Participation in global value chains (GVCs), especially backward participation, is a crucial driver of manufacturing productivity growth and brings a positive impact to the economy, according to new research.
Siwook Lee, a professor at the Korea Development Institute’s (KDI) School of Public Policy and Management, in a recent online talk discussed the key findings of the “APO Productivity Outlook 2021,” the first edition of the annual forecast co-published by the Asian Productivity Organization (APO) and KDI.
GVCs refer to a phenomenon where the different stages of the production process, such as R&D, design, component production, assembly, marketing, distribution, and aftercare service are located across different countries.
GVC participation, meanwhile, is defined as the share of GVC-related trade to the total trade.
Lee noted that the study indicates that engaging in GVCs promotes productivity growth in several ways. For instance, GVC participation enables a country to specialize in core products and tasks that it can efficiently provide and to outsource those that it is not so proficient in.
Participation also allows better access to a variety of foreign inputs, more opportunities for R&D spillovers, efficiency gains from heightened competition, and better resource allocation toward the most productive sectors.
The educator said there are two types of GVC participation. Backward GVC participation occurs when a country imports foreign intermediates—the parts and materials imported to make products for consumption—to produce its exports. Forward GVC participation is when a country exports its domestically produced inputs to trade partners and these inputs are then embodied in the exports of those trade partners.
Looking at the different income groups in APO member countries, Lee said that overall, lower middle-income countries (LMICs)—which include the Philippines—maintained lower GVC participation than the other groups during the period surveyed from 1990 up to 2018 compared to the high-income countries (HICs) and upper middle-income countries (UMICs).
It was also found that LMICs have maintained the highest forward GVC participation and the lowest backward participation through the years. In contrast, HICs have been rapidly increasing their backward GVC participation since the early 2000s and decreasing their forward participation.
By country, economies with abundant natural resources tend to show higher levels of forward participation, while countries with advanced manufacturing reveal active backward participation, Lee added.
Of the 20 countries covered in the report, the Philippines comes in seventh place in terms of GVC participation, with Singapore in first place, followed by China, Malaysia, Vietnam, South Korea and Turkey.
These countries with the highest GVC participation also showed largely backward participation and smaller forward participation. In the Philippines’ case, data show that it has a higher backward participation than forward.
Additionally, it has come out that an increase in forward participation is “negatively correlated with productivity growth, while backward integration turns outs to be positively correlated,” said Lee.
“Our analytic results indicate the positive and significant role of backward GVC participation for labor productivity growth in manufacturing. An increase by 1% in the level of backward participation tends to increase productivity by 0.7%.”
“On the other hand, (there is) no statistically meaningful impact of forward GVC integration to productivity,” he said.
Aside from GVC participation, other decisive factors that are also linked to higher productivity levels include upstreamness, which “implies that what countries export matters for manufacturing productivity.”
Also key contributors are FDI intensity and financial depth, both of which also have positive and statistically significant impacts on the manufacturing productivity of countries.
However, a notable deterrent to productivity has emerged in the form of the recent widespread protectionism in the global economy, as Lee observed that protectionist measures to limit imports from abroad are on the increase.
This impacts on the access to the available variety of foreign intermediate goods. Higher access contributes to the improvement of overall production efficiency through cost savings, access to better quality inputs, and technological knowledge spillovers.
Lee further cautioned that while protectionist measures may improve trade balance in the short term, in the medium to long term, “they increase production costs to exporters, resulting in a decline in export competitivenes and industrial productivity.”
Another highlight of the study is how it appears to debunk the perceived relation between low wages and higher GVC
“Low wages are often perceived to be a key factor for enabling developing countries to participate in GVC trade, but empirical evidence often does not support such perception, Lee said.
“Countries with high productivity growth would generally have higher wages and still be low unit labor cost producers. They tend to be more actively involved in GVCs, implying that unit labor costs and thus productivity are more important factors for GVC participation than low wages,” Lee concluded.