German Key Industries in a Global Value Chains Network

In our mini-series on Global Value Chains (GVCs) we look how three German key industries – motor vehicles, chemicals and machinery – are part of complex international production networks. It shows to what degree Germany is embedded in a network of international partners in which everyone specializes on what they are doing best. This week: how Germany’s key industries are linked to the world.

What are Global Value Chains?

It is widely known that Germany is particularly well integrated in the world economy. Its industry is a strong export performer but it also uses many foreign inputs to produce the goods that Germany eventually exports to the rest of the world. Even in comparison to other advanced economies, Germany’s openness ratio – that is the share of exports plus imports divided by GDP – is particularly large.

But this perspective is still very superficial. This is because of global value chains, i.e. a long consecution of production processes before the final good that takes place in many countries around the world. Because of the length of this consecution of production steps, they are referred as value chains, as every one of the specialised production chain links adds more value to the final good.

Take the example of a car manufacturer: even when the final car is produced in Germany, many of its inputs come from other countries. Imagine for example, that the headlights come from France. But the lightbulbs within the headlights may have been produced in the Czech Republic. The original the design of the headlights may have been done elsewhere, maybe in Sweden. This is an example for global value chains: due to trade, countries specialise in producing what they are relatively most efficient at producing. This is known as comparative advantage. In GVCs specialisation takes place at a very detailed level, in much smaller steps than sector-level or even firm-level. Firms exploit this benefit of trade and allocate the production steps to those countries where they can be performed most effectively.

You may also be interested in our post on “How Germany’s Declining Innovativeness Contributes to Inequality” .

How is Germany woven into global value chains?

The GED project wanted to develop a better understanding how Germany is woven into this net of global production networks or value chains. We wanted to understand which countries are Germany’s most important trading partners, if you also look at the content of the goods being imported into Germany.

For example, we wanted to understand how much of the content of a headlight sourced from France is Czech or Swedish – to stick to the example provided above.

With whom do Germany’s trading partners trade?

Where do the intermediary products for key German industries actually come from?

This is what we want to show in this series of blogposts.

The concept of Global Value Chains does not only describe the fact that production steps are allocated across countries. It describes more precisely that every country engages in a production step in which it enjoys comparative advantage. This means a production step in which it is relatively more efficient than another country.

This specialisation of production allows countries to maximise welfare by focussing on those activities in which they create the most value. This also implies that countries that can engage in more value creating activities, such as research and development (R&D) or marketing do so, while those who do not possess sufficient human capital for these activities exploit the abundancy in labour to create value in labour intensive production processes. Although the value creation in these labour-intensive steps is typically less, the fact that capital-intensive countries can allocate their production to more value-generating activities while they outsource labour-intensive means a maximisation of value creation across borders.

Steps of Values Creation

The chart below summarises the production chain and the typical value creation associated with these steps. The most value creation happens either at the beginning (often referred to as “upstream” activities) and at the end of the production process (“downstream” activities). These are the more capital or human-capital intensive production steps. Many developing countries have engaged in the more labour-intensive production processes in the middle which are less value generating. China for example has started its industrialisation through assembly and manufacturing activities. However, China has pursued a strategy of moving up the value chain to engage in more value generating activities. The transformation of the Chinese economy from a manual labour driven one to an increasingly capital and services driven economy has allowed the Chinese to capture more value of the production chain and is a remarkable success story.

How Much Value is Generated in Germany?

For the three German key industries we identified

motor vehicles

chemicals

and machinery

– we looked at the evolution of the foreign value-added content of production over three points in time: 2000, 2007 and 2014. As shown in the chart below, the domestic share of production is still larger than the foreign share but it is shrinking for all industries. The share of foreign inputs has always been highest for the production of chemicals, a trend that persists over time.

Motor vehicles used the lowest share of foreign inputs in 2000 – but in 2014 was almost equal to the share used by the machinery sector. This shows that the automotive industry has been globalising at an even more rapid pace than the machinery sector. For all sectors, Germany’s reliance of specialised foreign inputs has been growing and the value generation in Germany – albeit still very important – has been decreasing.

Where Do Germany’s Value Imports Come From?

Now that we know that for Germany’s key industries 55-66% percent of the value creation happen domestically, an interesting question is actually where does Germany import the remaining value from?

We approached this with a series of maps for each key sector. All are based on 2014 data. The first three present value creation per country for each of the sectors:

Across all sectors, we see a similar picture. Most of the value added comes from other European countries, the US or – to a slightly lesser degree – from China, as we can see from the surface of the pies representation the size of value creation. It is quite interesting to compare the value-added content of imports to Germany to the working hours content. This is presented in the next three maps:

Again, we observe a similar pattern across all sectors: most of the hours spent on making an import to Germany come from China, India, Russia or are dispersed among other countries in the world. The hours content of other European countries or the US is in fact very low. This of course implies that the value creation per working hours is much higher in other European countries and the US than it is in China.

Conclusion

In this post, we have shown that the value-added content of domestic production in Germany is still very large for the three key sectors. However, the value-added imported into Germany has been constantly rising over the past years. Most of it still comes from other developed economies which remain the most important source of value-added imports for Germany.

Therefore, in the next instalment of this series, we are going to have a closer look into the role of G7 countries for value-added trade with Germany.

Have you enjoyed reading this post? Come back next week to read the second part of our mini series on global value chains.

Methodological Remark:
All calculations are done by Systain Consulting GmbH and are based on data provided by the WIOD project (World Input-Output Database). WIOD provides international input-output tables for the period 2000-2014. 56 industry sectors across 43 countries and an additional ‘rest of the world’ region are covered.

The calculations focus on three industries which are pillars of Germany’s economic strength: ‘chemicals’, ‘motor vehicles’ and ‘machinery and equipment’. The analysis covers value added and hours worked within the respective supply chains.

www.wiod.org

Timmer, M. P., Dietzenbacher, E., Los, B., Stehrer, R. and de Vries, G. J. (2015), “An Illustrated User Guide to the World Input–Output Database: the Case of Global Automotive Production”, Review of International Economics., 23: 575–605