TheJakartaPost
Please Update your browser
Your browser is out of date, and may not be compatible with our website. A list of the most popular web browsers can be found below.
Just click on the icons to get to the download page.
Analysis: Global production network participation
The global manufacturing trade pattern has changed substantially over the last two decades, with a rapid increase in parts and components trade over other manufactured goods
Change Size
T
he global manufacturing trade pattern has changed substantially over the last two decades, with a rapid increase in parts and components trade over other manufactured goods.
This phenomenon reflects the increased intensity in global production networks (GPN).
With technological development and telecommunications and transportation innovation, it is possible for firms to fragment their processes so that components or assembly can be relocated to different places, creating global production networks.
Trade and investment liberalization in many developing countries has facilitated this process.
Product fragmentation is important for a country, especially developing countries, because it eliminates the need for across the board competence and allows emerging countries to enter production-sharing networks by focusing on certain aspects of the production process.
Rather than trying to create or sustain an entire production chain, a firm can define specific specialized segments as a stepping stone to more complex production and ultimately economic development.
East Asia is the most advanced region for the GPN in terms of the magnitude, sophistication and extensiveness. Indonesia, however, seems to be lagging behind.
Indonesia's exports of manufactured goods as a percentage of gross domestic products (GDP) in 2012 was the region's lowest (7.7 percent) compared to Malaysia (46 percent), Thailand (44 percent), Vietnam (40 percent), China (12 percent) and the Philippines (17 percent).
A similar pattern is seen in the exports of parts and components, usually used as a measure of participation in global production networks. Indonesia only recorded less than 1 percent of GDP for this sector, while Malaysia and the Philippines saw more than 7 percent, Thailand 5 percent, Vietnam 3 percent and China 2 percent.
Multinational and domestic firms face several obstacles to engage in GPN from Indonesia.
The first challenge is the less-than-friendly business environment.
Although Indonesia adopted a new Investment Law in 2007, which is considered a landmark piece of legislation, the implementing regulations are still lagging.
The provision of a 'negative list' of sectors in which private investment is not permitted or where foreign investors are subject to restrictions has added to transparency and this list has subsequently been streamlined.
However, a lack of uniform interpretation of the Investment Law and the negative list has created confusion and uncertainty for investors.
Moreover, foreign-ownership restrictions imposed by the government on 16 different sectors is a major concern for multinational corporations, especially in those industries that are technology-intensive and have proprietary rights, such as the electronics and automotive sectors.
These industries are afraid that their technology will be imitated by domestic firms. In fact, Indonesia was an early recipient of foreign multinational firms trading in electronics.
For instance, Fairchild and National Semiconductor both established plants in Indonesia in the early 1970s.
Yet, both firms ceased operations in Indonesia in the 1980s because of the unfavorable business environment.
The second challenge is the quantity and quality of infrastructure, which is very crucial for the GPN to ensure the just-in-time delivery requirements in both the automotive and electronics industries.
According to International Institute for Management Development (IMD)'s World Competitiveness Yearbook, poor infrastructure conditions are considered the second most problematic factor for doing business in Indonesia, while it was also ranked 54th among 59 countries in 2014 for the adequacy of its infrastructure, and was far behind Malaysia (25th) and Thailand (48th).
Additionally, a survey by the Japan External Trade Organization ranks underdeveloped infrastructure as the most-important barrier to investment in the Indonesian manufacturing sector and the third-most important barrier in the services sector.
The third challenge is the quality and availability of skilled labor. Labor productivity and technology capability are closely related to a country's education and skill levels ' and the quality of Indonesia's human capital still lags behind its neighbors.
The completion rate of tertiary education in Indonesia is very low, at only 1.4 percent in 2010.
Comparing Indonesia with other Southeast Asian countries reveals that for the quality of its labor force, Indonesia was the second-lowest of 10 countries in 2010, with Cambodia being the lowest.
As with skill level, Indonesia's technology capacity is also still limited. One indicator is the very low rate of investment in research and development.
This was the case not only for the public sector, but also for foreign companies operating in Indonesia.
A survey by the US Bureau of Economic Analysis shows that research and development investment as a percentage of employee compensation in US-majority affiliates in Indonesia is only 0.6 percent, the lowest rate when compared to other Asian countries (such as South Korea, Singapore, China and Malaysia).
The highest percentage is found in Singapore and Taiwan, at about 19 percent, followed by China (14.9 percent) and Malaysia (11.2 percent).
The reluctance of US affiliates to invest in research and development is closely related to Indonesia's ownership restrictions.
With these challenges in mind, Indonesia needs to improve its investment policies and business environment in general, as well as infrastructure conditions and education levels to increase its participation in GPN.
Hopefully the new government will put priority on these sectors therefore Indonesia can reap gains from economic globalization through engagement in global production networks.
____________________
The writer is a regional analyst at Bank Mandiri
