Heckscher–Ohlin: Evidence from Virtual Trade in Value Added

• Author: Tadashi Ito,Pierre‐Louis Vézina,Lorenzo Rotunno
• Date: 01 August 2017
• DOI: http://doi.org/10.1111/roie.12230
• Published date: 01 August 2017

Heckscher–Ohlin: Evidence from Virtual Trade in

Value Added

Tadashi Ito, Lorenzo Rotunno*, and Pierre-Louis V

ezina

Abstract

The fragmentation of production chains across bordershas been one of the most distinctivefeatures of glob-

alization since the 1980s. Nonetheless, our understanding of its implications for trade theory and policy is

only in its infancy. We suggest that trade in value added should follow theories of comparative advantage

more closely than gross trade, as value-added flows capture where factors of production, e.g. skilled and

unskilled labor, are used along the global value chain. We find empirical evidence that Heckscher–Ohlin

theory does predictmanufacturing trade in value-added, and it does so better thanfor gross shipment flows.

While countries export across a broad range of sectors, they contribute more value-added in techniques

using their abundantfactor intensively.

1. Introduction

The second unbundling, or the fragmentation of production across borders, has been

one of the most distinctive features of globalization since the 1980s. Nonetheless, our

understanding of its implications for trade theory and policy is only in its infancy. One

explanation for this delay is the only-recent (starting in the early 2010s) release of

input-output matrices that cover the whole world and allow for a better understanding

of the location of production across global value chains.

One implication of global value chains is that “Made in China” no longer means

“Made in China.” Koopman et al. (2008) estimate that the share of domestic con-

tent in China exports is about 50%. One recurring example is that of Apple’s

iPad, “Made in China” but with Chinese labor accounting for only about 3% of its

value added. Gross trade figures, e.g. Chinese exports of iPads, are hence no per-

fect guide to understanding where value addition occurs. They also imply a

“double-counting” of value added, as the value added embedded in parts and com-

ponents is counted when both intermediates and final goods cross borders. The

“double-counting” means that trade data overstates the domestic value-added con-

tent of exports (see Figure 1).

Economists have thus recently focused on capturing the value-added content of

trade (Johnson and Noguera, 2012). Extracting the value-added embedded in exports

allows us to trace where factors of production are used. For example, it allows us to

identify that China’s electronics exports embed wages paid to Chinese labor and

* Rotunno: Blavatnik School of Government and Nuffield College, University of Oxford, Radcliffe

Observatory Quarter, Woodstock Road, Oxford OX2 6GG, United Kingdom. Ito: IDE-JETRO, Tokyo.

V

ezina: Department of Political Economy, King’s College London. The authors are grateful to seminar

participants at Osaka University, IDE-JETRO Bangkok, DEGIT Geneva 2015, at the Bari 2015 Confer-

ence on the Economics of Global Interactions, Hitotsubashi University, Keio University, University of

Tokyo, Kobe University, Hiroshima University, and Kyushu University. This work is partly financed by

the Institute of Developing Economies, JETRO, Japan.

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C2016 John Wiley & Sons Ltd

Review of International Economics, 25(3), 427–446, 2017

DOI:10.1111/roie.12230

profits pocketed by US wholesalers. It elucidates the paradox that labor-abundant

China apparently exports capital-intensive and sophisticated products (Krugman,

2008). When looking at trade in value added, we find that China actually exports only

unskilled labor embedded in iPads. Another example is that of Boeing’s Dreamliner.

While it is “Made in the USA,” it embeds value from a long list of countries.

We suggest that trade in value added should follow theories of comparative advant-

age more closely than gross trade. The reason is that it tells you where factors of pro-

duction, e.g. skilled and unskilled labor, are used. As Daudin et al. (2011) notes, only

a value-added trade measure can answer the question “who produces for whom in the

world economy?” Value-added trade thus offers a new lens to test for theories of com-

parative advantage. Do skill-abundant countries export skill-intensive products? Or

Figure 1. Virtual Value-added Exports vs Exports [Colour figure can be viewed at

wileyonlinelibrary.com]

Figure 2. Virtual Trade in Value-added [Colour figure can be viewed at wileyonlinelibrary.

com]

428 Tadashi Ito, Lorenzo Rotunno and Pierre-Louis V

ezina

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C2016 John Wiley & Sons Ltd