of both the annual and benchmark surveys, which, in  turn, relate to efforts to restrict respondent burden. There are also several  other reliability issues with the MNC data collected by BEA that could  impact the data related to offshoring. The exemption levels for the  reporting of affiliates in the annual surveys are based on the affiliates’ total  assets, sales, or net income. For majority-owned affiliates, detailed  reporting is required if either of these is greater than $100 million; less  detailed reporting is required for majority-owned affiliates with between  $30 million and $100 million. For minority-owned affiliates, reporting is  required if any of the three items is greater than $30 million. In the  benchmark survey, the exemption limit for the short form for majority or  minority-owned affiliates is $7 million of total assets, sales, or net income.  This also means that smaller affiliates are covered only once every 5 years,  so that the trends in the annual data would be misstated to the extent that  the trends for smaller affiliates differ from the larger ones. For example, if  there were rapid increases in smaller affiliates relating to an increase in  offshoring, the annual trends would understate the growth of employment  in foreign affiliates of U.S. MNCs.
Other reliability issues relate to the universe frame used by BEA to ensure  complete reporting. Although the MNC surveys are mandatory regardless  of whether a firm receives a form, the mailing list used by BEA is  constructed from publicly available information and not from  comprehensive business registers such as those used by BLS and the  Census Bureau for their own surveys. Consequently, it is possible that  BEA’s coverage of small and new firms is limited. In addition, the data  reported to BEA are based largely on financial accounting records, and in  recent years many of these earlier records have been restated. BEA has not  reported that it has been obtaining revised reports from these firms.  Although these restatements would impact on the reported profits data, it  is not likely that they would affect the employment data.
section_title: Comments from the Department of Commerce
section_title: GAO Contacts and Staff Acknowledgments
subsections: section_title: GAO Contact
section_title: Staff Acknowledgments
paragraphs: In addition to the contact named above, Scott Farrow, Robert Parker, Linda  Lambert, Yesook Merrill, Andrew Sherrill, Tim Wedding, Frank Maguire,  Richard Seldin, Judith Knepper, Patricia Slocum, Carmen Donohue, Mark  Fostek, Bradley Hunt, Katrina Ryan, and Yunsian Tai made major  contributions to this report.
section_title: GAO’s Mission
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section_title: To Report Fraud, Waste, and Abuse in Federal Programs
section_title: Congressional Relations
section_title: Public Affairs