Offshoring to a developing nation with a dual labor market

Abstract

We present a model of offshoring of tasks to a developing nation characterized by a minimum-wage formal sector and a flexible-wage informal sector. Some offshored tasks are outsourced by the formal sector to the lower-wage informal sector. Productivity improvements in performing offshored tasks in the developing nation increase offshoring, but not necessarily formal-to-informal sector outsourcing, which can cause the developed nation’s wage to fall. Productivity improvements in the developing nation’s informal sector expand both offshoring and outsourcing, causing the developed nation’s wage to rise. When the minimum wage is reduced in the developing nation, the developed nation’s wage falls when most of the efficiency gains accrue to the informal sector. (JEL F1).