CHAPTER 3 EMPIRICAL REVIEW OF THE DETERMINANTS OF INTRA-INDUSTRY TRADE PATTERNS
The principal objective of this chapter of the thesis is to provide an empirical review of the determinants of IIT patterns. The empirical evidence supporting IIT theories of horizontally differentiated IIT (HIIT) and vertically differentiated intra-industry (VIIT) is extensive. In particular, a large proportion of empirical studies validate the importance of country-specific factors, such as market size, living standards, absolute and relative economic distance and geographical distance in determining the intensity of IIT. The industry-specific factors, such as EoS, product differentiation and industry structure, are among the common factors that have been empirically tested in the IIT literature. Additional determinants that have also been assessed in the empirical literature include regional integration, FDI associated with MNCs, and trade barriers, among others. The success of investigating the impact of industry-specific factors on IIT patterns has been limited in the empirical literature. On the other hand, the examination of country factors on IIT patterns has performed better. This has led to most studies focusing on investigating the impact of country and industry factors on IIT patterns separately.
This chapter is structured as follows: Section 3.2 provides a review of the past IIT studies conducted for South Africa. Section 3.3 provides a survey of the empirical literature of the determinants of IIT patterns followed by a revision of industry studies of IIT (fabric, textiles and apparel, automobile and automobile parts, information and technology [IT] industries, and food processing industry, etc.) in Section 3.4. Lastly, Section 3.5 summarises and concludes the chapter.
PREVIOUS SOUTH AFRICAN INTRA-INDUSTRY TRADE STUDIES
Most of the empirical studies conducted for South Africa (Isemonger, 2000; Parr, 1994; Peterssen, 2002; 2005; Sichei et al., 2007), although useful, did not partition total IIT (TIIT) into HIIT and VIIT patterns, with the exception of Al-Malwali (2005). Using HS data, Isemonger (2000) and concludes the existence of rising IIT levels for the South African economy for the period 1993 to 1996, in contrast to predictions by Simson (1987) and Parr (1994). In Al-Mawali (2005), IIT was disentangled into HIIT and VIIT and henceforth empirically examined several country-specific determinants of TIIT, HIIT and VIIT for South Africa’s manufacturing sector (SITC) covering the period 1994 to 2004. His study employed Kandogan’s (2003a; 2003b) methodology to decompose TIIT into horizontal IIT and vertical IIT patterns, instead of using the traditional G-L index. In his study, he established that market size, geographical distance, trade barriers and trade intensity are significant influences affecting South Africa’s bilateral IIT. His study did not consider the impact of industry-specific determinants on IIT patterns for South Africa.
More recently, the IIT research conducted for South Africa includes an empirical investigation of factors that determine IIT in selected services (airfreight, education and training, financial services, legal services, etc.) between South Africa and the United States for the period 1994 to 2002 (Sichei et. al., 2007). This study indicated that differences in per capita income and market size negatively affect IIT, while US FDI positively affects unaffiliated IIT in selected services. The study concludes that South Africa–US IIT in selected services is largely influenced by country factors that are similar to those affecting IIT in final products between North–South trade. Accordingly, their study was unable to decompose TIIT into VIIT and HIIT due to data constraints.
It is important to point out that almost all of the previous South African IIT research has been conducted on an economy-wide or manufacturing-wide basis (Al-Malwali, 2005; Isemonger, 2000; Parr, 1994) highlighting the need for IIT research focusing on specific industries. Thus, this thesis differs from previous studies conducted for South Africa in that it investigates both country- and industry-specific determinants of IIT patterns for a strategic industrial sector in South Africa.
AN EMPIRICAL REVIEW OF THE DETERMINANTS OF INTRA-INDUSTRY TRADE LITERATURE
As already mentioned, the majority of past studies examine the role of country-specific factors, such as market size, living standards, absolute and relative economic distance and geographical distance on IIT patterns. On the other hand, fewer studies have examined industry-specific factors on IIT patterns. Likewise, fewer studies have examined the determinants of IIT in intermediate products and components (Ando, 2006; Fukao et al., 2003; Türkan, 2005; 2009). Moreover, the empirical IIT research investigating determinants of IIT patterns is sparse for single industries and sectors (Montout et al., 2002; Kind & Hathcote, 2004). Thus, the empirical IIT literature focusing on a single industry is less explored.
According to the empirical literature, the larger the size of the market as proxied by the bilateral average of GDP of the two partners i and j, the greater the benefits that can be derived from potential EoS (supply) and the greater the demand for differentiated products thereby contributing to higher levels of IIT. Almost all empirical IIT studies examine the impact of this variable on IIT and its patterns have found that it positively influenced IIT (Al-Mawali, 2005; Byun & Lee, 2005; Chemsripong, Lee and Agbola, 2005). Thus, a larger average market size is expected to benefit from the potential EoS in production and trade and, as a result, increases the variety and quality of differentiated products for HIIT and VIIT respectively
Standard of living
Several empirical studies measure average standard of living by using GDP per capita expressed as an average of the bilateral trading partners i and j. Countries with high levels of per capita incomes are associated with high levels of economic development, and thus are expected to increase the share of IIT. The level of per capita income (GDPC) is also sometimes used as a proxy for the level of capital-labour ratio (supply perspective) (Helpman Krugman, 1985), as well as a proxy for the ability to purchase better varieties and sophistication of differentiated products (demand perspective) (Lancaster, 1980).
Similar to market size, absolute economic distance as proxied by absolute difference in per capita income levels between trading partners is commonly used. According to the Linder (1961) hypothesis, trade between countries that possess similar per capita incomes will be intensified if country i specialises in producing differentiated products and exports these products to country j with similar demand compositions. According to Helpman & Krugman (1985), a priori, the more similar the relative factor endowments between i and j, the higher the intensity of bilateral HIIT. A negative sign for HIIT (Helpman & Krugman, 1985) is expected where absolute economic distance is proxied by differences in capital-labour endowment ratios as used in Clark &Stanley (1999). Conversely, the larger the gap in per capita income or GDP per capita (or capital-labour ratio) between trading partners i and j, the higher the level of bilateral VIIT. Thus, if the absolute difference in per capita GDP between countries is large, the share of VIIT in total IIT is likely to increase and thus a positive sign for this explanatory variable is hypothesised as in Falvey & Kierzkowski (1987).
It is also argued that large per capita income gaps between trading partners i and j occur as a result of greater levels of inequality of economic development and have been investigated by Hirschberg, Sheldon & Dayton (1994), Gullstrand (2002), Kind & Hathcote (2004). Durkin Krygier (2000) and Fukao et al. (2003) find evidence of a positive association between differences in GDP per capita with VIIT reflecting larger differences in relative wages that stimulates VIIT. The study by Gullstrand (2002) focuses on analysing demand patterns and VIIT between the North (EU countries) and the South (lower income countries reveals that income distribution, per capita income (and their interaction) and average market size are important for VIIT. The implication is that the two partners can typically specialise in different varieties of quality so long as production occurs with differing intensities (Gullstrand, 2002). Moreover, several studies use additional explanatory variables, such as public expenditure on education, electric power consumption per capita, and so forth in an attempt to capture similarities and dissimilarities between trading partners (Zhang, van Witteloostuijn & Zhou, 2005).
Relative difference in economic size
Several studies use relative difference in economic size or relative economic distance to capture the influence of the relative difference in factor proportions and endowments between nations. It is regarded as a better measure than absolute difference in market size, as the second measure is sensitive to the trading partner’s size whereas the former is standardised and normalised to one. Fontangé, Freudenberg & Péridy(1997) found that VIIT is positively influenced by a larger relative difference in economic size, implying that dissimilar countries in respect of factor endowments and technologies trade in products differentiated by quality (Falvey & Kierzkowski, 1987). On the other hand, a larger relative difference in economic size negatively affects horizontal IIT, indicating that similar countries trade in products differentiated by variety (Helpman & Krugman, 1985). In the context of international production and fragmentation, the market size of the trading partner is expected to promote larger fragmentation of the production process between nations (Türkan, 2009). In the studiesby Fontagné & Freudenberg (1997), Thorpe & Zhang (2005) and Zhang & Li (2006), the difference in economic size is positively associated with VIIT and negatively associated with HIIT.
The geographic proximity between bilateral trading partners i and j, as measured by a distance variable, is presented in the empirical IIT literature as a key determinant influencing IIT. Greater distances impose large transport costs and trade costs thereby reducing the intensity of IIT. Most empirical studies find that geographical distance negatively influences IIT (Fukao et al., 2003; Chemsripong et al., 2005; Türkan, 2005; Okubo, 2007). However, several studies find IIT to be positively influenced by distance (Kind & Hathcote, 2004; Zhang et al., 2005). As a result of greater regional integration, advancements in ICT and a reduction in international transport costs (shipping, air and road), it may be that distance does not necessarily deter IIT as is commonly assumed.
MNCs outsource various stages of processing, production and sub-assembly to developing countries. The emergence of international production sharing requires establishing strong and cost-effective production and service links. Thus, huge international transport costs adversely affect VIIT. Besides geographical distance as a proxy for trade costs, Clark (2005) uses ad valorem shipping charges as a proxy for international transport charges as a determinant of VIIT. As expected, international transport charges negatively influence the vertical share of IIT.
Foreign direct investment and multinational involvement
In recent years, advancing globalisation and the rise of international production networks have led to increased intra-firm trade through FDI flows related to multinational activities especially in the world automobile industry. Rising IIT and increasing FDI are associated with increasing multinational activity, as firms locate parts of their production operations across countries (OECD, 2002). The empirical literature suggests a positive relationship between IIT and multinational firm activity but an ambiguous relationship between IIT patterns and FDI (Aturupane et al., 1999). Multinational firms and their FDI strategies play a pivotal role in fragmentation theory of international production and VIIT (Feenstra & Hanson, 1997; Fukao et al., 2003; Kimaru, 2006). Several studies have empirically examined the effects of FDI on IIT and presuppose that it is strongly associated with the activity levels of multinational firms (Lee, 1992; Hu & Ma, 1999). This is so, because it becomes very difficult to empirically disentangle FDI from MNC activities given the complex integration strategies of MNCs and FDI strategies (Yeaple, 2003). More specifically, Yeaple (2003) shows that MNCs can be both vertically and horizontally integrated by establishing affiliates and structure of FDI in some foreign nations to benefit from factor price differentials and in other nations to avoid transport costs. Thus, it is commonly assumed that most FDI flows are consistent with multinational activities, especially in the context of developing countries where MNCs set up foreign affiliates to produce relatively labour-intensive component products that can be re-exported for assembly back to the host developed countries (North– South FDI flows and trade).
Several studies examine the influence of FDI on IIT trade patterns and conclude that the larger the FDI, the greater the levels of IIT. Veeramani (2009) assesses the impacts of FDI associated with multinational engagements and considers interactions with trade barriers on the intensity of IIT in India’s manufacturing industries. He reports FDI to be positively correlated with IIT, suggesting that IIT levels increase with greater multinational involvement. He also finds interactions between trade barriers and FDI to negatively influence IIT, reflecting the presence of horizontal multinational activities associated with market-seeking FDI which displaces IIT. The study by Okubo (2007) investigates the role of technology transfer through Japanese FDI on IIT between Japan and selected Asian countries using a simultaneous equations approach. The study concludes that the transfer of Japanese technology via FDI as proxied by technology exports of Japanese affiliates improves VIIT levels.
TABLE OF CONTENTS
LIST OF TABLES
LIST OF FIGURES
CHAPTER 1 INTRODUCTION
1.1 INTRODUCTION AND OVERVIEW
1.2 THE SIGNIFICANCE OF AUTOMOTIVE TRADE INWORLD TRADE
1.3 BACKGROUND OF THE SOUTH AFRICAN AUTOMOBILE INDUSTRY
1.4 STATEMENT OF THE RESEARCH PROBLEM
1.5 HYPOTHESES OF THE THESIS
1.5.1 Hypothesis (I)
1.5.2 Hypothesis (II): Secondary hypotheses of determinants of IIT (HIIT and VIIT) include
1.6 JUSTIFICATION OF THE THESIS
1.7 OBJECTIVES OF THE RESEARCH
1.9 SCOPE OF THE THESIS
1.10 CHAPTER OUTLINES OF THE THESIS
1.11 CONCLUDING REMARKS
CHAPTER 2 THEORETICAL REVIEW OF THE INTRA-INDUSTRY TRADE LITERATURE
2.2 REVIEWOF THE THEORETICAL INTRA-INDUSTRY TRADE LITERATURE
2.2.1 Theoretical models of horizontal intra-industry trade (HIIT)
18.104.22.168 Final products
22.214.171.124 Intermediate products
2.2.2 Theoretical models of vertical intra-industry trade (VIIT)
126.96.36.199 Final products
188.8.131.52 Intermediate products
2.3 WORLD INTEGRATED EQUILIBRIUM(IE) APPROACH TO IIT
2.4 FRAGMENTATION THEORY OF INTERNATIONAL PRODUCTION
2.5 SUMMARY AND CONCLUDING REMARKS
CHAPTER 3 EMPIRICAL REVIEW OF THE DETERMINANTS OF INTRA-INDUSTRY TRADE PATTERNS
3.2 PREVIOUS SOUTH AFRICAN INTRA-INDUSTRY TRADE STUDIES
3.3 AN EMPIRICAL REVIEW OF THE DETERMINANTS OF INTRA-INDUSTRY TRADE LITERATURE
3.3.1 Economic size
3.3.2 Standard of living
3.3.3 Economic distance
3.3.4 Relative difference in economic size
3.3.5 Geographical distance
3.3.6 Foreign direct investment and multinational involvement .
3.3.7 Trade barriers
3.3.8 Economies of scale
3.3.9 Regional integration
3.3.10 Product differentiation
3.3.11 Trade openness
3.3.12 Exchange rate
3.3.13 Miscellaneous factors
3.4 EMPIRICAL EVIDENCE OF DETERMINANTS OF IIT PATTERNS WITH SPECIFIC REFERENCE TO INDUSTRY
3.5 SUMMARY AND CONCLUDING REMARKS
CHAPTER 4 TRADE POLICY REFORMS AND PERFORMANCE OF SOUTH AFRICA’S AUTOMOBILE INDUSTRY
4.2 AUTOMOTIVE POLICY REFORMS IN SOUTH AFRICA
4.3 PERFORMANCE OF SOUTH AFRICA’S AUTOMOBILE INDUSTRY: IMPACT OF POLICY REFORMS
4.4 SUMMARY AND CONCLUSIONS
CHAPTER 5 MEASURING INTRA-INDUSTRY TRADE IN SOUTH AFRICA’S AUTOMOBILE INDUSTRY
5.2 MEASURING INTRA-INDUSTRY TRADE: THEORETICAL MOTIVATION REVISITED
5.3 METHODOLOGY TOMEASURE INTRA-INDUSTRY TRADE PATTERNS
5.4 DATA SOURCES AND DESCRIPTION
5.5 EMPIRICAL RESULTS AND DISCUSSION OF TRADE PATTERNS
5.6 SUMMARY AND CONCLUDING REMARKS
CHAPTER 6 ECONOMETRIC MODEL SPECIFICATION AND HYPOTHESES OF THE EMPIRICAL DETERMINANTS
6.2 EVIDENCE OF INTRA-INDUSTRY TRADE PATTERNS IN THE AUTOMOBILE INDUSTRY
6.3 ECONOMETRICMODEL SPECIFICATION
6.4 DATA SOURCES AND DESCRIPTION
6.5 HYPOTHESES OF EMPIRICAL DETERMINANTS OF IIT PATTERNS IN THE AUTOMOBILE INDUSTRY
6.5.1 Relative difference in economic size (RDGDP)
6.6 SUMMARY AND CONCLUSION
CHAPTER 7 GRAVITY MODEL ESTIMATION AND DISCUSSION OF RESULTS
7.2 UNIVARIATE CHARACTERISTICS OF VARIABLES
7.3 ECONOMTRIC ESTIMATION RESULTS
7.4 DISCUSSION OF THE ECONOMETRIC RESULTS
7.5 SUMMARY AND CONCLUSIONS
CHAPTER 8 SUMMARY AND CONCLUSIONS
8.2 MAIN FINDINGS OF THE THESIS
8.3 POLICY RECOMMENDATIONS
8.4 LIMITATIONS OF THE THESIS AND FUTURE RESEARCH
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