• Global value chains: yesterday, today and tomorrow

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    Made in Spain, Made in the USA and even Made in China labels make less and less sense in today’s world. Since firms decided to fragment their production processes and move them to other countries, the label Made in the World probably better represents the nature of most of the manufactured goods we consume. In this article we review the past, present and future of global value chains at a time when pandemic-induced restrictions on travel and supply disruptions have brought them back into the spotlight.

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    The creation of global value chains

    he 1990s saw the beginning of a far-reaching optimisation of production processes beyond the borders of a single country. Companies decided to fragment these processes and carry them out in as many countries (in order to make the most of each country’s advantages of specialisation), giving rise to what are known as global value chains (GVCs). Several factors helped to encourage the creation of GVCs but first and foremost were the advances made in information and communication technologies (ICTs), which enabled the different production stages to be coordinated perfectly. A second factor was the reduction in trade costs, helped by the important free trade agreements reached during that decade,11 as well as by improvements in transportation, especially by air.

    In fact, GVCs have boosted international trade flows to values that were unthinkable a few decades ago: exports of goods and services as a percentage of GDP rose from around 18% in the early 1990s to levels close to 30% just before the pandemic, while the relative weight of GVCs in total trade flows went from around 40% to just over 50% in the same period (see the chart below).12 

    • 11. 1994 saw the conclusion of the largest round of multilateral trade negotiations (the Uruguay Round), in which 123 countries took part. Also in 1994, the North American Free Trade Agreement (NAFTA) was concluded. Both agreements led to a substantial reduction in tariffs worldwide: from levels of around 16% in the early 1990s to 5% today (according to World Bank data, simple averages).
    • 12. The development of GVCs was particularly dynamic between 1990 and the early 2000s, just before the outbreak of the global financial crisis. Since then, the relative importance of these chains in trade seems to have stagnated.

    The importance of global value chains in trade flows

    Last actualization: 04 May 2022 - 09:16
    The pandemic: present impact and future approaches to GVCs

    The COVID crisis has raised many doubts regarding the high degree of globalisation achieved, as well as the adequacy of GVCs. At first, in countries such as Spain, we became aware of the high external dependence (beyond the EU’s borders) of goods which, at that time, were essential.

    In a second phase, with the strong recovery in demand focusing particularly on durable goods and the disruptions in some factories due to the effects of COVID,13 we have been faced with a global supply shortage problem we had not experienced since GVCs were created. And, in this world of global manufacturing, disruption in one stage of the production chain leads to major disruptions throughout the entire process. The longer the GVC, the greater the impact (the bullwhip effect).

    Such disruptions will undoubtedly change people’s minds about GVCs. Although it is still too early to know what changes the future holds, we can suggest some strategic rethinks company directors are likely to pursue in order to increase the robustness of the production chain.

    First, the chains will probably be shorter to avoid the amplifying effect of disruptions. Secondly, they will be more redundant in key components. In other words, there will be alternatives to the production of these components. Thirdly, they will be equipped with new digital technologies that will enable them to detect chain failures early on. And, in terms of logistics, investment in inventories is likely to increase: from just in time to just in case, as stated in a recent article by the Financial Times14 (see the chart below).

    • 13. See the article «Bottlenecks: from the causes to how long they will last» in the Monthly Report of December 2021.
    • 14. See the Financial Times (December 2021). «Supply chains: companies shift from ’just in time’ to ’just in case’».

    Global value chains are likely to be shorter in order to avoid the amplifying effect of disruptions.

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    However, it should be noted that these possible strategic changes, if they occur at all, may be more gradual and less far-reaching than we might have assumed after the shock of the pandemic. One of the reasons is that such changes would entail an increase in costs, with the evident impact on prices consumers would have to pay. In a globalised world, this could mean a significant loss of competitiveness compared with other countries and/or companies. Furthermore, as Harvard professor Pol Antràs has noted, the configuration of GVCs forces companies to incur large sunk costs, which leads to them being extremely rigid regarding strategic production changes.15 

    In other words, the COVID shock will indeed bring about a change in our approach to the configuration of new GVCs and may certainly lead to some rethinking of the existing chains. But, in the latter case, this rethinking might be less radical and rapid than some are predicting.

    • 15. See Antràs, P. (2020). «De-Globalisation? Global Value Chains in the Post-COVID-19 Age». National Bureau of Economic Research, no. w28115.
    The future of GVCs: plus and minus factors

    In addition to the impact of the pandemic, other factors (mostly new technologies) have the capacity to reshape GVCs and we present a brief review (see the diagram below).16

     

    Automation and 3D printing

    Although automation is a process that has been going on for centuries, today’s robots, equipped with artificial intelligence and at a cost that has decreased substantially over the past few decades, represent a full-fledged revolution. The improved productivity of these new robots may result in some of the manufacturing processes which had been moved to emerging countries in order to take advantage of low labour costs now returning to advanced countries. In other words, we would be shifting from an offshoring to a reshoring trend, which would entail a certain reversal in the globalisation of supply chains.

    On the other hand, 3D printing is a technology that could result in GVCs becoming shorter and, along with this, to the reshoring of part of the manufacturing activity. In fact, with this technology, it is not necessary to send physical products; all that’s required are the computer files to manufacture them! However, there is still no clear evidence in this respect. In fact, a paper published by the World Bank shows a strong increase in trade flows following the adoption of 3D technology in hearing aid production, something we would not expect with a shortening of GVCs.17 Although this is a very specific case, it does reveal some interesting effects that need to be considered. In particular, the hearing aid sector adopted 3D printing for almost all its parts when this became technologically feasible (about 10 years ago) and, since then, trade flows linked to the sector have increased by 60%. The main reason for this growth is that 3D printing has led to a huge reduction in the production cost of hearing aids and an improvement in terms of quality, resulting in a sharp increase in demand for the product. And with greater demand, international trade in hearing aids has intensified.

    • 16. Based partly on Canals, C. (2020). «Revolución tecnológica y comercio internacional 4.0». Geopolítica y Comercio en tiempos de cambio. Published by CIDOB.
    • 17. See Freund, C. L, Mulabdic, A. and Ruta, M. (2020). «Is 3D Printing a Threat to Global Trade? The Trade Effects You Didn’t Hear About». World Development Report.
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    The electric car

    Another case that also warrants particular attention is that of electric cars, which have the potential to alter some of the most relevant GVCs (those of the automotive sector), as well as to considerably reduce international trade. The reason is that classic combustion-engine cars require a large variety of parts and gears that are often manufactured in different countries to maximize the competitive advantages of each location. In fact, the automotive sector is responsible for a substantial part of the world’s trade flows of intermediate goods. However, the electric car, with its much simpler mechanics (far fewer parts that are also less subject to wear and tear) could lead to a reduction in these classic intermediate flows and, consequently, to a radical change in the structure of automotive GVCs.

    The production of batteries, a key component for the new electric vehicles, will also determine the future of numerous trade flows, which in this case will focus on raw materials such as lithium, nickel and cobalt.

     

    Digital technologies and the emergence of new services

    The continuous evolution of ICT, hand in hand with 5G and blockchain technology, will continue to push down logistics costs and, with it, boost the trade flows of goods and services and participation in GVCs. For instance, 5G will support the development of the Internet of Things, which will enable faster and more secure tracking of shipments in the case of goods, and better connections in the exchange of services. Likewise, blockchain has the potential to greatly facilitate international payments.

    On the other hand, these digital technologies will also encourage the emergence of new products, especially services, whose organisation could be decentralised and located in different countries, creating new GVCs in the image and likeness of the chains already established for the production of manufactured goods.

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    History reminds us that technological development and international trade are not independent of geopolitical developments.

    Geopolitics

    Finally, it should not be forgotten that geopolitics has always played an essential role in international trade. In this respect, the USA’s intention to «decouple» from China, especially in the field of technology, could bring about a very significant change in world trade and in how GVCs are managed, especially in the technology sector. Even more so because the US is not alone in wanting to put more distance between itself and other economies. For instance, Europe also seems willing to reduce its external dependence in some technology segments, such as semiconductors, with the European Chips Act.

    In summary, although we do not expect any radical or abrupt change in the form taken by GVCs since they tend to be relatively stable over time, we might see a change in trend in the next few years due to the various 4.0 technologies. In addition to these ongoing trends, factors such as the Coronavirus crisis will further exacerbate certain technological dynamics. However, history reminds us that technological development and international trade are not independent of geopolitical developments. And in this respect, trade-technology tensions between the US and China will play a decisive role.

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Polarisation: the legacy of the financial crisis and other contextual forces

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• The 2008 financial crisis and the recent waves of migration are two of the factors that have contributed to an increase in political polarisation in Europe.

• The impact of the financial crisis on the phenomenon of polarisation is considered greater than that of immigration.

• Social cohesion policies could explain why immigration has had a lower impact on polarisation.

Political polarisation is a phenomenon on the rise, especially in Western economies. Various structural trends are proving to be catalysts for this phenomenon: globalisation, technological change and demographic change are some of them. But beyond these structural elements, certain contextual developments have favoured the rapid increase in polarisation which, as can be seen in the first chart, has increased sharply and become more widespread over the last decade. In particular, there seems to be a clear consensus that the global financial crisis of 2008 and the waves of migration seen in recent years in many European countries are two of the factors that have increased political polarisation in the Old Continent.

From financial crises to political polarisation

Various empirical analyses show that the increase in polarisation is a very common phenomenon after a financial crisis. As an example, one of the benchmark articles on this topic, written by Atif Mian, Amir Sufi and Francesco Trebbi, shows that the increase in polarisation in the US Congress is a process that has been ongoing and uninterrupted for more than 70 years, but it also points out that financial crises have increased polarisation substantially.1 Contextual factors, therefore, appear to play an important role in the phenomenon in question.

Besides the case of the US, these same authors show that, based on a sample of a quarter of a million individuals from a total of 60 countries, financial crises tend to radicalise the political position of voters. In particular, following a financial crisis, the percentage of centrist and moderate voters decreases, while the percentage of more radical left or right-wing voters increases. Similarly, two researchers from the German think tank the Kiel Institute draw a connection between the 2008 financial crisis and the rise in right-wing populist parties in the European political arena.2 Finally, in a very interesting piece of ongoing research on Germany in the 1930s, it is shown that the financial crisis that hit the country at the beginning of the decade made a decisive contribution to the rise of the National Socialist Party in the inter-war period.3

The causal relationship between financial crises and polarisation is empirically well founded, and all the indicators suggest that this relationship operates through three channels: the loss of trust in institutions and the established political class, the debt-conflicts that emerge and the increase in inequality.

In particular, in the stated order, financial crises tend to be perceived as a failure of regulation and/or public policies. As a consequence, they tend to result in a loss of trust in the ruling class and, ultimately, an increase in votes in favour of more extreme political options.

Secondly, numerous studies point out that the resolution of situations of excessive debt also ends up leading to an increase in political polarisation. In particular, debt restructuring processes that affect people with fewer resources tend to provoke a rejection of the political status quo.

Finally, the increase in social inequality, which tends to be particularly intense during financial crises, also leads to an increase in electoral polarisation.4

Migration and polarisation

The second cyclical factor that is causing polarisation to rise is immigration. In the case of Europe, for instance, the increase in immigration (and in the number of refugees arriving) in the 2000s coincided with a considerable rise in support for political parties that oppose this phenomenon. In fact, in some countries this relationship had already been observed for some years.

For example, in an exhaustive study for the city of Hamburg, Otto and Steinhardt5 documented a causal relationship between the increase in immigration and the rise of the far right. Specifically, between 1987 and 1998, the city received a significant number of immigrants, mainly refugees and asylum seekers. With the information on the electoral results in 103 districts of the city for a total of seven elections, and taking into account the characteristics of the different areas of the city, the researchers demonstrate a relationship between the rise of extreme right-wing parties in different districts and the level of immigration.

As in the case of financial crises, the causal relationship between migratory flows and political polarisation seems to be proven, but there is not always consensus among experts on the channels through which this link operates. In general, the economic literature identifies four relevant channels: labour, social benefits, the non-economic channel and politics.6

The labour channel refers to the fact that domestic workers may perceive immigrants as competitors. In order to eliminate part of this competition, voters support anti-immigration political parties.7

The channel of social benefits highlights both the competition for the use of public services that immigrants pose for pre-established population groups and the new redistribution of benefits that is required when faced with the arrival of new citizens with needs that may be very different.8 Again, the desire to expel the competition encourages support for anti-immigration forces.

The non-economic channel emphasises that the arrival of immigrants awakens a greater awareness of ethnic or cultural identity and a hostility towards those who are perceived as different. This greater awareness and hostility is exploited by political parties with clearly anti-immigration discourses.

The last channel, the political one, refers to the fact that the arrival of immigrants can generate greater polarisation to the extent that the political orientation of those arriving substantially differs from that of the pre-established population. This occurs either more or less rapidly depending on how quickly new citizens are given the right to vote. In any case, this is a very different channel from the previous ones, as it does not generate a direct increase in anti-immigration forces.

Before bringing the topic of immigration to a close, it is worth mentioning the specific case of refugees and their effects on polarisation. The reason for this is that some recent studies point towards a weak relationship between these two elements if policies that strengthen social cohesion are implemented. For example, between 2014 and 2015, some regions of Austria that received significant flows of refugees did not suffer the marked increase in votes for the far right that occurred in other regions of the country. University of Munich researcher Andreas Steinmayr attributes this result to the efforts carried out by local authorities to explain the refugees’ situation to the resident population affected and to encourage contact between the two groups. This led to what some have come to call the «contact effect». In contrast, regions that did not receive refugees only learned of the situation through the media and through political groups that were more opposed to immigration.9

Quantitative exercise

At this juncture, and to illustrate in a simple manner the role of the 2008 financial crisis and the recent waves of migration on the increase in polarisation in advanced economies, we use the country-level polarisation index developed by Russell J. Dalton10 and plot it against the unemployment rate, the Gini index and the number of immigrants.

Intuitively, we tend to identify the countries that suffered the most from the effects of the last financial crisis as those that registered the highest increases in their unemployment rate. If we analyse the changes in these two indicators (polarisation and unemployment) from before the crisis up to the present day by country, we indeed note that there is a positive correlation between them (see the first panel of the second chart). Secondly, as a measure of inequality, we refer to the Gini coefficient (which reflects how equal or unequal income distribution is among a country’s inhabitants)11 in order to precisely show inequality at the outset. The correlation is also positive for changes in these two measures: countries with greater increases in inequality are also the ones that have shown greater increases in the polarisation index (see the second panel of the second chart). Similarly, greater flows of immigration also appear to be associated with bigger increases in the level of polarisation (see the third panel of the second chart).

Lastly, we perform a simple exercise to estimate the sensitivity of the polarisation index to changes in the contextual factors we have just defined as a whole.12 The results of our exercise suggest that the effect of the economic crisis, measured through the increase in the levels of unemployment and inequality, explained around 35% of the surge in polarisation observed since the crisis began in 2007. Increases in migratory flows, meanwhile, often have an insignificant effect. This would be in line with the weaker relationship between refugees and polarisation suggested by some of the research mentioned above.

In short, the increase in polarisation in the European political arena should not come as a surprise in an environment of considerable migratory flows and, in particular, after a financial crisis without precedent in recent memory. Nevertheless, this lack of surprise should not lead to conformity.

Clàudia Canals and Javier Ibáñez de Aldecoa

1. See A. Mian, A. Sufi and F. Trebbi (2014). «Resolving debt overhang: political constraints in the aftermath of financial crises». American Economic Journal: Macroeconomics, 6(2), 1-28.

2. See M. Funke and C. Trebesch (2017). «Financial Crises and the Populist Right». Ifo DICE Report, 15(4), 6-9.

3. See S. Doerr, S. Gissler, J. Peydro and H.-J. Voth (2019). «From Finance to Fascism: The Real Effect of Germany’s 1931 Banking Crisis». CEPR Discussion Paper n° 12806.

4. The increase in inequality has been observed for several decades in most advanced countries, but it was accentuated a priori temporarily with the arrival of the financial crisis (see the article «Political polarisation: the phenomenon that should be on everyone’s lips» in this same Dossier and the article «Inequality and populism: myths and truths» in the Dossier of the MR01/17).

5. See A.H. Otto and M.F. Steinhardt (2014). «Immigration and election outcomes-Evidence from city districts in Hamburg». Regional Science and Urban Economics, 45, 67-79.

6. Among the articles that analyse this topic for the European case, particularly noteworthy is the study by D. Card, C. Dustmann and I. Preston (2012). «Immigration, wages, and compositional amenities». Journal of the European Economic Association, 10(1), 78-119.

7. The economic impact of immigration is much more complex than the simplified version of a supply shock, since it depends on the country’s productive structure, among other elements (see article «The economic impact of immigration» in the Dossier of the MR10/16). However, this simplification is what usually lies behind many citizens’ voting decision.

8. In both cases, this can be a simple perception. In the case of the United Kingdom, the total effect of immigration on the public finances is positive, since their contribution through taxes is greater than what they receive in social benefits (see C. Dustmann and T. Frattini (2014). «The fiscal effects of immigration to the UK». The economic journal, 124(580), F593-F643).

9. See A. Steinmayr (2018). «Contact matters: Exposure to refugees and voting for the far-right». Working Paper. For an example relating to France, see P. Vertier and M. Viskanic (2018). «Dismantling the “Jungle”: Migrant Relocation and Extreme Voting in France». Working Paper.

10. The polarisation index used provides a measure of how different a country’s political parties are, weighted by their parliamentary representation. The data is obtained from the Comparative Study of Electoral Systems, and for Spain, Italy, Greece, France, the US, the Netherlands, Denmark and Hungary we complete the last wave using the methodology explained in R.J. Dalton (2008) «The quantity and the quality of party systems: Party system polarization, its measurement, and its consequences». Comparative Political Studies, 41(7), 899-920.

11. High values reflect a high level of inequality in terms of income.

12. We estimate the following regression in differences: ΔPolarisation indexi,t = α + ∆ Xi,t β + ξi,t, where the matrix Xi,t contains the unemployment rate, the Gini coefficient and the number of immigrants for the country i in the period t. The constant α reflects the growing linear trend in polarisation (the non-contextual factor), thereby taking into account possible spurious correlations caused by the trend in the variables. To test the robustness of our results, we have estimated different specifications, including specific temporal trends by region.

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