Study: Outsourcing Keeps Prices Artificially High

Outsourcing has cost many Americans their jobs and made millions for the corporations that use it for cheap labor -- these are facts many consumers know.

But new research on how outsourcing effects competition among industry rivals reveals some information that many consumers may not know.

The study, co-written by University of Illinois business administration Professor Yunchuan "Frank" Liu, says outsourcing hurts society in two ways: it results in lost jobs for workers, and in consumers paying higher prices for goods.

This contrasts sharply to the common notion that outsourcing allows products that would normally be very expensive be affordable to the majority of consumers.

"Outsourcing is a topic that affects just about everyone, and the general consensus is that it's bad because American workers will lose jobs because of it," said Liu. "Most people only focus on the job-displacement angle, but very few people have questioned how it affects consumers and competition in the marketplace."

Softer competition

According to Liu, outsourcing produces soft competition between competing companies.

Before outsourcing became a popular strategy for businesses looking to cut costs, competition among companies was more intense -- they competed head-to-head, forcing themselves and their rivals to be more consumer-centric.

But when firms outsource aspects of their business, they cease competing head-to-head, as the actual competition grows to include more players.

This, Liu said, gives businesses less wiggle room.

"Once more businesses are involved, even if firms become more customer-focused, if their suppliers don't cooperate, they can't lower prices," said Liu.

Liu says that if firms are unwilling to pass along the savings they've reaped from outsourcing production and labor to a cheaper country, all consumers suffer because of softer competition.

False economy

The study also revealed that many times, outsourcing doesn‘t actually save much money for the companies that use it.

"Some U.S. businesses may outsource to Canada, where the cost-savings are insignificant. Why do firms want to do that? One potential reason is to soften the competition among competing firms, which has the effect of keeping prices artificially higher than they should be," said Liu.

Liu thinks lawmakers need to consider policies that would facilitate open competition between companies and create incentives for satisfying consumers tastes.

Otherwise, companies are better off while consumers suffer.

"For public policymakers, it's just another negative effect of outsourcing," said Liu. "They need to consider not only the Americans who are losing their jobs because of it, but also the consumers who are being gouged."

The study, which will appear in the journal Management Science, is the first to examine the effects of outsourcing on competition as well as consumers and society, said Liu, who co-wrote the study with Rajeev Tyagi, an economist at the University of California at Irvine.