Week 8 lesson 2 Flashcards
Global Value Chains (GVCs)
Definition:
- GVCs involve a series of stages in producing a product or service, with value-added contributions from multiple countries
- Each stage adds value through raw materials, semi-processed inputs, services, or tasks
Advantages of GVCs:
- Cost efficiency: Exploit differences in factor prices across countries
- Economies of Scale: Specialisation at the plant level reduces costs
Costs of GVCs:
- Geographical Disintegration: Coordination across borders increases logistics and administrative costs
- Trade Costs: Tariffs, transportation and regulatory barriers can offset cost savings
Key example:
- An iPhone’s components are sourced globally - chips from Malaysia, assembly in China, and software from the US
Key Takeaway:
GVCs enhance cost efficiency and productivity, but also introduce logistical and geopolitical risks
External Economies of Scale and Agglomeration Forces
Definition:
- External Economies of Scale: Industry-wide cost reductions as total output increases, even if individual firms remain small.
Example: When many technology firms cluster in Silicon Valley, suppliers, skilled labor, and infrastructure improve, reducing costs for every company in the region.
- Agglomeration Forces: Benefits gained from industry concentration in specific locations.
Example: Example: In a city with many fashion designers and garment manufacturers, collaboration becomes easier, transportation costs drop, and ideas spread faster.
Key Agglomeration Forces:
-1. Specialized Suppliers: Industries attract specialized equipment/services suppliers (e.g., Silicon Valley for tech components).
2. Labor Pooling: Easier recruitment from a concentrated pool of skilled workers.
3. Knowledge Spillovers: Workers and firms share ideas and innovations more easily in clusters.
Graphical Representation:
- Forward-falling supply curve: As industry output increases, costs fall further.
Key Takeaway:
Agglomeration creates self-reinforcing advantages, enabling clusters like Silicon Valley to thrive
Implications of International Trade on Industry Concentration
Key Dynamics:
- Pre-Trade Equilibrium: Domestic supply and demand curves intersect to set prices and output.
- Post-Trade Adjustment: If one country (e.g., China) has a lower cost structure, its industry will expand, while higher-cost industries (e.g., US) will contract.
- Self-Reinforcing Process: As output rises in the low-cost country, costs fall further, consolidating production there.
Effect on Prices:
- Trade leads to lower prices than those in either country before trade integration.
Key Example:
The button industry shifted almost entirely to China after trade liberalization due to cost advantages.
Key Takeaway:
Trade integration can create concentration of industries in low-cost regions, driving efficiency and price reductions
Risk and Vulnerabilities in GVCs
Key Risks:
1. Natural Disasters: Earthquakes (e.g., Fukushima), floods (e.g., Thailand), hurricanes (e.g., Harvey).
2. Pandemics: SARS outbreak, COVID-19 pandemic.
3. Trade Policies: US-China trade war, Brexit, tariffs on imports from Mexico.
Case study - COVID-19 Pandemic:
- January 2020: Factory shutdowns in Hubei, China, disrupted global supply chain
- February 2020P: Hyundai halted production in Korea due to component shortages
- March 2020: Ford and Volkswagen stopped production in North America and Europe
Dependence on China:
“We have become dependent on China. We need to make supply chains more robust and diverse, broadening our supply sources and increasing domestic production” Japanese Economic Minister (June, 2020)
Key Takeaway:
GVCs are highly vulnerable to global disruptions, requiring strategies for risk management and resilience
Rethinking Supply Chains: Reshoring, and De-Risking
Definition of Key Terms:
1. Reshoring: Moving production activities back to the domestic country to reduce dependency on foreign suppliers and mitigate risks associated with global disruptions.
- Example: US firms moving manufacturing plants from China back to the US.
- De-Risking: Diversifying supply chains to reduce geopolitical vulnerabilities and concentration risks in a single country.
- Example: European firms reducing dependency on Chinese suppliers for critical inputs.
Goals of These Strategies:
- Reduce reliance on geopolitical rivals.
- Secure access to critical resources and supply chain inputs, particularly for strategic industries like electronics, semiconductors, and renewable energy.
Key Drivers Behind These Strategies:
- Supply Chain Disruptions: COVID-19 shutdowns, natural disasters, and shipping delays.
- Strategic Autonomy: Countries aim to secure domestic control over critical industries.
Examples:
- Apple’s Production Shift: Moved iPhone production to India to diversify beyond China.
- Semiconductor Industry: Investments in Malaysia and Vietnam for chip testing facilities.
Key Takeaway:
Supply chain strategies are shifting from efficiency-first models (focused purely on cost savings) to resilience-first models (focused on reducing risks and ensuring long-term stability)
Friendshoring
Definition:
Relocating supply chains and production to geopolitically friendly countries to reduce exposure to trade weaponization and geopolitical risks.
Goals:
- Minimize dependency on geopolitical rivals.
- Secure access to critical resources.
Friendshoring is driven by the belief that strategic supply chains should not depend on hostile countries and need to be protected against the weaponising of trade by certain countries.
It is important not to confuse “friendshoring” with other strategies that aim to enhance the resilience of supply chains
Examples:
- Apple: iPhone production shifted to India.
- Foxconn: Factories expanded in Vietnam, Mexico, and Thailand.
- Semiconductors: Chip-testing facilities in Malaysia.
Challenges:
- Higher costs.
- Logistical delays.
- Skill shortages.
Key Takeaway:
Friendshoring balances economic resilience and geopolitical security, reducing reliance on risky regions.
China plus one strategy
Definition:
Firms maintain production facilities in China but diversify new investments into other countries.
Key Examples:
- iPhone Production: Expanded factories in India.
- Chip Facilities: Relocated to Malaysia.
- Electronics Manufacturing: Increased capacity in Vietnam and Thailand.
Case Study – Apple in India:
- Production of iPhone 14 started in India just one month after its global launch.
- Challenges: Low production yield, logistics delays, and tariffs.
- Apple aims to increase the share of India to 25% of production (Current levels 5-7%)
Key Takeaway:
The China Plus One strategy seeks to reduce over-reliance on China while maintaining its cost advantages.
Efficiency vs. Resilience in GVCs
Efficiency:
- Focus on cost minimization through economies of scale and optimal location choices.
Resilience:
- Built-in spare capacity to manage disruptions.
- Diversified suppliers and locations to reduce geopolitical risks.
Limits to Decoupling:
- US dependence on Chinese imports remains significant.
Even with reduced direct trade, economic interdependence persists through third countries.
Key Takeaway:
The balance between efficiency and resilience is central to modern GVC management.
Decoupling and Economic Interdependence
Trends:
- China’s Share in US Imports Declining: Shift towards Southeast Asia and Mexico.
- Indirect Dependence Rising: FDI by Chinese firms in South Asia and Mexico is increasing.
Key Insight:
Less direct trade does not reduce economic interdependence, as global production networks remain intertwined.
Key Takeaway:
Efforts to decouple from China face structural barriers and enduring economic linkages.
General essay for this topic
Introduction
The modern global economy is deeply intertwined through global value chains (GVCs), where production processes span multiple countries, leveraging differences in costs, expertise, and scale. Offshoring and agglomeration forces have played pivotal roles in shaping trade patterns, while recent vulnerabilities, such as the COVID-19 pandemic and geopolitical tensions, have exposed the fragility of these systems. Firms and governments are now rethinking their supply chain strategies through approaches like reshoring, friendshoring, and de-risking. This essay will first examine the structure and advantages of global value chains, then analyze the effects of international trade and agglomeration forces, and finally explore the challenges and strategic responses to vulnerabilities in GVCs.
Sub-Question 1: Global Value Chains (GVCs) – Structure, Advantages, and Costs
Definition and Structure of GVCs
A Global Value Chain (GVC) represents a series of interconnected stages of production, often spread across multiple countries, with each stage adding value through tasks such as raw material processing, manufacturing, and services.
Advantages of GVCs:
Cost Efficiency: Firms can exploit differences in factor prices (e.g., labor costs in developing countries).
Economies of Scale: Production specialization allows firms to achieve plant-level efficiency.
Access to Expertise: Countries often specialize in specific tasks, improving quality and innovation.
Costs of GVCs:
Coordination Costs: Managing geographically dispersed operations increases logistical and administrative expenses.
Trade Costs: Tariffs, regulatory barriers, and shipping costs can reduce cost advantages.
Risk Exposure: Vulnerability to geopolitical risks and supply chain disruptions.
Example:
The iPhone supply chain involves chip production in Malaysia, assembly in China, and software development in the US.
Key Takeaway:
GVCs enable firms to achieve efficiency and cost advantages, but they also introduce coordination challenges and vulnerability to disruptions.
Sub-Question 2: International Trade, Agglomeration Forces, and Industry Concentration
External Economies of Scale and Agglomeration Forces
External Economies of Scale: Costs per firm decrease as industry-wide output increases, even if individual firms remain small.
Agglomeration Forces:
Specialized Suppliers: Proximity to specialized service providers reduces costs (e.g., Silicon Valley for tech).
Labor Pooling: Large, concentrated industries attract skilled workers, reducing hiring costs.
Knowledge Spillovers: Workers share ideas and innovations in concentrated hubs.
Graphical Representation:
Forward-Falling Supply Curve: As output rises, costs decrease, reinforcing industry concentration.
📝 Add a Graph: Illustrate how increased output reduces costs across the industry.
Implications of International Trade:
Pre-trade, domestic prices and output are determined by local supply and demand curves.
Post-trade, low-cost producers (e.g., China) expand production, while high-cost producers (e.g., US) contract.
Self-reinforcing cycles drive costs down further in low-cost regions and up in high-cost regions.
Price Effects:
Trade integration reduces prices below domestic pre-trade levels in both countries due to increased specialization and scale.
Example:
The button industry shifted entirely to China due to cost advantages, lowering global prices.
Key Takeaway:
Trade, combined with external economies of scale and agglomeration forces, can lead to industry concentration in low-cost regions and global price reductions.
Sub-Question 3: Vulnerabilities in GVCs and Strategic Responses
Key Risks in Global Value Chains:
Natural Disasters: Earthquakes (Fukushima), floods (Thailand), hurricanes (Harvey).
Pandemics: SARS, COVID-19 lockdowns disrupted global supply chains.
Trade Policy Changes: US-China trade war, Brexit, tariff escalations.
Case Study – COVID-19 Pandemic:
January 2020: Hubei province factory closures disrupted global supply chains.
February 2020: Hyundai halted production in Korea due to component shortages.
March 2020: Ford and Volkswagen halted operations in North America and Europe.
Impacts:
Shortages of essential components.
Delays in global production networks.
Rising costs due to supply chain bottlenecks.
Strategic Responses to Vulnerabilities:
Reshoring: Bringing production back home to reduce reliance on foreign suppliers.
Example: US firms moving key production back domestically.
Friendshoring: Relocating supply chains to geopolitically allied countries.
Example: Apple expanding iPhone production to India.
De-Risking: Diversifying suppliers across multiple countries.
Example: Foxconn establishing operations in Vietnam, Mexico, and Thailand.
Efficiency vs. Resilience:
Efficiency: Prioritizing cost minimization and optimal production scales.
Resilience: Building spare capacity, diversifying suppliers, and enhancing adaptability.
Limits to Decoupling:
Despite declining direct trade between the US and China, economic interdependence persists through third-country trade networks.
Key Takeaway:
Balancing efficiency and resilience in GVCs is crucial for minimizing risks while maintaining competitiveness.
📝 Conclusion
Global value chains have revolutionized production and trade by enabling specialization, cost efficiency, and economies of scale. However, vulnerabilities exposed by events such as the COVID-19 pandemic and geopolitical tensions have forced firms and policymakers to rethink their strategies. Concepts like reshoring, friendshoring, and de-risking aim to build more resilient supply chains, though they come with higher costs and logistical challenges. Policymakers and firms must strike a delicate balance between efficiency and resilience to ensure sustainable and secure global trade systems.
