© 2014 IHS

Global Economics & Country Risk Conference

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IHS

Asia’s shifting manufacturing landscape

Simona Mocuta, Director, IHS Economics, Chair, +1 781 301 9055, simona.mocuta@ihs.com Sudhir Shetty, Chief Economist, East Asia and Pacific Region, The World Bank, sshetty@worldbank.org Anton Alifandi, Principal Analyst, IHS Country Risk, +44 207 424 2828, anton.alifandi@ihs.com

12 November 2014

ECONOMICS & COUNTRY RISK

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Agenda overview

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Big picture trends: The landscape IS changing!

Winners and losers in the manufacturing competition

Hurdles to success?

Key business takeaways

Q&As

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Big picture trends

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China still dominates the low value-added spectrum, but its lead is shrinking

Ranked by 2014 share 2009 2010 2011 2012 2013 Jan-Aug 2014

HS 95: Toys, Games And Sports Equipment; Parts And Accessories Thereof 1. China 85.1 83.9 81.5 81.3 81.4 79.7

2. Mexico 1.7 1.8 2.4 3.5 3.5 3.7

3. Taiwan 2.1 2.5 2.8 3.1 3.0 3.6

HS 64: Footwear, Gaiters And The Like; Parts Of Such Articles

1. China 76.1 76.1 73.8 71.8 68.6 66.3

2. Vietnam 7.4 7.8 9.0 10.1 11.8 13.4 3. Italy 4.4 4.3 4.9 5.0 5.4 5.7

HS 6111: Babies' Garments And Clothing Accessories, Knitted Or Crocheted

1. China 59.4 60.7 58.5 58.1 55.4 51.2

2. Cambodia 3.4 4.1 5.4 6.6 9.0 11.1

3. Vietnam 3.4 3.1 3.6 3.9 5.2 6.7

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Source: Global Trade Information Services, IHS

Country share in US imports (value-based)

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The real prize is higher up the value chain

Ranked by 2014 share 2009 2010 2011 2012 2013 Jan-Aug 2014

HS 851712: Telephones For Cellular Networks Or For Other Wireless Networks

1. China 41.6 45.3 53.6 75.8 75.6 75.7

2. Korea, South 24.6 20.4 18.3 10.4 12.2 15.0

3. Taiwan 6.5 11.4 15.6 5.5 4.0 3.9

4. Vietnam 0.0 0.0 0.0 0.1 1.0 1.8

5. Mexico 20.3 18.0 9.4 4.9 4.6 1.7

HS 87: Vehicles, Other Than Railway Or Tramway, And Parts And Accessories Thereof

1. Mexico 20.4 22.0 22.6 22.3 23.9 25.9

2. Canada 24.1 25.2 24.6 24.0 22.4 20.9

3. Japan 24.0 22.7 20.2 21.4 20.0 17.6

6. China 3.8 3.8 4.0 3.9 3.9 4.5

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Source: Global Trade Information Services, IHS

Country share in US imports (value-based)

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Export market shares across East Asia (share of global exports, percent)

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0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Indonesia Malaysia Philippines Thailand Vietnam China (RHS)

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China is still cheap

Source: CEIC, Haver, UBS estimates

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But rapidly becoming more expensive

Source: CEIC, Haver, UBS estimates

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Global value chains in East Asia: Some facts

• From 1995 to 2008, East and South East Asia’s share of GVC trade in global manufacturing exports went from 8.6% to over 16%. By comparison, South Asia was less than 0.5% in 2008

• GVC participation rate for developing E. and SE Asia in 2010: 56% compared to 37% in S. Asia

• GVC participation rate has risen since 1995 for most developing E. and SE Asia countries

• E. and SE Asia also had a high share of foreign VA in exports (30% in 2010 compared to 25% average for all developing countries and 11% for S. Asia)

• Most GVCs have a strong regional flavor and E and SE Asia is no exception – in 2010, 42% of GVC participation were intra-regional flows (compared to 57% in EU and 62% in N. and C. America)

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Participation in global value chains (Global Value Chain participation rate, 1995 and 2009)

0

10

20

30

40

50

60

70Ca

mbo

dia

Indo

nesia

Chin

a

Viet

Nam

Thai

land

Mal

aysia

Phili

ppin

es

Backward Forward 1995

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Winners and losers in the manufacturing competition

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30

40

50

60

70

80

90

0

20

40

60

80

100

120

140

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012

Merchandise exports, left scale Merchandise exports, right scale

US-Vietnam trade agreement WTO accession

Vietnam is now third most export-dependent economy in Asia

Source: General Statistics Office, Vietnam

Billion USD (Percent of GDP)

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Vietnam’s export mix is rapidly evolving

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Exports, Billion USD Ranked by 2013 value

2013 2012 2011 2010 Growth %, 2010-13

Telephones, spare parts 21.5 12.6 6.9 2.3 832.5

Textile, garments 17.9 15.0 14.0 11.2 59.5

Electronics, computers 10.7 7.9 4.2 3.6 197.3

Footwear 8.4 7.2 6.5 5.1 63.3

Crude oil 7.2 8.4 7.2 5.0 45.9

Aquatic products 6.7 6.2 6.1 5.0 34.2

Machines, equipment, spare parts

6.0 5.5 4.1 3.1 96.8

Wooden products 5.5 4.6 3.9 3.4 60.0

Vehicles, spare parts 4.9 4.5 2.4 1.6 213.0

Rice 3.0 3.7 3.6 3.2 -8.0

Source: General Statistics Office, Vietnam

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US is a key export market for Vietnam

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0.00

5.00

10.00

15.00

20.00

25.00

30.00

35.00

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012

US Japan China EU

Merchandise exports, percent of total

Source: IMF Direction of Trade Statistics

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Pledged FDI by country of origin: Where is the US?

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2013 2012 Million USD % of total Million USD % of total

Japan 5,747 26.6 Japan 5,138 39.5 Singapore 4,376 20.2 Singapore 1,728 13.3

South Korea 4,293 19.9 South Korea 1,178 9.1 China 2,304 10.7 Samoa 908 7.0

Russia 1,022 4.7 British Virgin

Islands 788 6.1 Hong Kong 702 3.2 Hong Kong 658 5.1

Taiwan 596 2.8 Taiwan 453 3.5 Thailand 406 1.9 Cyprus 378 2.9

Netherlands 394 1.8 China 345 2.7 Cayman Islands 359 1.7 Malaysia 224 1.7

Source: Vietnamese Government, Foreign Investment Agency

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Lower wages give Vietnam a cost advantage

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2000

4000

6000

8000

10000

12000

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Average annual manufacturing wages, USD

Source: General Statistics Office, Vietnam, China’s NBS Note: China data refers to urban manufacturing wages, VNM data is manufacturing wages in state sector

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Contraction in Thai industrial production stands out

-20.0 -10.0 0.0 10.0 20.0 30.0 40.0

ThailandJapanKoreaIndia

SingaporeTaiwan

AustraliaMalaysia

IndonesiaVietnam

ChinaPhilippines

Change in IP index, Sept. 2011-August 2014, percent

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Thailand is no longer competitive in low-value added industries Real industrial output by category, 2000-2014, percent change Furniture -59.0 Footwear -48.6 Textiles -47.0 Wearing Apparel, except Fur Apparel -1.5 Radio, Television and Communication Equipment and Apparatus 10.7 Paper and Paper Products 21.3 Basic Metals 27.3 Rubber and Plastics Products 37.5 Food Products and Beverages 62.1 Other Non Metallic Mineral Products 77.3 Chemicals and Chemical Products 85.2 Medical, Precision and Optical Instruments, Watches and Clocks 129.2 Machinery and Equipment 141.7 Other Transp. Equipment: Motor Cycles, Bicycles, Invalid Carriages 142.7 Motor Vehicles, Trailers and Semi Trailers 318.1 Office, Accounting and Computing Machinery 414.2

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Source: Thai Office of Industrial Economics

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Thailand’s labor costs and demographic structure are liabilities in the manufacturing competition

Mandated minimum wages, USD per day

Myanmar 1.7–2.0

Cambodia 2.7

Laos 3.0

Vietnam 3.0–4.2

Indonesia 3.5–7.2

Malaysia 8.2–9.2

Thailand 9.2

Philippines 5.7–10.4

Singapore 62.0

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0.0 5.0 10.0 15.0 20.0

Laos

Philippines

Cambodia

Indonesia

Malaysia

Myanmar

Brunei

Vietnam

Thailand

Singapore

Population 65+, % of total, 2025

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Hurdles to success

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Not just a question of potential, but of execution

Political • rule of law • stability • effectiveness

Operational • infrastructure • capital cost • tax structure • labor skills

Regulatory • licensing • land acquisition • FDI limits • severance pay

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Thailand: Political risks

Political instability

- Prime Minister Prayuth Chan-ocha has restored short-term political stability.

- New constitution likely to curb the influence of former Prime Minister Thaksin Shinawatra and his supporters.

- Election unlikely until 2016 and unlikely to lead to a durable political settlement.

- Increased risk of civil unrest by Red Shirts beyond the one-year outlook.

- Risk of policy instability as the government needs to bolster support through populist measures but simultaneously needs to kick start the economy.

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Indonesia: Political risks

A potentially obstructive legislature - Government legislative programmes could be delayed or blocked, e.g. annual budget - Use of interpellation power to question government policy

Decentralised political structure - Expansion from 27 provinces in 1999 to 34 provinces in 2014 - Number of mayoralties and municipalities increased from 298 to 514 in the same period

House of Representatives Seats

PDI-P 109Golkar 91Gerindra 73PD 61PAN 49PKB 47PKS 40PPP 39Nasdem 35Hanura 16

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Indonesia: Prospects for reform under Jokowi

President Joko ‘Jokowi’ Widodo (2014-2019)

- Strong track record as a practical and hands-on leader as mayor of Solo and governor of Jakarta.

- His cabinet suggests continuity in key economic posts; strong managers in technical ministries.

- However, certain posts indicate the influence of former President Megawati Vice-President Kalla.

- Government attitude towards foreign investment broadly unchanged from previous administration.

- His immediate challenge is to reduce fuel subsidies (USD20 billion, 13% of government budget).

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Small supporting image can go here.

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Philippines: Political risk

Political instability

- President Benigno Aquino has carried out anti-corruption and anti-poverty drive

- He has signed a peace agreement with the main separatist group in Mindanao.

- He has doubled infrastructure spending and initiated PPP projects.

- Following 2013 mid-term elections, his party now controls both houses of Congress.

- The main risk is progress under Aquino will stall after he leaves office in 2016.

- Change of government increases risk of state contract alteration.

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Ease of starting a business (Rank, based on distance to frontier scores for 189 countries, 2015)

13

42

75

106 125 128

154 155 161 184 189

020406080

100120140160180200

Mal

aysia

Mon

golia

Thai

land

Paci

fic Is

land

Cou

ntrie

s

Viet

nam

Chin

a

Lao

PDR

Indo

nesia

Phili

ppin

es

Cam

bodi

a

Mya

nmar

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Ease of international trade (Rank, based on distance to frontier scores for 189 countries, 2015)

11

36

62 65 75

93 98 103 124

156 173

020406080

100120140160180200

Mal

aysia

Thai

land

Indo

nesia

Phili

ppin

es

Viet

nam

Paci

fic Is

land

cou

ntrie

s

Chin

a

Mya

nmar

Cam

bodi

a

Lao

PDR

Mon

golia

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Logistics performance (Logistics Performance Index, 2014)

2.0

2.2

2.4

2.6

2.8

3.0

3.2

3.4

3.6

3.8

Mal

aysi

a

Chi

na

Thai

land

Vie

tnam

Indo

nesi

a

Phi

lippi

nes

Cam

bodi

a

Sol

. Isl

.

Fiji

PN

G

Lao

PDR

Mon

golia

Mya

nmar

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Efficiency of public investment management (Public Investment Management Index)

Across regions

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

LAC ECA MENA EAP AFR

AppraisalSelectionImplementation

Across East Asia and Pacific

-1.5-1.0-0.50.00.51.01.52.02.53.03.54.0

Thai

land

Phili

ppin

es

Mon

golia

Cam

bodi

a

Indo

nesia

Lao

PDR

Solo

mon

Isla

nds

AppraisalSelectionImplementation

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Restrictions on trade in services, by sector (Services Trade Restrictions Index)

Across regions

0

10

20

30

40

50

60

70

SAS MENA EAP SSA HIY LAC ECA

Professional services TransportationTelecom FinancialRetail Average restrictinveness

Across East Asia and Pacific

0102030405060708090

Phili

ppin

es

Indo

nesia

Thai

land

Mal

aysia

Viet

nam

Chin

a

Cam

bodi

a

Mon

golia

Professional services TransportationTelecom FinancialRetail Average restrictinveness

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Indonesia’s underdeveloped capital markets are a handicap to growth

0 50 100 150 200 250

Japan

South Korea

Malaysia

Singapore

Thailand

China

Philippines

Vietnam

Indonesia

Size of LCU bond market, % of GDP

Government Corporate

31

Source: Asia Development Bank, AsianBondsOnline

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Indonesia is highly dependent of foreign capital to finance investment

0

20

40

60

80

100

120

Q1 2010 Q3 2010 Q1 2011 Q3 2011 Q1 2012 Q3 2012 Q1 2013 Q3 2013 Q1 2014

Domestic Foreign

Realized investment, trillion rupiah

Source: Indonesia Investment Board. Excludes financial services and oil and gas.

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Shallow domestic financial markets heighten exposure to portfolio investment volatility

33

0

5

10

15

20

25

30

35

Dec-03 Apr-05 Aug-06 Dec-07 Apr-09 Aug-10 Dec-11 Apr-13

Foreign holdings of rupiah-denominated govt. bonds, %Source: Asia Development Bank, AsianBondsOnline

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Key business takeaways

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Supply chains must adapt to cost realignment

• China is no longer the universal answer to all manufacturing cost-savings questions

• Sheer size means China will remain a dominant force in global manufacturing, but the race is now higher up the value chain

• ASEAN is key to the global manufacturing puzzle, but North America and Europe don’t yet seem to be putting together the pieces

• Cambodia and Vietnam are viable options in the lower cost sphere

• Indonesia and the Philippines bear watching as up and coming manufacturing centers, but each faces considerable hurdles in materializing that potential

• The emergence of new low cost producers in Asia and China’s move into higher value added industries are direct threats to Mexico’s manufacturing sector

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Questions and answers