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Adjustment to the changing international structure of production: Implications for national and international policy

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
June 1980
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Helen Hughes and Goran Ohlin

The more rapidly industrializing developing countries began to compete noticeably with industrialized countries through trade in manufactured goods in the 1960s. During the decade, their exports of manufactures grew by about 15 per cent a year, and the number of developing countries exporting more than $100 million worth of manufactured products annually grew from a handful to more than 30. The flow of private capital from industrial to developing countries also accelerated, and there was a movement of migrants in the other direction to meet the labor needs of industrialized countries.

However, the importance of the structural changes in international production, and of trade, capital, and labor movements, only came to the fore in the 1970s when the rise in the price of petroleum, and the prolonged recession and slowing down of growth in the industrialized countries made adjustment to changes in international trade more difficult. It then became more widely evident that a broad range of the manufactured goods produced in developing countries had become highly competitive in the markets in industrialized countries.

Benefits and costs of trade

Participation in world trade in manufactured goods has great economic advantages, particularly for medium-size and small countries. All countries need to trade to obtain resources they do not possess, and all but very large countries have to trade if they are to benefit from specialization, economies of scale, and competitiveness. The development needs of rapidly growing developing countries lead to a high propensity to import. They therefore need to export in order to pay for their rising imports. Provided that takes place at competitive market prices that reflect long-run cost, trade will in the long run benefit both exporting and importing countries.

Trade, capital, and labor movements among countries are both competitive and complementary. Direct foreign investment brings jobs to workers in developing countries, and trade can bring the finished products to the industrialized countries at low cost. Where local entrepreneurship and technical skills are available—and this is increasingly the case in industrializing developing countries—the capital can be borrowed from financial institutions. Technology and technical and management skills can then also be obtained separately if they are not available locally. Such a separation of the capital flows is increasingly preferred by developing countries because trade and banking flows are thought to have lower social and political costs than—and are therefore preferable to—the in flows of direct investment and labor.

This article is based on a chapter in Policies for Industrial Progress in Developing Countries, edited by John Cody, Helen Hughes, and David Wall, published by Oxford University Press in March 1980.

But trade and capital flows, and the ensuing changes in the production structure, also have costs in industrialized countries. If the long-term benefits of trade and capital flows are to be reaped, there are short-term adjustment costs to be met.

Entrepreneurs, capital, and labor have to shift out of declining and uncompetitive industries into competitive and rapidly growing ones. Such shifts are typical of the manufacturing sector, where they tend to occur more frequently and more rapidly than in other sectors. Changes within manufacturing follow from technological change, market saturation, and variations in taste, market structure, and trade patterns. The shifting structure of manufacturing is responsive to relatively wide variations in demand for manufactured products, and it contributes to the wide variations in the supply of manufactured goods. These characteristics make manufacturing in some ways the riskiest or at least the most dynamic of the production sectors, thus making entrepreneurship an important factor of production. The ebb and flow of industrial production has institutional implications for capital markets, industrial organization, employment, and trade unions. It is sometimes accompanied and sometimes caused by population movements and other geographic shifts. Where industries are particularly concentrated geographically, or where the workers affected are at a disadvantage (because they are overspecialized, for instance), mobility is difficult even in high-income countries with full employment.

The faster the rate of an economy’s growth, the more rapid, and the easier, are adjustments likely to be. Entrepreneurs and workers are more easily absorbed in new activities, while relatively high profitability and capital accumulation make up for premature obsolescence of capital equipment. Workers and entrepreneurs are more willing to take risks in periods of economic growth than in periods of stagnation and high unemployment.

The market-economy industrialized countries thus made very considerable structural adjustments in the 1950s, 1960s, and early 1970s without major problems. In marked contrast, the recession of the mid-1970s saw an increased attention to adjustment difficulties with a concomitant growth of protectionist sentiment. Some protectionist action through subsidies to local production and nontariff barriers has followed, mostly directed against imports from other industrialized countries, but hurting some developing countries badly. Despite the fall in growth rates in the industrialized countries, their imports of manufactures from developing countries have continued to grow at more than 12 per cent a year since the mid-1970s—more than twice the rate of growth of imports of manufactures from other industrialized countries. This raised a new issue in protectionism against the manufactured exports of the developing world.

The new protectionism

Protection against imports of manufactured goods from developing countries has some special features. In contrast to the strong liberalization trends of the 1950s and 1960s, even small volumes of exports of manufactures by developing countries became subject to protectionist action almost as soon as they entered industrialized country markets. Thus quotas were imposed on imports of clothing, textiles, and footwear, and tariffs were not reduced in line with other tariff reductions in multilateral trade negotiations.

Protectionism against developing countries’ products tends to be particularly strong because the workers who are displaced by labor-intensive imports from developing countries tend to be the least trained and mobile. A high proportion are women with very restricted opportunities for moving into more skilled employment, and often with limited ability to move geographically because they are a family’s second income earner. It is true that increased import opportunities open up new export markets, but semiskilled women textile workers cannot readily be transformed into electronics workers in another part of the country. Consumers are likely to benefit from a flexible and mobile manufacturing sector, but they are usually not well organized and to the extent that they are both workers and consumers, they consider that their jobs come first.

The impact of labor-intensive exports from developing countries has other characteristics relevant to the political economy of protectionism. Developing countries tend to come in at the bottom of the market with very low-cost products, reflecting their very low wages. Once production and marketing problems are overcome by developing country (or transnational corporation) entrepreneurs, their exports can be increased very rapidly because labor supplies are ample. Although the impact of exports on economic growth eventually increases per capita incomes and forces a move into other, less labor-intensive products, still other poor developing countries then come in, again with low costs and prices.

The impact of trade between the industrialized and developing countries is often different from that of trade among countries at similar levels of development as the effect on the importing country is generally industry-wide. Adjustment may be relatively easy within industry groups, such as metal working, which produce a very broad range of products using broadly similar skills. It can often be carried out within a transnational corporation. When an industry as a whole is being phased out, however, small, financially weak and less efficient firms either disappear or are absorbed by others. When the turn of the least efficient firms comes, political resistance to adjustment is usually very strong. Geographical concentration, defense arguments, and prolonged slow overall growth exacerbate the difficulties of adjustment, adding to the more conventional protectionist arguments.

While the increase of employment in developing countries that accompanies export growth is generally regarded as a strong welfare argument, the proportion of benefits accruing to the poorer groups in developing countries is becoming an issue. Manufacturers may cream off a large proportion of the benefits through profits, and such profits can be very high if the workers are repressed. But even low-paid workers may be among the relatively high-income earners in developing countries, because employment in manufacturing is “elite” employment. Thus the transfer of incomes that occurs may be from the least privileged and lowest-paid workers in the industrialized countries to relatively highly paid workers in the developing countries. Again this is usually not a characteristic associated with trade among countries at similar levels of development.

Table 1.Distribution of world merchandise exports, 1960-77(In per cent)
196019701977Real growth

1960-77
Industrial market economies66.871.564.77.7
Developing market economies19.915.418.95.8
Capital surplus petroleum exporters1.62.56.89.0
Centrally planned economies11.710.79.66.4
of which Asian1(1.6)(0.8)(0.8)()
Total100.0100.0100.07.2
Value in billions of U.S. dollars128.3314.51,127.2
Source: UNCTAD, 1979 Handbook of International Trade and Development Statistics.

Indicates that data are not available.

Including People’s Republic of China.

Source: UNCTAD, 1979 Handbook of International Trade and Development Statistics.

Indicates that data are not available.

Including People’s Republic of China.

Adjustment policies

It is clearly not in the interest of the industrialized countries to cling to labor-intensive production when it is no longer economic. Some production of this type may be retained for minimal self-sufficiency, and some areas of production that are design-intensive or fashion-intensive retain their competitiveness in high-income countries though they appear to be labor intensive.

However, it is in their interest for industrial countries to move out of uncompetitive production. This requires adjustment policies that include retraining facilities, relocation allowances, and, in some instances capital grants to firms and regions affected by industrial decline. But specific adjustment policies can only be palliatives. Trade policy is only part of overall macroeconomic policy and cannot substitute for manpower, monetary, and other macroeconomic policies. Countries need a commitment to full employment and growth in a meaningful sense if adjustment policies are to be able to play their transitional role.

The developing countries’ domestic policies are also relevant to the ability of the industrialized countries to adjust to their growing imports. The case for limiting the rate of growth of labor-intensive exports and diversifying the exports of manufactures is well understood in the more industrialized developing countries. To provide market access to new developing country exporters, and to ensure equity between exporters and importers, the characteristics and pace of trade expansion in sensitive products have become the subject of international negotiation.

Industrialized countries have recently taken further steps to reduce tariffs, and they have agreed on international action in the Tokyo Round of Multilateral Trade Negotiations. Their levels of protection are now far below those of most developing countries. It is now the developing countries’ turn to review their trade policies to diversify their exports, and to trade more with each other. If such an expansion of trade takes place as a result of a reduction of barriers against all countries, the industrialized countries will be able to adjust more rapidly to growing imports from developing countries by exporting more.

The difficulties of adjustment to lower levels of protection in developing countries must not be underestimated. Developing countries do not have the social security cushions available to displaced workers in industrialized countries, and they are loath to abandon any investment already in place because of their scarcity of capital. However, it is likely that even substantial reductions in protection in the semi-industrialized developing countries would affect only a relatively small number of workers employed by marginal firms. The ensuing disruption therefore would not be as costly as is often feared, and the benefits would be rapid and substantial. Some of the semi-industrialized countries have therefore begun such restructuring unilaterally. Others, however, will require a great deal of encouragement and in some cases, balance of payments and long-term restructuring assistance to be able to do so.

Table 2.Merchandise exports of developing countries(In per cent)
Total exportsShare of

world exports
CompositionAverage

annual

growth rate
196019761960-7619601976
Fuels and energy38386.34441
Other primary products51353.73734
Food and beverages34223.54035
Nonfood agricultural products963.43930
Mineral and nonferrous metals874.72933
Manufactures112712.7610
Machinery and transport equipment1617.525
Other manufactures102111.8914
Total1001006.32421
Source: World Bank data.
Source: World Bank data.

International trade issues

In international terms the costs of trade and other economic relations take the form of having to abide by the international rules of the game. Such rules are partly implicit and partly codified and institutionalized in such international institutions as the General Agreement on Tariffs and Trade (GATT) and the International Monetary Fund. These rules necessarily impinge on a country’s sovereignty and limit its policy options in international relations and sometimes in related domestic policies. Nevertheless, participation is, on balance, worthwhile; in contrast to the colonial era, it is voluntary and by negotiation. Most centrally planned economies have not chosen to join the international institutions, although they have developed their own in the Council for Mutual Economic Assistance. However, by and large they honor the principles implicit in international rules and seek the benefit of such explicit ones as most favored nation treatment in trade.

Developing countries have for the most part argued on grounds of poverty and protection of infant industry that they should have special privileges in international trade conventions. They have been exempted from GATT rules against export subsidies on nonprimary products, and have negotiated the Generalized System of Preferences with major industrialized countries to reduce the level of protection facing them. In the past, they attached little importance to international trade negotiations. They have benefited from the trade liberalization that took place, but they would have gained much more if they had actively participated.

The rapid industrialization of the more advanced countries suggests that a re-examination of the developing countries’ trade negotiating postures is overdue. The value of the Generalized System of Preferences has been eroded by tariff reductions. It is, moreover, clear that industrialized countries are no longer willing to exempt the higher-income and more industrialized developing countries from countervailing action against export incentives.

The principle of reciprocity in international trade relations is not well understood. It appears on the surface to indicate that each participant in a negotiation will give up an apparent benefit, such as a high tariff, so that a partner country may do so too, in a process designed to reduce tariffs overall. But, given floating exchange rates, the participants in such negotiations know that it would be in their interest to lower tariffs unilaterally, even without agreement by partner countries. They usually cannot do so because of the opposition of their own manufacturers who profit from existing protectionist measures. The principle of reciprocity was introduced into GATT negotiations to give the negotiators a weapon against such vested interests. The government can argue at home that only with reciprocity, and the concessions it makes, will domestic producers be able to obtain entry into other markets. The main value of reciprocity is thus to overcome local opposition. Many developing countries, recognizing the costs of high protectionism and export incentives, now face precisely the problem of overcoming the opposition of their own vested interests, just as the industrialized countries do. Engaging in international negotiations on a reciprocal basis can thus become as important a policy instrument for developing countries as it has been for industrialized countries in improving domestic productivity while seeking access to foreign markets.

Given the characteristics of labor-intensive exports from developing to industrialized countries, it seems likely that agreements governing the pace of market penetration into industrialized countries of these products will continue to be necessary to avoid even greater protection. The industrialized countries’ concerns with equitable wages in export industries of developing countries are not simply, as is sometimes alleged, protectionism in disguise. They do not intend to impose unrealistic minimum wages and working conditions derived from practices in high-income countries that would cripple the developing countries’ export capacity. Rather, they propose to ensure that the gains from trade reach the poorer groups in developing countries. Developing countries will have to become increasingly involved in negotiations on such issues if they wish to influence their outcome.

The evolution of codes of conduct that have emerged from the Tokyo Round of trade negotiations to control nontariff trade barriers will be governed by the attitudes of the participants. The codes have the potential of reducing nontariff barriers against developing countries, but the potential will be fulfilled only if the developing countries participate as full members in the system that is being established by GATT. Similar initiatives are required in rules governing international transport and other tradelinked services.

Questions of equity among developing countries are becoming ever more sensitive in view of the range of income and industrial development between the nonindustrial and semi-industrialized countries. The Generalized System of Preferences were essentially product-oriented preferential programs, with country considerations brought in by quotas through the back door. With the Tokyo Round tariff reductions, these preferences will become of trivial value. An international graduation approach that would accord privileges among countries according to their level of income and industrial maturity is beginning to emerge. Privileges are likely to be phased out with rising levels of income and industrialization, or disappear altogether, as the rapidly industrializing countries merge into the industrialized countries’ liberal trade community with all its obligations as well as its benefits. Preferential treatment is being given to the poorest countries which need it the most.

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