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. 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. 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. 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.