1

GVCs and the opportunities for development of SMEs in low income

countries

Masato Abe, Ph.D. Economic Affairs Officer

Private Sector and Development Section Trade and Investment Division

United Nations ESCAP Bangkok

abem@un.org

Three major topics

• Characteristics of GVCs – Business points of view

• SME policies – General – Low income countries

• New GVC/SME policies?

GVC Characteristics

GVC characteristics I

• Fragmentation – Separate production nodes in different locations

and connected by distribution links

• Offshoring and outsourcing • Supplier consolidation • Production agglomeration • Logistics consolidation

• A lead firm (a larger enterprise/a multinational) regulates a GVC with specific competences, making a higher profit • Brands & channels, resources, technology, expertise

and/or goodwill • Customer vs production vs natural endowment

driven value chains

• Inviting outside experts on specific functions to manage complicated tasks to maximize the efficiency and effectives of the entire GVC

GVC characteristics II

• Contracting with a selected number of capable SMEs typically as subordinate partners for specific tasks or functional support

• Integration of business process, coordinated behaviours and information sharing among independent firms

• Mutual investment into business process and long-term relationship

GVC characteristics III

Distribution Centre J Supplier L

Cus

tom

ers

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

Automotive GVCs: One Example

Customers

Distribution Centre T

Customers

Products

Ball guide post for small or medium sized press dies

Distribution Centre J Supplier L

Cus

tom

ers

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

Automotive GVCs: One Example

Customers

Distribution Centre T

Customers

Assembling

Auto parts supply

Production nodes

Distribution links

R&D centres

1960s

1990s

2000s

2010s

1970s-80s

Automotive supply chains

GVC drivers • Regional integration

– AEC 2015, ASEAN+6, SAARC, BIMSTEC, TPP, etc – Policy liberalization & free trade agreement – Including investment, capital & finance, HR

• Technological / system innovation – Transportation and ICT – JIT, lean manufacturing, TCM, SCM, etc

• Increasing competition – Pressures for low cost & high quality production – Low labour cost

• Emerging global markets – Global products and services (i.e. iPhone)

Business objectives

• Foreign market penetration • QDC (quality, delivery and cost) enhancement • Speed, effectiveness and flexibility • Local supplier development • Local content requirement • Strategic focus and outsourcing non-core functions • Access to expertise / technology • Long-term security • Customer’s request

Key GVC objectives

GVC

Access to resources

Cost reduction

Market access

Theoretical background School Theory Literature

Factor endowment Flying geese Akamatsu (1962), Ozawa (1995)

Production fragmentation Jones & Kierzkowski (1990), Ando & Kimura (2003)

Efficiency maximization Outsourcing McFarlan & Delacey (2004)

Offshoring Aron & Singh (2005), Gereffi (2006)

Production agglomeration Healey & Ilbery (1990)

Supplier consolidation Swift (1995)

Logistics consolidation Christopher (2011)

SCM Mentzer (2001)

Internationalization International trade Smith (1776), Ricardo (1817)

Entrepreneurship Drucker (1964), Gartner (1985)

International business FDI (& TNCs/MNCs)

Daniels, Ogram & Radebaugh (1976) Moran (1985), UN (1988)

International marketing Czinkota & Ronkainen (1988)

Market access

Cost reduction

Access to resources

Motives of major FDI to auto sector from 2003 to early 2014

Source: Author’s compliance based on the data of Financial Times Ltd., fDi Intelligence (2014).

0

5

10

15

20

25

30

35

40

Market access Factor endowment Business environment

Num

ber o

f pro

ject

s

19

How SMEs fit into global supply chains

Source: UNIDO (2001)

Local (100%)

JV

Foreign (100%)

Source: Compiled from IHS Inc. (2012); Kondo (2012); Tiasiri (2010)

Foreign (50%)

Thai (50%)

Assemblers (16 car assemblers; 100,000 workers)

Tire 1 suppliers (709 firms; 250,000 workers)

Tire 2, 3 & lower suppliers (1,100 firms; 175,000 workers)

TNCs

SMEs

LEs

Structures of the Thai auto sector

Tire 2 Suppliers (181 firms)

JV Foreign (100%)

Tire 1 suppliers (33 firms)

Thailand Viet Nam

Assemblers (17 car assemblers)

Value chain management

Sales

Cost

Profit

Increase sales

Decrease costs

Return on investment (ROI)

ROI = Profit

Investment (e.g. capital employed)

ROI = Sales

Investment

Profit

Sales X

ROI = Sales

Investment

(Sales – Costs)

Sales X

Sales Costs

Value chain mgmt process

Stages in the order-to-collection cycle

Order taking

Order entry

Credit check

Documentation

Order picking

Delivery

Invoicing & collection

Order taking

Order entry

Credit check

Documentation

Order picking

Delivery

Invoicing & collection

2 months 2 weeks

Cost-added vs value added

Cost added

Valu

e ad

ded

Raw materials

Production

Finished stocks

Customers

Customers

Stocks in channels

Production In-transits

Cost reduction

Value addition

SME policies

Typology of interventions • Business enabling environment

– Regulations/legal system – Infrastructure (e.g. utilities, logistics, SEZs) – Corruption

• Entrepreneurship – Women/youth

• Access to financing • Business development services • Technology and innovation • Access to market and resources • Sector/cluster development • PPP

28

Challenges • Fragmentation • Macro vs. micro

– Lack of control on macro issues • Limited budget • Poor institutional/coordination framework • Difficult stakeholder management • Need on low cost delivery and greater

targeting • M&E

– Lack of data – A lot of factors 29

30

Issues • Influencing the macro environment have the greatest

impact on SMEs • SME policy as traditionally practiced is the little

picture; thus, it tends to be small and piecemeal • A lot of players

– Centralized or decentralized – Apex body needed?; little budget

• Few attempts to fully assess the costs of SME policy to the taxpayer – But cost benefit analysis of this sort is difficult because of

the need to measure benefits and many costs are hidden/fragmented

– Lack of funds at low income countries

31

Policy landscape Policy area

Centralization

Competitors in debate

Resources required to participate

SME impact on debate

Policy impact on SMEs

Fiscal Monetary Tax Labour Regulatory Environment Finance Industry Innovation Trade FDI Competition Small Bus.

High High High Med Med Med Med Med Med High Med High-med Low

Insiders Insiders Free-for-all Unions Interests Environ’talists Banks Big business Universities Limited Big business Big business Limited

Large Beyond reach Depends Large Large Large Large Large Medium Depends Depends Large Modest

Marginal No debate Large (parts) Large (parts) Marginal Marginal Marginal Small-med Small-med None-small None-small None-small Large

Large (tails) Large (tails) Large/small Large Dependent Dependent Dependent Dependent Dependent Minimal Indirect Indirect Modest

Source: Modified Dennis, 2012.

32

Net change in employment through the business cycle, United States

Source: SBA

33

The inflation problem: Actual and planned price changes, USA

01020304050607080

76 79 82 85 88 91 94 97 '00 '03 '06 '09 '12

Per

cent

of F

irms

HIGHER PLAN HIGHER

Inflationary Period – Loose Monetary Policy

Source: NFIB Research Foundation

34

Net change in new C&I* Small Business Loans and SBA loan guarantees by year

*Commercial & industrial loans of < $1 million made by private banks. Does not include loans secured by real estate or made by finance companies.

Source: FDIC and SBA

35

Central Government ProgrammeBudgets

Cost (£million) 2003/04

Cost (£million)

2001/2

Arbitration and Conciliation Advisory Service

46 ?

Department of Environment, Food and Rural Affairs (excluding CAP)

297 3,120

Department for Culture, Media and Sport

336 332

Department for Education and Skills

126 138

DepartmentofTrade& Industry 425 275

Department of Work & Pensions/Job Centre Plus

331 71

Home Office 6 ?

Learning and Skills Council (National)

1,672 ?

Office of Science and Technology 49 ?

Office of the Deputy Prime Minister

10 ?

Small Business Service 271 349

UK Trade International 81 44

European Commission (StructuralFunds)

276 227

TOTAL 3,926 ?

UK expenditure on entrepreneurship and SME policy

Source: Smallbone (2012)

36

Regional Development Agencies & Local Authorities

360 ?

Tax Incentives Corporation Tax (20% Rate)

2,300 7

Corporation Tax (Zero Rate)

350 7

SME R&D tax credit 260 7 Enterprise Investment Scheme

180 7

Venture Capital Trusts 15 7 EMI 60 7 VAT small traders 450 7 TOTAL EXPENDITURE ON TAX INCENTIVES

3,615 2590

Common Agricultural Policy production subsidies

2,398 ?

GRAND TOTAL 10,299 7,932

Source: Smallbone (2012)

37

Cost of entrepreneurship and SME policy: The case of UK

• Aggregate expenditure was between £8 and £10 billion • At that time expenditure on both the Police Service and on

the Universities was slightly lower at approximately £7 billion • The expenditure came from the budgets of virtually all

Departments of the Government • Unlike the Police Service and the Universities, expenditure on

Entrepreneurship and SME policy was not the responsibility of a single department of the Government

• At that time the main organization within government responsible for SMEs –the Small Business Service (SBS) –accounted for just over 4% of expenditure in 2001/2 and about 2.5% in 2003/4

• The key “spending” department was the Treasury which provided tax reliefs worth £2.6 billion on 2001/2 and 3.6 billion on entrepreneurship and SME policy

Challenges in low income countries

• SMEs tend to remain as SMEs • Large informal sector remain, lacking access to

services • Many SMEs are service oriented

– Services companies are small and less innovation (e.g. personal services, restaurants) but employ many people

• SMEs normally don’t have financial capabilities

• SMEs lack ability to obtain new information

New GVC/SME policies?

40

Key guidelines • Strengthen judicial/regulatory framework • Reduce entry barriers for new businesses • Reduce transaction costs • Enhance cash flow to small business • Strengthen entrepreneurship through

training and education • Strengthening networking and information

dissemination/sharing • M&E

– Sector-based – Qualitative or quantitative

Some key factors

• Limited budget – Infrastructure – Financing – Skill development

• Weal institutional framework • Development strategies

– Directions – Leadership – Regulations – Policies

41

Policy direction • Continuing the FDI/export driven development strategies

– Need facilitation measures, providing adequate HR input (e.g. education) – Attract GVCs fit for the country.

• Enhance support to the SME sector • Emphasize the development of both up- and down-stream value chains • Design and implement clear sectoral development strategies • Develop GVCs by participating in neighbouring countries’ GVCs. • Classic SME export promotion

– Marketing research, export promotion, product development, export financing, trade fairs and missions

• Create enabling business environment and reduce transaction costs – Laws and regulations and their enforcement, ICT and logistic infrastructure and software

• Enhanced access to SME finance • Capacity and HR development for SMEs and related government agencies • Fostering capacity and quality of business associations • Facilitate SMEs’ adoption of world standards and credible certifications • Foster national lead firms

– Graduates from the SME sector with quality and brand

43