How firms export: Processing vs. ordinary trade with financial frictions

Abstract

The fragmentation of production across borders allows firms to make and export final goods, or to perform only intermediate stages of production by processing imported inputs for re-exporting. We examine how financial frictions affect companies' choice between processing and ordinary trade -implicitly a choice of production technology and position in global supply chains -and how this decision affects performance. We exploit matched customs and balance-sheet data from China, where exports are classified as ordinary trade, import-and-assembly processing trade (processing firm sources and pays for imported inputs), and pure-assembly processing trade (processing firm receives foreign inputs for free). Value added, profits and profitability rise from pure assembly to processing with imports to ordinary trade. However, more profitable trade regimes require more working capital because they entail higher up-front costs. As a result, credit constraints induce firms to conduct more processing trade and pure assembly in particular, and preclude them from pursuing higher value-added, more profitable activities. Financial market imperfections thus impact the organization of production across firms and countries, and inform optimal trade and development policy in the presence of global production networks.

Firm heterogeneity, market choice and productivity: Evidence from foreign‐owned enterprises in China

“…Specifically, firms undertaking assembly exports enjoy zero tariffs in China (Yu, ), implying that the productivity threshold for assembly exports is lower than that for ordinary exports. Dai, Maitra, and Yu () and Manova and Yu () have highlighted that firm characteristics might differentiate processing exporters from non‐processing exporters in China. Pooling these two distinct export types, as in the studies conducted by Lu et al.…”

Exchange rate risk and trade mode choice in processing trade: Evidence from Chinese data

“…Thus, these studies argue that financially constrained firms are more likely to be affected by exchange rate fluctuations. As Manova and Yu () show, assembly firms in China are more likely to be financially constrained. Thus, they have incentives to mitigate the impact of exchange rate fluctuations.…”

“…These studies argue that foreign firms prefer internalization (the PA mode) because the ownership of inputs is a source of power when contracts are incomplete. Other studies use financial constraints (Manova & Yu, ) to explain the choice of processing trade mode from the perspective of assembly firms. These works find that limited access to capital prevents assembly firms from upgrading from the PA mode to the IA mode.…”

“…Assembly firms thus bear relatively more exchange rate risks under the IA than the PA mode. Manova and Yu () show that assembly firms engaged in the IA mode obtain higher value‐added and profits, while financial frictions limit their abilities to pursue those. In this study, we are interested in whether the exchange rate risk would be another barrier for assembly firms to be engaged in the IA mode.…”

The global value chain under imperfect capital markets

“…Based on Antràs and Chor's () empirical framework, I incorporate a country's financial development into the regression equation; I find that multinationals are more likely to integrate downstream input suppliers in countries with weak financial institutions when the production process is sequential complements. In this regard, my analysis is most closely related to that of Manova and Yu (), who use matched customs and balance‐sheet data from China to study how financial frictions affect firms' position in global supply chains. More recently, using a unique Italian firm‐level data set, Minetti, Murro, Rotondi, and Zhu () find that financially vulnerable firms are more likely to participate in supply chains to overcome liquidity shortages.…”