A report published this week reveals that the reduction of certain supply chain and logistics barriers could have the potential to increase GDP and world trade significantly more than would eliminating all import tariffs on their own.

The report, ‘Enabling Trade: Valuing Growth Opportunities’, suggests that governments, together with manufacturing and consumer goods industries, could greatly boost trade and job creation by removing more physical, administrative and informal impediments to international trade. These measures would include the loosening of regulations that limit market access, automating and simplifying customs administration (including a switch to electronic customs processing), and improving transport and telecommunications infrastructure.

“Supply chain barriers are more significant impediments to trade than import tariffs,” said Bernard Hoekman, director of the World Bank’s International Trade Department and chair of the Forum’s Global Agenda Council on Logistics and Supply Chains. “Lowering these barriers will reduce costs for businesses, and help generate more jobs and economic opportunities for the people.”

Furthermore, the report highlights that although logistics might represent a smaller portion of costs than labour, for example, the performance of the total supply chain has the potential to reach a “tipping point” in which one country’s labour or capital expenditure advantage could be outweighed by the costs added to the supply chain by inefficiency and inventory costs in areas such as customs borders, ports and warehouses. Both global industry as well as policymakers need to learn to think in terms of the “whole of the supply chain”, says the report.

The report, released by the World Economic Forum, which is now underway in Davos, was written in collaboration with the World Bank and the consultancy Bain & Company. It is based on previous World Bank reports and data, including its annual ‘Doing Business’ report and biannual ‘Logistics Performance Index’ (LPI), along with significant participation from the manufacturing and consumer goods industry. While the automotive sector is not discussed in specific examples, a great many of the finding and case study examples, from corrupt practices in Russian customs, to security risks and transport delays in exporting from Mexico, will be familiar to automotive supply chain executives.

The big bang from removing supply chain barriers 

What could be significant to both policymakers and senior executives in all sectors that rely on a global supply chain, including automotive, is the report’s assertions about the scale of economic significance that supply chain best practice could represent. According to the report’s authors, if all countries reduced supply chain barriers half way to global best practice – represented by Singapore in the World Bank’s ‘Ease of Doing Business’ and LPI surveys – global GDP could increase by 4.7% and world trade by 14.5%. By comparison, completely eliminating tariffs could increase global GDP by 0.7% and world trade by 10.1%.

Furthermore, the report points out that the potential economic improvements to be had by removing supply chain barriers would be more balanced and evenly spread across countries and consumers in both developing and developed markets. That is because the smoother movement of goods means lower transport and inventory costs, benefitting manufacturers and consumers directly, rather than the “reallocation of resources” that occurs with the elimination of a trade tax or tariff.

The report’s study – which includes all merchandise trade except for oil and gas – shows that the countries that would benefit most by improving logistics and supply chain performance are those currently ranked worst in LPI, including Sub-Sahara Africa (a projected 12% increase in GDP) and Southeast Asia (9.3%). GDP gains would also be significant in large emerging markets like China (7.6%), Russia (7.4%), Mexico (4.4%) and Brazil (3.6%).

By comparison, the gains projected in GDP for liberalising trade tariffs (removing all tariffs and tariff-rated quotas, export taxes and subsidies) would be weighted mainly towards the two countries with the most controls, in particular Russia (7.2% increase) and China (3.9%). At the same time, such reforms would bring GDP gains of only 0.6% or less to Sub-Sahara Africa, Southeast Asia, Brazil and Mexico.

The potential gains as a result of improving the movement of goods versus lower trade tariffs would be more significant for developed countries too, many of which are suffering from economic stagnation or recession. Whereas trade tariff liberalisation could lead to GDP growth of 0.1% in the US and Canada, and 0.2% Japan and in Europe, the projected benefit for removing supply chain barriers in those three regions would be 2.8%, 2% and 4.5%, respectively.

Policy recommendations: a new approach to trade negotiation
The report’s findings on the benefits of improving logistics performance compared to removing tariffs throws into question the focus that many national government and supra-national trade blocs, such as the EU, have put on negotiating lower tariffs and free trade agreements. While the report does not deny the benefit to trade of these measures, the statistics suggest that governments would see more economic growth by concentrating on making global supply chains function more smoothly.

Considering the failure to reach an agreement on the Doha round of free trade talks, as well as the wide-ranging criticism, not least from the automotive industry, over proposed or implemented FTAs between the US or EU with South Korea or Japan, a change in focus towards supply chain efficiency might be welcomed among global manufacturing and consumer industries, as well as logistics providers.

“Lowering tariffs does stimulate trade, but it pales in comparison to the economic growth seen when supply chain barriers to trade are reduced or eliminated,” writes Scott Davis, chairman and CEO of express provider UPS, in the report’s foreword.

The report makes a number of suggestions to policymakers, including the creation of national bodies within governments that would oversee all regulation directly related to supply chain efficiency. “Doing so will help the government ‘think supply chain’ in the design and implementation of border management, transport, trade facilitation and logistics-related policy,” says the report.

On an international level, the report recommends that governments negotiating trade agreements should take a “whole of the supply chain” approach rather than pursuing negotiations in separate silos. This would imply that logistics considerations would be brought directly to the negotiating table between nations or trade blocs, including cargo handling, storage, warehousing and other freight services. It also calls for an international effort to convert manual and paper-based documentation to electronic systems, such as for customs or for air freight.

An appendix to the report notes that failure to address these logistical operations and administrative considerations could be enough to offset the trade benefits in even wide-ranging free trade agreements such as NAFTA, according to Beatriz Leycegui, a senior fellow at the Autonomous Technological Institute of Mexico and former undersecretary for Foreign Trade of Mexico.
“A significant part of the benefits in competitiveness derived from tariff elimination under NAFTA have been offset by excessive delays at ports of entry between the US-Mexico and US-Canada,” she writes in the appendix report.

The report also suggests liberalising transport market access where it is restricted, such as in free skies agreements for air freight, as well as cabotage – the restrictions on foreign players on moving goods in a domestic market – for ocean shipping. In particular, the authors call for a loosening of the restrictions of the Jones Merchant Marine Act of 1920 in the US, which limits the movement of goods between American ports to vessels that are US-owned, US-crewed and US-built, as well as similar measures in China. The report assets that these restrictions in both countries mean that millions of containers and tonnes of merchandise moves by land that might otherwise move more cheaply and efficiently by sea.

Industry needs to give logistics its full weight
Alongside its policy recommendations, the report’s overriding message echoes the viewpoints of many automotive logistics executives that have been shared in this publication over the years, which is that supply chain and logistics efficiencies (or inefficiencies) are significant and need to be appropriately weighted into all sourcing and production decisions. But the report’s findings show that companies in general may not always give enough weight to those costs, many of which are hidden.

The report gives the example of a company that chooses to locate production in Mexico. Although labour costs were only 20% of those in the US, and capital investment costs about 10% lower, supply chain barriers had the potential to eliminate most of those differences. One example was the costs involved in the necessity of switching from Mexican to American trucks when entering the US (a restriction that was loosened in 2011 but which will still mandates the most expensive insurance premiums for Mexican drivers).

While most manufacturers would claim to be calculating ‘total landed’ or ‘total enterprise’ cost when choosing production or sourcing – not least in recent decisions to base future automotive assembly plants in Mexico rather than the US – the report suggests that, collectively, policymakers and industry leaders might not have appreciated the growth and productivity potential of an efficient supply chain. As the report highlights, the path towards realising this potential is not necessarily easy or cheap, requiring as they would international coordination and infrastructure investment. But they might be the best way to realise the real economic benefits of free trade.

A full version of the report can be found here.

Automotive Logistics will feature interviews and further insights from the authors of this report in the April-June issue.