Overview of the impact of Global Value Chains (GVC) on Economic Development

GVC

Introduction

Due to a rising share of international trade, global GDP, and employment, it is important to understand GVCs and adopt an efficient and effective strategy for participation in GVCs. The global economy is highly interconnected with the growth of global value chains (GVCs) (OECD, 2013, p. 5), but opportunities for economic growth through participation in GVCs, especially in the era of advanced technology such as 3D printing, robotics, and artificial intelligence (sometimes referred to as the Fourth Industrial Revolution), has become increasingly more difficult for developing countries.

GVCs describe the full range of activities that firms perform to make a product, from its conception to end use (Gereffi, 2016, p. 6). GVCs can include research and development (R&D), design, production, marketing, distribution, and support to the final consumer (p. 7). The international fragmentation of production in GVCs is driven by technological progress, cost, access to resources and markets, trade policy, and other challenges (OECD, 2013, p. 5). Activities in GVCs have been carried out in inter-firm networks on a global scale (Gereffi, 2016, p. 7).

Historically, while GVCs have provided opportunities for developing countries to boost their economies, the advent of advanced technologies has made participation more difficult. In general, GVCs can benefit developing countries by easing entry into global markets and can help firms in developing countries to access global markets by producing specific tasks without having to develop related industries as a precondition (Rodrik, 2018, p. 2). However, the benefits have been distributed unevenly. The highest benefits usually go to advanced countries that have a skilled labor force and advanced technologies. Firms in developing countries that have unskilled labor forces have lower margins and benefits. Moreover, the introduction of new technologies increases the demand for skilled labor, making it more difficult for unskilled labor to substitute for skilled labor and new technologies. This phenomenon will worsen the benefit gaps for GVCs between advanced and developing countries.

A slowdown in GVC expansion

While GVC production has been increasing in the era of globalization, the recent trend after the global financial crisis in 2009 shows that GVCs are not expanding as much as they were before the financial crisis (World Bank Group et al., 2017, p. 2). The share of pure domestic production of GDP, which means value added domestically produced and consumed, decreased until the global financial crisis, but the trend has been relatively flat since 2011. Timmer et al also found that international production fragmentation has declined since 2011 and demand shifted to services that are less trade intensive (Timmer et al., 2016). This reversal in growth might be due to various factors, including increasing risks and costs associated with trade, the saturation of production fragmentation, the reshoring of Chinese production, and the global shift in demand toward services (Rodrik, 2018, p. 5).

Figure 1. GVCs production and international fragmentation of productiongvc production 1

The uneven distribution of benefits from GVC-related trade

The benefits from GVC-related trade have been distributed unevenly (World Bank Group et al., 2017, p. 6). The big winner appears to be highly skilled workers and multinational corporations in developed countries (p 6.). Developing countries have benefited from productivity gains, but in the case of China, the big benefits in China have accrued to the small number of high-skilled workers and to the capital owners and foreign investors (p 6.). The smile curve shows the different stages of GVC – the basic assembly activities using low-cost and unskilled labor to higher value-added activities in pre- and post-production manufacturing services (Gereffi, 2016, p. 13). The smile curves for China’s exports of electrical and optical equipment deepened between 1996 and 2009 are shown in Figure 2. The curve demonstrates how poor countries can be trapped in low value-added activities and are excluded from the higher value-added activities in design, key technological inputs, and marketing (World Bank Group et al., 2017, p. 3).

Figure 2. The estimated smile curve for China’s exports of electrical and optical equipmentgvc china

Stagnant and falling trade integration levels

Trade integration levels have not increased overall, and in many African countries, they have fallen. Export-GDP ratios have fallen in many sub-Saharan African countries in the 1995-2013 period. This fact is different from the typical pattern of developing countries. In general, a high growth rate is associated with export-oriented industrialization and integration into GVCs (Rodrik, 2018, p. 3). For example, a fast-growing African country, Ethiopia, had a negative change in export shares between 1995 and 2013. The growth of Ethiopia appears to have been driven mainly by domestic demand spurred by foreign transfers, public investment, or an increase in rural income due to improved agricultural policies and infrastructure (Rodrik, 2018, p. 4).

The weak negative relation between employment and GVC participation

The relationship between GVC participation and employment is weak-negative: exports are creating fewer jobs, and GVC participation is not enhancing employment. This outcome is disappointing for developing countries, which would have expected to see the beneficial employment consequences of GVC participation (Rodrik, 2018, p. 4). For example, three developing countries (Ethiopia, the Philippines, and Thailand) experienced a significant drop in the job intensity of exports as the total jobs created directly and indirectly by exports decreased. Figure 3 shows that the employment effects of GVC participation are mixed in developing countries, and there is a weak negative relationship between GVC participation and employment. Farole indicates GVC participation has an impact on the labor market in various ways depending on factors such as the type of sector, the lead firm’s strategies, the domestic skill base, and the institutional environment (Farole, 2016).

Figure 3. Relationship between GVCs and employment creationGVC employment 1

The middle-income trap and GVC integration

Many middle-income countries have been able to use GVC participation to climb out of the middle-income trap. However, due to the rise of new technologies, it will be more difficult for developing countries to escape from the trap.

The middle-income trap can be defined as a country’s inability to move from middle to high-income status as measured in per capita income (Boffa et al., 2016, p. 3). Egawa argues that “the middle-income trap is a situation in which a middle-income country falls into economic stagnation and becomes unable to advance its economy to a higher-income level for certain reasons specific to middle-income countries” (Egawa, 2013, p. 2). The middle-income trap means that it is difficult to maintain a high growth rate after a country becomes a middle-income country.

There is a dispute on the empirical analysis, but according to the World Bank, the data tend to show substantial upward mobility between 2000 and 2015, particularly for middle-income countries (World Bank Group et al., 2017, p. 119). A large share of low or middle-income countries in 2000 improved their income status (p. 119). It means that developing countries can escape from the middle-income trap in various ways including attracting foreign investment, adopting better policies and institutions, and integrating into GVCs.

GVCs and escape from the middle-income trap

The integration into GVCs has been widely considered an important strategy for developing countries to leapfrog into developed countries (World Bank Group et al., 2017, p. 119). The integration into GVCs is an opportunity to develop the skills and capacity of the labor force and to acquire technology to industrialize and move into higher value-added production (p. 119). Boffa et al. indicates that GVC integration increases the probability of transitioning to higher income status, and the probability is highest for low and lower-middle-income countries rather than for higher-middle-income countries (Boffa et al., 2016, p. 4). Figure 4 shows that GVC participation such as value-added exports or foreign value-added in domestic exports has a correlation with the growth rates of GDP per capita.

Figure 4. The relationship between GVC integration and the middle-income trap

gvc integration and MIT

References

Boffa, M., Kümmritz, V., & Santoni, G. (2016, March 5). Over-coming the Middle-Income Trap: The Role of GVC Integration for Climbing-Up the Income Ladder. http://rigvc.uibe.edu.cn/docs/20160329211645587778.pdf

Egawa, A. (2013). Will income inequality cause a middle-income trap in Asia? Bruegel Working Paper 2013/06, 10 October 2013 [Working Paper]. http://www.bruegel.org/publications/publication-detail/publication/797-will-income-inequality-cause-a-middle-income-trap-in-asia/?utm_source=Bruegel+Update&utm_campaign=8a592dcb47-131011_Bruegel+Update&utm_medium=email&utm_term=0_cb17b0383e-8a592dcb47-273

Farole, T. (2016). Do global value chains create jobs? IZA World of Labor. https://doi.org/10.15185/izawol.291

Gereffi, G. (2016, July). Global Value Chain Analysis: A Primer. https://gvcc.duke.edu/cggclisting/global-value-chain-analysis-a-primer-2nd-edition/

IMF. (2016, December). Trade Integration and Global Value Chains in Sub-Saharan Africa: In Pursuit of the Missing Link. IMF. https://www.imf.org/en/Publications/Departmental-Papers-Policy-Papers/Issues/2016/12/31/Trade-Integration-and-Global-Value-Chains-in-Sub-Saharan-Africa-In-Pursuit-of-the-Missing-43673

OECD. (2013). INTERCONNECTED ECONOMIES: BENEFITING FROM GLOBAL VALUE CHAINS – SYNTHESIS REPORT. https://www.oecd.org/sti/ind/interconnected-economies-GVCs-synthesis.pdf

Rodrik, D. (2018). New Technologies, Global Value Chains, and Developing Economies (Working Paper 25164; Working Paper Series). National Bureau of Economic Research. https://doi.org/10.3386/w25164

Timmer, M. P., Los, B., Stehrer, R., & Vries, G. J. de. (2016). An Anatomy of the Global Trade Slowdown based on the WIOD 2016 Release. https://research.rug.nl/nl/publications/an-anatomy-of-the-global-trade-slowdown-based-on-the-wiod-2016-re

World Bank Group, IDE-JETRO, OECD, WTO, & UIBE. (2017). Global Value Chain Development Report 2017: Measuring and Analyzing the Impact of GVCs on Economic Development. https://openknowledge.worldbank.org/handle/10986/29593