Sithanonxay Suvannaphakdy and Pham Thi Phuong Thao discuss key challenges facing ASEAN in promoting digital supply chains amid the shift of multinational corporations’ (MNCs) operations to the region.
This is an adapted version of an article from ASEANFocus Issue 2/2022 published in September 2022. Download the full issue here.
The COVID-19 pandemic, growing geopolitical tensions in the wake of trade disputes between the US and China, and the Russia-Ukraine war have further increased the risk of global supply chain (GSC) disruptions and forced firms to strengthen the resilience in their supply chains and operations. GSCs are the assembly lines that deliver goods for final consumption. The McKinsey Global Institute estimates the economic impact of the pandemic at US$30,000 billion or 35.2% of global gross domestic product (GDP) in 2020, and the economic impact of the US-China trade dispute at US$200 billion or 0.2% of global GDP. The possibility of GSC relocation to strengthen supply chain resilience presents ASEAN with an opportunity to attract more foreign direct investment (FDI) and advance the region’s economic integration into the GSCs.
The World Bank’s MNC survey in September 2020 shows that more than 80% of MNCs — firms that conduct direct business activities and own assets in at least two countries — faced a net income decline by an average of 37%. During the pandemic, three in four MNCs experienced a decline in supply chain reliability, limiting access to raw and intermediate inputs essential to production. They have responded to uncertainties by diversifying suppliers (37% of MNCs), establishing new production sites (18%), and shifting production closer to consumers by nearshoring or reshoring (14%). Rising energy prices caused by the Russia-Ukraine war increases transportation costs, reinforcing MNCs’ incentive to relocate their production sites closer to consumers.
MNCs’ decisions to relocate their production sites or to establish new ones are affected by both economic and non-economic factors. A key trade-off in the GSC resilience involves the diversification of risks versus lower production costs and higher quality inputs, which are sourced in markets with niche expertise. Some products such as furniture, textiles, apparel, transportation equipment, electrical equipment, computer, and electronics have relatively low additional cost in diversifying suppliers and production sites since the technology used in these industries are not very complex and not subject to large-scale economies.
In contrast, the geographical shift of production sites of advanced manufacturing products such as semiconductors, pharmaceuticals, and automobiles would be largely driven by non-economic factors such as national security and self-sufficiency. These products require substantial investment in the establishment of new production plants and are technology-intensive, given that there are only a few suppliers in the world.
For example, the US government recently announced a plan to invest US$52 billion in the chip industry to build more factories in their country due to a global semiconductor shortage over the past two years. While many advanced chips are designed by the US, 78.1% of them are manufactured in Asia-Pacific countries, especially in mainland China and Taiwan (36.4%), the Republic of Korea (ROK) (18.0%), and Japan (17.6%). Establishing a new semiconductor fabrication plant can cost US$10 billion or more and requires specialised suppliers and contractors. The recent surge in demand for chips — fuelled in part by the demand for more laptops and cars — did not lead to more chip fabrication plants because it would take years to construct a new factory, and the sunk cost of building such a factory would not be sufficiently recovered over a short period of time as demand could subside.
The expansion of MNCs’ business activities across borders is primarily in the form of FDI through the establishment of subsidiaries in foreign countries. The number of MNCs has increased rapidly from roughly 7,000 parent MNCs in 1970 to 38,000 in 2000 and more than 100,000 in 2011. An analysis of 2,188 top global MNCs by revenue in 2020 reveals that 62% of them originated in five countries, namely the US (33%), Japan (12%), China (10%), the UK (5%), and India (4%). These MNCs have 216,898 subsidiaries, 54% of which are located in the US (28%), the UK (9%), China (8%), Germany (4%), and France (4%).
ASEAN is increasingly becoming an attractive destination for foreign investors, especially those from the US and China. Even before the COVID-19 outbreak, MNCs had already begun to diversify their supply chains beyond China, owing to tariffs arising from the US-China trade tensions. China’s GoerTek was the first of Apple’s leading equipment suppliers that shifted its production to Vietnam. US’ Google and Japan’s Sharp also decided to move the Pixel smartphone and computer production to Vietnam to avoid US tariffs. Panasonic later joined this relocation trend by shifting its auto stereo production from China to Thailand.
The pandemic has reinforced this trend. ASEAN countries are gradually reopening their borders, dropping or loosening quarantine and testing requirements, and easing domestic restrictions. While 16% of European firms are considering to relocate to Southeast Asia, 53% of US firms would reduce investments in China if COVID-19 controls persist in the coming year. For example, German automotive supplier Brose is considering Thailand and Vietnam as new production locations and Demark’s Logo has announced to build a new factory in the South of Vietnam.
FDI inflows into ASEAN rose from US$113.4 billion per annum or 7.8% of global FDI during the period 2010-2014 to US$155.1 billion per annum or 11.1% of global FDI during the period 2017-2021. Inward FDI strongly recovered from the pandemic with a growth rate of 43.6% in 2021 after a contraction of 30.2% in 2020. However, FDI inflows are unevenly distributed across ASEAN countries. 96.1% of ASEAN’s FDI inflows in 2021 were concentrated in six ASEAN countries, namely Singapore (56.6%), Indonesia (11.5%), Vietnam (8.9%), Malaysia (6.6%), Thailand (6.5%), and the Philippines (6.0%). The remaining 3.9% were accounted by Cambodia (2.0%), Myanmar (1.2%), Laos (0.6%), and Brunei (0.1%). The top-5 sources of ASEAN’s FDI inflows are Japan (12.1%), the US (12.0%), China (7.7%), Hong Kong (7.2%), and the ROK (4.3%).
Promoting global digital supply chains in ASEAN in the post-pandemic years requires ASEAN as a group to create a greater coherent regulatory framework on cross-border data flows to enhance the digital connectivity both within and outside the region. Enabling and safeguarding cross-border data flows are essential to enhance digital supply chains, which will allow real-time monitoring and traceability. The World Bank’s MNC survey reveals that 58% of global MNCs have turned to digital technologies (e.g. data science applications, automation of tasks and processes, and the internet of things) to optimise production capacity, maintain inventory, and manage logistics.
However, an analysis of 31 regulatory elements on cybersecurity and data protection using data from the World Bank’s Global Data Regulation Diagnostic Survey in 2021 revealed that ASEAN has under-regulated data safeguards. It has moderately developed a regulatory framework for safeguarding cybersecurity and non-personal data. At the same time, ASEAN is still at an early stage in developing a regulatory framework for protecting personal data. Under-regulated cybersecurity increases the risks of cyber threats and reduces foreign investors’ confidence in the digitalisation of their supply chains.
Strengthening cross-border data safeguard measures should be built on the existing regional trade agreements, such as the Regional Comprehensive Economic Partnership (RCEP) and the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP). This can reinforce the role of consensus-based standards with commitments to develop and use international standards where available. Such standards should be used to create domestic regulations on data security and cybersecurity requirements for data controllers and processors. Greater coherence of a regulatory framework on data flows across RCEP and CPTPP member countries should reduce the uncertainty, compliance costs, and complexity of data sharing and data safeguard measures, which would facilitate the digital supply chain management within ASEAN and between ASEAN and its key trade and investment partners.
Sithanonxay Suvannaphakdy was Lead Researcher (Economic Affairs) at the ASEAN Studies Centre, ISEAS – Yusof Ishak Institute.
Pham Thi Phuong Thao is a Senior Research Officer at the ASEAN Studies Centre, ISEAS - Yusof Ishak Institute.