Production Networks in Southeast Asia

Lili Yan Ing, Fukunari Kimura

• Publisher: Routledge
• Year: 2017
• ISBN:
  9781315406763
• Edition: 1
• Topic: Economics
• Subtopic: Economic Theory
• Index: Economics

This book answers the recently topical questions of how China's processed trade affects the trade of Southeast Asia. What is Southeast Asia's role in Factory Asia, the region's complex of cross-border supply chains? What is Southeast Asia's involvement in building or joining production networks in the region? And, most important, how can Southeast Asia increase the value added of its products and improve its competitiveness?

This book provides rigorous analysis of how trade policy affects value added, highly disaggregated at the firm and product level, of the six Southeast Asian countries – Indonesia, Malaysia, the Philippines, Singapore and Viet Nam – and combines this with thorough examinations of their trade, industrial and labour policies.

1 Introduction

Lili Yan Ing and Fukunari Kimura

1. Introduction

East Asia Pacific (EAP) economic growth has outperformed global growth for the past two decades, except from 1997 to 1999, due to the Asian Financial Crisis. Compared with other regions, EAP had the highest growth in 2014, and growth in developing EAP remained strong in 2014, although slowing somewhat following the global financial and economic crisis. Most East Asian economies are well positioned to weather renewed volatility.

The drivers of global economic growth are shifting toward East Asia, and Emerging East Asian economies (EEA) are well situated to benefit from the growing power of Asian economies. Developing East Asia grew by 6.2 percent in 2014, with slower expansion in China pulling down much of the regional aggregate (World Bank 2015). The emerging Southeast Asian Economies, Indonesia, Malaysia, the Philippines, Thailand and Viet Nam experienced strong growth in the past two decades – among the highest in the world. The average growth of these economies was 5.2 percent from 2005 to 2015. Despite the recent global crisis in 2008, the five ASEAN countries grew at an average of 5 percent in 2015 (EIU 2013). The growth of Emerging East Asia is estimated to be on a par with China.

East Asia has achieved sustained economic growth by applying development strategies that have aggressively exploited the mechanics of global value chains, and thus it is meaningful to analyze the industrialization process with trade in value added, input–output and firm-level data merged with product-level data.

Section 2 explains trade in a new paradigm. Section 3 draws the new things from this book and outlines short explanations of Chapters 2 to 13.

2. Trade in a new paradigm

2.1 The mechanics of production networks and trade in value added

Trade-in-value-added (TiVA) data provide novel and insightful information on how a country’s economy is connected with the rest of the world. We notice that in the globalization era, tight links with the world economy are essential to economic prosperity, and government policies are the key for it. However, we still do not know exactly what sort of connectivity is effective for economic development and what kind of policies are needed to achieve the goal. TiVA data provide us a novel angle of looking at the nature and characteristics of global value chains (GVCs).

Many scholars and practitioners have tried to develop various methods for exploiting TiVA data, and the development process is still ongoing. Because various indicators, figures and tables generated by TiVA data are so stimulating, there is obviously a great temptation to jump into easy though sometimes misleading conclusions. We would like to list three caveats that we should address, based on the development of analytical tools for TiVA data up to this moment.

First, TiVA data present international industrial linkages, but do not directly tell us the nature of such linkages. Since the mid-1980s, we have observed the emergence of international production/distribution networks (Jones and Kierzkowski 1990; Ando and Kimura 2005) or the second unbundling (Baldwin 2011). These are the international division of labor in terms of production processes or tasks in contrast with the traditional industry-by-industry international division of labor or the first unbundling. With such a new type of international division of labor, international trade in intermediate products and parts and components has explosively increased in contrast to traditional international trade in raw materials and final products.

ASEAN and East Asia are the regions in which international production networks have most advanced in the world, particularly in machinery industries, including general machinery, electric machinery, transport equipment and precision machinery. Of course, production networks are observed in industries such as textiles and garment, cut flowers, software industry and others. However, in these industries, most of the activities still belong to slow value chains or the first unbundling. The difference between slow value chains and production networks or between the first unbundling and the second unbundling ultimately resides in the way of organizing production/distribution chains, rather than being based on industry-by-industry differences.

Second, the decomposition of value added in produced/exported goods into domestic and foreign value added is useful, but we have to be careful in drawing policy implications from it. In the context of a country’s economic growth, the value added of the country is certainly a prime target, together with domestic employment. The higher the value added, the higher the national welfare as far as economic efficiency is concerned. We have to note, however, that what is important is the amount of value added rather than the ratio of domestic value added. The trick is that the international division of labor allows countries to import what each country is relatively poor at producing and export what it is relatively good at producing. With enhancing international trade, the world total welfare goes up, and at the same time, in most of the cases, each country’s welfare also enhances. Trade and investment liberalization tend to pull down the ratio of domestic value added but push up the amount of domestic value added. In general, the ratio of domestic value added depends on many factors such as (1) size of the domestic economy, (2) the existence of exporting upstream industries such as agriculture and mining, (3) general openness to trade of the economy concerned, (4) the degree of participation in international production networks or the second unbundling, and (5) the extent of industrial agglomeration. (1) and (2) are supposed to enhance the ratio of domestic value added, which must be adjusted for international comparison. (3) and (4) would lower the ratio of domestic value added, which should be interpreted as rather a good phenomenon. (5) may increase the ratio of domestic value added. The issue in (5) depends on the form of industrial agglomeration. In the old days, many developing countries tried to build up industrial agglomeration by conducting the so-called import substitution strategy with trade barriers and mostly ended up with big failures. We should not follow such steps. In the current ASEAN and East Asian developing economies, industrial agglomeration is formed together with tight and thick connectivity with international production networks. In such a case, the core of industrial agglomeration is the inter-firm (arm’s length) division of labor supported by intra-firm supplies from international production networks (Kimura and Ando 2005). Industrial agglomeration provides local firms to participate in production networks, enjoy technology transfer and spillover, and eventually upgrade their capability from process to product innovation. Policies to support the formation of such industrial agglomeration, which is quite different from the import substitution strategy in the past, may result in a higher ratio of domestic value added.

Third, TiVA data are constructed based on international input–output (IO) tables, and thus their reliability depends on the quality of the original statistical information. Each country’s IO tables are so-called secondary statistics estimated from “primary” statistics such as production statistics of each industrial sector and other fragmented information. Missing is comprehensive information on the production structure of services subsectors. Although analyses on services ingredients in production are now one of the focal points in the TiVA literature, we must be somewhat conservative in interpreting results of data analyses, particularly for disaggregated services subsectors. In addition, international IO tables, and thus TiVA data, are in nominal prices. We thus have to take into consideration over-time price changes, particularly for fluctuations of energy prices, when making time-series comparisons. Or, even in one-shot analysis, we should notice that price differences across countries are not taken care of. These three caveats are already well recognized among researchers and would eventually be overcome, at least partially. However, we should bear them in our minds for the moment.

3. The new information from this book

This book provides insights on global value chains of Southeast Asia’s products by painting an overall picture of it using the available OECD TiVA data, which are complemented by country analyses using input–output and merged firm-level and product-level data. This is also enriched by lessons learned of improving value added from central Eastern Europe and Latin American countries. This book is concluded by examining thorough industrial policies.

In Chapter 2, Javier López-González and Przemyslaw Kowalski explain the position of Southeast Asia in Asia’s factory. The authors demonstrate that the Association of Southeast Asian Nations (ASEAN) has embraced the new opportunities global value chains (GVCs) offer. While Brunei’s domestic value added in exports originates overwhelmingly from the primary sector of oil and gas, Singapore is highly specialized in services. The Philippines, on the other hand, has significantly increased its domestic value added embodied in exports of electrical equipment, which is accompanied by significant use of foreign inputs. This complementarity between the use of foreign inputs and domestic specialization is key to understanding global value chain (GVC) participation. In the case of ASEAN, it is shown that there is an element of synchronization in terms of the growing importance of domestic and foreign value added in ASEAN where for all countries, except for Cambodia, a positive correlation emerges between changes in the overall importance of domestic and foreign value added across sectors. This suggests that the sectors, which have a growing share of domestic value added to total exports, tend to have a growing share of foreign value added in inputs. In other words, there is an indication that imported inputs may help developing domestic capacity.

The chapter also challenges what is referred to in the existing literature as the retention of domestic value added and upgrading in GVCs: this should no longer be framed in the context of increasing the share of the pie that is occupied by domestic value added in the production of an industry’s exports, but rather in the context of how further engagement offers important opportunities for growing the total value of the pie. The main drivers of participation in GVC, while mainly structural, such as the size of the economy and the distance to manufacturing hubs, trade and investment openness, as well as logistics performance, hard and soft infrastructure and good governance, also play significant roles. Much progress has been made in the process of completing the ASEAN Economic Community (AEC), but with competitive pressures rising, as other countries increasingly look to join GVCs, there is a strengthened case for continuing the process of reform through further trade and investment openness and domestic regulatory reform.

In Chapter 3, Miaojie Yu and Xiaomin Cui analyze the impacts of the processed trade of China on Southeast Asia’s trade. This chapter employs the trade data at the Standard International Trade Classification (SITC) one-digit level from the UN Comtrade database to study the impact of China’s trade on ASEAN’s trade, and understand how ASEAN countries can improve the value added of their exports and their trade competitiveness. First, they find that on average ASEAN had the strongest revealed comparative advantage (RCA, hereafter) in animal and vegetable oils, fats and waxes, where the RCA index was about 6.2 during the period 2000–2013. ASEAN had an increasing comparative advantage in miscellaneous manufactured articles in the period 2000–2013 and also suffered a gradual loss in comparative advantage in manufacturing machinery and transport equipment from 2000 to 2011, even though the RCA index recovered slightly in the period 2012–2013. Conversely, from 2000 to 2013, China did not have comparative advantages in agriculture products and crude materials on average. This reflects the structural complementarity of exports between China and ASEAN. However, China remained competitive in manufacturing, with an RCA index for manufacturing machinery and transport equipment increasing steadily from 0.8 to 1.45 from 2000 to 2011. Until 2013, ASEAN also had weak RCA in manufacturing, where China and ASEAN may compete severely.

Second, when it comes to the question of what the impacts are of China’s trade on ASEAN’s trade, the empirical results show that both complementarity and substitution/competition effects exist. With the gradual deepening and broadening of regional cooperation between China and Southeast Asia, an increase in exports from China to ASEAN will tend to promote ASEAN’s exports. However, China’s increasing exports to the rest of the world will tend to crowd out ASEAN’s own exports. When it comes to the effect of China’s exports on ASEAN’s value added of exports, the results work in the opposite direction. If ASEAN imports more goods from China, its value added of exports will tend to be lower. Conversely, ASEAN’s value added of exports will tend to be higher due to the substitution/competition effect if China’s exports to the rest of the world increase. In addition, ASEAN countries can improve their value added of exports and trade competitiveness through trade liberalization and by increasing investment in R&D and training programs for skilled labor.

Chapters 4 to 9 provide insights on the value added of the six Southeast Asian countries: Indonesia, Malaysia, the Philippines, Singapore, Thailand and Viet Nam.

In Chapter 4, Lili Yan Ing and Chandra Putra present that imported inputs increase Indonesia’s firm productivity via better Indonesian product quality and variety. They argue that trade evolves and production is sliced. Much of production is based in production networks. Imports are largely used as inputs for exports. Many countries are engaged directly and indirectly in producing final products. The development of global production chains, with an increased use of imported inputs, caused a reduction of the domestic value-added content for each unit of manufacturing production and exports. They provide a comprehensive analysis of how imported imports affect Indonesia’s product varieties and quality. Their analysis argues that reductions in input tariffs will increase value added via product variety and quality. It shows that a reduction in input tariffs will increase value added, not only via its interaction with importing firms, but also with exporting firms that use imported products as their inputs.

Using the very disaggregated merged Indonesian firm- and product-level data from 2000 to 2010, the findings show that a reduction of 1 percent in input tariffs will increase value added by 0.2 percent, not only via its interaction with importing firms, but also with exporting firms that use imported products as their inputs. A 1 percent reduction in input tariffs will increase product variety and quality by 3.5 percent and 1.5 percent, respectively. Exporting firms tend to have a higher value added than the average of all firms, and they also tend to increase variety and quality of products. Foreign firms also tend to have a relatively higher value added than the general average, but they do not necessarily have increased product variety and higher quality.

In Chapter 5, Siew Yean Tham and Jia Yi Kam examine the imported contents of Malaysia’s manufacturing sector by using Hummel’s vertical specialization method employing the input–output tables of Malaysia from 2000 to 2010. The results are then compared with the OECD trade in value-added data for Malaysia for the years 1995, 2000, 2005, 2008 and 2009. The study finds that a decrease in direct and indirect imported inputs based on Hummel’s vertical specialization index is interpreted as an increase in the local content of Malaysia’s exports. Analyses based on both data sources, input–output and the OECD TiVA data by sectors, show that the highest foreign inputs are found in non-resource manufacturing sectors such as basic metals, machinery and equipment and electrical and optical equipment as compared to resource-based sectors such as food products and wood and paper products. The compressed input–output table showed a decrease in the information, communication and technology (ICT) sector’s use of imported inputs. Using a more detailed classification of the electronics sector, two main shifts can be observed in electronics exports from 2000–2013. First, there was a shift toward finished goods in terms of the number of products, but not in terms of export values. Second, there was a shift from electronics manufacturing service (EMS) to semiconductor manufacturing service (SMS) activities. The contraction in the ICT and electronics sector has led to a greater focus on semiconductor manufacturing. The chapter also presents a case study on the ICT sector, and finds, by using revealed comparative advantage (RCA) analysis, that the product groups with the highest RCA are auto electronics and finished goods, followed by electronic data-processing (EDP) and components/devices semiconductor parts.

In Chapter 6, Rafaelita Aldaba examines the extent and depth of participation of the Philippines in the electronics global GVC using trade-in-value-added (TiVA) and extensive margin indicators. The Philippines remains strong in semiconductors, but is lagging behind other ASEAN countries. According to the TiVA database, the level of participation of the Philippines in the electronics GVC increased substantially between 1995 and 2009. The extensive margins show that the Philippines has been regaining its position in regional production networks as indicated by the rising number of exported products to the region. Based on the RCA analysis, it is indicated that the Philippines has remained strong in semiconductors but has been lagging behind Singapore, Malaysia and Thailand. The extensive margin analysis also shows that the Philippines has been regaining its position in the regional production networks as indicated by the rising number of exported products to the region. The foreign inputs in Philippine electronics exports have increased from 51 percent in 1995 to 61 percent in 2000, but this declined to 53 percent in 2008 and 50 percent in 2009. The Philippine electronics industry has been largely dominated by the semiconductor sector. Its participation in global/regional production networks has relied mainly on mature and legacy products and processes focusing on semiconductor assembly and test services (SATS), which is the back-end part of the semiconductor manufacturing services (SMS). The gradually declining trend in the number of foreign inputs indicates the need to diversify and upgrade the industry’s GVC participation through market upgrading characterized by moving from semiconductors to electronic manufacturing services (EMS), particularly in areas with high growth potential such as auto electronics, power electronics, electronic data processing and consumer electronics. The upgrading process will require human resources development, establishing an innovation ecosystem, efficient logistics and infrastructure and developing a parts, supplies and materials sector to support the industry.

In Chapter 7, Mun-Heng Toh reviews the cluster-based development strategy adopted in Singapore. Singapore’s development strategy is predominantly based on trade openness and liberal inflows of foreign direct investments. That strategy has enabled Singapore to be plugged into GVAs to benefit from inflows of foreign investment and participation in international trade. The author makes use of information and indicators of GVC participation from the TiVA database with specific reference to Singapore. The results affirm that Singapore has provided an example that success in pursuing a s...

Table of contents

• Cover
• Title
• Copyright
• Contents
• List of figures
• List of tables
• Notes on contributors
• Preface
• Acknowledgements
• 1 Introduction
• 2 Global value chain participation in Southeast Asia: Trade and related policy implications
• 3 The impact of China’s trade on ASEAN’s trade
• 4 Imported inputs on Indonesia’s product variety and quality
• 5 Trade in value added: The case of Malaysia
• 6 The Philippines in the electronics global value chain: Upgrading opportunities and challenges
• 7 Singapore’s participation in global value chains: Perspectives of trade in value added
• 8 Thai automotive industry: International trade, production networks, and technological capability development
• 9 Trade in value added: The case of Viet Nam
• 10 ‘Policies for industrial progress’, not ‘industry policy’: Lessons from Southeast Asia
• 11 The employment effects of GVCs on Asian countries and the phenomenon of value-added erosion
• 12 How labour market policies affect innovation and trade competitiveness
• 13 Developing domestic and export markets and levelling up trade in value added: Lessons learnt
• Index