Low-skill offshoring and welfare compensation policies

•We analyze the effects of low-skill offshoring on welfare.•We evaluate several mechanisms which can compensate for the negative effects.•We use a matching model with frictions with two types of workers and firms.•Labor market flexibility is recommended as a welfare improving tool.•Skill upgrading of low-skill workers is also encouraged.

We analyze the effects of low-skill offshoring on welfare. In the context of a matching model with different possible equilibria we discuss three alternative policies that could potentially outweigh the negative welfare effects of offshoring, namely, a change of the unemployment benefits, labor market flexibility, and a progressive tax structure. Our calibrations for the German economy suggest that increased flexibility can bring low-skill workers to pre-offshoring welfare levels, something that cannot be accomplished by meddling with the unemployment benefits scheme or a more progressive tax structure. In addition, we find that a full compensation can be achieved by an upgrading of low-skill workers, its size depending on the type of equilibrium involved. In sum, our analysis gives support to labor market flexibility and upgrading by education as best therapies for offshoring.