Global moving of production and services: what the practical regional policy can do

1. Global moving of production and services: what the practical regional  policy can do Dr. György Kukely Budapest, Hungary Terra Studio Ltd.

2. Who am I? • Economic geographer • Consultant • Planner • Evaluator

3. In the focus of economic geography: companies, firms • Global relocation of production – the business activities become international • Changes in international division of labour • Transformation of spatial relations • Global production networks (GPN) • The relations of company to space and place have changed • New regional procedures • Concentration ↔ Deconcentration • Regional differentiation and polarisation • State intervention – aim: to influence the decisions and behaviour (movement) of companies    The COMPANYis in the focus of both the macroregional processes and state policy

4. Two different point of views • Companies: the effects of foreign companies moving in and out of the region • On different regional levels • Regional – territorial clusters; networks • Local – urban networks • According to different functions/activities • Production • Higher added value activities (R&D) • State: its tools and effect on the formation of the economic structure, the movements and decisions of companies • Encouraging investments – supporting companies moving in • Encouraging cooperation – supporting companies to be embedded • Crisis management – dealing with the effects of companies and activities moving away

5. What is relocation? • Basically it is a category on company level: The activity of the company is partially or completely stoppedin one place and it is restartedin another country by direct investmentwithin the organizational framework of the company. Location of production changes, but the market –usually – is the same. It results in the expansion of international trade, and the reexport of the product. • It has to be interpreted on sectoral level, too: company movement related to the transnational relocation on a regional level (country, region, industrial area etc.) on a sectoral level It is closely related to the change of the economic structure and to the transformation of spatial relations. relocation, offshoring, outsourcing

6. The causes and motivations of relocation • 1. Expanding globalisation and internationalisation • 2. The development of the information communication technology – the spreading of the „new economy” • 3. Structural transformation of companies and networking

7. Expanding globalisation and internationalisation • concentration and centralization of the capital has accelerated the transnationalisation • the TNCs determine the international market • international capital export has become the driving force of world economy • Previously trade determined the activity abroad – global deconcentration has begun as well

8. The political division of the world has decreased • One world market has been created - developing countries(previously more restricted) take more active part: significant surplus labour • increasing liberalization of the international economy • boundaries of trade are narrowing, • custom tariffs are decreasing, • competition for investments is growing • increasing liberalization of the trade of goods and services - more markets

9. TNCs in world economy • Operating on global level, making world-wide decisions,following global profit principle • Production organized through the coordination of unitsin different countries. • Making use of the global inequalities of production cost: • subsidiaries in countries with the lowest production cost in the world • changing location easily if the expenditure changes • Continous renewal for competitiveness • stronger presence in countries with low production cost, • opening of new markets, • new organisational structures, • improvement of cooperation between companies

10. increasing mobility of capital the strengthening power of large enterprises in negotiation  revalue the role of TNCs. • Strong influence on national economies, and (re)distribution of the world income • The TNCs give 1/2 of global production • 1/4 of global GDP • Control over 2/3 of international trade. • This new value produced by the foreign subsidiaries gives • 10% of global GDP, • nearly 50% of the global export

11. Territorial consequences • New junctions of capital flow • The advantage in competition comes from the differences in production cost • Massive new markets have opened up for the companies of the developed countries • The geographical structure of world production is changing fast: new territorial structure and new international division of labour • For cost-effectiveness: activities are shifted towards the East the role and rate of supplier activity is growing

12. Global shift of international production – relocations • Increasing relocations (mainly the global relocation of TNCs) – geographical consequences (on global, regional, local levels) • global shift in international production – the result of company decisions • In the focus: global differences in production cost • Subsidiaries can be senderandreceiveras well in the system of company relocation and flow • Differences between arriving and leaving activities • quantitative differences (number of companies, revenue, number of employees) • qualitative differences (eg. added value, sector character, different parts of the product line etc.)  restructuring • New international division of labour • Certain (developing) regions/countries have begun catching up mainly through their industrial improvements • In the developed countries: mainly deindustrialization

13. Theoretical basis • Traditional trade theory • New trade theory • New growth theory • New economic geography • Relational economic geography

14. Traditional trade theory • Specialization to branch/activity in which a country has comparative advantage • Growing productivity, bigger profit, new jobs • Growing importance of trade (inter-industry trade) - export-oriented economy, growing import in less effective sectors • Trade between different countries (resources, technological level, • Global conjunctural impacts • Minimalization of costs, maximalization of profit Growing international capital flow • International division of productionwithin a TNC: increasing efficiency, declining costs, bigger profit

15. New trade theory • Vertical fragmentation of production: intra-industry trade has bigger role (intermediers) • Trade and FDI between similar countries • Several regions can specialize for the same product • At the same time export and import in the same branch • Comparative advantages are notthe most important: monopoles, growing returntoscale, similar consumption preferences • Significantly bigger profit – greater competition, exploitation of scale economies, extended product variety • Large product variety  bigger market for TNCs  bigger profit

16. New economic geography Why richer countries have more benefit from transnational processes? • External impactshave bigger role in location • Makingadvantage of spatial concentration, agglomeration(economies of scale, low transport cost etc.)  spatial shifting of companies • Economic automatismis strengtheningcontinuous concentration • Strengthening specialization – clusters, industrial districts increasing development, growing differentiation • Beyond a limit transaction costs begin toincrease declining agglomeration

17. New (endogenous) growth theory • Traditional growth theory • Investment is the engine of the growth • Bigger stock – bigger income, but declining marginal product of capital (Solow model) – rate of growth decrease • Result: catching up of developing countries • New endogenous growth theory • Importance of human capital accumulation, knowledge creation, learning-by-doing, R&D driven technological progress • Knowledge based economy– bigger profit by using human capital and new technology • Innovative products increase efficiency and keep growth • Given product/technology shift to periphery by Solow model  divergence rather than convergence– inequalities, C – P remain and grow due to extending trade • Constant return of capital

18. Vernon’s product life cycle theory • Every product has a life cycle • Innovation, growing phase, mass production, obsolescence • In every phase optimal operation has different conditions • Shifting • Cost minimalizationbecomes more determining in later phase of life cycle - comptetitivity is shifted towards the price  geographical effects • After a while companies stop producing certain goods in the given country and they purchase it in a different country (relocation, outsourcing) • International division of labour between developed and developing countries • relocation is expanding and it involves previously unusual activities • In growing and mature phase, not only in the declining phase • R&Ddeconcentrates and relocates as well

19. Flying geese modell • Explanation for quick catching up of developing countries through industry • The leading country has an important role • FDI and trade play a considerable role in the catching up process • „sunrise” „sunset” sectors • The sender country steps up the „technological ladder” and as a result the labour intensive activity is relocated to a less developed country • Continuous improvement of quality within a country: • moving from simple to sophisticated goods, • from labour- to capital-intensive production,  new structures • The model shows interdependency and dependency between countries with different development level

20. FGM 5 phases • Take off phase: establishment of new product, first through import, then as a national product • Substitute of import: FDI and production begins to replace import • Exporting phase: FDI-flows is significant, growing export. In the sending country the activity loses its comparative advantages, and begins to move to following country • Mature phase: As a result of growing expenses and the competition created by late-starters FDI outflow is bigger than FDI inflow • Re-import phase: repeated relocation of production (to the third country) due to the loss of competitivity in the sending country

21. Relational economic geography • Relational turn in social and economic geography in the middle of 1990s • relational thinking– complex system of relations between different actors and structures • Focus on GPN • Network based aspectto explain shifting  question of embeddedness • Agglomeration theory: proximity and relational capital economic transformation • Analysis of behaviour of diff actors: companies, state, institutions – role of these in local/regional development

22. Chains/networks become more complex and various atthe same time • concentration/deconcentration, • extensive/intensive development, • diff organisational and management forms, relocation, outsourcing • Position of companies in network continuously change - due to technological progress / innovation / higher added value production • More emphasis on third actors: state, universities • Put relocation to larger socio-economic milieu • How to embed – why (not) embed?

23. How do these models work (in practice)? • Increasing international division of labour • International capital flow, FDI • Relocation • International trade • Spatial concentration and specialization

24. Foreign direct investments (FDI) – indicator of relocation in CEE • FDI plays an important role in international relocation processes • The international transfer of production comes hand in hand with FDI-flows • A good proxy for measuring relocation activity • CEE: the main target areas of the relocation • Marginal role in European FDI-flows (8 % of the total European FDI) • The structure of FDI is different

25. FDI had characteristic role in the transition • In most cases the target of investments was not principally the local or regional market, but morefavourable production factors than in Western Europe (“vertical FDI”). • FDI due to relocation from western countries are accelerating the economic growth • New sectors and a modern industrial culture appeared • Productivityincreased dramatically • Modernisation

26. Foreign direct investments(FDI) • The engine of economic growth and reindustrialization –FDI form the industrial spatial structure • The economic growth in Hungary has been determined by the sectors that are export oriented and driven by investments: manufacturing industry • Hungary has become a target area for the international relocations • Importance of foreign companies: they give • Nearly half of the GDP, • More than 80% of the export, • 70% of the production in the manufacturing industry • Horizontal (market oriented) → vertical (improving efficiency) FDI • After 2000: reinvestment • It fixes the previous spatial structure • Structural shift of activities

27. 2 phases of FDI • 1990-2000 • Investment-boom (privatization, greenfields) • After 2000 • End of the privatisation • Foreign investors in search of new markets had already acquired their share • Regions most favourable to FDI had reached high levels of saturation • Increased competition with neighbouring countries • Relocation and vertical investment make up a growing share of new investments • existing TNCs transfer more and more important activities to their affiliates

28. Territorial structure of FDI Billion HUF Source: KSH

29. TOP20 industrial exporters in Hungary

30. Industry: in the focus of relocation • The Hungarian economy is facing reindustrialization • Industrial relocation is a major factor • The industry has increased its share of the GDP • Hungary has been integrated into the world economy mainlythrough industry • In the sectoral structure of FDI, the share of industry is quite high • Foreign companies has a particularly large share of manufacturing (70%)

31. Relocated firms in the Hungarian industry • Relocation results export-orientated foreign investments • High export rate of foreign affiliates is a well-chosen indicator of relocation even in a small economy • Vertical FDI: firm exploit differences of production costs in the location decisions • The export-orientated foreign affiliates have determinant role (50 % of export is realized by TOP20 industrial firms)

32. Intra-firm and intra-industry trade • The international intra-industry and intra-firm trade are better indicators of relocation intensity • intra-firm trade: OECD 30% CEE 50% per revenues • intra-industry trade: CEE 70% (Hungary 79%) • The growth of the intra-industry trade is in close connection with the enlargement of export-orientated FDI • Most of the production is exported: components, accessories and intermediates usually get back to the mother-countries of TNCs to use them in the final assembling. The final products are also reexported to developed countries.

33. Shifting in relocation – new phenomena • Reinvestments become important • Agglomeration and clustering • Relocation from Hungary • Relocation of R&D to Hungary

34. Reinvestments become important • Hungarian FDI has entered a mature phase • The share of ploughed-back profits from foreign investments increased (as much as 66%) • The increasing reinvestment of profits signifies the gradually increasing embeddedness of foreign companies • This development has had significant territorial implications: the conservation of territorial structures

35. The embeddedness of foreign companies and regional agglomerisation • Besides attracting capital the ability to keep capital is even more emphasised • The question of embeddedness: (networking) cooperation with local partners – ensures that these companies and activities stay in Hungary in the long run – supplying relations • Dual economy (capital stock, revenue, productivity, technological standards etc.) • Low level of cooperation, dual economy ceases slowly

36. Regional concentration at a local and regional level - embededness? • The spatial proximity determines the intensive producing relations • Regional concentration and agglomeration – reinvestment • At the investments of certain sectors(eg. car industry) • At Hungarian segment of GPN of TNCs (eg. Nokia and suppliers) • Growing regional inequalities

37. Sectorally and regionally concentrated investments • automotive industries • electronics • chemistry, pharmautecical • Capital regions • West border regions close to european core market

38. The regional structure of the biggest export oriented enterprises dealing with car industry and electronics Billion HUF Note: these are companies that are considered to be among the biggest 500 Hungarian companies, that export at least three quarters of their production Forrás: HVG TOP500 Figyelő TOP200, 2008

39. Nokia cluster in Komárom

40. Industrial relocation from Hungary • Growing labour cost– certain sectors and activities lose competitiveness (eg. clothing industry) • Company restructuring – concentration of activities and products The small Hungarian market was integrated to a regional CEE market, where the economies of scale can be exploited to a great extent - food industry Unilever, Kraft Foods, Nestlé • Shift towards the higher added value activities • The change of company strategy – eg.International outsourcing– contract manufacturing

41. The contract manufacturing - Flextronics Forrás: Figyelő TOP 200, HVG TOP 500 vonatkozó éves adatai

42. Changing of spatial structure in textile and footwear industry between 2000-2005

43. Labour intensive → knowledge intensive activities • Making use of more favourable conditions, the TNCs have allocated more and more important activities to their subsidiaries • Continuous relocation on the level of activities and it also results in restructuring • The profiles of the companies change  shift from low-tech activities towards higher added value activities(eg. R&D) – restructuring • Competitiveness in the area of low added value / labour intensive activities is decreasing • Joiningin the early stages of the Vernon life cycle model • ¾ of the BERDis given by foreign companies • Geographical consequences – influenced by several factors (sector character, company strategy and organisation, position in the market, embeddedness, etc.). • Mainly in the bigger cities(especially in Budapest) • Even stronger concentration and dualism

44. Internationalization of R&D • R&D is the least internationalized activity • R&D outsourcing is growing • Changed causes: • growingR&D costs • growing complexity of innovation – knowledge, skills, equipment • the firms need tobring out new products faster • TNCs are the motor of internationalization

45. Main processes • Dynamic increase of foreign companies in BERD • Growing but still low share of industry in GERD • Growing R&D in high-tech and medium-tech industry • Most of the business R&D is concentrated in high and medium-technology industries • In pure R&D activities foreign affiliates play a limited role – a few big laboratories • Rare cooperationsbetween universities and enterprises

46. Manufacturing BERD by type of industry, 2006

47. R&D for host countries • R&D related FDI dynamize the economic growth • Hostcountries profit directly by spreading the modern technical and management knowledge • Or „brain-drain”, useful only for enterprises • Embeddedness – separated islands or embedded units- cooperation

48. R&D of TNCs in Hungary • Pharmaceuticals • Information and telecommunication • Automotive industry • Lighting technique • Medical equipmentagrifood • Household chemicals • New materials • basic problems : • its high concentration (by region, enterprises and sectors) is unhealthy; • its activity is mainly development and not basic research; • the embedding process is extremely slow. Forrás: GKM 2006

49. Industrial efforts to stimulate cooperation with the universities Characteristics: • Strong personal contacts: TNC researchers take part in education • A few TNCs (particularly pharmaceuticals and Ericsson) created and financed university labs • Scholarship and special PhD programs are offered for students who qualify • R&D relationships are project-oriented (limited in size, mainly for development) • Common participation in the governmental R&D programs to create research and knowledge centres • Weaknesses of universities according to the TNCs: lack of university experts in special fields (the educational structure doesn’t meet demand), poor business skills, colliding interests in handling intellectual property rights

50. Embeddedness of foreign R&D knowledge-based cooperations around the Robert Bosch consortium