Rejuvenating the Manufacturing Sector in ASEAN after COVID-19

Park BunSoon

Park BunSoon is a Professor of Economic Policy at the College of Public Policy, Korea University. He holds advisory positions to various government institutions including the Presidential Committee on New Southern Policy, the Ministry of Foreign Affairs and Korea Institute for International Economic Policy. Over the past 30 years, he has been dedicated to the study of Southeast Asian economy.

Impacts of COVID-19 on the ASEAN Economy

Almost a year has passed since the outbreak of COVID-19, and still the end is nowhere in sight. Rather, we are beginning to see signs of a resurgence of the virus as winter approaches. If this situation continues, the initial signs of recovery are likely to be offset as the global economy plunges into yet a deeper recession. The coronavirus crisis has been especially hard on countries that pursued neoliberal policies and emphasized market mechanisms such as the United States. Within individual countries, the most affected were those with low-income and limited access to healthcare. Similarly, among ASEAN Member States (AMS), where governments played a bigger role, such as in Thailand and Vietnam, the number of infections and deaths were kept low. But in countries where government responses were relatively less efficient, such as in the Philippines and Indonesia, there were over 350,000 confirmed cases and more than 10,000 deaths as of October 20.

Taking a step back to pre-COVID-19, we can see two important phenomena taking place in the ASEAN economy. One is that for the past 10 years, major ASEAN countries have been caught in the middle-income trap as a result of declining export competitiveness of their manufacturing sector. ASEAN is, no doubt, a major production base today. However, as globalization created oligopolies in the global electronics and automobiles industries, ASEAN economies have become largely dependent on such multinational companies for the development of these industries. Meanwhile, the region’s light industries faced tough competition against China’s overwhelming production capacity. The second phenomenon is the impact of US-China tensions and trade conflict on the ASEAN economy. Some multinational corporations are relocating their production facilities to the ASEAN region in response to the US-China trade war. At the same time, China is also increasing its investment in ASEAN as a potential alternative market.

It is in this context that the COVID-19 broke out, shrinking ASEAN’s exports and discouraging investments by multinational companies. To make things worse, the world-wide imposition of travel restrictions inflicted tremendous damage on countries like Thailand, the Philippines, and Cambodia that are heavily dependent on the tourism sector for foreign exchange earnings and job creation. As a result, all countries in ASEAN-both those with high number of infections and those that were successful in containing the spread-are experiencing economic downturns.

The governments of the AMS have been expanding fiscal spending in an attempt to prevent weakening of corporates and financial sectors from sluggish trade and investment. However, as production continued to decline and unemployment continued to rise, the economy deteriorated rapidly. According to a report published by the Asian Development Bank (ADB) in September 2020, the GDP of the AMS are forecast to decrease in 2020 compared to the previous year. The ADB also projected that the region’s major economies would record negative growth: Indonesia -1.0%, Malaysia -5.0%, the Philippines -7.3%, and Thailand -8.0%. Vietnam will be able to manage positive growth, but the rate will drop from 7.0% in 2019 to 1.8%. Overall, the AMS will record relatively high growth rates in 2021 mainly on the back of a low base effect. But, even then, the economies of the Philippines, Singapore and Thailand will find it difficult to recover to the 2019 levels.

Meanwhile, the COVID-19 will also exacerbate the socio-economic divide in societies. Because the manufacturing sector was unable to create many new jobs in countries like Indonesia, the Philippines and Thailand, many people continue to work in the informal sectors. As the effects of the pandemic further marginalize the workers in the informal sectors, societies are becoming increasingly polarized which can lead to social and political unrest. Just like the calls for political reform in Thailand, there will be more and more demand for change to address the socio-economic gap. And as societies become increasingly restless, this will, in turn, have a negative impact on the economy.

Rejuvenating the Manufacturing Sector will be Key to Overcoming Recession

So then, what should the AMS do to restore the region’s economy after the end of COVID-19? Revitalizing sluggish trade caused by disruptions in the global value chain; boosting consumer demand depressed by businesses closures; travel restrictions and income decline; and preventing default in the corporate and financial sector will be some of the more important policy tasks for the AMS. ASEAN will also make efforts to join the global pursuit of the 4th Industrial Revolution (4IR) innovation. Recognizing the importance of narrowing the socio-economic gap for sustainable growth in the mid- to long-term, governments may also make policy efforts in this regard. What needs to be made clear is that the current economic challenges faced by the AMS are not necessarily the result of the COVID-19. Rather, the ASEAN economy had weakened gradually over the last decade or so, to which the pandemic has dealt a decisive blow. In this sense, ASEAN must move away from a short-term way of thinking and tackle the root cause of the problem with a mid- to long-term perspective.

ASEAN needs to focus most of its attention on rejuvenating the manufacturing sector in the wake of the COVID-19. Digital economy, no doubt is important. But just as the IT software industry, despite its importance in the economy, could not become a major driver of growth in India, the digital sector in the ASEAN region will not be ready to lead the economy in the aftermath of COVID-19. The 4IR and transformation to a digital economy requires a gradual process of creativity and innovation. And in view of the present stage of political and social development of some countries in the ASEAN region, creativity and innovation may take some time until fruition. The service sector, including tourism, financial and health services, can play an important role in restoring the economy, but again with the exception of Singapore, it is difficult for the service sector to be the leading industry in countries with large population.

Since 1980, the ASEAN economy suffered from negative external shocks on several occasions. The first such shock was the impact of global stagflation in the early 1980s that followed the Second Oil Crisis of 1979. The economies of oil importers such as Thailand and the Philippines were the first to feel the downturn. Soon after, export-driven economies such as Singapore and Malaysia were affected. By 1985, Singapore, Malaysia and the Philippines fell deep into recession and were posting negative growth rates. But just as the crisis originated from the outside, opportunity for recovery, too, came from outside the region. In September 1985, developed countries in the West signed the Plaza Accord to appreciate the value of the Japanese Yen in relation to the US dollar. A strong Japanese Yen subsequently led to a burgeoning influx of Foreign Direct Investment into ASEAN countries. Taking full advantage of this opportunity, countries in the region shifted their growth strategies from import-substitution to export-led industrialization policies. By mid-1990s, countries, such as Malaysia, Thailand and Indonesia, based on investments made by multinational corporations, were well established as the world’s major export manufacturing hubs.

The second external shock, and one which had the greatest impact on ASEAN’s economic structure as we know it today, was the 1998 Asian Financial Crisis. A decade of rapid economic growth following the Plaza Accord led to a bubble economy in Southeast Asia and a large current account deficit. As China entered the global market, the export growth rates of Thailand, Indonesia and Malaysia began to slow down, and with a weak financial system, the currencies of these countries began to nosedive. Four out of five AMS-all except Vietnam--registered negative growth in 1998. But the devalued currency allowed the AMS to expand trade which once again helped the region overcome the crisis.

The third economic crisis arrived with the burst of the dot-com bubble in 2001 and the Global Financial Crisis in 2009. The collapse of the dot-com bubble, which began in the US, gave a blow to exports in the IT sector, especially the export of semi-conductors, which depended on the US market. As a result, Singapore and Malaysia experienced negative growth. During the 2009 Global Financial Crisis, ASEAN’s combined exports declined by more than 17%. The economies of Malaysia and Thailand that where highly dependent on external demand suffered negative growth. The impact from the dot-com crash was soon resolved as China’s demand for imports soared. China had joined the World Trade Organization in 2001 and soon after became the “factory of the world.” The country began to expand import of natural resources which fueled the global natural resources market. The AMS were able to export natural resources and electronics components to China and thereby overcome the dot-com bubble crisis. ASEAN countries were also able to shake off the effects of the Global Financial Crisis at an early stage as the region’s exports soared by more than 29% in 2010. In sum, the exponential growth of exports vis-a-vis China allowed ASEAN to quickly pull out of the economic morass.

As such, the trajectory of ASEAN economies reveals that export is key to overcoming crises caused by external shocks. Indeed, the rapid growth of the early members of ASEAN until the mid-1990s and Vietnam’s rapid growth after 2010, were all driven by expanding trade and export. But, for the past 20 years, regardless of the effects of COVID-19, the region’s export growth rate and dependence on exports has declined. Because domestic markets of individual AMS are not big enough for growth to be driven by domestic demand, declining export dependence becomes a cause for slowdown in growth. In other words, if the AMS are to rebuild the region’s economy in the wake of COVID-19 and secure growth engines for the long-term, the region needs to increase its exports by rejuvenating the manufacturing sector. This is the only way to prevent a premature de-industrialization that is currently taking place in the region and pull the economies of the AMS out of the middle-income trap.

ASEAN-Korea Cooperation-the Way Forward

Having said the above, however, the challenges facing the manufacturing sector of the AMS are multi-faceted and are not easy to solve. The electronics sectors of Singapore and Malaysia appears to be losing their competitive edge. The automobile industries of Thailand and Indonesia, which are emerging as major drivers of export, rely largely on multinational corporations. Exports of Myanmar and Cambodia are over-concentrated in the garments sector. Vietnam is rising as a strong manufacturing country, but most of the production is led by multinational corporates. Even if multinationals are relocating their production facilities to the ASEAN region due to rising production costs in China and strains from the US-China trade war, China will continue to remain a huge market for many of these companies. Also, because of the underdevelopment of competitive small and medium-sized enterprises (SMEs) in the ASEAN region, import of components and intermediate goods from China, will increase for the time being.

The AMS will need to adopt a diverse set of policies in order to rejuvenate the manufacturing sector. First, countries need to build innovative indigenous companies. Currently, the industries with big markets, such as electronics and automobiles, are run by multinational companies. It would be difficult for a local company to take lead in one of these bigger industries right away. For this reason, governments need to nurture industries run by innovative local companies in various sectors. Currently, competitive companies in ASEAN are only witnessed in the agribusiness sector. Korea has experience in developing its manufacturing sector beginning with the light industries (shoes, plywood, textiles) then moving on to high-tech areas including electronics, automobiles and information technology. Partnerships with Korean companies for technical cooperation can greatly contribute to developing ASEAN’s own technology-based companies. The Korean government should also increase technical cooperation with ASEAN under the New Southern Policy.

A competitive manufacturing sector requires competitive businesses in materials, components and intermediate goods. A strong components sector is indispensable to building a competitive assembly industry. But because most of the assemblies in the AMS are currently operated by multinational corporates, parts and materials are usually imported from the parent companies or from home countries of the multinationals. Even when the parts and intermediate goods are purchased locally, in most cases they are supplied from companies invested by those that are part of the supply network of the investor country. Therefore, there is a need to nurture the supporting industry that can supply components and intermediate goods to the local assembly manufacturers.

It must be noted however, that the components and intermediate goods sector in China is quickly growing, and parts produced in China are being fed into the assembly lines in the ASEAN region. In fact, ASEAN’s imports from China have long exceeded China’s imports from ASEAN. If Chinese makers of components and intermediate goods, in search of new markets due to US-China tensions, make inroads into the ASEAN market, the AMS’s chances of fostering the components and intermediate goods sector will only get slimmer. Therefore, how the AMS develops their indigenous parts and intermediate goods industries and differentiate them from that of China will be important. This will determine whether ASEAN SMEs can be more integrated into the regional and/or global value chains. Here again, Korean parts and materials companies’ investment in ASEAN can contribute to fostering the parts and intermediate goods sector of the AMS. Investments, capital contributions to existing ASEAN companies and technological partnerships along with transfer of business and technical know-how by Korean companies can be a win-win formula for both sides. Also, Korean assembly manufacturers in the ASEAN region need to contribute to nurturing local producers of parts and components and increase local supplies in their assemblies. As such, Korea companies need to take more interest in and support improvements in technology and productivity of the components and intermediate goods sector in ASEAN.

Another way of rejuvenating the manufacturing sector is by combining the traditional manufacturing industries with information technology. Digitalization of the manufacturing sector is quickly transforming the industrial landscape. The world economy is transforming rapidly into a digital economy, and Korean companies are highly competitive in this respect. While many AMS are emphasizing digital economy and are developing smart cities, these initiatives do not seem to be connected, in essence, to the development of the manufacturing sector. In designing new business models that combine manufacturing with information technology, Korea can contribute the technology, infrastructure and know-how, while the AMS can provide information regarding the market including local demand. With joint efforts, I believe Korea and ASEAN can discover and foster new and high value-added industries.

The views and opinions expressed in the above article are those of the author and do not necessarily reflect the official policy or position of the ASEAN-Korea Centre.