7.2 Trade patterns and global value chains

Global trade flows shape the world economy, connecting nations through complex networks of exchange. The three main flows—within the Global North, within the Global South, and between them—each have unique characteristics in terms of products traded and trade balances.

Global value chains have revolutionized production, splitting processes across countries. This shift has led to increased trade in intermediate goods and greater economic interconnectedness. Countries now specialize in specific stages based on their comparative advantages, with transnational corporations coordinating these global networks.

Global Trade Flows and Specialization

Major Trade Flows and Their Characteristics

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• The three major trade flows are within the Global North, within the Global South, and between the Global North and South
  • Each flow has distinct characteristics in terms of products traded and balance of trade
• Trade between the Global North is characterized by intra-industry trade of manufactured goods and services
  • Intra-industry trade involves the exchange of similar products between countries with comparable factor endowments and technologies
• Trade within the Global South often involves the exchange of primary commodities and low value-added manufactures
  • Many Global South countries specialize in labor-intensive and resource-based exports (textiles, agricultural products)
• Trade between the Global North and South is often inter-industry in nature
  • The North exports capital-intensive goods (machinery, high-tech products)
  • The South exports labor-intensive products and raw materials (apparel, minerals)
  • This pattern is driven by differences in factor endowments between the two groups of countries

Factors Shaping Contemporary Trade Flows

• Regional trade agreements and preferential trade arrangements shape contemporary trade flows by reducing barriers between member countries
  • Examples include the European Union (EU), North American Free Trade Agreement (NAFTA), Association of Southeast Asian Nations (ASEAN), and Mercosur
  • These agreements create integrated markets and facilitate trade within the respective regions
• The gravity model of trade predicts the volume of trade between two countries based on their economic sizes and geographic distance
  • Trade volume is proportional to the countries' economic sizes, often measured by Gross Domestic Product (GDP)
  • Trade volume is inversely proportional to the geographic distance between the countries
  • The model highlights the importance of market size and proximity in determining trade flows

Global Value Chains in Trade

The Rise and Characteristics of Global Value Chains

• A global value chain divides the production process into stages that are distributed across multiple countries
  • Each stage involves the production of intermediate goods that are then traded and used as inputs in subsequent stages until final assembly
• The rise of global value chains has been driven by several factors:
  • Improvements in transportation and communication technologies
  • Reductions in trade barriers
  • The internationalization of production by transnational corporations
• Trade in intermediate goods, including parts and components, accounts for an increasing share of global trade due to the operation of global value chains
  • This has led to a growing disconnect between gross trade flows and domestic value-added

Country Specialization and the Role of Transnational Corporations

• Countries specialize in specific stages of the value chain based on their comparative advantages
  • Developed countries tend to specialize in high value-added stages like research and development (R&D), design, and marketing
  • Developing countries often engage in labor-intensive manufacturing and assembly (electronics assembly, garment production)
• The expansion of global value chains has increased the interconnectedness of national economies and the complexity of trade relations
  • Bilateral trade imbalances are less meaningful in a world of multilateral production networks
• Global value chains are dominated by transnational corporations, which coordinate production activities across borders
  • Transnational corporations engage in intra-firm trade and outsourcing to independent suppliers
  • This has increased the concentration of power in the hands of lead firms (Apple, Toyota)

Geographic Distribution of Economic Activities

Country-Specific Factors Influencing Value Chain Location

• The comparative advantages of countries, based on their factor endowments, influence which stages of the value chain are located there
  • Labor-intensive activities tend to be located in countries with abundant low-cost labor (Vietnam, Bangladesh)
  • Knowledge-intensive activities are often situated in countries with skilled workforces and strong innovation systems (United States, Germany)
• The quality of transportation and communication infrastructure affects the ability of countries to participate in global value chains
  • Efficient ports, roads, and telecommunications networks reduce trade costs and enable the timely movement of intermediate goods between stages
• The institutional environment, including government policies, regulations, and the rule of law, shapes the attractiveness of countries for value chain activities
  • Factors like political stability, intellectual property protection, and ease of doing business are important considerations for firms

Firm-Specific Factors and Agglomeration Economies

• The strategies of lead firms play a significant role in shaping the geography of value chains
  • Firms make location decisions based on factors like cost, market access, and the availability of strategic assets
  • The outsourcing and offshoring strategies of lead firms can result in the reconfiguration of value chains over time (shifting production from China to Vietnam)
• Agglomeration economies, arising from the co-location of related firms and industries, can lead to the geographic concentration of value chain activities
  • Clusters provide benefits like knowledge spillovers, specialized labor pools, and access to suppliers
  • Examples include the electronics cluster in Shenzhen, China and the automotive cluster in Detroit, United States
  • Agglomeration economies reinforce a location's competitive advantage and attract further investment

Implications of Global Value Chains for Development

Opportunities and Challenges for Developing Countries

• Participation in global value chains can provide opportunities for economic growth and development in developing countries
  • Integration into value chains can stimulate industrial upgrading, generate employment, and provide access to foreign markets and technologies
• The extent to which countries can benefit from participation in global value chains depends on their position and power within the chain
  • Countries engaged in low value-added stages may face challenges in capturing a larger share of the value created
  • These countries may be vulnerable to competition from other low-cost locations
• Upgrading within value chains involves the ability of firms and countries to move to higher value-added stages over time
  • There are four main types of upgrading:
    1. Process upgrading: improving efficiency
    2. Product upgrading: producing higher-value products
    3. Functional upgrading: taking on new functions
    4. Chain upgrading: moving to a new value chain

Institutional Support and Social Implications

• Upgrading often requires a supportive institutional environment
  • Government policies that promote innovation, human capital development, and the formation of linkages between local firms and global value chains are important
  • Strategic industrial policy can play a role in supporting the upgrading process
• The governance structure of value chains, which refers to the power relations between lead firms and suppliers, shapes the prospects for upgrading
  • Captive value chains, characterized by strong lead firm control and dependence on a narrow range of suppliers, may limit opportunities for supplier upgrading
• Participation in global value chains can also have social and environmental implications for developing countries
  • Concerns have been raised about labor standards, working conditions, and the environmental impact of production activities within value chains
  • Ensuring that the benefits of value chain participation are shared equitably remains a challenge