In 2006, on average 43% of the firms in the EU-15 practiced IT outsourcing (ITO). The determinants of ITO as well as firms' incentives to source out non-core activities have been examined extensively. As summarised by Lacity et al. (2010), the most important motive for ITO is "the desire to reduce cost on a non-core IT activity better provided by suppliers with superior skills, expertise, and technical capabilities". Less research focused on the impact of ITO on firm performance.

In this study, we analyse whether ITO increases a firm's probability of realising product or process innovations due to setting free resources that can be redirected to core competencies such as innovation activity. For our empirical analysis, we use two waves of the ZEW ICT survey, 2007 and 2010, comprising 1453 firms from the manufacturing and the services sector in Germany. The data set allows to employ different measures of ITO taking into account that the degree of outsourcing might matter and that there might be nonlinear relationships between ITO and innovation activity. By splitting our estimation sample in manufacturing and services firms we furthermore explore whether the impact of ITO on innovation activity differs between manufacturing and services firms given the fact that business processes are generally more IT intensive in services firms.

The econometric probit analysis shows a significant and U-shaped relationship between ITO and the product innovation activity of manufacturing _rms. In the service sector, by contrast, we find a significant and hump-shaped relationship between ITO and the realisation of process innovation. Applying a propensity score matching approach takes account of potential reverse causality between ITO and innovation; the results underpin the importance of ITO for services firms' realisation of process innovation.

Keywords

IT outsourcing, product innovation, process innovation, firm-level data