Obama Slows Outsourcing to India

Well in advance of US President Barack Obama's November visit to India, consternation is rippling through India's US$50 billion annual outsourcing industry over the president's intention to block tax breaks to companies globalizing their IT operations.

But whatever complications that may bring to his India visit, domestic political concerns are playing a bigger role. Ohio's beleaguered governor, Ted Strickland, who is up for re-election in November, is battling a Republican charge that outsourcing has cost the state 400,000 jobs during the Ohio governor's tenure. Campaigning to try to save a fellow Democrat's seat in a major state, Obama on Sept. 8 announced the end of federal tax breaks for those who outsource jobs. Strickland himself issued an executive order banning outsourcing from his state.

"One of the keys to job creation," Obama told an audience in Cleveland, Ohio, "is to encourage companies to invest more in the US. But for years, our tax code has actually given billions of dollars in tax breaks that encourage companies to create jobs and profits in other countries. I think if we're going to give tax breaks to companies, they should go to companies that create jobs in America -- not those that create jobs overseas."

While the protectionist stance may or may not bolster Obama's ratings, which have hovered at about 49 percent for months – or Strickland's, for that matter – New Delhi immediately felt the tremors. No sooner had the president made his speech than Indian activists and politicians began calling for boycotts of US products. Indian newspapers took up the cudgels, condemning Obama's move.

The Ohio ban and the announcement of the end to the tax breaks, some Indian industry analysts say, could continuw across India's IT industry, especially if other US states follow suit. The industry has grown at double-digit rates for the better part of a decade, much of it built on US companies that have farmed out their back-office operations overseas.

Commerce Minister Anand Sharma announced that India would "formally express its disappointment to the US" over the issue at a high-level bilateral Trade Policy Forum (TPF) meeting in Washington later this month. The forum is the principal avenue for trade dialogue between the US and India.

According to Sharma, any mindset that is "inward looking and isolatory would end up hurting economies." He recalled the examples of post-Depression protectionist measures in the US of the 1930s and the long-term damage they had unleashed. He emphasized that announcement of the tax change for outsourcing comes within weeks of fee hikes for H1-B visas that will directly affect Indian tech workers and Indian companies in the US.

"We feel that for the speedy recovery of the world, the US should have more confidence to engage with the rest of the world," the minister said. "Protectionist measures end up deepening recession and delaying economic recovery. The Indian IT sector has created jobs in the US even amid job losses all around."

Analysts point out that the issue of tax breaks may not have a direct impact on the Indian outsourcing business as corporate tax rates are higher here than they are in the US, but populist protectionism can cast a long shadow over Obama's visit, his first. He is also visiting India earlier in his presidency than any US leader before, a move intended to be symbolic of the new US-India relationship.

However, sources in India's Ministry of External Affairs point out that there's more to it than meets the eye. The US, they say, has been displeased over the final contours of the just-approved nuclear liability bill and New Delhi's refusal to re-formulate the legislation to accommodate American companies eager to sell components for India's burgeoning nuclear power industry.

The US under the previous administration of President George W. Bush provided the major impetus India's inclusion in the global nuclear club, ending a three-decade old global ban on nuclear sales to the country.

Washington had hoped that New Delhi would help it get an edge over other countries in obtaining lucrative contracts. Nothing of the sort transpired. Instead, the Indian government's decision to drop a controversial clause that seeks to indemnify companies against liability in the event of a nuclear accident will now prevent US companies from having a level-playing field, analysts say, because it puts them up against stiff competition from French and Russian companies which enjoy state subsidies.

"The US corporations are feeling cheated about the bill, which makes suppliers liable, and believe it is deliberately designed to keep American companies out of the Indian market," says the ministry official. This development has led to a souring of moods on both sides, hardly a happy omen for the presidential visit.

As for Obama's outsourcing actions, should India really worry? Nearly 60 per cent of India's software revenue comes from outsourcing, and a large chunk of it from the US. Analysts don't think there's any real cause for worry. The US companies, they point out, are shifting jobs to India for lower labor costs and operational efficiency and the tax issue will not be enough of a detriment to discourage them from continuing to do it.

"The US private sector is the primary source of outsourcing to India," said Virginia-based financial analyst Devender Prasad, "and the recession has only whetted everybody's appetite for cost-cutting. In fact the US corporations are the loudest voice in favor of outsourcing."

Recent surveys have also shown that even in more protectionist Europe, 40 percent of firms plan to add to their outsourcing operations. "In a globalized world, where individual economies are enmeshed with each other, and guided by WTO rules, protectionist barriers can only prove to be detrimental," Prasad said. "It is indeed ironic that the US, which has been biggest supporter of free trade and economic liberalization, should now seek to isolate its economy and its people from the rest of the world."

Critics add that the outsourcing controversy reared its head in 2005 when five US states, including New Jersey, passed or proposed similar legislation. At that time too, the US was heading for a tight election during an economic turndown. But the 2005 laws had a minimal impact on the Indian IT services industry.

In other words, if guarded protectionism over the past two years has not been able to generate more jobs or make local, all-American businesses profitable, what is the guarantee that recent measures like hiking visa fees for foreign workers and prohibiting outsourcing of government work to offshore firms, will achieve the desired result?

Obama knows that a Republican revival is likely to deliver up a congress hostile to his plans for the next two years and could diminish his chances of seeking a second term in 2012. He is playing the cards he has to try to stop that, and in Ohio that means a threat to the globalization of business office processing,

But the fact is that despite 9.75 per cent unemployment in the US, there has been little action against outsourcing since 2005. Ohio's protective penalties may have little impact on the Indian IT sector, which is increasingly looking to other global markets. However, they are far more likely to disturb the Indo-US political equilibrium in the short term. Obama may face a tough time on his maiden visit to India.

New Delhi-based Neeta Lal writes internationally on current affairs; neetalal@hotmail.com