SACU: The capabilities driving participation in global value chains
Global value chains have altered the nature of global trade and offer significant opportunities for developing countries to expand exports, access technology, and raise productivity. Policy makers rightly seek to understand what it takes to participate in global value chains. In practice, this means understanding what it takes to attract lead firms and upgrade to higher value-added activities.
Recent literature has pointed to a range of underlying characteristics that may drive participation in global value chains. Using a modified factor-content methodology, this paper shows that proximity to markets, efficient logistics, and strength of institutions are among the most important capabilities. However, the paper also shows that each sector has a unique mix of capability requirements. Fixed structural characteristics limit the range of sectoral possibilities for a given country, but, by reducing policy-related gaps, a country may be able to increase its competitiveness for participating in global value chains.
The paper applies the methodology to Southern African Customs Union countries, and demonstrates that, by filling gaps in underlying capabilities, these countries could increase participation in certain global value chain sectors.
The emergence of global value chains (GVCs) and their rapid expansion over the past two decades has transformed the global trade environment. GVCs involve task‐based trade across multiple stages of the production process that take place across a number of different countries, in which multiple inputs and exports of intermediate goods and services are necessary to produce a final good, which may also be exported. This “second unbundling” of global trade was made possible by a combination of improved shipping technology, revolutionary changes in ICT, and global trade liberalization that enabled multinational firms to take advantage of differences in comparative advantage across locations to establish integrated networks of intra and inter‐firm production and trade.
GVC‐oriented trade is seen to offer significant opportunities for developing countries, especially smaller ones, to benefit from global integration by changing the nature of competitiveness. In the past, for a country to become an apparel exporter, for example, it would need design capabilities and textile mills; to export in the automotive sector, it would need to produce engines and all subcomponents, as well as have the scale to carry out assembly. Under the new GVC dynamics, a developing country can specialize in certain activities (sewing, specific components or subassemblies) within the chain and trade in intermediates. In this sense, GVCs denationalize comparative advantage, as global lead firms construct global production networks by exploiting the most competitive locations for specific activities.
Given this situation, and in an environment where developing countries are urged to “join” and “upgrade” in GVCs, policy makers in developing countries rightly seek to understand what it takes to do so. And, in practice, this means understanding what it takes to attract lead firms to place stages of the production value‐adding process in their country. Here, the advice remains a bit less clear in several ways. First, identifying what specific aspects of a country’s competitiveness matter most for GVC trade remains a question. Policy advice points to aspects like trade facilitation, trade agreements, non‐tariff measures (NTM), contract enforcement, and property rights protection. On the other hand, the emergence of countries like Bangladesh and Vietnam as major players in global production networks suggests that it may be all about low wages and large labor forces; while the development of automotive value chains in Central and Eastern Europe points more to relative wages, technology, and proximity. This points to a second practical challenge – the fact that what drives competitiveness in GVCs is likely to vary across GVC sectors as well as across GVC positions (upstream or downstream). Finally, with competition for GVC investment taking place in a truly global market, factor competitiveness relative to other countries matters a lot.
To inform policy recommendations, the empirical research literature in recent years has begun to address the determinants of GVC participation but has yet to yield a clear picture. Most studies have focused on evaluating the importance of a certain characteristic, such as trade facilitation, transport, trade logistics, time zones, technology gaps, or exchange rates or trade policy. A number of studies have looked at the determinants of production fragmentation in general and of supply chain trade between countries. Other studies attempt to estimate the relative contribution of a host of possible drivers to GVC participation. Among the findings is that non‐policy factors (structural characteristics like geography that cannot be changed in the short‐ or medium‐term) matter more than policy factors.
However, sector‐level analysis is usually not conducted or conducted at a low level of sectoral disaggregation or while testing only a small range of possible drivers. Firm‐level studies have assessed the determinants of offshoring strategies, identifying the importance of factors like productivity and both skills and capital intensity at the firm level. Finally, a separate segment of the literature assesses GVC participation’s impact on economic outcomes such as growth and employment.
So while these studies, along with the policy literature on GVCs, give us a sense of what factors are likely to be important in determining GVC dynamics, the question of which specific drivers matter most and when they matter most for country‐level participation in GVCs remains open. One of the reasons for this is that data that identify clearly what is and is not “GVC trade” are still problematic, despite the significant progress that has been made in recent years. Another reason is that there are significant links across many of these drivers, making endogeneity a problem.
In this context, the purpose of the following empirical exercise is to shed further light for policy makers on where to focus efforts to drive competitiveness for GVC participation. We do this by generating “revealed capability intensity” (RCI) measurements of traded goods, extending the traditional theory of factor‐content of trade to account for the capabilities that would be most relevant in task‐based trade, and utilizing these measurements to illustrate how underlying capabilities shape participation of Southern African Customs Union (SACU) countries in global value chains.
This paper is a product of the Trade and Competitiveness Global Practice Group. It is part of a larger effort by the World Bank to provide open access to its research and make a contribution to development policy discussions around the world.