Foreign Outsourcing, Labour Demand and the Choice of Functional Form

Abstract

Elasticity of the demand for low-skilled and high-skilled labour in the European Union with respect to foreign outsourcing is estimated, using alternative flexible cost functions. The choice of functional form is apparently not immaterial, as different forms can lead to conflicting conclusions. Tests that can help to discriminate between different forms of functional specification show that a traditional generalized Leontief cost function is often rejected in favour of a minflex Laurent generalized Leontief cost function. Overall, the estimation results show that foreign outsourcing had a significant impact on the demand for low-skilled and high-skilled workers in the sample period. The pattern is however industry- specific and suggests, in line with some recent theoretical models, an ambiguous relationship between outsourcing and labour demand. There is some evidence that high-skilled labour and capital are (relative) complements.