ASEAN supply chain links with China and the perils of decoupling

Author: Ken Heydon, LSE

China’s global value chain (GVC) links with ASEAN are both less dominant and more beneficial than they appear at first sight. But there are major challenges ahead for ASEAN. With ASEAN public opinion seeking more alignment with the United States and less with China, ASEAN’s GVC dependence on China might be seen as a cause for concern.

Over the past three decades, ASEAN trade links with the United States, the European Union and Japan have weakened relative to those with China. Moreover, dependence on China has been more in backward linkages (where China’s share of foreign value added exports incorporated in ASEAN exports has risen from 5 per cent to 17 per cent) than in forward links (where China’s share of ASEAN value added exports incorporated in other countries’ exports has risen from 4 per cent to just 12 per cent).

But this account needs nuance. ASEAN’s links with the United States, the European Union and Japan are not as weak as they appear. And the links with China are highly beneficial to ASEAN.

The relatively weaker trade links between ASEAN and the United States, European Union and Japan have been largely compensated by increased market-seeking and efficiency-seeking investment and production, within ASEAN, of affiliates of these countries. ASEAN’s GVC links beyond China have been transformed rather than weakened. It is precisely the presence of these globally oriented, transnational affiliates that helps explain ASEAN’s strong, and otherwise surprising, forward linkages with, in particular, the European Union.

When intra-EU trade — Europe’s regional value chain — is taken into account, the European Union accounts for a greater (albeit declining) share of ASEAN exports incorporated into other countries’ exports (28 per cent) than China (12 per cent). ASEAN, through its forward linkages, is more integrated with the EU GVC than with that of China — particularly in technologically advanced sectors like electronics.

But the most important corrective to an alarmist narrative of ASEAN GVC bonds with China is that backward links with China are fostering development within ASEAN. It is thus the scarcity of these backward linkages, and correspondingly limited access to foreign value added, for ASEAN small and medium-sized enterprises (SMEs) that helps explain why SMEs play a disproportionately minor role in ASEAN exports. ASEAN SMEs have had less exposure to ‘learning by importing’.

But backward links are not equally shared throughout ASEAN. Malaysia, Singapore, Thailand and Vietnam are developing a manufacturing base with strong backward links (foreign value added makes up 60 per cent of ASEAN vehicle exports). Brunei, Indonesia, Laos and Myanmar remain dependent on natural resource activities with weak backward links (foreign value added makes up just 5 per cent of Indonesia’s agribusiness exports).

This means that policy settings will need to differ by country. Nevertheless, all ASEAN states will face three common GVC challenges: an increase in the importance of inwards investment relative to trade, more focus on domestic demand in dynamic partner economies and the persistence of GVC vulnerability to disruption. China will be central to all these challenges.

It can be expected that as China moves to counter its demographic ageing and rising domestic costs it will increasingly follow the path already taken by the United States, European Union and Japan in favouring investment over trade in its GVC links with ASEAN. China’s FDI in Southeast Asia grew fourfold between 2010–2018. Given the sovereignty concerns associated with inward FDI, this shift will need to involve a change in China’s ‘tendency to downplay the autonomous agency’ of developing neighbours.

Equally critical will be ASEAN’s own policy settings to maximise gains from investment inflows, including through stronger environmental safeguards, technological upgrading and greater domestic regulatory coherence.

ASEAN’s second GVC challenge will be a shift in the relative importance of final consumption (rather than onward export) within partner economies with expanding domestic markets. This again will call for adaptability in ASEAN as it shifts product design towards, in particular, China’s domestic consumers as opposed to China’s overseas customers — consistent with China’s domestically oriented Dual Circulation Strategy.

The third GVC challenge facing ASEAN is persistent vulnerability to disruption. This will call for flexibility and resilience, whether by removing…

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