Developing Countries and Global Trade

Roughly three decades ago, at Bayan Lepas on the southern end of Penang Island in Malaysia, a series of tilt-up warehouse style buildings began to rise out of the former rice paddies and mangrove swamps of what was then Kampung Jawa.

In those first buildings that made up the nascent Penang Free Trade Zone, everything that was manufactured there was hauled in in components, assembled, and flown back out to western consumers. Bayan Lepas was only one of many such free trade zones across Asia that would grow to supply the west with a cornucopia of electronic and other products and play a major role in enriching Asia. They were scorned by many economists, however, because while they provided cheap assembly, the prevailing impression was that the transfer of technology to indigenous manufacturers and designers was a forlorn hope despite the fact that these chains are hotbeds where the vast majority of the global work force is to be found.

A new report released today by the United Nations Commission on Trade and Development (UNCTAD) gives some indication of just how much the world has changed. The report, entitled Global Value Chains and Development: Investment and Value Added Trade in the World Economy, finds that global investment and trade have become inextricably intertwined through international production networks of growing degrees of complexity that now account for some 80 percent of the global movement of goods.

The majority of developing countries, including even the poorest, are increasingly participating in these global value chains, with the developing-country share of value-added trade increasing from 20 percent in 1990 to more than 40 percent today, according to the report.

The role of transnational corporations, the report says, "is instrumental as countries with a higher presence of foreign direct investment relative to the size of their economies tend to have a higher level of participation in global value chains and a greater relative share in global value-added trade compared to their share of global exports."

In developing countries, value-added trade contributes 28 percent on average to these countries' gross domestic product, as compared with 18 percent for developed companies. Economies with the fastest growing participation in value chains have GDP per-capital growth rates 2 percent above the average, the report notes. Countries that, over the last 20 years, managed to grow both their participation in GVCs and their domestic value added in exports experienced GDP per capita growth of 3.4 percent on average, compared to 2.2 percent for countries that only increased their participation in GVCs without "upgrading" their domestic value addition.

Another report, issued earlier in 2012 by the World Economic Forum, says that two broad, contradictory trends are playing themselves out through these value chains in the global economy.

First, economic globalization through MNC production networks is continuing, promoting global economic convergence and integration. The global value chains they operate have become the world economy's backbone and central nervous system, the report says. However, there is a second trend pertaining to economic crisis policy responses, in which there is the ever-present threat of a destructive spiral of protectionism and consequent disintegration.

The increasing importance of global production chains is reflected in the rising trade in intermediate inputs, which now represent more than half of the goods imported by OECD economies and close to three-fourths of the imports of large developing economies, such as China and Brazil, the World Economic Forum reported. Imported inputs also account for a significant chunk of exports, blurring the line between exports and imports as well as between domestic products and imports.

As part of global production chains, products at different stages of value added may be imported and re-exported multiple times, increasing the size of reported exports and imports relative to global and national value added. In advanced countries, this effect is reinforced by the fact that imports can contain a significant portion of inputs – including intellectual property, brand-development, etc. – originally sourced at home; in developing countries, imports of components and machines are crucial vehicles for absorption of technologies.

Indeed, the UNCTAD report notes that the new data assembled by the organization shows that a full 28 percent of gross exports consist of value-added that is first imported by countries only to be incorporated in products or services that are then exported again. Thus some US$5 trillion of the $19 trillion in global gross exports (in 2010 figures) is actually double counted, considerably skewing the realistic picture of global trade.

According to OECD estimates, imported intermediate input content accounts for about one-quarter of OECD economies' exports, and the European Central Bank estimates that such imports accounted for about 44 percent of EU exports (or 20 percent for imports from outside of the EU) in 2000, ranging from about 35 percent in Italy to about 59 percent in the Netherlands.4 In the United States, imported intermediate input content in exports reached about 10 percent in 2005. Among emerging economies, imported content's share in exports is particularly high in China - about 30 percent, or twice that for India and Brazil.

Therefore the geography of value chain location is likely to shift, potentially fundamentally, within the next decade. This has major implications for those countries that have specialized in value chain niches, and for developing countries looking to secure new ones.

"This will play out differently in different contexts: developed countries are increasingly concerned about retaining jobs; some developing countries are looking to retain their existing value chain niches while others are looking to plug into them. These dynamics will drive unilateral trade policy responses centered on promoting competitiveness, efficiency, and attractiveness to value chain investments."

That means developing countries have a number of distinct development paths in which to participate in the global value chain. Countries that over the past 20 years have grown both their participation in these global chains and built on their own domestic value-added in exports experienced increased per capita growth. That means joining the global value chain can be a crucial avenue for developing countries to build their economies.