Austria: A Case Study of How Offshoring Lowered Growth

Yves here. This post discusses how the way Austrian businesses moved operations that involved high skill levels “offshore” to Eastern Europe. Over time, that resulted in a loss of competitive advantage as those countries developed both more technically capable workers and invested in R&D while Austria fell behind.

It’s not hard to see that this example applies to the US, although the effects are not as easy to discern because the US has such a large internal market that growth in services has somewhat offset the erosion of US know-how in other areas. A second advantage the US has had is being able to maintain a strong position in some sectors in the absence of much innovation, such as pharma. where the US and other major pharma players have become experts in rent extraction from intellectual property monopolies/oligopolies. And we also have a very large arms export business via client states, but as Russia’s recent performance showed, decades of feather-bedding has made the military-industrial complex a high cost vendor. Experts were apparently shocked at the performance of Russian hardware, which was clearly produced at much lower cost than ours.

Contrast this with the sectors where the US has been eating its seed corn. The denizens of the Acela corridor keep prescribing that more college students need to major in the STEM disciplines. Yet for over a decade, any reader of Slashdot will tell you that a staple of that site is forlorn computer sciences majors, either about-to-graduate or newly minted, who have found out that there are pretty much no entry level jobs in the US. India is growing the next generation of computer professionals, not the US, Similarly, the pay levels in most engineering jobs are not high enough to justify the cost of getting a degree….unless you go to law school and become a patent or other sort of intellectual property attorney. And how many IP lawyers does the US need? And even though many of them do do useful work, it’s not the end result that the DC policy wonks had in mind when they pump for college students to focus on careers that they fantasize both lead to better employment options and add to America’s economic prowess.

By Dalia Marin, Chair in International Economics at the University of Munich. Originally published at Project Syndicate

Austrian firms invested heavily in Central and Eastern Europe. They offshored the parts of the value chain that required specialized skills and produced valuable research. This resulted in lowered growth in Austria.

Austria was once lauded as Germany’s more successful neighbor, one of Europe’s fastest-growing countries. But its economy has been sputtering since 2012, with GDP up last year by a meager 0.7%; only Greece and Finland performed more poorly. And Austria’s unemployment rate has soared, from 5% in 2010 to 10% today.

These developments have their origins in how Austria engaged with Central and Eastern Europe after the fall of communism. At first, Austria benefited from the European Union’s eastern enlargement. International trade soared, Austrian firms invested heavily in the region, and Austrian banks opened subsidiaries there, financing these countries’ modernization. All of this was good for business, and the Austrian economy grew rapidly.

But a hidden dynamic ultimately turned the tables on this success. Central and Eastern European countries had low per capita income, but were rich in skills. Austria, far wealthier, was not. In 1998, 16% of Central and Eastern Europeans (including Russia and Ukraine) had academic degrees, compared to just 7% of Austrians. So, when Austrian firms invested in Eastern Europe, they did not just relocate low-skilled manufacturing jobs; they also offshored the parts of the value chain that required specialized skills and produced valuable research.

According to my research, from 1990 to 2001, Austrian subsidiaries in Eastern Europe employed five times as many people with academic degrees, as a percentage of staff, as their parent firms did. They also engaged 25% more research personnel in their labs.

This relocation of research activity lowered growth in Austria and boosted growth in Eastern Europe. Research spills over to the rest of the economy, as new knowledge diffuses into commercial activities. Tapping the knowledge produced by Austrian subsidiaries was one of the ways Eastern European economies were able to grow so quickly.

Today, Bratislava, Prague, and Warsaw – the location of most Austrian subsidiaries – have higher per capita incomes than Vienna. Indeed, according to the Hungarian economist Zsolt Darvas, in terms of purchasing power parity, all three cities surpassed Vienna in 2008. This is a remarkable development, given that Vienna has served as a reference point for these capitals for centuries.

Germany’s growth was not similarly affected, for three reasons. To begin with, after the fall of Communism, Austria reoriented its foreign direct investment almost exclusively to Eastern Europe, which accounted for nearly 90% of its FDI outflows. In Germany, just 4% of FDI moved to Eastern Europe in the 1990s, reaching 30% at the turn of the century. As a result, Austria became much more integrated with Eastern Europe.

Second, Germany was richer in skills than Austria. In 1998, the share of the German population with academic degrees was 15%, more than double the Austrian level. German firms did relocate high-skilled work to the east, but not to the extent that Austria did. As a proportion of the workforce, German affiliates in Eastern Europe employed three times as many people with academic degrees as their parent firms did. And German subsidiaries employed 11% more researchers than their parent companies.

Finally, many of the Austrian parent companies were themselves subsidiaries of foreign firms, while German firms were German multinationals, which transplanted their corporate culture to their Central and Eastern European subsidiaries. They employed more German managers relative to local managers, which gave them more control over innovation. Furthermore, most German investments were based on the transfer of an established technology; only 8% of the country’s FDI in the region involved cutting-edge research.

By contrast, Austrian firms adapted their business to the region’s environment and employed more local managers than Austrians. As a result, their subsidiaries were more autonomous in their innovation decisions. There was no mechanism that guaranteed that the knowledge created in a subsidiary also benefited the parent company.

If Austria is to return to its previous growth path, it will have to become more attractive as a location for innovation. And to do this, Austrian firms must employ highly qualified people in their research labs.

Educating a highly skilled workforce takes time, of course. But fortunately, Austria has another option: immigrants. Austrian policymakers could choose to follow Canada’s example and introduce a selective immigration policy that welcomes highly skilled migrants and refugees.

Austrians nearly closed the door on that option. Now they must recognize that what populists call a weakness could be Austria’s best hope for reviving growth.


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  1. David

    I went through our imports from China and we do seem to make everything they expirt to us though not as much. I have a manufacturing company but I outsource to another state. But I have an order that may be big enough to take some equipment out of the warehouse….the lesson like Austria is dont throw away manufacturing knowledge…its knowledge unlike the rest of the economy.

  2. vlade

    TBH, to an extent it’s only return to statu-quo-ante-bellum, where the war is WW1. I.e. what is now Czech Republic was pretty much the industrial heartland of Austro-Hungarian empire. Say Skoda works were building most of the AHE armaments (say pretty much all heavy guns) etc.
    Bratislava is a special case, because it’s so close to Viena that they can be now considered “twin” cities (they are about 1h drive apart, less than a lots of Londoner’s commute) – so even before Slovakia entering EU in 2005 a lot of Slovaks from Bratislava worked in Vienna. As a result Bratislava is a very rich region (above average in EU) – but the rest of Slovakia is incredibly poor (amongs the poorest in EU).

    Austria suffered from the fact that it’s where it is – it’s within a couple of hours drive from about five major EE cities with reasonable universities (Prague and Brun in CZ, Bratislava in Slovakia, Budapest in Hungary, Krakow and Katowice in Poland).

    1. paul

      I was there a few months ago, and if that’s suffering, I imagine a lot of people in the eurozone would put up with it.

      1. vlade

        Suffering is relative.

        Quite a few people round the world would gladly (at least initially, until they get used to it) swap with even the poorest in developed countries. Even homeless in LA is, in a number of ways, better off in than someone in parts of Asia/Africa (where you’re as likely as not be dead next day).

        1. PlutoniumKun

          Austria is also one of those countries where the poor and marginalised tend to be shunted out to the outer suburbs of cities and towns where they simply aren’t seen by casual visitors, leaving the idea that its a very wealthy and equal place. On my first visit to Vienna I was very impressed at how there seemed almost no overt poverty (apart from the drug dealers and addicts around the train stations). But on later visits a local friend brought me to some of the poorer outlying fringes of the city. They are by no means terrible – Vienna does public housing very well, much better than the UK or southern European countries – but it was still obvious that lots of people were quite badly off, especially first and second generation immigrants.

  3. Austrian Reader

    I am Austrian and while there have been grave economic and political mistakes affecting our economy, partly dictated by Brussels, this analysis does not convince me. The paper takes university degrees as a proxy for highly skilled labour, but with our vocational system, a good plumber may be more useful and earn more than the average lawyer with a degree (and I have one of those myself.) Degrees are not so easily comparable from country to country, either. Innovation is not stifled just because of outsourcing, but because of endless red tape, a corrupt crony political system, too high taxes on labour, and a whole assortment of perverse incentives. Outsourcing to the east was the least of it.

    1. Chris

      i am also from Austria (Vienna), and not convinced. I don’t think Bratislava has a higher per capita income than Vienna! I mean, a lot of people actually come from Slovakia and Czech Republic over the border to work in Austria, so it can’t be that bad.

  4. PiciGrici

    I would take this with a grain of salt. I have studied the processes of offshoring and outsourcing from Western to Eastern Europe, and while this has had an impact on the bargaining power of the WE labour of all skill levels, it has hardly impoverished Germany and Austria as a whole. Offshoring of skilled work is also relative – the fact that Austrian firms might be employing more persons with higher education in e.g. Poland doesn’t mean that they are still not employing them as assembly line operators. A comparison of average wages/incomes rather than per capita GDP across these cities would certainly show Vienna as far more affluent than Budapest or Prague.

    That said, something has been going on with the GDP per capita figures, but I’m almost certain it is something fishy, because Eurostat comparisons regularly show Bratislava as being in the top richest regions in Europe, whereas the rest of Slovakia is at the rock bottom. Vlade mentioned labour migration to Vienna (that in itself should tell you that Bratislava is in no meaningful sense “richer” than Vienna); another factor might be that these countries are so highly centralized (and so small) that nearly every company in the country is incorporated in the capital city, and that inflates the GDP figures.

    1. vlade

      Labour was migrating to Vienna before 2005. But after Slovakia joined EU (even before they got EUR, as the only of Visegrad countries so far), the jobs migration started in the other way, big way.

      I believe there are three large car factories in the wider Bratislava region (VW in Bratislava, Pegueot and Jaguar close by), and another (Kia) not too far north (although this I suspect would fall under different region). Car industry makes 12% of Slovak GDP (and >40% of exports). Compare with UK, where finance make “only” 8% of GDP.

      Bratislava and the rest of Slovakia (which is fairly isolated due to geography and the lack of good infrastructure) is London and the rest of the UK squared.

      Last time I was in Bratislava was almost 20 years ago, but people who were there recently are telling me it changed a lot, and wealth is seen just about everywhere – and not in the conspicuous consumption, as much more in renovations and sprucing up of public spaces and historical buildings etc. – a lot of public money is apparently being spent very visibly (in a good way, at least according to the visitors).

  5. PlutoniumKun

    Presumably, its not a coincidence either that Austria is one of the main centres of the renaissance of the new ‘respectable’ far right, especially in the light of those unemployment figures.

    Vienna is a very beautiful and humane city, but its always struck me on my visits that you can almost feel the lack of dynamism compared to other major European centres. I remember in the immediate aftermath of the 2008 crash there were many rumours that Austrian banks were particularly vulnerable due to their exposure to East European loans, especially as the Euro rose relative to those currencies. It does seem that Austrian capitalism bet pretty much everything on investments in their eastern neighbours, for better or worse.

    1. paul

      I think that was what I liked about it.
      I haven’t been to that London in years, I think the dynamism would freak me out.
      Though I was surprised to see a gigantic marijuana supermarket across from my hotel.
      Edinburgh’s much the same, 3 miles east of the new town takes 11 years of your life expectancy, thanks to years of a very conservative and socially conscious local planning.

      1. PlutoniumKun

        Yes, well, too much dynamism can leave you with a hell of a headache (I had a few of those from living in London). I just always found Vienna to be sleepy in a way you don’t expect a major capital city. The irony is that it was a tremendously vibrant place politically and artistically for much of its history.

    2. generic

      Presumably, its not a coincidence either that Austria is one of the main centres of the renaissance of the new ‘respectable’ far right, especially in the light of those unemployment figures.

      Nah, unemployment isn’t so bad compared to the rest of Europe. I’d put Austria being at the front of the rise of the new right down to other factors:

      A proportional voting system without any bonus for the winning party leading to conservative social democratic coalition governments as soon as other parties got into parliament.
      Loyalty of the trade unions preventing a challenge from the left.
      The biggest boulevard paper used to have one of the highest penetrations and they pushed hard for the right wing.
      The pretense of being the first victim of Hitler lead to less of a stigma on right wing associations.

      1. Chris

        i can tell you the reasons for the rise of the right:
        – media (Kronenzeitung, Heute, Österreich)
        – living conditions slowly getting worse (though still very good compared to other countries)
        – incompetent center left and center right partiess who have together been ruling for ages
        – countryside in Austria is and has always been very conservative – cities not so much

    3. Chris

      I live in Vienna for 15 years now. It has always been slow and relaxed, that is kind of our brand. People usually like it. The city had a mayor from the left since forever, so there are quite a lot of social projects, housing and so on, so that poverty due to longterm unemployment is probably more endurable than in other cities. But it is there, and it grows, the global crisis stops nowhere. But a lot of wealth is resident in Vienna, Austria is still a rich country.
      In the last years a lot of economic refugees from the periphery came to Vienna (my girlfriend is from Catalunia for example..), mostly young and well-educated people. Also since last year we have some war refugees, who are mostly busy learning german and looking for jobs. They seem like very nice people too. It all makes the city more vibrant than in the past, especially now in summer!

  6. dw

    this is just a live example of what many call the hallowing out of the US. course that hallowing out takes away customers too. but thats a longer term problem, which US business doesnt care about. yet

  7. DarkMatters

    1. Countries with the higher proportion of academic degrees have a socialist history.
    2. “Offshoring” went in the direction of lower labor costs.

    So, instead of concluding that maybe there should be more of an investment in educating its own population, instead, the elites saw an opportunity to exploit a social investment made by other countries to profit. (Investment in education would raise taxes!) The welfare of the host country, and its laborers, and the intellectual level of its society, be damned.

    The magic of the marketplace. Who’s minding the store? Oh, never mind…

  8. F900fixr

    I would like to see someone do some study on how much of our “bloated” defense budget is spent on salary and benefits.

    For most middle class and lower kids, signing up for the military is by far their best option……….better than civilian pay, better than civilian benefits, free training in all kinds of skills transferrable to civilian life, free medical coverage for themselves and the family, housing allowances, $25,000 or more in retention bonuses for “high skill” specialties. Then, retire in your late 30s, and make bank as a government contractor.

    And lets face facts, the GWOT is a relatively “safe” war, especially for anyone who isn’t a real “boots in the sand” type.

    I wonder what is statistically more dangerous? Living in a major military base overseas, or living in poverty in a major US city? And how many people have joined the military not because of “patriotism”, but because it was the best deal out there, financially?

    General Sherman might have thought differently about war, if he had joined the US Army in the 21st Century.

    My answer? Bring back the Draft. Women included. The GWOT is a “War”, is it not? If our “way of life” is at stake, nothing is too radical to consider. Which means NO DEFERMENTS. Especially for college, or for vague physical limitations. No reason a guy with flat feet can’t park his azz in a missile silo in Wyoming, or a weather station on Wake Island, for a few years.

    Part of the reason our government finds it so easy to get involved in being World Police, is that they can always rationalize committing our guys because “they signed up for it”. Especially when those guys mostly come from lower middle class and poorer families.

    My draft would incentivise the decision makers to avoid armed conflict, by making sure the drafted kids of the ruling classes/1% will be the first deployed. After all, if it’s worth fighting (and killing) over, we would be remiss in not employing their God-given talents of the best and brightest to lead us to victory.

    1. Jeremy Grimm

      I think a draft might encourage Neocon misuse of our young people. And women’s rights and equality or no I don’t favor drafting women – Vive la difference! We don’t need a big standing Army and we don’t need to go around the world spreading death and discord.

      As for the military pay — yes the soldiers do better than many receiving civilian pay and yes believe it or not the military is probably the least discriminatory of any employer — judging from what I saw as a defense contractor — but the big money in defense is going to the Military Industrial Complex in procurements and in paying contractors like me — and remember the overhead my firm charged was larger than the pay I received in my gross — and this is not peculiar in the defense industry.

      If you want to bring back the draft I think we should first create a new non-military service — something like a cross between the Peace Corps and the CCC. Whether anything will be done to cut back on carbon emissions, we face impending crises now given the already present heating of the oceans and melting of polar ice — as storms and droughts strengthen — as food supplies grow small while hunger spreads — as oceans rise and die. We must do something to mitigate the disasters we will face all too soon. We could put all our unemployed to work on meaningful work and employ all our educated and best minds to work through the growing set of conundrums we will face. I remember the zeal of the Race to the Moon. Saving the Planet and It’s Life seems an even greater challenge and a nobler and more inspiring goal.

    2. baldski

      fixr: You are so true!

      Who is the biggest owner and operator of golf courses in the world?

      Answer: The Department of Defense.

      Why do we have more admirals and generals now than in WWII when we had 15 million men in the services?

      Answer: I have not a clue, but levels of command have to be created to give them all a job, including lobbyist positions for twisting arms in Congress.

      Why do we have so many aircraft carriers, I believe we are up to 11?

      Answer: To keep the naval officer corps in business. You cannot be promoted in the Navy without sea time. An aircraft carrier gives a whole bunch of line officers – sea time.

  9. Left in Wisconsin

    One factor continually ignored by economists when trying to explain the retention of high-value added jobs in Germany compared to other countries, perhaps the most important factor, is labor law. In addition to the works council having a considerable say in the operation of the firm, German employers are required to negotiate “social pacts” with their unions to cover worker severance and other costs associated with job loss. These tend to be very expensive, providing German employers an incentive not to cut jobs if they can avoid it. As a result, job loss associated with outsourcing tends to be much less. And when you have no incentive to outsource, then it provides a real incentive to get the most out of your expensive, German workforce.

    I don’t know Austrian labor law but my guess is that it is not comparable.

    1. Jeremy Grimm

      Also — I don’t know for certain — I returned from a visit to Germany several years ago with a strong impression that they had special laws to protect and encourage their small businesses.

    2. generic

      I don’t know Austrian labor law but my guess is that it is not comparable.

      Actually that is not true, Austrian and German labour law are very similar.

  10. Winston

    Canada job market so small, 40% of new immigrants leave within 10 years of arrival:

    Canada Immigration: Foreign Skilled Workers Struggle To Find Jobs In Their Professions

    Why some immigrants leave Canada

    And Millenials have lousy job prospects:

    Millennials’ job plight is more complex than simple unemployment
    Even young people with jobs still grapple with low wage growth, job insecurity, high debt loads and more

  11. Winston

    #Austrian Reader- corruption bites when more structural weaknesses in system. You can see the difference in say Detroit vs. Chicago or NYC.

  12. Winston

    @Jeremy Grimm I think Seniors will kill the MIC as they need lots of assistance and they vote the most! On top of that USD and debt depends on the noxious Saudi’s as petrodollar linchpin. They are more likely to be consumed by own incompetence sooner than later..

    Also this sociologist has an interesting take on how weapons systems and officer ranks/rewards were tied.

    Most who enlist get cheated as pensions only for small percentage of people in the force. Meanwhile relying more on military families.

  13. Roland

    Immigration is not the solution.

    Bite the bullet and develop internally. Austrians need to do all of the work by themselves, and for themselves.

    Canada is the wrong analogy. Canada is a non-national state that had a heterogeneous population before the recent mass-immigration policy began in the 1980’s.

    Austria, however, is a national state. A deliberate programme to alter the ethnic composition of the Austrian people will cause unnecessary problems.

    If you are going to do that sort of change, you have to be very forthright about what you’re doing and what it means. Put it to a vote, in the starkest possible terms: “Do you want to permanently alter the ethnic composition of our country in order to get a couple of extra percentage points of GDP. Yes or No?”

    I say this:

    An integral nation is itself a valuable thing, well worth the price of purchase. Never erode nationhood for the sake of economic growth. Instead, erode economic growth for sake of nationhood. Don’t think like a bourgeois.

    Don’t get me wrong. I live in Vancouver, and I like Canada’s ethnic mix. But Canada is not a model for any of the “old and famous states” of Europe.

  14. Roland


    Vienna could be a cosmopolitan place only as a by-product of empire. When the Austrian Empire declined, cosmopolitan Vienna became a hotbed of nationalist extremism.

    Even in Canada, mass immigration has caused problems.

    The influx of “allophone” (i.e. non-French, non-British) of migrants precipitated the secession movement in Quebec province. The Quebec gov’t has for decades maintained a series of restrictive laws and rules on language and education.

    Canada has to have a “Notwithstanding” clause in the part of its constitution dealing with civil rights, which allows provinces to “opt out” of fundamental freedoms, as long as they keep passing the laws every five years.

    In the economic sense, liberal immigration laws have lowered real wages and contributed to a rapidly widening gap between rich and poor. Canada is only a decade behind the USA in this respect.

    Again, don’t get me wrong. I live in a cosmopole, and it’s not bad. Even the apartment building in which I live, could be fairly described as “the world under one roof.” I like it here.

    Cosmopolis is often admirable, but it must never be considered normative.

    It’s good that the world has cosmopoles. But the whole world doesn’t have to become a cosmopole. One cannot appreciate cosmopolis, without insisting that the whole world become a cosmopolis.

    Cosmopolitanism is Janus-faced. One can say, “my city embodies the world in one community.” That oppresses no one. But if you say, “the world must be embodied in a community like my city,” that is a different matter. Universal cosmopolis would be nothing but an oppressive monoculture.

    In our time, we find anti-national neoliberal bourgeois imposing their version of cosmopolis on the nations. In doing so, the bourgeoisie are expropriating the nations without consulting or compensating the proletariat of those nations.

    Maybe the people of a given nation want to get rid of their collective national property. But it must be done openly, in a manner, and at a time, consented to by the mass of the people in the nation concerned.

    The nations do not belong to some bunch of neoliberal technocrats. That’s part of why the EU is running into so much trouble today..

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