RDP 2014-07: International Trade Costs, Global Supply Chains and Value-added Trade in Australia 3. Value-added Trade and the Australian Economy

Figure 4 presents the value of both final and intermediate exports measured on the conventional gross trade basis, for Australia, the United States, China and the world as a whole.^[6] Exports of intermediate goods and services comprise a relatively high share of total exports for Australia. According to the WIOD, Australian intermediate exports have risen from around 75 per cent of total exports in the mid 1990s to more than 80 per cent of exports more recently. A similar pattern can be seen for both the United States and world exports. In contrast, final goods and services comprise a much higher share of Chinese exports, reflecting China's role as an assembly point in many global supply chains.

To compare estimates of value-added trade with conventional estimates of gross trade, it is useful to construct a summary indicator known as the ‘VAX ratio’ (Johnson and Noguera 2012). This is the ratio of value-added exports to gross exports and is an approximate measure of the domestic value-added content of exports. The VAX ratio can be constructed for each bilateral trading pair or each industry of a given country. By definition, the bilateral VAX ratio is less than one when value-added exports are less than gross exports, which can occur either because some of the value of the exports is imported from another country or because the trading partner re-exports the content to another destination. The bilateral VAX ratio is greater than one when value-added exports exceed gross exports. This can occur when some of the country's exports reach the trading partner directly (as measured by gross exports) and the rest indirectly (when domestic value-added is embodied in a third country's exports to that partner). A similar logic applies for understanding variation in the measured VAX ratio across individual sectors of the economy. The VAX ratio for a sector can be greater than one if the sector contributes more as an intermediate input to the value of exports of other sectors than those sectors contribute to the value of its own exports. Conversely, the VAX ratio for a sector can be less than one if intermediate inputs from other sectors, or from imports, contribute more to the value of the sector's exports than it contributes to the exports of other sectors.^[7]

3.1 Value-added Trade by Trading Partner

In terms of trading partners, the main difference between Australia's gross and value-added exports is the importance of emerging economies relative to the advanced economies. According to the WIOD, between 2002 and 2011, North America and Europe accounted for 23 per cent of Australia's gross exports, but about 32 per cent of value-added exports as some Australian production is exported to the advanced economies indirectly via supply chains in Asia (Table 1). Conversely, exports to China, Indonesia, Korea and Taiwan together accounted for only about 25 per cent of Australia's value-added exports, but around 32 per cent of gross exports, as some of the exports to Asia are used as intermediate inputs to produce final goods and services that are re-exported to other countries.^[8]

Looking at how the bilateral VAX ratios have evolved over time, there has been a steady increase in the value-added content of Australia's trade with North America and Europe but a gradual decline in the value-added content of Australia's trade with east Asia (Figure 5). The volume of both gross and value-added exports to east Asia, and particularly China, has grown markedly, but an increasing share of Australian exports to the region is processed and re-exported rather than consumed domestically, which has caused the VAX ratio to trend down. These trends mainly reflect the increasing integration of east Asia into global value chains; the effect is particularly pronounced during the 2000s.

3.2 Value-added Trade by Sector

The sectoral mix of Australia's trade is also different when measured in value-added rather than gross terms (Table 2).^[9] The sectoral breakdown of Australian exports in value-added terms indicates which sectors ultimately benefit from trade.

Services exports account for a much higher share of Australia's exports in value-added terms (41 per cent) than in gross terms (22 per cent) (Table 2). Australia's exports, therefore, embody a higher share of services than conventionally measured. Most services are non-tradeable so the service sector produces a small share of direct exports as captured by the gross trade statistics. However, services are used extensively as inputs to produce manufactured and resource exports. For example, services, such as marketing and distribution, account for a relatively large share of the final value of manufactured goods. Furthermore, service industries tend to be labour intensive, requiring relatively few intermediate inputs in their own production.

Conversely, the manufacturing sector comprises a much smaller share of value-added trade (19 per cent) than of gross trade (38 per cent) (Table 2). These estimates indicate that about half of the value-added in Australia's manufacturing exports comes from either imported inputs or the inputs of other domestic sectors. For the resource sector, the share of value-added trade (37 per cent) is similar to that of gross trade (40 per cent). Production in the resource sector extensively uses intermediate inputs from other sectors, but the sector also produces a large share of the intermediate inputs used by other sectors, in the form of raw materials. These two effects largely offset each other.

The sectoral VAX ratios have been fairly constant over time, although there has been a slight decline in the manufacturing VAX ratio over the past couple of decades (Figure 6).

3.3 Aggregate Value-added Trade

The VAX ratio can also be constructed for Australia's aggregate trade by comparing total value-added exports to total gross exports. The aggregate VAX ratio implies that the share of value-added in Australian exports is about 82 per cent (Figure 7).^[10] This is relatively high by international standards; the share of value-added in world exports is about 69 per cent. The high share of value-added content in Australia's trade mainly reflects two factors – the country's geographic isolation and its large endowment of natural resources. First, Australia's geographic isolation means that it is rarely involved in the intermediate processing stages of most global supply chains.^[11] Second, the export of natural resources requires few imported inputs so the high share of resources in Australia's export base implies that most of the value-added of Australian exports is due to domestic production. In contrast, the value-added content of trade is typically low for countries close to production hubs that are heavily involved in production sharing, such as those in east Asia, Europe and North America. These factors also largely explain why the value-added content of Australian trade has declined by much less than it has for most other countries since the mid 1990s.^[12]

Footnotes

Due to the aggregation of many countries into a ‘rest of the world’ region, the estimates for world exports understate the total level of world trade (as the estimate does not record trade between countries within this particular region). [6]

A country's total value-added trade cannot exceed its gross trade, which implies that the overall VAX ratio cannot be greater than one; only bilateral (or sectoral) value-added trade can exceed gross trade. [7]

These estimates assume that, for each industry, the import content of production is the same for exported and non-exported products. But, due to China's use of export-processing trade zones, Chinese exports tend to have higher imported content than goods and services produced for domestic consumption. This implies that the WIOD estimates may overstate China's share of Australian value-added exports. [8]

The WIOD classification of industries is very similar to that of the 2-digit Australian and New Zealand Standard Industrial Classification (ANZSIC) system, which is used by the Australian Bureau of Statistics (ABS). Australian gross exports of resources and manufactured goods are slightly higher, on average, based on the WIOD measure compared with the ABS measure, but these differences are unlikely to have a significant effect on the sectoral VAX ratios. Reclassifying industries into the manufacturing and resources sectors based on the split used by Rayner and Bishop (2013) has little effect on the measured VAX ratios. [9]

Total value-added exports are not simply the domestic content of total gross exports, but the amount of domestic content that is ultimately consumed as final demand outside the country. Value-added exports exclude ‘reflected exports’, that is, the estimates exclude domestic content that is processed outside the country and then imported (e.g. Australia importing a Japanese car that contains Australian iron ore). But reflected exports represent only a small share of Australia's overall trade, so the VAX ratio provides a reasonable guide to the proportion of domestic content in overall exports. [10]

These factors also contribute to the country's relatively low level of trade as a share of GDP (Guttmann and Richards 2004). [11]

The VAX ratio is measured in nominal terms and can, therefore, be affected by changes in the prices of intermediate inputs and gross outputs. For example, there is a clear downward spike in the aggregate VAX ratios of most countries in 2008. This pattern is, at least in part, due to large fluctuations in commodity prices around that time. For instance, commodity prices rose sharply in 2008, which would have boosted the relative price of intermediate inputs, and reduced the value-added content of exports for most countries and industries. [12]