Journal of International Economics 54 (2001) 75–96
www.elsevier.nl / locate / econbase
The nature and growth of vertical specialization in world
trade
David Hummels a , Jun Ishii b , Kei-Mu Yi c , *
a
Department of Economics, Krannert School of Management, Purdue Univesity, West Lafayette,
USA
b
Department of Economics, Stanford University, Stanford, CA 94305, USA
c
Federal Reserve Bank of New York, International Research, 33 Liberty St., New York, NY 10045,
USA
Received 24 August 1999; received in revised form 30 December 1999; accepted 24 April 2000
Abstract
Dramatic changes are occurring in the nature of international trade. Production processes
increasingly involve a sequential, vertical trading chain stretching across many countries,
with each country specializing in particular stages of a good’s production sequence. We
document a key aspect of these vertical linkages — the use of imported inputs in producing
goods that are exported — which we call vertical specialization. Using input–output tables
from 10 OECD and four emerging market countries we calculate that vertical specialization
accounts for 21% of these countries’ exports, and grew almost 30% between 1970 and
1990. We also find that growth in vertical specialization accounts for 30% of the growth in
these countries’ exports.  2001 Elsevier Science B.V. All rights reserved.
Keywords: Growth of world trade; Globalization; Vertical specialization
JEL classification: F1
1. Introduction
It is widely acknowledged that in the last several decades the nature of
international trade has changed dramatically. One of the most important changes
*Corresponding author. Tel.: 11-212-720-6386; fax: 11-212-720-6831.
E-mail address: kei-mu.yi@ny.frb.org (K.-M. Yi).
0022-1996 / 01 / $ – see front matter  2001 Elsevier Science B.V. All rights reserved.
PII: S0022-1996( 00 )00093-3
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D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
involves the increasing interconnectedness of production processes in a vertical
trading chain that stretches across many countries, with each country specializing
in particular stages of a good’s production sequence. This phenomenon — we
follow Balassa and Findlay in calling it vertical specialization — has been studied
quite extensively by trade economists. It has also been labeled quite extensively:
‘‘slicing up the value chain’’, ‘‘outsourcing’’, ‘‘disintegration of production’’,
‘‘fragmentation’’, ‘‘multi-stage production’’, and ‘‘intra-product specialization’’.1
Many models have been developed to study the impact of increased vertical
specialization on factor prices, production and trade patterns, and welfare. Given
the proliferation of models, one might presume that there is extensive empirical
documentation of the increase in vertical specialization.
Surprisingly, this is not so. Other than case studies and some anecdotes there is
little systematic evidence quantifying the nature and growth of vertical
specialization.2 Data on intermediate goods trade could be examined, but this
would require relying on rather arbitrary classifications of goods into intermediate
and final. Moreover, some existing classifications indicate that the intermediates
share of total trade has been steadily declining since 1970.3
Instead, this paper provides evidence on a narrower concept of vertical
specialization, involving those imported goods that are used as inputs to produce a
country’s export goods. This narrow focus emphasizes the twin ideas that the
production sequence of a good involves at least two countries, and that, during this
sequence, the good-in-process crosses at least two international borders. The latter
idea highlights the sequential production and back-and-forth aspect that case study
evidence suggests characterizes an increasing amount of international trade.4 Japan
now exports raw steel to Mexico, where the steel is stamped and pressed and then
exported to the U.S., where it is manufactured into farm equipment, much of
which is then exported again.
This concept allows us to develop measures of vertical specialization that can be
easily taken to the data. Our primary measure (VS) measures the value of
1
See, for example, Krugman (1995), Feenstra and Hanson (1996, 1997), Feenstra (1998), Deardorff
(1998), Jones and Kierzkowski (1997), Dixit and Grossman (1982), and Arndt (1997). Balassa (1967)
and Findlay (1978) were the first papers, to the best of our knowledge, to note this phenomenon. Sanyal
(1983) also used ‘‘vertical specialization’’.
2
Most of the existing systematic evidence focuses on documenting several countries’ trends in
outsourcing, usually defined to be the imported input shares of gross output or of material inputs. See,
for example, Feenstra and Hanson (1996), Feenstra (1998), Campa and Goldberg (1997), Lawrence
(1994), Slaughter (2000), and Berman et al. (1994).
3
Using annual trade data and the United Nations Broad Economic Categories classification scheme,
we find that, for the OECD, both the intermediate goods share of imports and of exports declined
steadily from about 1970 to 1992. (These calculations exclude oil.) Measuring the intermediate share of
imports using the OECD Input–Output Database (OECD, 1995) also reveals a declining share during
this period. However, Yeats (1998) shows that parts and components trade, a subset of intermediate
goods trade, has grown as a share of total trade.
4
See Ishii and Yi (1997) and Hummels et al. (1998), for example.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
77
imported inputs embodied in goods that are exported. Our main data source is
input–output tables, which provide industry-level data on imported inputs, gross
output, and exports, the data that are needed to calculate our measures. We use the
OECD Input–Output Database, which covers 10 OECD countries, input–output
tables from Ireland, Korea, and Taiwan, and data from Mexico’s maquiladoras.
These countries account for more than three-fifths of world trade. Our calculations
show that, as of 1990, the (export-weighted average) VS share of exports in these
14 countries was 0.21, up almost 30% from 0.165 in 1970. Also, the growth in VS
exports accounts for 30% or more of the growth in overall exports between 1970
and 1990.
In Section 2, we present our vertical specialization concepts and measures. In
Section 3, we present our calculations of vertical specialization levels and trends.
Section 4 presents the results of growth and cross-country accounting decompositions. Section 5 briefly discusses potential causes of the growth of vertical
specialization.
2. Vertical specialization: concepts and measurement
2.1. Concepts
To construct a good measure of vertical specialization, we first need to sharpen
the concepts. The key idea behind fragmentation, outsourcing, slicing-the-valuechain, etc. is that countries increasingly link sequentially to produce goods. Our
approach focuses on one feature of this sequential linkage: imported intermediate
goods are used by a country to make goods or goods-in-process which are
themselves exported to another country. This feature highlights the multipleborder-crossing, back-and-forth aspect of trade that much of the anecdotal and case
study evidence suggests has risen dramatically. More formally, vertical specialization occurs when:
A. a good is produced in two or more sequential stages,
B. two or more countries provide value-added during the production of the good,
C. at least one country must use imported inputs in its stage of the production
process, and some of the resulting output must be exported.
Note that vertical specialization involves both an import side and an export side.
On the import side, vertical specialization is essentially a subset of intermediate
goods trade. While all intermediate goods trade is consistent with (A) and (B), only
the subset of intermediate goods imports that become embodied in exported goods
is consistent with the third condition. On the export side, vertical specialization
can involve either intermediate goods or final goods.
Fig. 1 illustrates an example of a vertical specialization chain involving three
78
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
Fig. 1. Vertical specialization.
countries. Country 1 produces an intermediate good and exports it to Country 2.
Country 2 combines the imported intermediates with capital and labor (valueadded), and domestically produced intermediate inputs to produce a final good
(gross output). Finally, Country 2 exports some of the final good to Country 3.
2.2. Measurement
We focus on one way in which a country can participate in a vertical
specialization chain, when the country uses imported inputs to produce an
exported good. For example, Japan uses imported oil to produce petrochemicals,
some of which are exported. For country k and good or sector i, we define VS as
follows:
S
D
imported intermediates
VS ki 5 ]]]]]]] ? exports
gross output
(1)
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
S
D
exports
5 ]]]] ? imported intermediates.
gross output
79
(1a)
For Country 2 in Fig. 1, then, VS 2i 5 (A /(D 1 E))*E 5 (E /(D 1 E))*A. As
noted above, this is a subset of imported intermediates, A. Simply put, VS is the
imported input content of exports, or equivalently, foreign value-added embodied
in exports. The first term in Eq. (1) is the share of imported inputs into gross
production. Multiplying this ratio by the amount that is exported provides a dollar
value for the imported input content of exports. If Country 2 uses no imported
inputs, or if it does not export its output, VS 2i 5 0.5 Note that the VS 2i /X2i , the VS
share of exports, is A /(D 1 E). For good or sector i, then, the VS share of exports
is equivalent to the imported input share of gross output.
VS for country k is simply the sum of VS across all i, VS k 5 o i VS ki . We find it
useful to calculate
O
O
VS k
i VS ki
VS share of total exports ; ]] 5 ]]],
Xk
i Xki
(1b)
where X denotes exports. Of course, we can also calculate the VS share of total
imports. These two shares will differ when trade is not balanced.
The VS share of total exports can also be expressed as
O
O
O
VS k
i VS ki
i (VS ki /Xki )*Xki
VS share of total exports ; ]] 5 ]]] 5 ]]]]]
Xk
X
X
i
ki
X
VS
]] .
OFS]
X DS X DG
ki
5
i
k
ki
O
i
ki
(1c)
ki
In other words, the VS share for a country k is an export-weighted average of the
sector VS export shares. We noted above that the sector VS export shares are
equivalent to the sector imported input shares of gross output. Eq. (1c) shows that
the aggregate VS share, VS k /Xk , and the aggregate imported input share of gross
output (IIGO) are not equivalent, because the latter is expressed as a gross
output-weighed average of the sector imported input shares of gross output. The
aggregate VS share of exports will be larger than the aggregate imported input /
gross output ratio whenever the high VS share sectors also tend to be the high
export sectors, i.e. when there is a positive correlation between sector VS shares
and high export / output ratios.
To empirically implement our VS measure, we would ideally use data on the
production process and direction of trade flow for every stage of each good that is
5
We do not count re-exports, i.e. border-crossings that are merely in transit shipments. Much of
Hong Kong’s exports are, in fact, re-exports of Chinese goods going through Hong Kong’s ports on
their way to the U.S. and other countries.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
80
traded. These data are impossible to obtain except on a case-by-case basis. Instead,
we rely primarily on input–output tables. Our input–output (I–O) tables include
sector-level data on inputs (distinguishing foreign and domestic sources), valueadded, gross output, and exports. A key advantage of using I–O tables is we avoid
the arbitrariness of classification schemes that divide goods into ‘‘intermediate’’
and other categories. How should tires and engines, flour, and motherboards be
classified? In some cases they are intermediate goods (when firms buy them to
make cars, bread, and computers), and in some cases they are final goods (when
households buy them).6 Input–output tables do not have this problem, because they
classify the use (as an input into another sector’s production or as final demand) of
each sector’s output. Another advantage is that the tables allow us to explore
sector variation in VS; for example, we can examine how the auto sector differs
from the textile sector on both the export and the imported input side.
This facilitates a straightforward calculation of (1), (1a) or (1b) for each
industry and for the country as a whole. In matrix notation, the formula for VS as a
share of total exports for country k (the equivalent of (1b)) is
VS share of total exports ;VS k /Xk 5 uAM X /Xk ,
(2)
M
where u is a 1 3 n vector of 1’s, A is the n 3 n imported coefficient matrix, X is
an n 3 1 vector of exports, n is the number of sectors, and Xk is the sum of exports
across the n sectors. Element a ij of AM denotes the imported inputs from sector i
used to produce one unit (expressed in any common currency) of sector j’s output.
Another attractive feature of I–O tables is they allow us to calculate the value of
imported inputs used indirectly in production of an exported good. That is,
imported inputs may be used in one sector, whose outputs are employed in a
second, then a third, and eventually embodied in an export good. Imported inputs
are allowed to circulate through several stages of the domestic economy before
‘‘exiting’’ as an export. In terms of Eqs. (1) and (1a) above, the imported
intermediates term would include all direct and indirect (embodied in domestic
inputs) imported inputs. The more general way to compute VS as a share of total
exports for country k with these tables is
VS share of total exports ;VS k /Xk 5 uAM [I 2 AD ] 21 X /Xk ,
(3)
where u is a 1 3 n vector of 1’s, AM is the n 3 n imported coefficient matrix, I is
the identity matrix, AD is the n 3 n domestic coefficient matrix, X is an n 3 1
6
Also, Sanyal and Jones (1982) make the important point that all goods trade can be thought of as
intermediate goods trade, because even so-called final goods have marketing and distribution services
added to them before they are sold. In our framework, we abstract from these services, and focus on the
physical production process.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
81
vector of exports, Xk is total country exports, and n is the number of sectors.7
[I 2 AD ] 21 is the term that captures allowing the imported input to be embodied in
a domestic output at the 2nd, 3rd, 4th, . . . stage before it becomes embodied in the
good that it is exported. It is the matrix analogue of an infinite geometric sum. We
use (3) as our main measure of VS. Note that this formulation allows the goods to
circulate through all sectors of the economy, including the service sectors.8
The relatively aggregate sector data from the input–output tables can lead to
biases in calculating the true level of VS. If, within a sector, there is a positive
(negative) correlation between exports and the imported inputs / gross output ratio,
VS calculations involving the sector-level data will be downward (upward) biased.
Suppose, for example, that a sector produces just two goods. One good uses
imported intermediate inputs but is not exported. The other good uses no imported
inputs but is exported. In this case, actual VS would be zero, yet at the sector level
we would calculate a positive value. On the other hand, suppose that the first good
relies heavily on imported intermediate inputs and is heavily exported, and the
second good uses no imported inputs and is not exported. Then, at the sector level,
we would underestimate VS. Indeed, Korean input–output table data for 1995
reveals a slight downward bias using aggregate data.9 However, in general, we
cannot ascertain which case is more likely.10
The reader may have noticed that there is another way that a country can
participate in a vertical specialization chain. This occurs when the country exports
goods that are used as inputs into another country’s production of export goods.
For example, Japan produces electronic components, most of which are exported
to South East Asian countries, where they are used as inputs to produce TVs and
VCRs, most of which are then exported to countries like the U.S. We call the value
7
Development economists have used (3), which they also call the import content of exports. See, for
example, Chenery et al. (1987). However, their interest was traditionally with balance of payment
issues, not the extent of vertical specialization, or its implications for trade growth.
8
While our measures of vertical specialization imply that a good-in-process crosses at least two
borders, we cannot determine the average number of border-crossings. The number of border-crossings
matter because it gives the ‘‘multiplier’’ trade effect that results from a given change in trade barriers.
Also, we are only able to compute VS with merchandise trade; hence, we ignore trade in R&D or
multinational headquarters services. This may be an important channel through which vertical
specialization operates.
9
The 28-sector, 77-sector, and 168-sector input–output tables yielded VS shares of exports of 0.326,
0.338, and 0.342, respectively.
10
Our empirical measure of VS is based on imported intermediate goods. For many countries,
imported capital goods constitute a large fraction of imports; logically, one can think of these goods as
a type of intermediate good in the sense that rental services from the capital become embodied in the
goods that are produced from it. An extended measure of VS would include the imported capital
service content of exports. Due to space constraints, we do not include these calculations here. Our
results from the OECD Input–Output tables show that the VSK share of exports is about 0.03–0.04.
Details are available from the authors.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
82
of exports that are embodied in a second country’s export goods VS1. In terms of
Fig. 1, Country 1 has VS1; it is equal to A*E /(D 1 E). We do not calculate this
measure, however, because of data constraints. VS1 is more difficult to measure
than VS, as it requires matching bilateral trade flow data to the input–output
relations.11
3. Growth of vertical specialization
3.1. Data sources
The primary source of our input–output tables is the OECD Input–Output
Database, which contains tables for 10 countries — the G-7 nations, plus
Australia, Denmark, and the Netherlands — for several years between 1968 and
1990.12 The major advantage of this data set is that it provides a consistent set of
tables to facilitate comparisons across countries and over time. The 10 countries
account for about two-thirds of world GDP and more than 55% of world trade.
The tables divide output into 35 sectors, including 24 goods-producing sectors, of
which 22 are manufacturing. The concentration on manufacturing sectors is
important because they increasingly dominate world trade.13 For each country, we
focus on the goods sectors.
We also employ input–output tables for Ireland (1964, 1975, 1990), Korea
(1963, 1970, 1990, 1993, 1995), and Taiwan (1981, 1994). These were obtained
primarily through these countries’ national statistical agencies or Central Banks.
For Mexico, we use data on maquiladoras, including imported inputs, gross output
and exports. Mexico’s maquiladoras are foreign-owned production plants that
11
In an earlier version of this paper (see http: / / www.ny.frb.org / rmaghome / staff rp / sr72.html), we
]
perform a broad, relatively crude VS1 calculation for the OECD database countries, and a more narrow
calculation involving U.S. trade with Canada and Mexico. We find that the VS1 share of exports is
roughly 0.04–0.05 for the OECD countries; the more narrow calculation for the U.S. shows that, as of
1997, the VS1 share is 0.082. Details are available from the authors.
12
For most of the countries in this database, the imported inputs tables are imputed following the
standard import proportionality assumption. The imputation occurs at a much more detailed level of
disaggregation than is in the tables. For example, in the U.S. and Japan the imputations are performed
over a range of 500 goods. For Germany and Denmark, the range is 2000 goods. In general, the OECD
finds that higher levels of disaggregation are associated with smaller (downward) biases in classifying
imports as intermediate goods. Hummels et al. (1998), which is an outgrowth of IY and this paper, also
looks at this database.
13
In 1970, manufacturing accounted for about 60% of world merchandise trade; in 1994, it accounted
for about 75% (UNCTAD, 1997).
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
83
complete processing or secondary assembly of imported components explicitly for
export.14
3.2. VS levels and growth: OECD Input–Output Database
Hereafter, we will use ‘‘VS export share of total exports’’, ‘‘VS share of
exports’’, and ‘‘VS share’’ interchangeably. Fig. 2 presents our calculations.15 The
overall VS shares vary widely across countries. The U.S., Japan and Australia
have VS shares of about 0.05–0.10, while Canada, Denmark, and the Netherlands
have VS shares around 0.30–0.35. We compute the sample correlation between the
VS share of exports and GDP; it is 20.65 in the final year, indicating that smaller
countries have higher VS shares.16
For every country but Japan, the VS share grew between the initial and final
year of the sample. In Australia, Canada, France, the U.K., and the U.S., VS grew
25% or more.17 Aggregating across all 10 countries — by calculating the
export-weighted average of each country’s VS share — we calculate the VS share
in the initial and final years to be 0.162 and 0.198, respectively.18 This is an
increase of about 22% over a 20-year period. If we use the initial year export
weights for both the initial and final year, the VS share in the final year would be
0.202. This implies that more than 100% of the increase in the aggregate OECD
14
Maquiladora plants benefit from Mexican laws that exempt from Mexican tariffs parts and
materials imported by Mexico for use in maquiladoras. Also, U.S. components of maquiladora-made
goods exported back to the U.S. are exempt from U.S. tariffs. See Hummels et al. (1998) for more
background information on the maquiladoras.
15
More detailed sector-level VS share numbers are presented in Tables 1 and 2 of an on-line version
of the paper (http: / / www.ny.frb.org / rmaghome / staff rp / sr72.html). As with the aggregate VS shares,
]
the sector VS shares vary widely across countries. There is also wide variation across sectors within a
country. Trends in the sector VS shares mirror trends in the aggregate shares; between the first and last
year, about three-quarters of the sector VS shares increase.
16
The GDP data are from IMF International Financial Statistics. The correlation between population
and VS share is 20.69.
17
We also calculated the VS share of imports, which tended to be lower than the VS share of exports
for countries whose imports exceed exports, such as the U.S. As with the VS share of exports, the VS
share of imports grew over time in all countries but Japan. Countries that had very high (positive or
negative) growth in VS shares of exports tended to have less high growth in their VS shares of imports,
and vice versa.
18
In computing the OECD aggregate VS shares, we take 1970 to be the initial year and 1990 as the
final year. For countries without input–output tables for that year we use the VS shares for the closest
year if it was within 2 years of 1970 (or 1990). If the closest year to 1970 (or 1990) was more than 2
years away, as is the case for Germany, we used a linear extrapolation of the available data to get an
estimate for 1970 (or 1990). For Italy we have only 1 year of data, 1985. We assume that Italy’s VS
share is 0.2 in 1970, which is similar to the VS shares in France, Germany, and the U.K. around that
time.
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D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
Fig. 2. VS exports as a share of total merchandise exports: OECD countries.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
85
VS share is accounted for by increases in every country’s VS share; countries with
low VS shares — such as the U.S. — grew in export importance during this
period.19
Fig. 2 also shows that many of the countries, including Japan, Denmark, France,
the Netherlands, and the United Kingdom, experience sharp increases in their VS
shares in the 1970s, followed by partially offsetting declines in the shares at some
point after 1980. One possible explanation is oil prices, whose movements
mirrored the VS shares during this period. The value of imported oil also rose and
then fell. Changes in the value of imported oil could, ceteris paribus, change VS
shares. To investigate this possibility, we recalculated our VS shares assuming that
all oil (and other mining and quarrying) inputs are domestic; that is imported oil
inputs are zero. The results are shown in the gray lines with circles in Fig. 2. Once
oil is excluded, all five above-mentioned countries experience smoother and more
monotonic increases in their VS shares over time.20
3.3. VS levels and growth: Ireland, Korea, Taiwan, and Mexico
The small countries in our OECD sample have the largest VS shares. Because
the rest of the world consists primarily of small countries, we would expect to find
relatively large VS shares for countries outside our OECD database. To verify this,
we calculate VS for Ireland, Korea, Taiwan, and Mexico. The calculations for
these countries are presented in Fig. 3. For Ireland, Korea and Taiwan, the VS
shares are quite high, (around one-third, similar to Netherlands in the OECD
Fig. 3. Vertical specialization: Ireland, Korea, Taiwan, and Mexico.
19
20
To do this calculation, we use the ‘‘within’’ and ‘‘between’’ decomposition presented later in (5).
We thank one of the referees for suggesting this exercise.
86
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
database) but have not exhibited the large increases over time that Canada, for
example, has experienced.21 Nevertheless, these three countries have contributed to
growth in the world VS share. This is because the world VS share is an
export-weighted average of the country VS shares, and these three countries’ share
of world exports increased by a factor of 9 between 1963 and 1993.
For Mexico we employ annual data from 1979 to 1997 on maquiladora imports,
gross production, and exports, instead of input–output tables. To facilitate crosscountry aggregation, we calculate VS as a share of total, ‘‘maquiladoras1nonmaquiladoras’’, merchandise exports. Our calculations indicate that the VS share of
exports has increased significantly, reflecting the growing importance of
maquiladoras in Mexico’s trade.22 Fig. 3 shows that, between 1979 and 1984, VS
as a share of total Mexican merchandise exports was about 0.1. After 1984, this
share rose steadily and rapidly; as of 1997, it was 0.32 or $35 billion.23
3.4. VS levels and growth: calculations for the ‘‘ World’’
Above, we calculated VS shares for each country in our OECD database, as
well as for several other countries. We now calculate the VS share for our entire
14-country sample, which accounted for 63% of world exports in 1990. The results
are listed in column 1 of Table 1. We find that the VS share was 0.165 in 1970 and
21
This might seem surprising for Ireland given the surge in multinational activity there during the last
two decades. According to Barry and Bradley (1997, p. 1798) ‘‘almost 60% of gross output and 45% of
employment in manufacturing is in foreign-owned export-oriented firms.’’ However, there are three
reasons why Ireland’s VS share did not increase much between 1964 and 1990. First, the presence of
multinationals appears to have reduced the amount of ‘‘circulation’’ of imported inputs through the
domestic economy. Calculations of (2), rather than (3), show that the VS share increases considerably
between 1964 and 1990, from 0.17 to 0.27. Second, while manufacturing has undergone a structural
shift from light activities such as clothing and textiles to the heavier activities dominated by
multinationals, such as chemicals, machinery, and equipment, both light and heavy activities have
relied greatly on imported inputs. Finally, much of the growth in manufacturing multinational activity
occurred in the 1990s, after the final year of data.
22
Throughout this period, Mexican value-added has accounted for about 20–30% of gross
production, with imported inputs accounting for the remainder. Hence, VS as a share of maquiladora
exports has fluctuated between 0.7 and 0.8.
23
This is a lower bound for total VS because there is also VS originating from non-maquiladora
channels. For example, the U.S. International Trade Commission estimates that non-maquiladora
activity in 1996 led to an additional $8 billion of Mexican exports to the U.S. Assuming that the
imported input content for these exports is about 80%, then VS exports for this activity is roughly $6.4
billion. Our 80% number is an informal estimate by Ralph Watkins, chief of the Minerals, Metals,
Machinery, and Miscellaneous Manufacturing division of the USITC. Added to our maquiladora VS,
the total VS share for 1996 would be 0.365. Assuming that an equal amount of this type of
non-maquiladora activity occurred the following year, then Mexico’s VS share for 1997 would be about
0.4.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
87
Table 1
World VS exports a
Set of countries
1
Countries’
share of
world exp
1970
1990
Growth in VS share
Contribution of VS exports
to growth in exports / GDP
0.60
0.63
2
VS share
of exports
0.165
0.211
Countries’
share of
world exp
0.74
0.82
VS share
of exports
0.180
0.236
28.4%
31.3%
30.1%
32.5%
a
Source: (merchandise) export data for 1970 and 1990 is obtained from UNCTAD, Handbook of
International Trade and Development Statistics. Set 1: includes 10 countries in OECD database1
Ireland, Korea, Mexico, and Taiwan. Set 2: includes column 1 countries1rest of Europe1other
emerging East Asia. Other emerging East Asia includes China, Hong Kong, Indonesia, Malaysia,
Singapore, and Thailand.
0.211 in 1990, a 28% increase over two decades.24 When we calculate the VS share
in 1990 using the initial-year export weights, we obtain 0.204. This implies that
86% of the increase in the overall 14-country VS share is due to increases in the
country VS shares, and 14% is due to increased export shares of the high VS share
countries, namely Korea, Taiwan and Ireland.25
24
We assume the VS share for Mexico and Taiwan in 1970 is 0.1 and 0.3, respectively. The Mexico
number is based on its 1979 VS share (0.1) and on Grunwald and Flamm (1985) p. 148. The Taiwan
estimate is based on Korea’s 1970 VS share. We also find that, for 1980, the VS share was 0.212.
Excluding oil, the VS shares are 0.136 in 1970, 0.160 in 1980, and 0.189 in 1990, suggesting a more
steady growth path.
25
In a second calculation, we add the rest of Europe and other East Asian emerging market countries
(China, Hong Kong, Indonesia, Malaysia, Singapore, and Thailand) to our 14 countries. The set of
countries in this expanded sample accounted for 82% of world exports in 1990. We assume that the VS
share for the rest of Europe, which includes the smaller countries such as Austria, Belgium, Ireland,
Luxembourg, Portugal, Spain, and Switzerland, have VS shares slightly lower than Ireland’s: 0.25 in
1970 and 0.3 in 1990. For the East Asian emerging market countries, inclusive of Korea and Taiwan,
we assume that the VS share is 0.25 in 1970 and 0.35 in 1990. We think it is likely that the other East
Asian emerging market countries have experienced even greater growth in their VS shares than Korea
and Taiwan did. For example, the two largest exporters in this group (not including re-exports from
Hong Kong and Singapore) are China and Malaysia. After China liberalized its tariffs on imported
inputs intended for production of export goods in the early 1980s, China experienced very rapid growth
in its VS. Data from Naughton (1996) indicate that China’s VS share of imports was about 0.25 in
1988; this rose to 0.41 by 1994. We do not have data on Malaysia’s VS shares, but Malaysia’s export
share of value-added in manufacturing rose from 0.52 to 1.91 between 1970 and 1990 (source: Bank
Negara Malaysia, Quarterly Economic Bulletin, various issues). It is likely that the near quadrupling of
the export share reflects a considerable increase in VS. Based on these assumptions, then, column 2 of
Table 1 shows that the world VS share of exports rises from 0.18 in 1970 to 0.236 in 1990, a 30%
increase. The above calculations focused only on VS. In a previous version of this paper, we also
provide calculations for an extended measure of VS that included imported capital inputs embodied in
exports and for VS1 for the 10 countries in the OECD database. With these additional numbers, we get
an overall estimate of the world vertical specialization share of overall exports in 1990 of about 0.3.
88
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
3.5. Linking VS growth to trade growth
We use growth accounting to address the sources of growth in overall exports
(as a share of gross output). We decompose exports into VS exports and other
exports (this is equivalent to decomposing exports into foreign value-added
embodied in exports and domestic value-added embodied in exports): 26
Xk,t
VS k,t
(Xk,t 2VS k,t )
D]] 5 D]] 1 D]]]],
GO k,t
GO k,t
GO k,t
(4)
where DZt 5 Zt 2 Zt 21 .
Table 2 presents the results for our OECD database (top panel) and for Ireland,
Korea, Mexico, and Taiwan (bottom panel).27 For most of the OECD database
countries and all four of the other countries, growth in VS accounts for more than
30% of export growth. In Canada and the Netherlands, roughly 50% of the growth
of exports is accounted for by growth in VS. For Mexico between 1979 and 1994,
and for Taiwan between 1961 and 1994, VS growth accounts for more than 50%
of export growth.
We also calculate the contribution of VS exports to world export / GDP growth
for our two world aggregates described above. Table 1 shows that, in both cases,
VS growth accounts for more than 30% of export / GDP growth between 1970 and
1990.
4. Nature of vertical specialization
Having examined the growth of vertical specialization, in this section we
provide decompositions that address two issues. First, how much of the variation
in vertical specialization over time and across countries is due to variation in
sectoral VS shares or variation in the sector composition of overall exports?
Second, what can we say about the geographic orientation of vertical specialization?
26
Strictly speaking, the imported input content of exports, or VS, is equal to the foreign valued-added
embodied in exports whenever there are only two stages of production. If there are more than two
stages of production, and if a country re-imports some of its own value-added to use as inputs into
other goods that are then exported, then foreign value-added is less than the imported input content of
exports.
27
In some cases we use GDP instead of gross output, due to lack of data. We draw our Taiwan 1961
VS number from Chenery et al. (1987, p. 217).
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
89
Table 2
Contribution of VS exports to growth in (merchandise) export share of (merchandise) gross output from
first to last year of sample a
Country
First, last
year
Increase in
export share
of gross output
Contribution
of VS share
(%)
Australia
Canada
Denmark
France
Germany
Japan
Netherlands
United Kingdom
United States
1968, 1989
1971, 1990
1972, 1990
1972, 1990
1978, 1990
1970, 1990
1972, 1986
1968, 1990
1972, 1990
0.06
0.08
0.17
0.11
0.09
0.03
0.10
0.15
0.07
16.2
50.9
30.8
32.4
22.2
6.1
48.2
31.7
14.1
Ireland
Korea
Korea
Mexico b
Mexico b
Taiwan
Taiwan b
1964, 1990
1963, 1993
1963, 1990
1979, 1997
1979, 1994
1981, 1994
1961, 1994
0.27
0.17
0.16
0.19
0.08
0.09
0.27
33.5
30.7
34.6
40.0
53.4
49.0
51.8
a
Source: authors’ calculations based on OECD Input–Output Database; Ireland Central Statistical
Office; Bank of Korea; INEGI, Mexico; Quarterly National Income Statistics in Taiwan Area, The
Republic of China; Directorate-General of Budget, Accounting and Statistics, Executive Yuan, Taiwan;
UNCTAD, Handbook of International Trade and Development Statistics, 1995; Chenery et al. (1987).
b
GDP used in place of gross output.
4.1. Decomposing variation in vertical specialization over time and across
countries
Following conventional ‘‘within’’ and ‘‘between’’ accounting, we decompose
changes in country-level VS shares into changes in sector VS intensity (the sector
VS share of sector exports) and changes in the sector composition of overall
exports. Recall that the country VS share is an export-weighted average of the
sector VS shares. The decomposition is given by
VS k,t
D]] 5
Xk,t
VS
OSD]]
*0.5*(v
X
k,i,t
k,i,t
i
1 vk,i,t 21 )
k,i,t
S
VS k,i,t VS k,i,t 21
1 (Dvk,i,t )*0.5* ]] 1 ]]]
Xk,i,t
Xk,i,t 21
DD
,
(5)
where VS k,t and Xk,t are total VS and exports for country k in period t, VS k,i,t and
Xk,i,t are country k, sector i VS and exports in period t, and vk,i,t is country k,
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
90
sector i’s share of total exports in period t. Each sector’s contribution is divided
into a contribution due to changes in the sector-level VS share (within), and a
contribution due to the changes in the sector-level export share (between). For
example, the decomposition tells us the contribution of the auto sector to Canada’s
overall VS share growth, as well as a breakout of the auto sector’s contribution
into growth in its vertical intensity and growth in its share of total Canadian
exports.
For expositional convenience, we add up all the sector contributions into a total
‘‘within’’ and a total ‘‘between’’ contribution. These results are given in Table 3.
We see that changes in vertical intensity across all sectors account for most of the
growth in overall VS share. Changes in the sector composition of overall exports
play a small role. With the exception of Japan, increases in vertical intensity within
sectors explain 73% or more of the increase in overall vertical specialization. We
also group the sector contributions into the broader chemicals, machinery, and
other industry categories; we find that, in every country except Australia and
Japan, machinery and chemicals accounted for three-quarters or more of the
growth in the VS share.28 These sectors contribute primarily through increases in
their vertical intensity.
We employ similar decompositions to assess whether cross-country variation in
VS shares is due to sector vertical intensity or sector export composition. In this
Table 3
Sources of growth in VS share of total exports a
Increase in VS share of exports
first year to last year
Australia
Canada
Denmark
France
Germany
Japan
Netherlands
United Kingdom
United States
a
0.022
0.070
0.007
0.060
0.012
20.024
0.032
0.057
0.049
Contribution of: (%)
Change in
sector
VS intensity
Change in
sector share of
overall exports
78.4
73.5
74.1
90.3
90.3
18.2
136.4
110.4
90.3
21.7
26.4
25.8
9.6
9.6
81.9
236.3
210.5
9.7
Source: authors’ calculations based on OECD Input–Output Database.
28
In Japan, the overall VS share declined. Chemicals and machinery VS shares grew, but it was not
enough to offset the decline in the ‘‘other’’ VS share. Results for Japan are then consistent with other
countries — vertical specialization in chemicals and machinery is growing, and accounting for a major
portion of overall VS share growth. Most of the VS share growth in Australia came from mining and
quarrying, and non-ferrous metals.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
91
exercise, we examine differences relative to a ‘‘representative’’ country, constructed by taking a simple average of sector vertical intensity and sector
composition over all countries.29 Table 4 presents the results. We again see that
differences in vertical intensity account for most of the cross-country variation in
VS shares. Differences in sector composition play a fairly minor role. However,
unlike in the growth decompositions, we do not find that the chemicals and
machinery sectors account for most of the cross-country variation in VS shares.
A direct comparison of Canada relative to the U.S. is instructive. In 1990,
Canada’s VS share, 0.27, was much higher than that of the U.S., 0.11. Our
calculations show that 99% of this difference is due to greater sector vertical
intensity in Canada. In particular, greater vertical intensity in the machinery
sectors accounts for three-quarters of the overall VS share difference, and greater
vertical intensity in the motor vehicles sector alone accounts for half.
Finally, we note that it is straightforward to derive from growth accounting
decompositions the result that a country’s VS share can grow even if its
intermediates share of trade is declining. We illustrate this for the United States;
for convenience we examine VS and intermediates trade as a share of imports.
Based on our input–output tables, between 1972 and 1990, U.S. intermediates
goods imports as a share of total imports fell from 0.51 to 0.37. But VS as a share
of imports rose from 0.046 to 0.080. The VS share rose because exports increased
in sectors that intensively use imported intermediates and because the sectors with
high exports increased their share of total imported intermediates. Performing a
Table 4
Sources of cross-country differences in VS share of total exports (final year)a
Difference between VS share and VS
share of representative country
Australia
Canada
Denmark
France
Germany
Italy
Japan
Netherlands
United Kingdom
United States
a
20.108
0.051
0.077
0.020
20.024
0.049
20.110
0.150
0.039
20.112
Contribution of: (%)
Difference
in sector
VS intensity
Difference in
sector share
of total exports
52.4
86.1
85.3
70.9
134.2
68.1
92.1
88.3
83.7
103.8
47.5
13.8
14.7
29.1
234.2
31.9
7.9
11.7
16.3
23.8
Source: authors’ calculations based on OECD Input–Output Database.
29
If we had used an export-weighted or GDP-weighted average, as opposed to a simple average, the
‘‘representative’’ country would have essentially been the U.S. and Japan.
92
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
decomposition similar to the growth accounting decomposition above, we find that
growth of the sector export / output shares accounted for 77% of the growth in the
VS share, with growth of the imported intermediate shares in the high export
sectors accounting for the remaining 23%.
The growth and cross-country decompositions deliver two main lessons.
Variation in sector VS intensity accounts for almost all of the overall VS share
variation over time and across countries. In most of the countries, the chemicals
and machinery sectors account for most of the VS share growth over time.
4.2. Vertical specialization: geographic orientation
Is vertical specialization, like most trade, primarily North–North, or is it
primarily North–South, as in U.S. trade with the Mexican maquiladoras? To
calculate the geographic orientation of vertical specialization we combine our
OECD database input–output data with bilateral trade data taken from the
Statistics Canada World Trade Database.30 We define the North as the OECD and
the South as all other countries. Table 5 presents our calculations for each country
using the initial year and final year of data. The vertical specialization orientation
numbers are quite similar to the overall trade orientation for these countries.31 For
both years, the most common geographic pattern of vertical specialization involves
North’s imported inputs being transformed into export goods destined for other
North countries. South–South vertical links are in general the smallest. Canada’s
vertical specialization is almost exclusively North–North, while Japan’s is split
evenly among the four origin / destination categories. Comparing the initial year to
the final year, we see that the only country to have a substantial decline in its
North–North vertical orientation is the U.S., which fell from 49 to 41%. The share
of total U.S. vertical specialization consisting of imports originating from the
South rose from 26 to 37%.
5. Conclusion
Much attention has been focused on the extent of international integration as
measured by the growing trade shares of output. In this paper, we identify and
document a deeper dimension to international integration involving the inter-
30
Details on this calculation are available from the authors on request. Our calculation requires the
assumption that all goods within a sector are homogeneous.
31
A rough comparison can be made by multiplying the northern share of trade in total imports and
exports. For the U.S., this figure is 38%, slightly lower than the N–N vertical specialization share. Were
there no differences in North versus South sector composition and their use in vertically specialized
goods, the geographic orientation of vertical specialization will exactly match the geographic
orientation of overall trade.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
93
Table 5
North–South distribution of VS a
Country
Partner VS as a % of total VS
Origin–destination
N–N
N–S
S–N
S–S
Initial year
Australia
Canada
Denmark
France
Germany
Italy
Japan
Netherlands
United Kingdom
United States
47.4
87.5
64.6
50.5
59.1
50.1
29.2
67.0
48.5
48.8
26.3
6.6
15.3
21.6
18.2
19.0
28.5
14.3
24.5
25.1
17.3
5.3
17.3
20.0
17.2
22.8
20.9
15.6
18.2
17.2
9.0
0.6
2.8
7.9
5.5
8.1
21.3
3.1
8.9
8.8
Final year
Australia
Canada
Denmark
France
Germany
Italy
Japan
Netherlands
United Kingdom
United States
43.1
86.0
72.4
62.1
61.4
56.3
29.8
69.5
66.1
40.7
27.5
5.5
12.6
17.3
15.8
16.9
24.9
9.7
17.2
22.6
17.0
7.9
12.9
16.2
17.9
20.5
23.2
18.5
13.3
22.6
12.4
0.6
2.1
4.4
4.9
6.2
22.2
2.3
3.4
14.2
a
Source: authors’ calculations.
connection of production processes in a vertical trading chain that stretches across
many countries.
Our primary measure of vertical specialization, VS, is the imported input content
of (or foreign value-added embodied in) exports. Our main data source is
input–output tables from 10 OECD and four emerging markets countries. Our
evidence indicates that, as of 1990, the VS share of merchandise exports for the
OECD database countries is 0.20. Smaller countries have VS shares as high as 0.4.
For our entire 14-country sample, we calculate that the VS share grew by about
30% between 1970 and 1990, and growth in VS exports accounted for 30% of the
growth in the overall export / GDP ratio.
Growth in VS intensities within sectors accounts for most of the increase in the
national VS shares. The chemicals and machinery sectors, in particular, contribute
the most to the aggregate increase. Finally, vertical specialization in the OECD
primarily involves other OECD countries — inputs from developed nations are
transformed and exported to other developed nations. A notable exception to this
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
94
pattern is the U.S., which has become more oriented toward developing countries
at the same time that vertical specialization has grown rapidly.
The next step in this research is to identify the forces that explain the growth in
vertical specialization and the changing nature of trade. One possibility is that
technological shocks have led to the fragmentation of production across different
locations. These shocks may include changes in production technique such as an
increase in the number of production stages (see Deardorff, 1998; Jones and
Kierzkowski, 1997), or shocks that make it easier to separate existing stages of
production. For example, the sequential nature of vertical specialization suggests
that oversight and coordination of production are important. Improvements in
communications technologies (faxes, e-mail, videoconferencing) and sharp declines in the costs of information transmission have made it easier for firms to
coordinate and monitor production in diverse locations. These technological
developments may also be tied to the increasing importance of foreign direct
investment, which has grown faster than international trade in recent decades.
Multinationals themselves may play an integral role in the vertical specialization
process, as they allow production to fragment across countries while it remains
internal to the firm.
A second possibility is that reductions in the cost of moving goods have driven
the increase in vertical specialization. Tariffs and transportation costs penalize a
good produced sequentially in multiple countries each time the good-in-process is
shipped to another country. Hence, reductions in these barriers yield a multiplied
reduction in the cost of producing a vertically specialized good. This intuition is
clearly related, but not identical, to the effective rate of protection concept.32
For concreteness, consider the following extreme example. A vertically specialized good is produced (under perfect competition) in N sequential stages with each
stage produced in a different country. The first stage is produced with value-added,
but each succeeding stage has infinitesimally small value-added. In this case, the
cost of the final good will be P 5 (1 1 t )N P1 , where P1 is the price of the first
stage. A one percentage point reduction in tariffs leads to an N percentage point
decline in the price of the vertically-specialized final good. Exports of vertically
specialized goods thus increase relative to exports of goods which cross only one
border.33 This effect can be seen in the anecdotal and case study evidence linking
the formation of regional trading blocs to increased vertical specialization. For
example, Mexico’s maquiladoras resulted from changes in trade laws specifically
designed to enhance vertical specialization. Imported inputs from the U.S. are not
subject to Mexican tariffs as long as they are used in the maquiladoras, and only
32
The modern, theoretically consistent and general approach to effective rate of protection owes
much to Jim Anderson. See, for example, Anderson (1998).
33
In a previous version of this paper, we developed an extension of the Dornbusch et al. (1977)
Ricardian model that generates the two effects discussed above.
D. Hummels et al. / Journal of International Economics 54 (2001) 75 – 96
95
the Mexican value-added is subject to U.S. tariffs when maquiladora goods are
exported back to the U.S.34
Investigating the relative importance of these two hypotheses, technological
shocks and trade barrier reduction, in driving the increase in vertical specialization
is an important task for future research.
Acknowledgements
We thank the editor and two anonymous referees for very helpful suggestions.
This paper is a revision and extension of ‘‘The Growth of World Trade’’ by Ishii
and Yi (1997). Since then, the authors have benefited from comments by Jim
Anderson, Marianne Baxter, Don Davis, Paul Evans, John Fernald, Raquel
Fernandez, Caroline Freund, Jess Gaspar, Jim Harrigan, Jane Ihrig, Boyan
Jovanovic, Chinhui Juhn, Bob King, Narayana Kocherlakota, Ayhan Kose,
Michael Kouparitsas, Robert E. Lipsey, Dana Rapoport, and Lucinda Vargas as
well as seminar participants at Brandeis University, New York University,
University of Kentucky, Ohio State University, University of Virginia, Duke
University, University of North Carolina, Federal Reserve Bank of Philadelphia,
University of Toronto, Queen’s University, University of Chicago GSB Brown
Bag, 1997 NBER Summer Institute, the 1998 Winter Econometric Society
Meetings, and the 1999 SED meetings. The authors thank Josh Greenfield, Rema
Hanna, Stefan Papaioannou, and Dana Rapoport for outstanding research assistance. The views expressed in this paper are those of the authors and are not
necessarily reflective of views at the Federal Reserve Bank of New York or the
Federal Reserve System.
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