Demand developments in the United States can have a substantial impact on the euro area economy, while similar shocks in China would have relatively fewer effects via trade....ECB

23 March 2016                                 ECONOMIC BULLETIN

Articles Transmission of output shocks – the role of cross-border production chains

See Full Report HERE Transmission of output shocks – the role of cross-border production chains

Globalisation has led to a rapid increase in euro area trade and facilitated the build-up of global production chains. Although these developments boost welfare as they increase the international division of labour (which drives growth and productivity), they also pose some challenges. 

Depending on the position of the euro area and its trading partners in these chains, economic disturbances from other parts of the world can be transmitted to the euro area in a more complex manner than traditional trade statistics can capture. 

This article describes global value chains in which the euro area participates and explores their role in the transmission of economic output shocks. If the final destination of euro area exports is considered, value added produced in the euro area (including that which is further processed and re-exported by large trading partners) is largely absorbed by advanced economies, notably the United States. Thus the euro area is likely to be relatively strongly affected by demand developments in the United States but less affected by developments in China, for example, which re-exports a proportion of euro area exports. 

Characteristics of euro area trade and global value chain participation 

The past few decades have seen global trade boosted by technological and policy developments, with intra-euro area trade benefiting from the advent of Economic and Monetary Union. Global trade has expanded substantially over the past few decades as a result of technological advances lowering transportation and communication costs. Furthermore, economic policy in many countries has been directed broadly towards removing trade barriers and reaching trade agreements.

 Large and previously relatively closed countries such as China have opened up their economies and become important players in international trade. The further integration of the European Union with the establishment of Economic and Monetary Union in 1999 has strengthened the Internal Market for euro area exporters and facilitated cross-border transactions. Trade within the euro area and the euro area’s external trade have both expanded, and the euro area has consequently become increasingly reliant on foreign economic developments. From 2000 to the end of 2015, intra-euro area goods exports increased by around 25%, while extra-euro area goods exports increased by almost 75% (see Chart 1). 

During this period, the euro area also became increasingly reliant on foreign economic developments, which reflects stronger growth in world imports of goods than in euro area domestic demand (see Chart 2). Technological advancements and policy agreements have also stimulated the build-up of international production chains. The emergence of global value chains as an important way of organising production is one of the most prominentfeatures of globalisation.3 While global production has always been a part of international trade, the rapid integration of firms in global value chains seen during the past few decades is something entirely new. Previously, global trade usually implied simply that production was located away from consumption of the final product. In global value chains, the various parts of a production process can also be divided among different regions of the world, making it possible to take advantage of the gains from increased specialisation in individual tasks.

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