What can we learn from value chain analysis?

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1 What can we learn from value chain analysis? Raphie Kaplinsky, IDS Traditionally, the focus on productive activities and the insertion of local producers into global markets has been on the economic branch and the economic sector. Developing countries have been seen to have a potential comparative advantage in the primary branch, and the industrial countries in secondary economic activities and value-added traded services. Within the industrial branch, the focus has most often been on individual sectors (based on ISIC or SITC classifications) such as clothing, shoes, chemicals, electronics, food processing, etc. There are two problems with this approach to research and policy. First, it provides only a partial perspective on the determinants of economic efficiency. With the growing organisational and technological complexity of production, the social division of labour has become increasingly extended. The contribution which individual sectors, and sub-sectors make to the overall efficiency with which a final product is produced and delivered, is small and diminishing. For example, in the automobile industry the final assemblers now account for only about 30 per cent of final product value, compared to almost 50 percent two decades ago. A similar division of labour is occurring in many other sectors, including in agriculture and primary products where processing is generally becoming more extensive and more complex. Hence there is a pressing need to develop a systemic approach towards competitiveness, and it is for this reason that value chain (often called value stream) analysis policy-making is becoming more widespread (Womack and Jones; Kaplinsky, 1998). The value chain describes the full range of activities which are required to bring a product or service from conception, through the intermediary phases of production (involving a combination of physical transformation and the input of various producer services), delivery to final consumers, and final disposal after use. Considered in its most elementary form, it takes the shape as described in Figure 1. As can be seen from this, production per se is only one a range of value added activities, even though we have historically tended to privilege it above all others. Figure 1: A simple value chain DESIGN PRODUCTION MARKETING A second reason why this historical emphasis on production is no longer appropriate, is that the distribution of various forms of economic and technological rent through the chain of production has begun to alter in recent decades. As more and more countries have developed their capabilities in industrial activities, so the competitive pressures have heightened in manufacturing (Figure 2). This has become particularly

2 apparent since China, with its abundant supplies of educated labour, entered the world market in the mid-1980s. It is this, too, which underlies the falling terms of trade of developing countries manufactured exports (see the introductory note to this Briefing Paper). Consequently, the primary economic rents in the chain of production are increasingly to be found in areas outside of industry. For example, Nike now concentrates on the D (develop) and S (sell) rather than on the M (make) and B (but) of its value chain. (Michael Jordan earned more from the use of his name by Nike than the wages of all Nike workers in Malaysia last year). Figure 2. The changing distribution of rents in production Competitive Pressures DESIGN PRODUCTION MARKETING Competitive Pressures A focus on value chains, therefore, provides the potential for reaping systemic efficiency. It also provides a strategic perspective into positioning local producers for global markets into particular activities and links in the value chain which allow them to achieve sustainable income growth. But these gains are only potential gains - they need to be transferred into changes in practices if immiserising growth is to be avoided. Government policy - both in design and implementation - has the potential to help producers achieve some of these gains. However, one of the problems is that most chains cross national boundaries and government policy tends to have a national reach. A second problem is that governments have only a limited capability to induce change amongst producers. More significantly, therefore, improvements in the performance of individual links in value chains reflect the activities of key "governors" (Gereffi, 1994). These governors take on the responsibility for upgrading the capabilities of individual links in the chain. They may do this directly, or by encouraging their first tier suppliers to assist their second tier suppliers, and so on down the chain.

3 Gereffi has made the very useful distinction between two types of value chain governance. The first describes those chains where the critical role is played by a buyer buyer-driven chains. The second describes a world where key producers in the chain, generally commanding vital technologies, play the role of upgrading the various links producer-driven chains. This concept of governance - and the distinction between different types of chains - is a major contribution to our understanding of the workings of value chains, and hence in throwing light on methods of insertion of local producers into global markets. What don t we know and how might this influence the design of our research projects? On the basis of my recent experience working with the UK Department of Trade and Industry on the promotion of supply chain learning, I believe that there are four issues which need to be addressed in classifying different types of value chains, and hence in the design of effective research programmes on spreading the gains from globalisation: 1. Perhaps it is useful to distinguish three rather than two types of value chain governance (Figure 3). Supplier-pulled chains ("producer driven" in a Gereffi's terms) helpfully describes the role played by key, usually technology endowed governors - automobile assemblers and consumer electronics manufacturers are cases in point. The second type of chain is that where technologically endowed governors push change up the chains towards their customers producer-pushed chains. This requires educating users, which invariably involves different types of relationships, and different forms of governance power to that arising in buyerpulled chains. The third form of chain is the buyer-pulled chain, where the buyer in question is the final retailer. Invariably, the distinctive feature of these buyerpulled chains is that these final buyers have little knowledge of the challenges involved in the production of the commodities and differ from supplier pulled chains where the governor and its suppliers are effectively in the same line of business. This creates particular problems in the promotion of supply chain learning by the governors. (However, as Hubert Schmitz points out, in some sectors which are particularly relevant to developing countries - such as shoes and clothing - the final buyers were formally producers themselves, and will therefore often be familiar with the challenges involved in production). 2. Under what circumstances does latent governance become actual governance? What induces key governors to play this critical role with both suppliers and customers? Can government policies have a role in stimulating governance activities? Under what circumstances do governors choose to promote supply chain efficiency across national boundaries, particularly in poor countries and in activities involving poor producers? What role does consumer pressure play - for example codes of conduct on the environment and on labour standards - in promoting such governance activities in poor countries?

4 Figure 3. A three-fold classification of value chain governance Supplier-pushed Low-tier Supplier Intermediate Supplier Sells to Final Consumer Supplier-pulled Buyer-pulled 3. In many cases, we have found that supply chain efficiency does not arise from the activity of a single governing firm, but that there are multiple points of entry to learning in different chains. Therefore, is governance merely one form of supply chain promotion, and can we usefully distinguish between what a recent paper in the Harvard Business Review refers to as "kingdoms and federations? If so, are kingdoms more appropriate to situations of unequal technological capability, such as those involving transnational firms and poor countries, whereas federations involve relationships of equivalence between similarly endowed firms? 4. It is our experience (in work which John Humphrey and myself have conducted on the automobile components sector) that when key transnational firms play the role of governors, they are extremely reluctant to utilise local firms. They prefer to strike a bargain with another large transnational firm which has central operations in close proximity to the core strategic operations of the governing firm. They require global suppliers, but with a local presence. Therefore, does this mean the end of the road for local suppliers providing inputs into products destined for global markets? If so, what implications does this have for the distribution of returns from production?

5 Bibliography Barnes, J. and R. Kaplinsky (2000, forthcoming), Globalisation and trade policy reform: Whither the automobile components sector in South Africa?, Competition and Change. Gereffi, G (1994), The Organization of Buyer-Driven Global Commodity Chains: How U. S. Retailers Shape Overseas Production Networks, in Gereffi and Korzeniewicz (eds.) ), Commodity Chains and Global Capitalism, London: Praeger. Humphrey, J. (2000, forthcoming), Assembler-Supplier Relations in the Auto Industry: Globalisation and National Development, Competition and Change, Kaplinsky, R. (1998), Globalisation, Industrialisation and the Pursuit of the Nth Rent, IDS Discussion Paper No. 365, Brighton: Institute of Development Studies. Womack, James P. and Daniel T Jones (1996), Lean Thinking: Banish Waste and Create Wealth in Your Corporation, N. York: Simon & Schuster