A Matter of Percentages

The CEO of an up-and-coming IT company in India related this experience about his recent trip to Taiwan. As we all know, Taiwan is the world's preeminent manufacturing source for semiconductor and electronic goods, especially complex high-end products. The Indian CEO was part of an Indian delegation that wanted to study Taiwan's success in the hardware arena.

In one of the presentations, an industry leader from Taiwan put up a slide that showed that each year, Taiwan with its 12 million people, exported $60 billion worth of hardware. India, on the other hand -- with its 1 billion people -- exported only $15 billion worth of software.

Yet, in the next slide, the Taiwan executive indicated why the Taiwanese hosts were envious of their visiting Indian guests. Hardware is manufactured and priced at razor thin margins. The margin on hardware was about 3 percent, netting the Taiwanese economy $1.8 billion on their $60 billion worth of hardware exports. The margins on India's software and IT services exports were in the 20 percent range. This means India netted about $3 billion from its exports of software and IT services.

Of course, for the multinational global clients from USA and EU, this fat 20 percent margin associated with India's IT exports triggers incentives to seek alternative sources -- within India as well as from other countries such as the Philippines, China, Vietnam, and Ghana.

As the International Herald Tribune columnist William Pfaff pointed out recently, globalization is subject to Ricardo's law of "comparative advantages" as well as to the lesser known, but more sinister Ricardo's "iron law of wages." The iron law of wages is simple and logical. It says that wages will tend to stabilize at or about subsistence level. In the global IT-aided economy, skilled workeers are infinitely available, replaceable, and generally interchangeable. Of course, the "subsistence wage" for such workers is more than for a peasant -- it is a wage that provides a barely-middle-class life.

As IT-related wages rise in India, and as strategically savvy Indian IT firms seek to maintain and boost their margins, it is inevitable that the multinational corporations' quest for "offshoring" will be a moving one. One implication is that locations in India other than the well-known IT hub of Bangalore may benefit -- it may be cheaper to get IT work done in Bhubaneswar than in Bangalore. Another implication is that other countries will find ways of attracting IT work away from India. But finally, for the Indian IT firms, the real challenge is to escape from the iron cage of Ricardo's wage-related law: to create IT innovations such that wages and margins can increase. This requires jujitsu moves on the multinationals.

It is said that the famous martial arts of East Asia originated with Buddhist monks who, in antiquity, traveled from India to various corners of Asia. To protect themselves during these perilous journeys, the monks invented martial arts. Now these arts flourish in Japan, China, Thailand, and Korea but have disappeared from India.

So, it remains to be seen whether Indian firms can come up with the requisite martial arts -- the "jujitsu" business strategic skills -- vis-a-vis the well-armed multinational corporations.


Nik Dholakia