But the fallacy of your argument is that the government is outsourcing services. There are services that the government used to provide that are now outsourced to private organisations (Blackwater springs readily to mind). The "free" stuff like healthcare, internet, cell phones, are paid for by the government yet there are no government workers providing these services.
I'd say your friend and you are both right - but you need to look at the whole equation, not just your popular side of it.
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