VALUING A CLOSE CONNECTION

Transcription

1 VALUING A CLOSE CONNECTION More jobs as a result from economic integration between Western Europe and Central & Eastern Europe PART II October ING Economics Department Global Markets Research

2 COLOPHON AUTHORS Mohammed Nassiri Economist International Trade Research Rob Ruhl Head of Business Economics (until 1 October 2014) EXTERNAL EXPERT Gaaitzen de Vries Assistant professor of economics University of Groningen, the Netherlands This report is partly based on the work done on the World Input Output Database by a team from the University of Groningen, Faculty of Economics and Business. FOR INFORMATION, PLEASE CONTACT Carolien van der Giessen Media Relations ING , carolien.van.der.giessen@ing.com Raoul Leering Head of International Trade Research , raoul.leering@ing.nl 2

3 FOREWORD Over the last 25 years the economic relationship between Western Europe (WE) and Central & Eastern Europe (CEE)* has changed significantly and has deepened dramatically. To identify the contribution to prosperity in both regions, we calculated in part I (May 2014) the added value and number of jobs created by demand from both regions for each other s products and services. In part II of the report we focus on production. How has the relationship between WE and CEE (including Turkey and Russia) translated into participation in each other s production processes and what have been the implications for the development of employment in both regions? As in part I, we rely for our analysis on the World Input Output database and the unique work done by professor Marcel Timmer and dr. Gaaitzen de Vries of the University of Groningen. realised in the value chains between both regions. To take account of the disruption caused by the financial crisis and eurozone crisis we also present some figures on the sub period. The financial crisis in and the debt crisis in the eurozone in created much uncertainty and insecurity. This has put business investments on hold, with resultant pressure on foreign direct investment in, among others, central and eastern Europe. This demand effect distracts from the supply side cost reasons for outsourcing of production with, is the driver behind the rise of value chains. Given the transport equipment sector s, high level of supply chain integration, the report zooms in on connections between companies in this sector rather than considering the output of all sectors in both regions. The report also takes a closer look at the German transport equipment sector, the WE country with the most extensive outsourcing strategy. The World Input Ouput Database contains data until 2011 that allows us, contrary to traditional export data, to calculate the specific value added * For list of countries included in these regions see page 27 3

4 CONTENTS Foreword 3 Main observations 5 1 The role of Western Europe and Central & Eastern Europe in worldwide value chains (GVCs)* 6 2 The role of Western Europe and Central & Eastern Europe in each other s value chains and the impact on jobs and value added 14 3 Central & Eastern European services is an important contributor to the performance of the WE transport equipment sector 19 4 Conclusions 26 Country coverage 27 Industry classification 28 Classification of jobs 29 Methods and literature 30 * The global value chain (GVC) of a product is the collection of all activities needed to produce a final manufacturing product. It contains activities both in the pre- and post-production phase, including research and development, software, design, branding, finance, logistics, after-sales services and system integration activities. 4

5 MAIN OBSERVATIONS VALUE CHAINS BETWEEN WESTERN EUROPE AND CENTRAL & EASTERN EUROPE HAVE IMPROVED COMPETITIVENESS The evolution of production relationships between Western Europe (WE) and Central & Eastern Europe (CEE) has been crucial to improving the competitiveness of both regions. WE companies initially profited from lower costs for low skilled labor. In the second phase they profited increasingly from higher skilled labor in CEE. The competitiveness of CEE has profited from the technology and modern production processes introduced by Western companies that have outsourced parts of their production to CEE. The participation of WE and CEE in each other s value chains created almost 1 million jobs in total between 1995 and WE value chains created 377,000 jobs for CEE-workers, of which 339,000 in the transport equipment sector and 108,000 in machinery (other sectors lost jobs). CEE value chains have created 534,000 jobs for WE-workers, 58% of them were in the transport equipment and machinery sectors. The transport equipment and machinery sectors have led the way in integrating production processes in WE and CEE, these sectors being well suited to extensive product fragmentation. Other sectors are not as suitable for this, but there are significant opportunities to integrate production processes in other sectors and it is anticipated that they will follow in their search for improved competitiveness. The widespread belief that production integration between WE and CEE has solely offshored low-skilled jobs to CEE is incorrect. In the transport equipment and machinery sectors, medium- and high-skilled jobs in CEE have grown more significantly than low-skilled jobs. The increased contribution of CEE services to the transport equipment value chain of Germany which has been most prolific in offshoring activities to CEE is the main cause for the increase of high-skilled jobs in CEE in this sector. As innovation in the transport equipment sector becomes increasingly important in the coming years, there will be a need for more high-skilled workers in the value chain, including in CEE. WORLDWIDE VALUE CHAINS: THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE WE and CEE have secured their worldwide competitiveness, mainly due to enhanced specialization in services linked to manufacturing production. Between 1995 and 2008, one of the most notable developments is that services linked to manufacturing production created 4.1 million jobs (1.6% of total GVC jobs) 2.9 million in WE and 1.2 million in CEE. In manufacturing WE lost 2.8 million jobs over this period while CEE gained 0.4 million jobs. 5

6 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Shifts in production processes worldwide mean that most manufactured products are no longer produced in a single location but in many countries. Until the 1990s, decreasing transportation costs stimulated world trade and the move towards cross-border fragmentation of production processes. Since then, corporates have increasingly taken advantage of opportunities to produce in other countries. These advantages include lower costs of low skilled and medium/high skilled labour and availability of raw materials or certain technologies. It is not only manufacturing processes that are now globally fragmented. This process has been facilitated by sharply diminishing communication and coordination costs as a result of the ICT revolution. Services related to manufacturing have become crucial components in global value chains (GVCs). Traditional trade statistics attribute the value of exports entirely to the country that exports the final product or service, without correcting the figures for the contribution of companies in other countries to that production. Using trade data measured in value added gives more precise information about the contribution to GDP of exports. The World Input Output Database enables us to identify the value added by exports at country and sector level comparing these figures for different years. It shows the increased integration of production processes of countries and sectors in GVCs. In this chapter we highlight the impact of GVCs in WE and CEE on production (value added) and employment at a global level. In the next chapter we will focus on the spefic roles of both regions in each other s production processes. 6

7 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Germany dominates manufacturing in Western Europe Germany still the regional leader Germany continues to dominate Western European manufacturing because of the excellent quality of its products, its moderate wage cost increases since the turn of the century and the outsourcing of production processes to companies in neighbouring CEE countries. CEE offers more than just low costs: increasingly high levels of technical knowledge in CEE and Russia offer the possibility of improving the quality of products while still achieving a low price. Historically, there has been a widespread belief that only manufacturing activities have been transferred to CEE. In reality, there has also been a partial transfer of manufacture-enabling services to companies in CEE. The establishment of R&D centres in the CEE region by Western European companies reflects this development. Industry output per country as share of total WE manufacturing, % 1.8% 3.3% 2.1% 4.9% 1.3% 1.7% The role of global value chains (GVCs) 3.6% 28.7% The establishment of GVCs has enabled large corporates to retain their competitive position in the global market. Countries like Germany, Spain and Italy have profited most from outsourcing opportunities. 14.0% 4.1% 2.7% Countries in Asia and CEE play an important role in performing fabrication tasks in the GVCs. On average 68% of value added ends up in final manufactured products. The remainder is geared to production of intermediates for final non- 1.3% 8.4% 14.0% manufacturing products. 0.8% Source: Oxford Economics, WIOD, ING calculation 7

8 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Central Eastern Europe dominated by Russia and Turkey Two countries represent over half CEE s manufacturing output Russia and Turkey are the giants of the (extended) CEE region in terms of the scale of manufacturing production. However, the strong domestic focus of Russian companies and the dominance of oil, gas and basic metals in its exports means that its role in GVCs is limited. Industry output per country as share of total CEE manufacturing, 2013 In recent years, Turkey has begun an impressive catch-up process, supported by the government, to upgrade its manufacturing production from low addedvalue products to higher added-value products. Partly as a result, Turkey is rapidly becoming an important manufacturing country for the automotive industry and is 1.6% 37.5% expected to begin production of a locally developed car in the near future. Many international companies are now involved in the automotive industry in Turkey, making it an important participant in several GVCs. Besides Turkey, the Czech Republic, Poland and Hungary have integrated more into GVCs. 7.8% 13.9% 5.5% 3.0% 4.7% 4.4% 1.5% 0.9% 29.2% Source: Oxford Economics, WIOD, ING calculation 8

9 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Shift away from manufacturing jobs in both regions Services for manufacturing play a crucial role in the development of GVCs Due to productivity gains as a consequence of EU restructuring plans, the number of agriculture sector jobs in both regions. Globally, GVCs account roughly for 25% of total employment. GVCs also include jobs outside the manufacturing sector, such as services. These services are increasingly important for the production of final manufactures. The increase of service jobs involved in GVCs of manufacturers reflects this (see table below). In the years following 2008, the number of workers involved in the production of final manufactures was pushed down in both regions due to negative demand effects of the financial crisis and its aftermath. In total, both regions saw a decrease of two million jobs, including also involving a decrease in manufacturing jobs in Service jobs are driving GVC job growth in both regions Between 1995 and 2008, WE lost 2.8 million manufacturing jobs. CEE manufacturing production expanded, partly due to the outsourcing of production of Western CEE. During this period service jobs in CEE increased by 72,000 despite the poor economic climate: this was the only increase in employment of any sector in either region. countries. But CEE only gained 0.4 million jobs because productivity increased rapidly. Manufacturing GVC jobs development in Western Europe and Central & Eastern Europe 1995, 2008 and 2011 GVC workers as (%) share of all workers in the economy Change in GVC workers between 1995 and 2008 (x1000) Change in GVC workers between 1995 and 2011 (x1000) Region Agriculture Manufacturing Services All sectors Agriculture Manufacturing Services All sectors Western Europe ,150-2,776 +2, Central & Eastern Europe , , Source: WIOD, ING calculation 9

10 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Loss of worldwide GVC-related jobs in Western Europe due to real wage increases Germany gained most jobs We look at European manufacturing value chains in the next chapter. Here, looking at worldwide manufacturing value chains, we find that Western European employment related to these worldwide chains has generally fallen over the This partly reflects the negative correlation between employment and real (i.e. inflation adjusted) wage growth in Western Europe between 1995 and Real wage increases in the UK, France, Portugal and Greece coincided with diminishing employment related to worldwide value chains. In other countries, such as Germany, Spain, Italy and Austria, real wages showed only moderate increases over the same period. In Germany, a substantial number of manufacturing jobs related to worldwide value chains were lost despite moderate wage growth. These losses were attributable to restructuring of activities and to the transfer of activities to neighbouring countries. But, with the improved competitiveness of German industry, the loss of German manufacturing jobs has (percentage wise) been less than most other WE- Development of jobs related to worldwide value chains by sector ( ) in largest Western European countries* -1,750-1, ,250 DEU ESP ITA AUT NLD SWE FIN IRL BEL DNK GRC FRA PRT GBR Total WE region 11 over All sectors 08 over , % change of all jobs related to manufacturing GVCs '11 over '95 4.1% 2.0% -4.5% -0.6% 2.0% -3.4% -7.2% -18.8% -6.5% -19.7% -24.4% -4.7% -22.1% -22.7% -5.5% Agriculture Manufacturing Services Source: WIOD, ING calculation * Luxembourg, Malta and Cyprus are included in the sum of the WE region 10

11 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS countries. Moreover, the loss of manufacturing jobs in Germany was more than compensated for by growth in services sector jobs. Spain and the Netherlands also score well Besides Germany only Spain and the Netherlands show employment development related to worldwide manufacturing value chains (see chart on the previous page). In Spain this development was very favorable until the start of the crisis, when it was the only one of the large WE-countries to show even an increase in manufacturing jobs related to worldwide value chains (not in the graph). While the financial crisis and the subsequent debt crisis in the eurozone put manufacturing jobs related to these value chains in Spain also in the red, this was by a relatively small compared to other WE-countries. Taking other sectors of the economy into account, Spanish employment has on balance, still benefited from worldwide manufacturing value chains just like Germany and the Netherlands (see chart). Although the UK has seen an overall increase of 3.3 million jobs over , manufacturing jobs related to world wide manufacturing value chains declined and have not been compensated for by more service jobs linked to these value chains. However, the next chapter will show that the value chains between UK and Central & Eastern Europe created 127,000 jobs in the UK between 1995 and 2011, of which 43,000 jobs were in manufacturing. 11

12 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Largest CEE economies have gained most GVC-related jobs Turkey plays an increasingly important role in GVCs Within CEE, Turkey stands out in terms of employment growth. Both manufacturing and services have shown strong growth related to the country s increasing role in GVCs. Turkey s success is partly the result of an improved business climate in the country thanks to a consistent economic policy. In terms of sectors. The net growth in employment has been due to the increase in jobs in manufacturing and services while the agriculture sector has lost jobs. Number of GVC workers ( ) in CEE countries TUR SVK CZE BGR POL LVA SVN 11 over All sectors 08 over % change of all jobs related to manufacturing GVCs '11 over ' % -16.7% -1.1% -9.6% -5.7% -41.0% -30.1% Poland has also seen positive employment developments in the manufacturing and service sectors. However, overall the country s gains have been more than offset by the large loss of jobs in the agricultural sector. Efforts to increase agricultural productivity with EU policy directed -1,750-1, ,250 EST HUN LTU ROM Total CEE region % -2.7% -39.9% -17.8% -4.5% at, among other things, bundling of agricultural areas, are Agriculture Manufacturing Services largely responsible for the fall in agricultural jobs. Source: WIOD, ING calculation 12

13 1 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN WORLDWIDE VALUE CHAINS Other CEE countries have been less successful in gaining GVC-related jobs. Romania s performance looks particularly poor relative to other CEE countries (see chart on page 12), with a significant drop (17.8%) in Global Value Chain employment over While the drop in GVC-related agricultural employment fits the pattern of other CEE countries, the reduction in manufacturing employment linked to GVC looks relatively large. This can be explained by the later transition to a market economy in Romania than in other CEE countries. While other CEE countries embraced transition from immediately after 1989, Romania s adjustment was slow-paced until 1993 (and highlighted by triple-digit inflation). Another factor explaining Romania s poor GVC employment record is the high level of outgoing migration the country has experienced since The lagged transition to a market economy in Romania is to some extent still apparent today, as the latest World Bank report 2014 has highlighted with the country recording the worst score for ease of doing business in the CEE. Total employment in Romania dropped by 26% over , with GVC-related employment falling by 17.8%. We infer from this that Romania s links to GVC have given the country a valuable buffer against the job losses associated with moving from a centrally planned economic framework. 13

14 2 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN EACH OTHER S VALUE CHAINS AND THE IMPACT ON JOBS AND VALUE ADDED In chapter 1 we looked at the emergence of global value chains (GVCs*) and the role of Western Europe and Central & Eastern Europe in this. Jobs in the services sectors have increased significantly while manufacturing jobs have declined. In this chapter we highlight the role of the two regions in each other s value chains. We show the impact of Western European value chains on CEE employment and value added and the impact of CEE value chains on Western European employment and value added. * A global value chain (GVC) of a product is the collection of all activities needed to produce a final manufacturing product. It contains activities both in the pre- and post-production phase, including research and development, software, design, branding, finance, logistics, after-sales services and system integration activities. A global value chain is identified by the country-industry where the last stage of production takes place before delivery to the final user (e.g., the global value chain of cars from Western European transport equipment manufacturing). This is the starting point where we count back value added that is being created for the final product in all fases of production. 14

15 2 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN EACH OTHER S VALUE CHAINS AND THE IMPACT ON JOBS AND VALUE ADDED Production processes in WE and CEE are more integrated International sourcing is widespread across countries in both regions An increase of imports in total inputs for manufacturing means that a larger share of intermediate inputs is bought in another country. In both WE and CEE. Growing CEE contribution in WE manufacturing production process countries (and vice versa) Imported intermediate production as % share of total intermediate production, 1995 and 2011 Corporates have taken advantage of increasing opportunities for international production fragmentation. The average share of imports in total intermediate inputs for Western European countries increased from 30% to 40% between 1995 and The average share in CEE rose from 28% to 38% over the same period. Integration of production processes differs by country due to the differences in industrial development by sector. Hungary, the Czech Republic, Slovakia and Poland show the largest and most rapid increase of imports of Western European inputs and of inputs from other regions in the world. The Netherlands, Austria, Greece 60% 50% 40% 30% 20% 10% 0% BEL By Western European countries IRL NLD AUT DNK SWE PRT GBR FIN GRC DEU FRA ESP ITA and Finland are among the WE countries that show the largest increase in the use of CEE-inputs in their value chain. CEE share in imports 60% Rest of the world Global value chain perspective The international fragmentation of manufacturing production has led to the emergence of GVCs. Using the GVC perspective we are able to trace back the role of each country and sector in the production of final manufactures. In the remainder of this chapter we look at specific sectors in WE and CEE and the role of both regions in these value chains. 50% 40% 30% 20% 10% 0% By CEE countries LTU SVN EST BGR LVA SVK CZE HUN ROM TUR POL Source: WIOD, ING calculation WE share in import Rest of the world 15

16 2 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN EACH OTHER S VALUE CHAINS AND THE IMPACT ON JOBS AND VALUE ADDED Fragmentation of production varies across sectors Transport equipment and machinery lead the way in both regions The transport equipment sector and the machinery sectors are best suited for international product fragmentation and the establishment of GVCs. This is because they involve a combination of production tasks that can be split up easily Foreign share in value added higher in CEE than WE The rapid development of manufacturing sectors in CEE has been stimulated by large investments by WE companies. This has resulted in relatively high shares of foreign value added for Central & Eastern European industrial sectors. (in contrast to, for example, chemicals where the foreign inputs are mainly natural resources). These sectors also have a tendency to locate production close to markets, and require services that are related to manufacturing. Contribution of CEE+RU to total foreign value added in WE value chains % of total value added of Western European sectors, 2011 Contribution of WE to total foreign value added in CEE value chains % of value added of Central & Eastern European sectors, 2011 Average all sectors CEE+RU share 11 over 95 Average all sectors WE share 11 over 95 Transport equipment 16% 5% +3.3 pp Transport equipment 18% 25% +6.9 pp Chemical industry 17% 3% +1.8 pp Machinery 23% 18% +4.2 pp Machinery 15% 3% +2.0 pp Chemical industry 18% 14% +2.4 pp Manufacturing industry (by material) 14% 3% +1.7 pp Manufacturing industry (by material) 15% 16% +3.9 pp Other industry 12% 3% +1.7 pp Other industry 17% 11% 0.2 pp Food manufacturing 13% 2% +1.4 pp Food manufacturing 12% 8% +0.6 pp Rest foreign CEE+RU share Rest foreign WE share Source: WIOD, ING calculation 16

17 2 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN EACH OTHER S VALUE CHAINS AND THE IMPACT ON JOBS AND VALUE ADDED WE and CEE create almost 1 million jobs in each other s value chains Employment in both regions benefits from participation in each other s value chains Between 1995 and 2011 WE value chains created 377,000 jobs for CEE workers. 339,000 of these were in the transport equipment sector and 108,000 in manufacturing of machinery. The number of CEE jobs linked to WE other industry* and industry by material* declined despite more value added created by CEE. The reason behind this development is the increased labour productivity in CEE countries. Countries profiting were: 1. Poland +134,000 jobs, 2. Turkey +116,000, 3. Hungary +73,000. Between 1995 and 2011 CEE value chains created 534,000 jobs in WE. 58% of these were in the transport equipment and machinery. Countries profiting in WE have been: 1. Germany +225,000 jobs, 2. Italy +70,000, 3. Spain +51,000, 4. UK +43,000, 5. France +42,000. The fact that employment growth in WE has been higher than in CEE can, among other things, be explained by much higher (catch up) productivity growth in CEE-sectors involved in value chains between WE and CEE. Share of foreign jobs in total jobs linked to Western European value chains by sector, 2011 Food manufacturing 60% 3% Number of CEE+RU jobs 2011 compared with 1995 (000) CEE CEE+Russia Share of foreign jobs in total jobs linked to Central Eastern European value chains by sector, 2011 Machinery 34% 7% Number of WE jobs 2011 compared with 1995 (000) +156 Chemical industry 49% 5% Transport equipment 29% 10% +154 Transport equipment 41% 8% Chemical industry 33% 6% +23 Machinery 40% 6% Other industry 34% 3% +73 Other industry 41% 5% Food manufacturing 33% 2% +78 Manufacturing industry (by material) 38% 5% Manufacturing industry (by material) 24% 6% +50 Rest foreign CEE+RU share Rest foreign WE share * Other industry consists of: textiles (products), leather & footwear, manufacturing of furniture & recycling Manufacturing industry by material consists of: metals & fabricated metal, rubber & plastics, paper and wood. Source: WIOD, ING calculation 17

18 2 THE ROLE OF WESTERN EUROPE AND CENTRAL & EASTERN EUROPE IN EACH OTHER S VALUE CHAINS AND THE IMPACT ON JOBS AND VALUE ADDED Most jobs created by GVCs are medium and high skilled The emergence of GVCs in WE and CEE coincided with an increase in jobs in the services sectors and a loss of jobs in the manufacturing sectors in WE, together with a small gain in CEE up until the financial crisis. This development is reflected in the roles CEE and WE play in each other s value chains. The frontrunners in the GVC development (transport equipment and machinery) are mainly responsible for the growth in jobs. About 80% of the increase in jobs in both regions is in medium- and high-skilled jobs. There is a widespread assumption that only low-skilled jobs have been transferred to CEE. However, outsourcing of WE production to CEE countries has generated many medium- and high-skilled jobs in CEE. To remain globally competitive, other sectors of industry are expected to follow the example of the transport equipment and machinery sectors and to expand their use of cross boarder value chains. But the impact on value added and employment from such a development will probably be less significant than in the transport equipment and machinery sectors - many sectors are less suitable for extensive product fragmentation. Growth of CEE jobs due to Western European value chains 2008 compared to 1995 Growth of WE jobs due to Central & Eastern Europe value chains 2008 compared to 1995 x1000 x Transport equipment Machinery Chemical industry Food manufacturing Manufacturing industry (by material) Other industry Machinery 91 Transport equipment Other industry Food manufacturing Manufacturing industry (by material) Chemical industry High skilled Medium skilled Low skilled High skilled Medium skilled Low skilled Source: WIOD, ING calculation 18

19 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR In this chapter we look at the increased interdependence between WE and CEE in the transport equipment manufacturers. The transport equipment sector in both regions demonstrates conclusively that WE and CEE have become key production partners. The main goal of this close cooperation has been to use each other s strengths in order to boost competitiveness. Greater integration of production has had positive implications for the global role of Western European transport equipment manufacturers. In particular, German transport equipment manufacturers have performed strongly compared to competitors. The German internationalisation strategy, among other things, invloves outsourcing to CEE countries. GVC analysis of the Germany-CEE connection reveals the rising role of CEE services in German value chains. The CEE region is well positioned to profit from future growth opportunities driven by innovations in manufacturing materials and technologies for two reasons. Firstly, it already plays a major part in the WE value chain; secondly, it has a qualified workforce and existing industry clusters that should be able to adapt to new technologies and requirements. 19

20 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR Transport equipment industry epitomises East-West production Western European transport equipment is increasingly a global product The transport equipment sector is a classic example of an increasingly internationally organised production process. Foreign value added content services for Western European transport equipment manufacturing. The rise of Asia has also played an important role in the redistribution of value, with China enjoying a tenfold increase in its share, reaching 3% of total production. doubled between In 1995, 90% of the total value added was created in WE. By 2011, the figure was just 79%, revealing that more intermediates for the manufacturing of transport equipment were sourced outside the region. Of Contribution to Western European transport equipment industry, compared with 1995, USD billion Western Europe s four largest economies the UK, France, Italy and Germany only the latter has managed to maintain its contribution to the WE value chain (in terms of value added), at 34%, despite the relocation of production outside the country. There are two explanations for this. Firstly, the German transport equipment sector grew faster than that of other countries in WE. Secondly, German transport equipment manufacturers were able to increase their share by supplying transport equipment sectors in other European countries while still maintaining their leading domestic position. France lost a significant part of its share in the WE value chain in the period from 1995 to Increase in CEE s and Russia s role in Western European transport equipment value chains Total output 1995 $ 323 bn. $ 110 bn. (34%) $ 58 bn. (18%) Rest WE $ 63 bn. (20%) 2011 $ 529 bn. $ 32 bn. (10%) $ 26 bn. (8%) $ 200 bn. (34%) Asia $ 9 bn. (3%) ROW $ 9 bn. (3%) NA $ 10 bn. (3%) $ 72 bn. (12%) Rest WE $ 105 bn. (18%) $ 51 bn. (9%) $ 41 bn. (9%) Asia $ 37 bn. (6%) ROW $ 34 bn. (6%) NA $ 23 bn. (4%) CEE & RU $ 29 bn. (4.8%) CEE and Russia increased their share in the value chain of Western European transport equipment by 3.3 percentage points between 1995 and 2011, from 1.5% ($5 billion) to 4.8% ($29 billion). Poland, the Czech Republic and Russia CEE & RU $ 5 bn. (1.5%) Central Eastern Europe +3.3 pp & Russia Poland +0.9 pp Czech rep pp Russia +0.5 pp (the latter providing mainly oil and basic metals) increasingly provide products and Source: WIOD, ING calculation 20

21 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR More contribution from services and foreign sectors More (foreign) manufacturing-enabling services As shown on the previous page, the foreign value component of Western European transport equipment production doubled between 1995 and By using the Value added shares in Western European transport equipment manufacturing USD billion, % share in total value added GVC approach, we can split this foreign content into foreign manufacturing and foreign services. This reveals that not only manufacturing, but services too are being sourced from outside the region. 41% of the total value added in the Western Total output $ 613 bn. $ 592 bn. European value chain is currently created by service sectors. Just like manufacturing the foreign service component in value added has doubled: from 4% in 1995 to 8% in Almost all of this increase has taken place before the start of the financial crisis in late But the rise of 1 percentage point since 2008 shows that the increase has continued at the same pace as before the start of the crisis. The same holds for manufacturing Inputs. In other words, the crisis has not stopped $ 323 bn. 4% 7% 7% 12% 34% 8% 13% 33% Foreign services Foreign manufacturing WE services the trend of increasing interconnectedness between WE and CEE. 31% 22% 18% 17% WE other manufacturing The trend of outsourcing of services does not only refer to the increasing role of facilitating services like transport and trade services. Other services like R&D and 36% 29% 30% WE transport manufactures design are also outsourced. Given the need to remain ahead of global competitors, foreign suppliers are increasingly important partners for Western European manufacturers in the process of innovation and value chain optimisation. Source: WIOD, ING calculation 21

22 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR German transport equipment a heavy user of CEE sectors CEE large supplier of Germany Regarding the increasing foreign share in inputs for the West European transport equipment (8.6% annually), CEE has an above average share (see table below). Especially Germany, the country that enjoyed the highest output growth, outsourced a lot of production and related services to CEE-countries. 17% of foreign value added in German transport equipment production comes from CEE-countries including Russia, much more than in France, UK and Italy (see table). Low local manufacturing costs, EU enlargement and geographical and cultural proximity to WE make CEE an ideal location to establish new production factories or to produce inputs. As a consequence of their successful offshoring, German manufacturers have been able to concentrate on the core activities of the value chain and stay competitive. In the remaining part of this chapter we will explore the Germany-CEE connection in greater detail. CEE share in foreign sourcing of the big four producers of transport equipment In value added terms (VA), 2011 compared with 1995, USD billion, annual growth = compound annual growth rate 2011 Annual % growth Country Total output* Total foreign value added % CEE+RU in foreign value added Total output Total foreign value added CEE+RU value added Germany $ 267 bn. $ 94 bn. 17% 6.2% 8.6% 12.4% France $ 96 bn. $ 40 bn. 8% 2.6% 4.8% 10.5% United Kingdom $ 66 bn. $ 25 bn. 8% 3.9% 5.6% 11.5% Italy $ 41 bn. $ 13 bn. 13% 3.3% 5.0% 9.1% * Total output (nominal) represents the value of final products of the domestic transport equipment industry. This includes foreign value added contents. For this reason the value is larger than the value-added contribution of each individual country to the total Western European value chain on page 15. Source: WIOD, ING calculation 22

23 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR CEE keeps ahead of Asian competition CEE role in German transport equipment grew faster than that of other regions CEE has remained competitive as a manufacturing location despite growing competition from other emerging regions such as Asia. CEE value added content grew faster than Asian value added content in German production of transport equipment between 1995 and The CEE role goes beyond only supplying intermediate products. Analysis of CEE value added shows service sectors grew even faster than production sectors. The share of CEE service sectors in total value added created by all CEE sectors increased from 30% to 37%. The increased role of Asia is mainly driven by the rise of China as a production location. However, Germany has also increased its role in China s value chain. One reason for this is that production facilities in China owned by German car manufacturers are increasing production in response to higher domestic demand. They are consequently sourcing more inputs from Germany. Development of foreign value added content in total output of German transport equipment In value added terms (VA), CEE value added created for German transport equipment divided into services and production sectors In value added terms (VA), Index 1995 = 100 Index 1995 = CEE VA _ CEE (incl. Russia) VA Asia VA Other foreign VA VA created by CEE service sectors VA created by CEE manufacturing sectors Total output Domestic VA '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 Source: WIOD, ING calculation 23

24 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR Gradual shift towards more input from CEE service sectors Services represent 39% of foreign value added The value chain of German transport equipment highlights the importance of services that enable manufacturing. Of the total $94 billion of (intermediate) value added created by all foreign sectors 39% is created by service sectors. This emphasises the importance of efficient services for the competitiveness of German manufacturers. CEE in particular makes an important contribution through its service sectors. The increasing involvement of CEE in Western European GVCs through manufacturingenabling services offers growth opportunities. Productivity enhancement could further strengthen the CEE s position in the value chain and at the same time improve the competitiveness of the entire chain. Growth of value added contribution by CEE sectors In value added terms (VA), Breakdown of foreign value added input of German transport equipment and CEE+RU % share therein Index 1995 = Transport equipment Total foreign value added 2011 $ 94 bn Wholesale and retail trade Business services Transport and logistics Machinery Basic metals and fabricated metal Mining and quarrying 24% 18% 12% 19% 19% 17% Products from other industries Basic metals and fabricated metal Products from transport equipment Products from mining and quarrying Machinery 0 Business services '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 10% 26% Wholesale and retail trade 16% 14% Transport and logistics Other services Source: WIOD, ING calculation Rest 24

25 3 CENTRAL & EASTERN EUROPEAN SERVICES IMPORTANT CONTRIBUTOR TO PERFORMANCE OF WESTERN EUROPEAN TRANSPORT EQUIPMENT SECTOR German transport equipment value chain: higher skilled jobs in CEE tripled More CEE jobs in services The increased contribution of CEE in the value added by the German transport equipment industry, has doubled the amount of jobs in CEE related to this value chain (see graph). It should be noted that high skilled jobs, including managers and Breakdown of growth of CEE jobs linked to the German transport equipment sector* By skill type, Total CEE jobs 361,000 technicians, have grown most during the period (the most recent data). Also the number of medium skilled CEE-jobs, typically plant and machine operators, 47 assemblers and sales workers, linked to the production of German transport x3.1 equipment in CEE has increased more then low skilled jobs (see graph). Job increase The transport equipment sector is facing several technological changes. Innovations in manufacturing materials and technologies will demand more high-skilled jobs Total CEE jobs 184, Total CEE +178,000 Poland + 61,000 in the value chain. Given its well-established position in the German transport equipment value chain, the number of high-skilled CEE jobs within the chain will High skilled Medium skilled 15 x1.9 Turkey + 31,000 Hungary + 28,000 probably increase in line with this trend in the coming years. Low skilled 122 Czech Rep. + 25,000 Romania + 12, x Source: WIOD, ING calculation * Russian jobs linked to German transport equipment manufactures decreased with an amount of 4,000 jobs in the period

26 4 CONCLUSIONS Since the fall of the Berlin wall economic relations between Western Europe (WE) and Central & Eastern Europe (CEE) have grown at a rapid pace. This process has been to the benefit of both regions. The participation of WE and CEE in each other s value chains created almost 1 million jobs between 1995 and 2011: 377,000 jobs for CEEworkers and 534,000 jobs for WE-workers. WE-companies initially profited mainly from the lower costs for low skilled labor by outsourcing parts of their production processes. In the second phase they started benefiting from the availability of medium and higher skilled labor in CEE. Outsourcing improved the competitiveness of Western European companies which has resulted in higher demand for Western (intermediate) products. This holds especially for the German transport equipment and machinery sectors. These sectors have led the way in integrating production processes of WE and CEE because they are well suited for extensive product fragmentation. One of the ways German production and employment in the transport sector has benefitted from increased competiveness, is through a rise in exports of inputs to car manufactures in other Western countries. Other sectors are not as suitable for fragmentation of production, but there are significant opportunities to integrate production processes in other industries and it is anticipated that they will follow in their search for improved competitiveness. For CEE-countries the intensified cooperation has enabled them to incorporate Western technology and modern production processes. This has resulted in a productivity jump in CEE countries. Although the step up in productivity accounts for a significant part of the production rise, employment in CEE has also benefited from: 339,000 jobs extra in the transport equipment sector and 108,000 in machinery. To an increasing extent employment growth in CEE takes place with medium and high skilled labour category. The widespread belief that production integration between WE and CEE has solely offshored lowskilled jobs to CEE is incorrect. In the transport equipment and machinery sectors, medium- and high-skilled jobs have grown significantly more than low-skilled jobs. The increased contribution of CEE services to the transport equipment value chain of Germany which dominates Western European manufacturing and has been most prolific in offshoring activities to CEE is the main reason for the increase of high-skilled jobs in CEE in this sector. Looking at the influence of world wide value chains on employment in Western and Eastern Europe, the same trend is visible: the loss of manufacturing jobs accelerated due to the (demand) effects of the financial crisis, but the service sector resisted the crisis and managed a (small) increase in the number of jobs. As innovation in the transport equipment sector becomes increasingly important in the coming years, there will be a need for more high-skilled workers in the value chain, including in CEE. 26

27 COUNTRY COVERAGE Western Europe (WE) Central & Eastern Europe (CEE) CIS Asia North America (NA) South America (SA) Rest of the world (ROW) Austria Bulgaria Russia China United States Brazil Belgium Czech Republic India Canada Cyprus Estonia Indonesia Mexico Denmark Hungary Japan Finland Latvia Korea France Lithuania Taiwan Germany Poland Greece Romania Ireland Slovakia Italy Slovenia Luxembourg Turkey Malta Netherlands Portugal Spain Sweden United Kingdom 27

28 INDUSTRY CLASSIFICATION NACE code NACE description Included in following sectors in report AtB Agriculture, Hunting, Forestry and Fishing Agriculture C Mining and Quarrying Oil and gas, minerals industry 15t16 Food, Beverages and Tobacco Food manufacturing 17t18 Textiles and Textile Products Other industry 19 Leather, Leather and Footwear Other industry 20 Wood and Products of Wood and Cork Manufacturing industry (by material) 21t22 Pulp, Paper, Paper, Printing and Publishing Manufacturing industry (by material) 23 Coke, Refined Petroleum and Nuclear Fuel Oil and gas, minerals industry 24 Chemicals and Chemical Products Chemical industry 25 Rubber and Plastics Manufacturing industry (by material) 26 Other Non-Metallic Mineral Oil and gas, minerals industry 27t28 Basic Metals and Fabricated Metal Manufacturing industry (by material) 29 Machinery, Nec Machinery 30t33 Electrical and Optical Equipment Machinery 34t35 Transport Equipment Transport equipment 36t37 Manufacturing, Nec; Recycling other industry E Electricity, Gas and Water Supply Utilities F Construction Construction 50 Sale, Maintenance and Repair of Motor Vehicles and Motorcycles; Retail Sale of Fuel Services 51 Wholesale Trade and Commission Trade, Except of Motor Vehicles and Motorcycles Services 52 Retail Trade, Except of Motor Vehicles and Motorcycles; Repair of Household Goods Services H Hotels and Restaurants Services 60 Inland Transport Services 61 Water Transport Services 62 Air Transport Services 63 Other Supporting and Auxiliary Transport Activities; Activities of Travel Agencies Services 64 Post and Telecommunications Services J Financial Intermediation Services 70 Real Estate Activities Services 71t74 Renting of M&Eq and Other Business Activities Services L Public Admin and Defence; Compulsory Social Security Government Services M Education Government Services N Health and Social Work Government Services O Other Community, Social and Personal Services Government Services P Private Households with Employed Persons Government Services 28

29 CLASSIFICATION OF JOBS Skill type High skilled Medium skilled Low skilled Description Managers, professional, technicians and associated professionals Services and sales workers, craft and related trades workers, plant and machine operators and assemblers Elementary occupations: Performing simple tasks connected with mining, construction and manufacturing including product-sorting; packing and unpacking produce by hand, and filling shelves 29

30 METHODS AND LITERATURE What is WIOD? International trade is increasingly trade in tasks and activities instead of trade in final goods. This has deep consequences for the geographical location of production, gains from trade and the functioning of labour markets. Traditional statistical frameworks are not well equipped to provide the necessary data to analyse these phenomena. The World Input-Output Database (WIOD) is the first database that provides timeseries of annual world input-output tables for forty countries worldwide covering the period from 1995 to These tables have been constructed in a clear conceptual framework on the basis of officially published input-output tables merged with national accounts data and international trade statistics. The new approach of assessing the impact of economies on each other by calculating the added value created to produce exports instead of the value shipped to the destination country, improves the usefulness of data on international trade. Income and jobs in global value chains A global value chain of a final product is defined as the value added of all activities that are directly and indirectly needed to produce it. This global value chain is identified by the country-industry where the last stage of production takes place before delivery to the final user: for example, the global value chain of cars from German transport equipment manufacturing. To measure value added in global value chains, we need to track the flow of products across industries and countries. The World Input-Output Database has been specifically constructed for this type of analyses. One also needs detailed value-added accounts that provide information on labor and capital used in production. Three types of workers are identified on the basis of educational attainment levels as defined in the International Standard Classification of Education (ISCED): Low skilled, Medium skilled and High skilled. Workers include the self-employed and family workers, and an imputation for their income is made. We decomposed the value of a final product into the value added by all labor and capital employed in its global value chain. We began by modelling the world economy as an input-output model in the tradition of Leontief and trace the amount of factor inputs needed to produce a certain amount of final output. Literature Johnson, R., and G. Noguera (2012). Accounting for Intermediates: Production Sharing and Trade in Value Added. Journal of International Economics, Vol. 86(2), pp Timmer, M.P. (ed.) (2012) The World Input- Output Database (WIOD): Contents, Sources and Methods, WIOD Working Paper No. 10, available at M.P. Timmer, A.A. Erumban, B. Los, R. Stehrer and G.J. de Vries (2014). Slicing Up Global Value Chains Journal of Economic Perspectives, 28(2),