Globalization and the Offshoring of Services: The Case of India

The overwhelming majority of exports from developing countries to developed countries consist of agricultural commodities and manufactured goods. Such goods are usually produced under contract to a buyer from a developed country, the buyer managing design, marketing, and sales, while the seller handles production. Intermediate steps, such as accessing finance, technology, and raw materials, managing currency risks, and maintaining quality control, are shared between the buyer and the seller in special arrangements. Typically, in the introductory stages, the buyer assumes more control and takes more risk than in later stages. As the seller matures, it shares more of the risks and rewards. Nevertheless, history shows that the share of rewards (that is, the economic rents, if any) tend to remain with developed-country buyers.

A new phase of globalization, international trade in services, has been emerging for at least a decade, and by now it looms important within the total value of World Trade Organization (WTO) trade. Developing countries around the world, particularly in Asia, have become large producers of services for developed countries. The range of such services is impressive. It includes back-office services such as payroll; customer-facing services such as call centers and telemedicine; design services such as the design of application-specific integrated circuits; research services such as conducting clinical trials; venture capital provision, from Taiwan to Silicon Valley, for example; software services such as programming; and IT and infrastructure outsourcing such as the managing of corporate e-mail systems and telecommunications networks. These new fields of service exports join the traditional fields of tourism and labor migration.

As a result, services are becoming an important component of international trade for both developing and developed countries.¹ Hence, studies of changes in the composition and trends of trade in services between developed and developing countries and the analysis of sharing of risks and rewards between buyers and sellers can provide insights into an important component of international trade and the new challenges and opportunities for economic development in the developing world. Some have even argued that the ability of countries like China and India to undertake high-end services work, such as in semiconductor design and information technology (IT), can threaten employment in developed countries, if productivity gains in developing countries are sufficiently high (for example, Samuelson 2004).

In this paper, I use India as a case study of growth and value addition. India has catapulted itself in recent years into the leadership position in services exports from developing countries, and the study of India's experience with exporting services in information technology could provide important insights into the workings of this new and promising area of international trade. Services appear to be key to its future growth (see table 1). Some components of the Indian experience (such as software services) are over three decades old, enabling us to draw useful insights about how a developing country can succeed in exporting services to developed countries. This is likely to have implications for policy in institutional development (such as educational and risk management institutions) and physical infrastructure.

I argue that (1) local entrepreneurship and a high level of infant industry protection enabled the Indian IT industry to reach a high growth path and allowed local skills to develop rapidly to keep pace with global changes; (2) protectionism—in force until 1990—hurt the industry by forcing the work done to focus on low-value-added components; and (3) the rising importance of multinational firms from the late 1990s onward was the result of the country's adopting a more welcoming legal and regulatory structure and led to a rise in the sophistication of work done.

As a result, the contractual relationship between India-based IT providers and developed-country buyers has changed over the past three decades. Initially, it was characterized by "body-shopping": the provider recruited labor and the buyer decided how to use it...