U.S. Outsourcing is GOOD for Domestic Activity

A popular notion is that when U.S. companies expand abroad, they reduce domestic activity. In other words, when U.S. companies outsource, the U.S. loses jobs. A study just published in the AEA: Economic Policy Journal by Desai, Foley, and Hines Jr. shows the opposite is true. This has significant policy and popular perception implications. From the abstract:

10 percent greater foreign investment is associated with 2.6 percent greater domestic investment, and 10 percent greater foreign employee compensation is associated with 3.7 percent greater domestic employee compensation. These results do not support the popular notion that expansions abroad reduce a firm’s domestic activity, instead suggesting the opposite.

Global Trade War?

The “Buy American” provisions are in the bills passed by the Senate and House today. Will this lead to a global trade war? From the article:

The heated war of words over “Buy American” laws may be nearing a truce in Congress, but there are still fears among critics that it could spark a new global trade war.

The reworked stimulus bill that the House and Senate are due to vote on Friday has language on “Buy American” provisions that provides even tougher requirements to limit materials used in public works projects paid for by stimulus to those made in U.S. factories.

Many major steel producing countries, such as China, Brazil and Russia, will essentially be blocked from selling their products for use in construction and energy projects being paid for under the program.

But because the “Buy American” provision will not trump existing trade agreements, it allows companies in many major trading partners, such as Canada and the European Union, the chance to sell steel, pipes and other products that can be used in the projects.

Most economists fear a trade war and any kind of protectionism. It could set the U.S. and global economy back several decades. This stance is more of a political one which shows voters that politicians are protecting their jobs at home. At what cost though? WE, the consumer, end up paying more for products when there are trade barriers.

Since the “Buy American” provision won’t trump any existing trade agreements, Canada and the EU probably won’t mind. China, Brazil, and Russia will and could retaliate. It is also possible our politicians would use this to sign trade pacts with China, Brazil, and/or Russia. That would be fine if the trade pacts are mutual and neither country feels forced into signing.

The real concern I have is that other countries will copy our “Buy American” stance. They will say “the U.S. is closing their boarders to us so we should retaliate”. After all, Paul Krugman (Nobel Prize Economist) has shown there are cases where protectionism can benefit an economy. We are the biggest consuming nation and may countries depend on exporting their products to us. If we don’t buy, they will be in a world of hurt.