Posted 2021-05-05

Abstract

We investigate the role of global value chains in the declines of manufacturing employment and output in the U.S. during COVID-19. Specifically, we identify the role of global value chains by exploiting heterogeneity across industries in cross-country sourcing patterns and its interaction with exogenous cross-country variation in the containment policies introduced to combat the virus. We find that global value chains played a significant role in the decline of output and employment across U.S. manufactures. Moreover, we find a modest impact of diversifying or renationalizing global value chains in mitigating the economy's exposure to foreign shocks.

Ana Maria Santacreu is a senior economist, Fernando Leibovici is an economist, and Jesse LaBelle is a research associate at the Federal Reserve Bank of St. Louis.

INTRODUCTION

The rapid spread across the world of COVID-19 in early 2020 led countries to implement drastic policies in an attempt to contain and mitigate the spread of the virus. Vast sectors of the economy were often shut down for significant periods of time, leading to a sizable contraction of world output. While contact-intensive industries were typically hit the hardest, less-contact-intensive sectors such as manufactures were also affected. For instance, in the United States, manufacturing employment and output declined by about 6 percent and 11 percent, respectively, between January and June of 2020.

Several channels can account for the decline of economic activity in manufactures. On the one hand, we have domestic factors such as lockdowns and containment policies that depressed demand and curtailed supply across a broad range of industries early in the pandemic. On the other hand, we have foreign factors arising from the dependence of domestic production on inputs produced abroad; that is, the role of global value chains. In particular, industries that rely on inputs produced by countries with severe shutdowns might have had their production process halted due to decreased availability of intermediate inputs.

Figure 1
Employment and Output Growth Across U.S. Manufactures

NOTE: The following industry names are abbreviated in this and other figures: 

Chemicals and pharmaceutical products Other manufacturing; repair and installation of machinery and equipment
Coke and refined petroleum products Other non-metallic mineral products
Computer, electronic, and optical products Paper products and printing
Fabricated metal products Rubber and plastic products
Food products, beverages, and tobacco products Textiles, wearing apparel, leather, and related products
Machinery and equipment, not elsewhere classified Wood and products of wood and cork
Motor vehicles, trailers, and semi-trailers
Other manufacturing; repair and installation of machinery and equipment
Other non-metallic mineral products
Paper products and printing
Rubber and plastic products
Textiles, wearing apparel, leather, and related products
Wood and products of wood and cork

SOURCE: Employment data, Bureau of Labor Statistics (thousands, seasonally adjusted, monthly); real gross output by industry, Bureau of Economic Analysis (billions of 2012 chained dollars, seasonally adjusted at annual rates); and authors' calculations.

In this article, we investigate the role of global value chains in the decline of manufacturing employment and output in the U.S. during the initial period of the COVID-19 pandemic. Our empirical approach is motivated by the heterogeneous decline of employment and output across U.S. manufacturing industries (Figure 1). For instance, the textile and motor vehicles industries experienced large declines, whereas the computer and electronic products industry and chemicals and pharmaceuticals industry, among others, were hit less severely, with little declines in employment or even small increases in output. In this article, we ask this question: To what extent have industries that rely more on global value chains experienced a greater decline of economic activity during the first half of 2020?

A fundamental challenge to addressing this question is the potential relation between an industry's global organization of production and its sensitivity to aggregate shocks to the demand for its goods. For instance, take the case of durable goods such as automobiles, which are significantly more volatile than less-durable goods such as textiles. If durable goods are also more likely to be produced in complex value chains, then a reduced-form correlation between measures of global value chain intensity and changes in economic activity might be spuriously interpreted as capturing the causal effect of differences in global value chains.

We address this challenge by exploiting heterogeneity across industries in the nature of their global value chains as well as heterogeneity in the exposure of these global value chains to COVID-19 containment policies. First, U.S. manufacturing industries differ in the intensity to which they rely on global value chains as well as in the composition of those value chains across countries. Second, countries have differed markedly in their exposure to COVID-19 and in the policies implemented to combat it, leading to heterogeneous exposure of global value chains to the virus. Under the assumption that the intensity and composition of an industry's global value chain is unrelated to its exposure to COVID-19, we construct a variable that allows us to identify the role of global value chains in the decline of economic activity.

We begin by measuring global value chains at the industry level using the trade in value added (TIVA) dataset from the Organisation for Economic Co-operation and Development (OECD) for 2015, the latest year for which these data are available. In a sample of 64 countries and 16 manufacturing industries, we characterize global value chains across U.S. manufactures along two dimensions: (i) their intensity, as measured by the share of foreign value added embodied in an industry's total exports, and (ii) their concentration, measured based on the contribution of each source country to total foreign value added. While the first measure captures an industry's overall dependence on foreign inputs, the second measure captures heterogeneity in the relative contribution of the various country sources.

Then, we measure the role of global value chains on the decline of economic activity across U.S. manufactures during COVID-19 by interacting the share of value added from each source country with a measure of the strictness of the COVID-19 containment policies implemented by each country. We refer to this variable as our foreign exposure index; that is, our index of exposure to COVID-19 via global value chains. The idea is to capture whether industries dependent on intermediate inputs from countries with severe containment policies might be more exposed to foreign shocks than industries with less exposure to such countries.

Our empirical approach then consists of regressing the change of each industry's employment and output on our foreign exposure index as well as on a measure of domestic exposure to the effects of COVID-19. We measure the latter using the physical proximity index constructed by Leibovici, Santacreu, and Famiglietti (2020). We focus on the period from January 2020 to June 2020 since it captures the initial period of the pandemic, which featured the sharpest unexpected introduction of policies to contain COVID-19; thereafter, policies have tended to be weakened, particularly in less-contact-intensive industries such as manufacturing.

We find that exposure to foreign shocks through global value chains has a negative and significant effect on employment and output. Similarly, industries with a higher physical proximity index have a negative and significant effect on employment and output growth. Both measures jointly account for more than 70 percent of the variation in employment growth and output growth, respectively. Moreover, we find that the negative relation between exposure to foreign shocks via global value chains and output growth is larger than the negative relationship between that and employment growth; the reverse is the case for our domestic exposure index.

To quantify the role of global value chains on economic activity, we investigate how much changes in the structure of global value chains could reduce the exposure of the U.S. economy to foreign shocks. We consider three alternative global value chains motivated by ongoing discussions in policy and academic circles. First, we examine the potential of increased diversification as a means to reduce exposure to foreign shocks. We evaluate the impact of perfectly diversifying global value chains across all trade partners. Second, we consider the impact of restricting diversification only across countries that have revealed comparative advantage in the given industry. Finally, we consider the impact of renationalizing global value chains away from China.

Our findings indicate that the impact of global value chains on manufacturing employment and output during the initial period of the COVID-19 pandemic is not likely to have significantly depended on the pattern of global value chains across countries. On the one hand, regardless of the extent of diversification, most countries were subject to containment policies that affected economic activity. Thus, the global nature of the shock implies that diversification across countries would not have been an effective strategy to hedge against such risk. On the other hand, we find that even if industries would have renationalized to shield against foreign exposure to the virus, industries would have still remained exposed to the domestic impact of containment policies. Thus, these policies mitigate most of the possible gains from producing inputs domestically. These findings are consistent with those of Bonadio et al. (2020), who observe that renationalization would have only slightly changed the output loss from 29.6 percent to 30.2 percent.

Our article complements recent work that exposes the vulnerabilities of global value chains to a global pandemic like the COVID-19 pandemic. Javorcik (2020) argues that changes in trade policy and the COVID-19 pandemic have lead to a rethinking of global value chains, with some governments pushing for reshoring of foreign production. Miroudot (2020) emphasizes that renationalization of global value chains may go against the benefits of outsourcing production based on comparative advantage. Similarly, Goldberg (2020) emphasizes the advantages of having more diversified global value chains.

Bonadio et al. (2020) study the cross-country impact of global value chains during COVID-19 though the lens of a quantitative model of international trade and input-output linkages. Çakmaklı et al. (2021) evaluate the costs of the COVID-19 pandemic on global output, combining a SIR (susceptible, infected, and recovered) epidemiological model with an input-output production structure and endogenous lockdowns. Their analysis implies large losses in global output, with half of these losses accounted for by advanced economies. They find that input-output linkages amplify the losses across sectors. Méjean, Martinez, and Gerschel (2020) focus on COVID-19's impact on Europe, calculating the effect that a productivity drop in China has on European gross domestic product (GDP) growth and the role of Europe's integration with China through global value chains. In contrast to these studies, in this article we study the role of global value chains in the transmission of foreign shocks to the U.S. economy during the initial period of the COVID-19 pandemic.

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