Plamen Alexandroff

What could outsourcing bring to Bulgariain an enlarged Europe?

Diploma Thesis

Politics

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Plamen Alexandroff

What could outsourcing bring to Bulgaria in an enlargedEurope?

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Plamen Alexandroff

What could outsourcing bring to Bulgaria in an enlarged Europe? Diplomarbeit Universität Rousse Fachbereich Europa Studien Dezember 2005

Plamen Alexandroff What could outsourcing bring to Bulgaria in an enlarged Europe?

ISBN-10: 3-8324-9766-8 ISBN-13: 978-3-8324-9766-8 Druck Diplomica® GmbH, Hamburg, 2006 Zugl. Universität Rousse, Rousse, Bulgarien, Diplomarbeit, 2005

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Plamen Alexandroff Lieven Tack

TABLE OF CONTENTS:

CHAPTER 1 GLOBALIZATION – A DECESIVE POWER TODAY p.6

Introduction p.6

1. Definition of Globalization p.7

2. Signs of globalization p.10

2.1 Increased role of the international organizations and treaties p.10

2.2. Reduction of Tariffs p.12

2.3. Increased role of transnational corporations p.12

2.4. Increased trade flows p.13

2.5. Increased capital flows p.15

2.5.1. Foreign direct investment p.15

2.5.2. International financial assistance p.16

2.6. Labor flows and remittances p.16

2.7. Regional blocs and trade agreements p.18

2.8. International tourist flows p.18

2.9. Spread of information and communication p.19

3. Forms of Economic Globalization p.20

3.1. At the company level p.20

3.1.1. Functional forms p.20

3.1.2. Forms according to their scope p.22

3.2 At the country level p.24

4. Driving Forces, History and Major Actors Today p.28

4.1. The first wave – the early empires p.29

4.2. The second wave – the Age of Discoveries p.30

4.3. The third wave – the Industrial Revolution p.31

4.4. The forth wave – the Information Revolution p.33

4.5. The current situation and the main actors p.38

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4.5.1. The World Trade Organization p.40

4.5.2. The International Monetary Fund p.47

4.5.3. The World Bank p.49

4.5.4. Regional trade agreements and individual countries p.49

4.5.4.1. The European Union p.50

4.5.4.2. Other trade groupings p.53

4.5.4.3. The United States of America p.54

4.5.4.4. Japan p.57

4.5.5. The transnational corporations p.58

4.5.6. The antiglobalization movement p.60

CHAPTER 2 OUTSOURCING p.64

1. Definition and Distinction from Similar Concepts p.64

2. Development and Forms of Outsourcing p.66

2.1 Some history p.67

2.2. Types of outsourcing p.71

3. The Debate on Outsourcing p.72

3.1. Home country case p.73

3.1.1. The theory… p.73

3.1.2. … and the reality – the example of the USA p.80

a) Cost savings p.80

b) Labor market effects p.81

c) Effects on productivity p.84

d) Effects on consumer welfare p.85

e) Effects on exports p.86

3.2. Host country case p.87

3.2.1. The theory… p.87

a) Direct effects p.87

b) Indirect effects – spillovers p.92

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3.2.2. … and the reality – India and its emerging competitors p.94

a) Employment effects p.95

b) Effect on output and exports p.98

c) Effect on wages p.101

d) Government revenues p.103

e) Competitiveness of human resources p.104

f) Effect on infrastructure p.105

g) Effect on country reputation p.107

h) Effect on the stability in the country p.108

4. Necessary Factors for Outsourcing p.109

4.1. Factors in the client country p.109

a) Labor market factors p.109

b) Regulatory framework p.109

c) Nature of the outsourced activities p.110

4.2. Factors in the supplier country p.110

a) Cost advantage p.110

b) Sufficient labor pool p.110

c) Availability of skills p.110

d) Language proficiency p.111

e) Infrastructure p.111

f) Security and protection of intellectual property p.111

g) Cultural compatibility p.111

h) Time zone differences p.111

i) Legal framework and government support p.112

CHAPTER 3 OUTSOURCING AND BULGARIA p.113

1. Bulgaria and Its Future Accession to the EU – Related Economic Problems p.113

1.1. Copenhagen economic criteria p.114

a) Existence of a functioning market economy p.114

b) Capacity to cope with competitive pressure and market forces within the Union p.115

1.2. Maastricht criteria p.117

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1.3. The Lisbon targets p.118

2. SWOT and STEP Analysis of Bulgaria p.122

2.1. SWOT analysis p.122

a) Strengths p.123

b) Opportunities p.129

c) Weaknesses p.131

d) Threats p.133

2.2. STEP analysis p.134

a) Social trends p.134

b) Technological trends p.136

c) Economic trends p.137

d) Political trends p.139

3. The Policies of the EU and Their Possible Impact on Bulgaria p.141

3.1. Competition p.141

3.2. Consumer protection p.143

3.3. Monetary policy p.144

3.4. Customs p.145

3.5. Education and training p.145

3.6. Employment and social affairs p.146

3.7. Energy p.147

3.8. Enterprises p.149

3.9. Environment p.150

3.10. External trade p.150

3.11. Information society p.151

3.12. The Internal Market p.152

3.13. Health p.154

3.14. Regional policy p.155

3.15. Technology p.155

3.16. Taxation p.156

3.17. Transport p.156

4. Potential Effects from Developing Offshore Outsourcing Capability p.157

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4.1. The case study – the software and related services industry p.158

4.2. The macroeconomic dimension p.158

4.3. Possible microeconomic effects p.162

4.4. Other impact p.163

a) Social p.163

b) Technological p.164

c) Political p.164

CONCLUSION p.165

APPENDIX 1 OUTSOURCING IN EUROPE – MAIN SUPPLIERS AND

HOW DID IT HELP THEM IN SOLVIGN THEIR PROBLEMS p.167

APPENDIX 2 TABLES p.175

APPENDIX 3 FIGURES p.185

BIBLIOGRAPHY p.190

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CHAPTER 1 GLOBALISATION – A DECESIVE POWER TODAY

Introduction

There are many examples showing the tremendous power of economic globalization today.

When people speak of the latter, there are many differing opinions, but what unites them all

could be brought together in a single word – “interconnectedness”.

In today’s world it is common for example to live in France; drive a German car, assembled

in Mexico or the UK; watch satellite TV from USA; work with PC, made in Taiwan and so on

and so on. The world of the late 20th and early 21st century is characterized by numerous such

connections in all aspects of our life crossing the frontiers and spreading all over the globe.

Globalization is a fact of our life. It creates many problems, but opens also unlimited

opportunities for those ready to expose them to its influence. The aim of this work is to

present one of these opportunities – the international outsourcing in the service industry – and

to analyze what could be the potential impact of adopting it as a national strategy for

development of Bulgaria in the European context. Although it has proved beneficial to some

countries, there is still the question whether it will work also for Bulgaria. In this perspective,

a thorough analysis of the country will be done, reflecting its characteristics and the probable

consequences from the coming EU accession on its potential for becoming a preferred

outsourcing location.

As a background for this topic, Chapter 1 focuses on the broader trend of globalization, in

which the international outsourcing is flourishing. It presents the nature of globalization, by

defining it and reviewing the main indications, showing that it is taking place. Further on, a

brief overview of the existing forms of globalization on company and country level is done,

giving a basic idea of how it is actually happening. The next subchapter is about the driving

forces, presented in their historical context and about the development of the phenomenon.

More attention is dedicated to the present-day situation with the main actors, which are

influencing the speed and the forms that globalization is taking, and the conflicts that arise

from their behavior.

Chapter 2 provides a detailed description of the international outsourcing. First, outsourcing is

defined and a distinction from similar terms is made. In the next subchapter it is presented

how the international outsourcing appeared (with more details about the outsourcing in

services), following major changes in the world environment, created by the globalization.

Since outsourcing is a relatively young trend, it is still not very well researched, so there is a

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considerable debate on its consequences, especially on the home (client) countries. For this

purpose and also in order to clarify the possible impact that it can have on Bulgaria, there is a

presentation of the current theoretical debate, combined with some facts from the actual

situation. In the third chapter are examined the possible consequences and potential benefits

for Bulgaria from becoming an outsourcing supplier and also the necessary conditions for

this. More specifically, there is an analysis of the future accession of the country to the EU

and the associated problems Next an evaluation of the existent and possible future conditions

and developments in the context of the country’s accession to the EU is provided by the next

subchapter. A detailed outline of the potential impact of the Union’s policies on business

conditions in general and the opportunities for outsourcing is given in this respect. The last

subchapter deals with the potential consequences from developing outsourcing on a national

scale in macro- and microeconomic aspect, as well as in the social, political, and

technological ones.

Since the democratic changes from 1989, Bulgaria has fallen in the abyss of economic

destruction and widespread unemployment and proliferation of poverty. This has been a result

largely of the lack of national vision for economic development. At times unclear and

doubtful government strategies have been announced wiped out as soon as possible by the

next government to come. This has continued already for 15 years, but with the prospects for

the accession of Bulgaria to the EU, the country must find its own way for development and

improving the living standard, which is lagging far behind from the majority of the European

nations. Given that at the moment there is hardly any feasible national strategy for

development in Bulgaria, this paper may provide a valuable clue towards the adoption of one.

It does not pretend to offer the best solution to the problems of the country, but nevertheless it

aims to show the world of opportunities that outsourcing opens and that could benefit also

Bulgaria.

1. Definition of Globalization

Today globalization is much criticized and contested by different groups, organizations and

even countries, but no one claims that is does not exist – it is here and now and everyone of us

is touched every day by the changes it brings. In spite of the consent on the question about its

existence, there is no single opinion what exactly globalization is. Almost everybody has his

or her own view on the topic. Some put the accent on the integration of the single economies

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into one global one, while others stress more on the diminishing importance of national

boundaries.

One of the supporters of the first view, Patricia Hewitt, a former Secretary of State for Trade

and Industry of the United Kingdom, describes the globalization as the growing

interdependency and interconnectedness of the world, which can be seen from the “increased

ease of movement of goods, services, capital, people and information across national

boundaries”1.

The official definition of the World Bank of globalization is the “freedom and ability of

individuals and firms to initiate voluntary economic transactions with residents of other

countries”. Another international institution suggests somewhat similar definition: “the

growing economic interdependence of countries worldwide through increasing volume and

variety of cross-border transactions in goods and services, freer international capital flows,

and more rapid and widespread diffusion of technology”.2 Collin Hines of Greenpeace says

that it is “integration of national economies into the global economy through trade and

investment rules and privatization, with the help of technological advances.”3 The Chief

Economist of the Organization for Economic Co-operation and Development, Ignazio Visco,

argues that globalization can be described as “a process towards closer economic integration

of markets”4, which is done through trade in goods and services, mobility of capital and labor.

The European Commission, in its paper “Responses to the Challenges of Globalization: A

Study on the International Monetary and Financial System and on Financing for

Development” notes that the “trend towards greater integration and interdependence between

countries and regions on the globe”5 can be defined as globalization. The definition of the

United Nations Conference on Trade and Development (UNCTAD) is that globalization

denotes “the process of increasing economic integration among nations through cross-border

flows of goods and resources together with the development of a complimentary set of

organizational structures to manage the associated network of activities”6.

Globalization, seen through the prism of the decreasing importance of borders, is very well

described by Williem Buiter, Chief Economist of the European Bank for Reconstruction and

Development: “...a process of diminishing importance of distance, geography and national

1 Eliminating Poverty: Making Globalization Work for the Poor, Cm 5006, December 2000, p 14, para 10. 2 (IMF, World Economic Outlook, May, 1997) 3 Colin Hines, Localization. A Global Manifesto, 2000, p 4 4 Globalization, Select Committee on Economic Affairs at the House of Lords, Session 2002 – 03, 1st report, p 12, para 26 5 SEC (2002) 185, 14.2.2002. 6 Globalization, Select Committee on Economic Affairs at the House of Lords, Session 2002 – 03, 1st report, p 13, para 27

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boundaries in shaping all kinds of human activities. It therefore refers to trade liberalization,

trade integration; it refers to increased capital mobility. It refers in certain regions to increased

labor mobility; and it also refers to the enhanced mobility of just about everything and

anything that is permitted by the combination of technological change, lower transportation

costs and communication costs that have been going on for a long time.”7

As can be seen, there is a considerable diversity in characterizing the process of globalization,

but from all these definitions one can extract the key common points. Globalization is:

• Integration into the world economy, which is accompanied by growing

interdependency and interconnectedness between countries and regions

• Manifested by increased volume and accelerated mobility of trade, information,

capital and labor flows across national borders.

• Carried out by means of new and better technologies and organizations – public

(intergovernmental bodies) or private (transnational corporations), capable of

managing the associated processes.

The process of globalization is multi-dimensional, covering not only economy, but also

culture, technology and politics and reshaping them every day. It has been facilitated greatly

by the improvement of technologies and especially the appearance of the Internet as a fast and

unlimited source for information. Globalization has reached even the remotest corners of the

human civilization and affects more or less everyone today. But not only cultural, political

and economic patterns have spread on a global scale. The ease with which information is

diffusing and trade and capital flows are going today has made it possible also their use for

criminal and inhuman purposes. A frightening example is the flourishing illegal trade with

illicit drugs and weapons. After the collapse of the Soviet Union and its communist satellites

much of its weapons arsenals have been sold out to criminal groups from around the world.

There are also suspicions that some countries with no democratic governments have acquired

even nuclear and other weapons for mass destruction or the technologies for their production

through such illegal trade channels. Even more striking examples of the force of globalization

have been the terrorist attacks on the World Trade Center and the Pentagon from 11

September, 2001. The terrorists have managed to organize themselves on a world-wide scale,

using modern means of communication to contact with one another. Bombs preparation

technology has been acquired through the Internet for future terrorist strikes.

7 Globalization, Select Committee on Economic Affairs at the House of Lords, Session 2002 – 03, 1st report, p 13, para 30

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These two examples come to show that globalization is a two-sided process that must be

examined not only in positive terms. Together with the increased opportunities it has brought

for trade, investment, movement of people and diffusion of technology and information, it has

also offered the same to criminals, terrorists and dictators. It is a long-term goal of the

democratic international community to increase the positive and to limit as much as possible

the negative effects from globalization. In achieving this fostering opportunities for free and

fair international trade among disadvantaged nations and society groups will sharply decrease

the possibilities for such manifestations of discontent and evading / breaking the laws and

further spread the benefits of globalization.

2. Signs of Globalization

In accordance to the given descriptions of globalization, the signs showing that a country is

going global, should refer exactly to these three key characteristics of the process. In the

following subchapter there is a presentation of the main changes in the economic environment

that give the ground to claim that the world is being globalized. Such manifestations of the

process of globalization are the increased role of the international institutions and the

transnational corporations; the reduction of tariffs; the increased trade and capital flows; the

increased movement of people, etc. Each one of them is examined closely in the next pages.

2.1. Increased role of the international organizations and treaties

Maybe logically the first sign for the level of globalization of a country is its involvement in

international organizations, the international treaties that it has ratified and the real importance

these play in the economic, political and social life. The more they are, the bigger their role in

the signing country and that is why this country must comply not only with its own needs, but

also with those of the rest of the world. In the Globalization Index of A. T. Kearney and

Foreign Affairs Magazine, there are such indicators, measuring the membership in a basket of

international organizations and also the number of international treaties, signed by a country.

For example, according to the participation in international bodies, the USA ranks 1st, being

member of 15 organizations in 2003; the UK is a member in 13 such organizations, Canada –

14, Austria – 12, Germany and France – 14, the Netherlands – 13.8 On the other extreme are

less developed countries, which are members of less international organizations – Iran,

Bangladesh, India and Sri Lanka. There is an interesting trend that can be tracked when the

8 A. T. Kearney Globalization Index data, 2004

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data for the different years is compared. There is a tendency, especially among the less

developed countries and the former communist countries from Central and Eastern Europe, to

integrate more and more with the rest of the world, which becomes evident when one sees the

ever growing number of international organizations in which these countries are members.

Among the international organizations, regulating the world economy, the biggest impact

have the World Trade Organization (formerly GATT) and the International Monetary Fund.

More limited influence has also the World Bank. When the General Agreement on Tariffs and

Trade (GATT) was established in the second half of the 1940s, there were less than 50 states

that signed the agreement for its establishing. From then on the GATT grew in size,

competences and affected more and more the world through its handling. Nowadays around

150 countries are members of the successor of the GATT, the World Trade Organization.

Since its establishment, the WTO has elaborated the international regulation of trade not only

with physical goods, but also with services, through numerous international settlements.

Moreover, the supervising authority that it has on the international trade system and its

dispute settlement mechanism make it a real active force of globalization. Individual nations

must comply with the WTO rules more and more if they want to avoid isolation from world

trade.

The other major institution that influences today the dealings of many governments and in

doing so, its role is bigger and bigger, is the IMF. There is no major financial crisis today that

is not treated by this organization. The examples are many – all countries from Central and

Eastern Europe, developing nations from Asia and Latin America, Africa. It is another

question how well it handles the particular situations, but nevertheless its supremacy on the

international financial arena is up to now unchallenged. By providing loans bound to certain

conditions that the countries must fulfill, the Fund is shaping the international financial

system and its role is more and more important, especially with the envisaged broadening of

its competences.

The World Bank, through its various assistance programs for the developing and transition

economies has also an impact on the individual countries, thus promoting globalization.

Moreover, it finances often such projects that are of strategic importance to the country

involved, which presupposes that this same country will have better capabilities to participate

in the global processes after the program finishes. A small example aiming to clarify this

argument is the current restructuring of the national energy and water supply sectors of many

countries, mainly from Eastern Europe. The goal of all these programs is to make these

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sectors fit for integration in the European energy market and for the privatization of the

national water companies.

2.2. Reduction of tariffs

A major consequence from the growing importance of such intergovernmental organizations

is the reduction of tariffs. This was done on several rounds of the General Agreement on

Tariffs and Trade (now – World Trade Organization), spanning over a couple of decades.

After the last and the longest of them – the Uruguay Round – in which 123 countries have

taken part, the tariff protection today is at unprecedented low levels. In the last decade the

group of the developed countries reduced their unweighted tariffs towards the rest of the

world by roughly 50% and the developing countries - between 40 to 70 %. Although the

tariffs of all developing regions have fallen, they remain relatively high in comparison to the

developed countries. The tariff levels in the developing countries are between 9% in Central

America and the Caribbean to more than 25 % in North Africa, while the average non-

discriminatory tariff of the developed countries is around 3 - 4 % at the moment.9 The

elimination of trade barriers has spurred the international trade, because they have facilitated

enormously the market access.

2.3. Increased role of the transnational corporations

In the era of globalization there are international organizations of another type, different from

the intergovernmental public institutions, dedicated to regulation of the world trade and

financial system. These organizations are private by nature and often have equal or more

power to influence the lives of people. They are the transnational corporations (TNCs). The

very term “transnational corporation” suggests that these are enterprises that control assets in

countries, different from their home country. These companies have many and various ties

with their affiliates in the recipient countries – in production, logistics, distribution, finance,

etc. It is often cited that intra-trade between foreign affiliates and mother companies may be a

considerable part of the total trade (imports and exports) of a country. That is why the number

of TNCs in a country and their role in the economy, could be treated as a sign for the level of

globalization. Of course, the more such companies in a country and the bigger they are, the

more integrated it is into the global economy. From the report of UNCTAD “Development

and Globalization: Facts and Figures” (2004) is evident that among the top 50 non-financial

9 UNCTAD, Development and Globalization: Facts and Figures, 2004, p 69 - 71