Role of PTAs for Promoting MSMEs’ Integration in GVCs

Masato Abe, Ph.D.IEDS, TIID, ESCAP

Regional Dialogue on“ENHANCING THE CONTRIBUTION OF PREFERENTIAL TRADE AGREEMENTS

TO INCLUSIVE AND EQUITABLE TRADE”UNCC, Bangkok, Thailand, 22 June 2017

1

Topics

• Opportunities and challenges for MSMEs in the context of economic integration through RTAs

• Policies to facilitate MSMEs’ integration into GVCs effectively

• ASEAN/CLMV cases (thus talking about AEC)

Mega-RTAs in the future

Stages of economic integration

1. Reduction in trade barriers– Preferential trading area (PTA)

– Free trade agreement/area (FTA)

2. Customs union

3. Common market

4. Economic union

5. Monetary union

6. Fiscal union

7. Complete economic integration

AEC

NAFTA

Mercosur

EU

Deeper Integration

TPP, RCEPFTAAP

Trade shares of selected RTAs, 2014

0%

10%

20%

30%

40%

50%

60%

70%

ENEA EU ASEAN NAFTA

Intra-subregional trade (% of total subregional trade) Share of world trade (%)

Source: IMF, Direction of Trade Statistics (DOTS). Available from https://www.imf.org/en/data (accessed 18 November 2015).

Notes: 2013 data used for Brunei Darussalam; data for Democratic People’s Republic of Korea and Myanmar are not available.5

AEC

What is a global value chain?

• A sequence of all functional activities required in the process of value creation involving more than one country (UNCTAD, 2013)

• Cross-border trade in intermediate goods and services that are incorporated within the production process of goods and services for final consumption

• About 60 per cent of global trade under GVCs (UNCTAD, 2013)

• Production fragmentation• Sector-specific characteristics• Led by multinationals

6

A simplified GVC

7

3RD PARTY LOGISTICS PROVIDER

2ND TIER

SUPPLIER

LEADING ENTERPRISE

FINANCIAL

INSTITUTION

MARKET

RESEARCH FIRM

DISTRIBUTOR END

CUSTOMER

1ST TIER

SUPPLIER

PRODUCTION DISTRIBUTION CONSUMPTION

FINAL

PRODUCT FINAL

PRODUCT

FINAL

PRODUCT

RAW

MATERIALS

INTERMEDIATE

PRODUCT

Value added Value added Value added Value added

Stage 1 Stage 2 Stage 3 Stage 4 Stage 5

Function R&D &

Design

Materials Parts sourcing Parts integration Assembling Marketing

& services

Cost for

assembler

Low to medium Low High High Low Medium to high

Simplified auto value chains

• Body panels• Mechanical &Electroniccomponents• Wheels, tyres& seats•Engines•Transmissions•Others

• Glass• Rubber• Plastic• Steel• Textile• Electronics

(CKD)

(CKD)

Note: Logistics costs are included in each function.

Componentspecialists

(1st – lower tire)Materialsuppliers

(1st - lower tire)

Integrators(1st tire)

Standardizers Assembler owned

distributors

Dealers &service centres

Exportingto other markets

Assemblers

Distribution

Centre JSupplier L

Custo

mers

600km

Country L Country T

Home Country J

Country V

Distribution

Centre V

1 month by ocean

1200km

100km

Supplier T

5 days by air

Customers

Distribution

Centre T

Customers

A GVC example

Assembling

Auto parts supply

Production nodes

Distribution links

R&D centres

1960s

1990s

2000s

2010s

1970s-80s

Automotive supply chains

Main factors driving GVCs

11Source: Modified from ESCAP (2015)

RTAs can provide necessary fundamentals to the development of GVCs

Intraregional exports of GVC products by country income level groups, 2013

12Source: The authors’ calculation based on data from the United Nations Comtrade database

(Percentage of intraregional exports)

Who are MSMEs?

• More than 99.9% of entire business/commercial entities in a nation– Micro, small and medium, as well as those in the

informal sector

– Typically less than 250-300 employees

– All sectors• Diversified needs

• Niche market and smaller production– Lack of economies of scale

• Resource and capacity constraints– Supply, human resources, technology

– Finance

GDP Contribution of SMEs

Source: Ayyagari, Beck and Demirgüç-Kunt, 2003.

Note: “Residual” includes large enterprises and public sector.

MSME contribution to economic activity by country

0 10 20 30 40 50 60 70 80 90 100

Indonesia

Malaysia

Viet Nam

India

Thailand

Philippines

Republic of Korea

MSMEs to total (%) MSMEs employees to total (%)

MSMEs contribution to GDP (%) MSMEs exports to total (%)

Sources: ADB (2015); Department of Trade and Industry of the Philippines (2014); Ministry of Planning and Investment of Vietnam (2014).

MSME density versus national

productivity

India

Republic of Korea

Singapore

Thailand

Australia

United Kingdom

Hong Kong (China)

Indonesia

United States

Viet Nam

Russian Federation

Philippines

Burundi

Qatar

Myanmar

Madagascar y = 0.1166x2 - 0.0454x + 3.9695R² = 0.29

3

3.5

4

4.5

5

5.5

0 0.5 1 1.5 2 2.5 3 3.5 4

Log

GD

P p

er

cap

ita

(20

15

)

Log SME density

Sources: Chu (2015); SMEAJ (2015); Ping (2014); SME Finance Forum (2016); World Bank (2016).

RTAs: Challenges and Opportunities I

• Provide more opportunities to (a) relatively larger businesses and (b) businesses based in the relatively wealthier countries

• Provide significant potential for MSMEs who can offer better quality, cost and delivery

• Intensify competition for MSMEs with the inflows of foreign-made goods and services

• Put pressure on upgrading product quality or decreasing prices through R&D activities, technological advancement and innovation

RTAs: Challenges and Opportunities II

• Combined with infrastructure improvements in energy, ICT, and transport, enable MSMEs to have cheaper, more reliable access to the goods and services

• Create upward pressure on wages (as well as lands and other services) as the region becomes more fully integrated

• Enhance the ability of MSMEs to get money from banks or other financial institutions as the financial sector is likely to have a much improved capacity to loan out money

Benefits of GVCs for local SMEs

• Bolster productivity of participating enterprises, including SMEs

• Provide opportunities for creation of high(er)-skilled and better paid jobs

• Require different styles of engagement with GVCs for different development levels– Limited opportunities in low-income economies to

benefit from technology dissemination and skills upgrading whose firms specialize in tasks that rely on low-wage/unskilled labour

– Knowledge-intensive tasks of GVCs in high-income economies

19

Three major strategies

End-tier supplier

Third-tier supplier

Second-tier supplier

First-tier supplier

Lead firm/Retail outlets Consumers

Brand-named apparel or

textiles companies

Overseas buying offices

Trading Companies

Yarn(Spinning)

Petrochemicals

Cotton, Wool, silk,

etc.

Oil, Natural Gas

COMPOENTNETWORKS

PRODUCTIONNETWORKS

EXPORTNETWORKS

MARKETINGNETWORKS

All Retail Outlets

TEXTILE COMPANIES FINAL MANUFACTURERS

Fabric

Chemical Fibers

Garments factories

Domestic Designers

Subcontractors

Home textiles factories

Industrial textiles factories

Department Stores

Off-price, factory outlets, mail order,

others

Mass merchandise chains

Discount chains

Specially stores

Online stores

Consumers

Raw Material NETWORKS

Source：Modified from Liu (2016).

Downstream ExpansionUpstream Expansion Stay-in

Market or Demand Signal

Upgrading of SMEs in GVCs

• Process upgrading– Transforming inputs into outputs more efficiently by

recognizing the production system or introducing superior technology

• Product upgrading – Moving into more sophisticated product lines in terms

of increased unit values

• Functional upgrading – Acquiring new, superior functions in the chain, such as

design or marketing

• Intersectoral upgrading– Applying the competences acquired in a particular

function to move into a new sector21

Global Enterprises in Emerging Asia

0

20

40

60

80

100

120

140

160

180

200

China India Hong Kong,China

Singapore Malaysia Thailand Philippines Indonesia Viet Nam ASEAN

2006

2015

Source: Compiled based on the dataset of the Forbes Global 2000 (2015).

Ease of doing business and corruption perceptions

PhilippinesViet Nam

IndonesiaIndia

Thailand

Malaysia

Singapore

Republic of Korea

Hong Kong, China

Taiwan, China

Japan

Lao PDR

Cambodia

China

Denmark

U.K.

U.S.

Germany

0

10

20

30

40

50

60

70

80

90

100

0 20 40 60 80 100 120 140

Co

rru

pti

on

Pe

rce

pti

on

s In

dex

20

15

0=h

igh

ly c

orr

up

t

Ease of Doing Business, 2016 ranking, 1=best

Sources: Developed by the authors based on Transparency International (2015); World Bank (2016).

Credit to business, percentage of GDP

0

50

100

150

200

250

2005

2010

2015

Source: Developed by the authors based on World Bank (2016).

Logistics performance and quality of infrastructure, 2014

Source: Asian Development Bank (ADB). (2014). Myanmar Unlocking the Potential: Country Diagnostic Study.25

Public Investment Projects in CLMTV(by cost)

26

Source: ADB (2015)

Core Non-tariff measure Restrictiveness Index in ASEAN, 2009

27Source: OECD (2016).

Overall Services Trade Restrictiveness Index in ASEAN, 2008-11

28Source: OECD (2016).

Innovation output and ease of doing business

IndonesiaPhilippines

Viet Nam

y = 0.0013x2 - 0.4091x + 51.842R² = 0.6087

0

10

20

30

40

50

60

70

80

0 20 40 60 80 100 120 140 160 180 200

Inn

ova

tio

n o

utp

ut

ind

ex 2

01

5

Ease of doing business ranking 2016

Source: The authors based on the data of WIPO (2015); World Bank (2016).

R&D expenditure by funding source in Asia

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Not specified

Abroad

Government

Business

Source: UNESCO (2015).

Innovation vs. branding

Source: The author’s based on WDI (2016).

Y=0.402X+4.934R2=0.330

Key policy issues

• Business environment

• Access to finance

• Infrastructure

• Trade and logistics facilitation

• Technology, innovation and branding

• SME policies vs. general business policies

• Developing countries’ SME provisions under RTAs

– Protection?

– Nurturing?

– Cooperation with foreign investors?