Outsourcing and Volatility

Paul Bergin, Robert C. Feenstra () and Gordon Hanson ()

Working Papers from University of California at Davis, Department of Economics

Abstract: While outsourcing of production from the U.S. to Mexico has been hailed in Mexico as a valuable engine of growth, recently there have been misgivings regarding the fickleness and volatility of this engine. This paper is the first in the literature to focus on the second moment properties of outsourcing. We begin by documenting a new stylized fact: the maquiladora outsourcing industries in Mexico experience fluctuations in value added that are roughly twice as volatile as the corresponding industries in the U.S. A difference-in-difference method adapted to second moments is used to verify that this finding is specific to the outsourcing sector and is statistically significant. We then develop two theoretical models of outsourcing that can explain this stylized fact. Both models rely on a continuum of products and many varieties of each product. In the first model, firms can enter into outsourcing relationships via new products and new product varieties, with CES preferences. In the second model, firms enter into outsourcing only via new product varieties, and the degree of entry is modulated by a novel mechanism of endogenous markups obtained from translog preferences.

Date: 2006
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Persistent link: http://EconPapers.repec.org/RePEc:ecl:ucdeco:06-28

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