Offshoring and Directed Technical Change

We study the effects of offshoring on wages, welfare and inequality through its impact on technology. To this end, we introduce directed technical change into a model of task-based production and offshoring. A unique final good is produced by combining a skilled and an unskilled intermediate good, each produced from a continuum of tasks. Offshoring takes the form of some of these tasks being transferred from a skill-abundant West to a skill-scarce East. Profit maximization determines both the equilibrium level of offshoring and the rate at which the productivities of skilled and unskilled workers improve. On the one hand, by increasing the price of skill-intensive products, offshoring induces skill-biased technological change. On the other, it also expands the market size for technologies complementing unskilled labor. In the empirically more relevant case, starting from low levels, an increase in offshoring opportunities triggers a transition with falling real wages for unskilled workers in the West, skill-biased technical change and rising skill premia worldwide. When the extent of offshoring becomes sufficiently large, instead, further increases in offshoring induce unskilled-labor biased technical change and reduce the long-run skill premium. Interestingly, wage inequality is highest for relatively low volumes of intermediate good trade. The transitional dynamics also suggest that offshoring and technological change are substitutes in the short run, but complements in the long run. Finally, we provide conditions under which offshoring improves not only the welfare of workers in the East, but also those of both skilled and unskilled workers in the West.