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Box Story 1: Regional Trade and Production Networks

Asia ex-Japan exports have fallen sharply since July 2008, alongside the deepening global downturn. The decline has been more rapid than during the Asian Financial Crisis and the 2001 IT downturn. Intra-regional shipments, especially those to China, have been the main drag on the region's exports, in contrast to the downturn in 2001, when the G3 markets accounted for a larger share of the decline. A disaggregation of exports (by product groups) of the larger East Asia grouping, which includes Japan, reveals that machinery & transport equipment (M&T), particularly electronics, has contributed most to the overall decline.

These developments could be linked to the region's cross-border production networks (CPNs). The sheer speed of the collapse in IT end demand took many companies by surprise, causing them to slash output and reduce inventories. Given the density of electronics supply chains in Asia, this had an adverse domino effect on the region's cross-border production network flows. Moreover, as intermediate components cross multiple borders during the production process before they are embodied in the final product, a given fall in demand in the end markets will manifest itself as an amplified decline in gross trade flows.

Indeed, the segments that accounted most for the recent fall in East Asia's trade, coincided with segments that are closely linked to CPNs, i.e. trade in electronics and intra-regional exports, especially to China. Intra-regional trade in parts and components (P&C) underline the importance of CPNs in the region. In the M&T category, P&C accounted for about 40% of intra-East Asian exports, significantly higher than the 30% share in NAFTA and Europe. For East-Asia, this trade has been dominated by electronics, which has a 70% share compared to only slightly over 30% in NAFTA and Europe. Furthermore, shipments to China have accounted for an increasing proportion of intra-East Asian P&C trade in M&T. By 2007, China's share had risen to about one-fifth, more than twice that of 2000.

The importance of CPNs in East Asian trade has a number of implications. First, the sharp decline in CPN-related trade implies that auxiliary services, such as logistics and transportation, will also be affected, with wider knock-on effects on the region's growth. Second, this downturn marks the first severe test of East Asia's production and trade model - one of deepening regional integration in production and trade, but nonetheless ultimately dependent on demand in the developed markets for its continued viability. A prolonged slump in the developed markets could encourage producers in the region to re-orient their operations to meet rising Asian demand over the longer term.

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