THE BIG SQUEEZE

Europe is less vulnerable to offshoring than America. Rigid labor laws insulate its workers from pay cuts and layoffs. Still, Deutsche Bank predicts that 2 percent of all service jobs in Germany could move overseas within four or five years. Ian Marriott, head of global-offshoring research for the Gartner Group, says that Nordic companies have been slow to catch on to offshoring and will soon be "at a financial disadvantage to global competitors who come into their markets."

The OECD recently analyzed how many European jobs could be affected by service-sector offshoring. It examined occupational classifications where people use PCs heavily, use the Internet to transfer work, and where the work involves "codified information" (as opposed to "implicit knowledge") and little face-to-face contact with customers. The study found 15 at-risk job categories--among them clerks and keyboard operators, engineers and architects, mathematicians and statisticians, chemists and physicists--representing 19 percent of total employment in the EU-15, which is the EU minus the 10 new members who joined last year. The OECD's Desiree van Welsum, author of the report, called the result "calming, not alarming," because the 19 percent number is the "outer limit" of occupations at risk, and "the entire sector would never be affected."

Economists don't believe that the next phase of offshoring will cause massive unemployment. Indeed, they emphasize that as a percentage of all job losses, those attributable to low-cost foreign competition are modest--well under 10 percent. And many experts--including those at McKinsey--have long argued that the benefits of offshoring considerably outweigh the costs. Globalization keeps consumer prices low, raises corporate productivity and frees up money for further investment in new technologies and industries.

But intense global competition could erode incomes and, hence, standards of living. Wages are not now tracking productivity gains. Since 2001 U.S. productivity has risen by about 4 percent annually, but wage growth has averaged only 1.5 percent. Jagdish Bhagwati, an economics professor at Columbia University, says that globalization is not a zero-sum game: the hiring of an insurance-claims technician in Manila does not necessarily mean that a technician in Pittsburgh or Berlin is losing his or her job. "But some workers do lose out. In America, this loss comes in the form of wages. If the Federal Reserve does its job, and unemployment stays at around 5 percent, then if you're fired by Boeing, there will be other jobs available. The problem is that the new job may pay less than the previous one; and if this happens to enough people, wage rates will go down. There will be fewer good jobs and thus greater competition for the good ones."

Europe faces an arguably more serious dilemma. If its companies start offshoring more, unemployment could rise--and with it the impulse to enact self-defeating protectionist laws. If it doesn't offshore more aggressively, the Continent will lose global competitiveness and become something of a long-term loser itself. Many economists argue that the EU needs labor-market flexibility and U.S.-style job churn to spark innovation. "Unions have such control over wages there," says Bhagwati, "that unemployment results and people live off the welfare state," stifling productivity and growth. According to McKinsey, just over half of Americans who are laid off and find new jobs take a pay cut of at least 15 percent, and one quarter will see their salaries fall by 30 percent. In Europe, confirming Bhagwati's point, McKinsey says that most who lose their jobs are still unemployed after several months. That illustrates a lack of the dynamism from which comes new businesses, new skill de--velopment, and the creation of new jobs.

No one can say with any authority just how much the West's competitiveness might weaken over time. But there are suggestions that the technological edge that the U.S. and European companies have enjoyed might gradually disappear. According to the Washington-based Economic Policy Institute, the U.S. software industry lost 16 percent of its jobs in the three years from March 2001 to March 2004. That, in turn, may have dampened the enrollment of U.S. students in computer and engineering programs--down 23 percent between 2002 and 2003, according to the Computing Research Institute. As an official at the Washington Alliance of Technology Workers, a union group, asks: why major in computer science when technology jobs are headed offshore?