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International Outsourcing, Unemployment and Welfare: A Re-Examination

This paper explores the ramifications of international outsourcing on unemployment, income distribution and welfare, which is an important but yet unresolved issue. Using the well-known Harris-Todaro (1970) model of sector-specific unemployment, it shows that the effects of outsourcing on employment, income-distribution and welfare depend on the sector in which the outsourcing occurs, whereby sectoral factor intensities, unemployment-outsourcing response and the dynamic stability condition play crucial roles. In particular, outsourcing in the manufacturing (primary) sector widens (narrows) income inequality by increasing (decreasing) the sectoral wage gap and raising (not affecting) the rental income of the capital owners in the economy. Moreover, outsourcing in the manufacturing (primary) sector can be welfare-decreasing (is always welfare-increasing) due to its negative (positive) employment effect mitigating (reinforcing) the primary gains from the outsourcing.