As manufacturing jobs are moving to Third World nations and tech support is being outsourced, there is concern that the standard of living for most residents of developed nations will gradually decline until all the world resembles a Third World nation.

Companies and investors move capital around the world in search of ever greater profit margins. Those nations with the fewest laws protecting workers' rights and most free to pollute are able to offer companies much lower costs of operation. As a result, these companies gain a distinct price advantage over those operating in more developed and democratic nations. As rich, massive corporations move their operations into repressive governments, there is a possibility that large corporations will gain ever greater control over the domestic and foreign policies of nations around the world.

Without democratic control of corporations world-wide (or, failing that, protectionist policies at home), even companies run with the best of intentions are forced to relocate or outsource in order to avoid bankruptcy. The result is unemployment in developed nations for the working class alongside increased wealth for the owning class (whose "jobs" surprisingly aren't moved overseas) - leading to a greater percentage of jobs that serve only the wealthy. The threat of unemployment can then be used as a weapon to keep employees from "misbehaving". Laws protecting employees and the environment in developed nations, in many instances, will have to be removed in order to compete with more repressive nations closer to the bottom.

Even within a nation, if one company (for example, Wal-Mart) is treating its workers poorly, fighting unions, it will be able to offer lower prices than its competitors - forcing them to follow its example in order to survive. Low pay in turn forces employees to purchase ever lower priced goods, further pushing more virtuous companies to the brink. The local politicians in various states and provinces within a nation are then pressured by local unemployment numbers to rollback laws providing for decent working conditions and cleaner environments in order to become more "business friendly" and attract the capitalist.

Further reading:

The notion of a 'race to the bottom' assumes that all countries and their people are in perfect competition, that the supply of employment is fixed (aka lump of labor fallacy), and investment does not contribute to economic or social welfare.

Some points to consider:

  • Companies do not relocate willy-nilly. Moving a factory will require a sufficiently trained workforce, which may or may not be available. Countries which have been the most successful in attracting investment have not necessarily been those where wages are the lowest, but rather those with a good standard of education. Productivity gains are likely to be higher in those countries.

  • Relocation comes with its own inherent costs and risks. Trying managing a software development project when your business analysts and programmers are twelve time zones apart, and you can have two legal systems who can give different verdicts to a case of he said she said.

  • Companies relocate not necessarily to make cheaper widgets, but in order to sell their widgets to foreign markets. Developing countries generally offer preferential treatment to foreign investors who will employ their citizens, over exporters who will nonetheless may be welcome if they pay the requisite tariffs. And it makes sense to use a cheaper cost base to make cheaper widgets which you will sell in these markets.

  • Investment does not make countries receiving investment look like third world nations. As a country makes things, it earns income from what it sells, which in turn increases incomes. More widgets on the market reduces their costs and makes them available to more people. And with more disposable income, people will spend their money in the labour-absorbing services industries.

  • The people in countries receiving investment don't like oppression, unfair labour laws or sucking in noxious fumes any more than those in developed countries. Countries with poor human rights records tend not to attract the best and brightest workers. An opaque dodgy legal system is also just as likely to frighten away investors. As has been seen in South Korea, Lebanon and Jordan for example, once people are sufficiently affluent they will want their drinking water potable and their governments accountable.

  • Corporations may seek to influence the host government to ease restrictions on foreign investment, such as tariffs which handicap them competing in their host countries. Ultimately consumers end up paying for tariffs - they are forced to either pay the government for the right to use a foreign brand, or settle on buying an inferior widget from a domestic protected company.

  • Relocating does not necessarily create unemployment in the countries that loose investment. I wasn't worried when the steelworks in my country were relocated to China, because I never aspired to be a steelworker. The consumers in the countries where foreign investment has headed will aspire for the kind of goods that the developed world still has a comparative advantage over. Often these are in the services or niche manufacturing industries. However, the conditions for the developed world to remain competitive depends on (a) a workforce with developed world standard of education, and (b) a regulatory environment conducive to businesses. In the developed world Nordic model and Anglo-Saxon model countries have managed to thrive with globalisation, while Rhineland model and Mediterranean model countries are floundering.

  • I guess the morale of the story is to be one step ahead of the game. Learn how Western women have silently adapted as work for seamstresses, typists and call centre staff have disappeared. Get a job in something that is difficult to relocate, like nursing or computer programming in something niche. And when that avenue of work disappears, try being an internet content provider before Bangalaore beats the Anglophone West in having a comparative advantage in glibness. E2 is good practice.
  • The race to the bottom effect has pretty consistently failed to happen.

    While in general 'race to the bottom' (RTTB) refers to any loosening of regulations to attract foreign investment, these days when we talk about RTTB we usually mean loosening of environmental regulations. The theory is that corporations in rich countries will move their polluting factories to the countries (usually poor countries) with looser environmental regulations. This is sometimes referred to as the 'pollution haven' effect. But this doesn't actually happen on a large scale, and the economic benefits to poorer countries usually outweigh the costs (environmentally or otherwise) of foreign investments.

    There are many different explanations as to why RTTB isn't happening. It may be because no company would want to build an expensive factory in a country so corrupt (and therefore unstable) that its government would trade off the well-being of its citizens for a little more money. And, older polluting technologies just aren't as productive as newer technologies that are initially developed in first world countries with tighter environmental controls. It could be that the pro-environment binge that the world has been on for the last 20 years has convinced all responsible nations to have at least rudimentary anti-pollution laws -- and made consumers hyper-sensitive to reports of pollution, making corporations keep it clean. And, generally speaking, the costs that the corporations are most worried about are the costs of labor, not the costs of anti-pollution measures.

    All of these help avert the disaster of RTTB, and no doubt other factors contribute as well. Whatever the reasons, empirical studies have shown that pollution and foreign investment are not directly related. (Although in many cases, they are inversely correlated -- such as in China, Brazil, and Mexico). Furthermore, World Bank funded studies have found that countries with policies that are more open to foreign investment tended to adopt less polluting technologies faster than those with closed policies. Foreign investment is actually a great way to become exposed to new technologies and new ideas, and to gain the funds to implement these new influences.

    An interesting analogy is the "California Effect". Since the 1970s, California has been leading the United States in tightening environmental regulations. But this hasn't caused industries to flee from California to other states. It has actually caused manufactures in other states to raise their standards to meet California's requirements, and has caused other states to tighten their own environmental standards -- a 'race to the top', albeit a very slow one.

    Hong Kong is currently having a problem keeping the air of its cities clean enough to continue to attract foreign investment. The major polluters are foreign owned companies -- specifically, Chinese factories located in the nearby Guangdong Province of China. While Hong Kong doesn't have a lot of influence over China's factories, it will be working to reduce the second greatest source of pollution, its own power companies. Due to the benefits of attracting foreign investments, Hong Kong will be trying to move to cleaner, less polluting energy sources. (Probably nuclear power, a mixed blessing at best, but it will reduce air pollution).

    Perhaps more directly relevant to the average noder, most companies don't even think about going to third world countries. Most foreign investments come from one first or second world country and go to another first or second world country. America, China, Japan, the countries of the European Union, Canada, Australia, and the other major economic powers prefer to trade with each other. Tim Harford reports that foreign investment in rich countries are more likely to be in polluting industries than foreign investment in poor countries, and that polluting industries are the fastest growing segment of foreign investment in the USA. Clearly, we have more to fear from foreign investment than does Cameroon.

    Just because RTTB isn't destroying the world doesn't mean that globalization doesn't have its downsides -- but as RTTB, sweatshops, and reduction of trade barriers start to fade as economic bogeymen, we can start to look to the real problems -- loss of traditional cultures and ways of life, and the undeniable fact that the Earth cannot support over 6 billion people using resources at the rate that citizens of rich nations have become accustomed to.

    Javorcik, Beata Smarzynska and Wei, Shang-Jin (2004) "Pollution Havens and Foreign Direct Investment: Dirty Secret or Popular Myth?," Contributions to Economic Analysis & Policy: Vol. 3 : Iss. 2, Article 8.
    Wheeler, David, "Racing to the Bottom? Foreign Investment and Air Pollution in Developing Countries" (November 30, 1999). World Bank Policy Research Working Paper No. 2524
    The Undercover Economist, Tim Harford, Random House, 2005

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