Letter: Diversification via global value chains

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Dear Sir:

Trinidad and Tobago’s minister of energy, Mr Franklyn Khan, made an interesting statement in the Budget debate in Parliament to the effect that the return on the refining of crude oil to gasoline, etc. is based on the margin between the refined products and crude oil prices and then on operating costs. Hence, this makes little or no money compared with trading in refined products – buying, distributing and selling.

Hence he expects that replacing the local Petrotrin refinery operation by the selling of crude on the world market and establishing a trading company for refined products would be more lucrative than Petrotrin’s past business model.

This view is supported by the Solomon Report (submitted to Petrotrin), which had this to say on one of its clients:

“…blending of natural gasolene into finished products provided a profit opportunity that exceeded the total profit actually recorded for the year. In other words blending natural gasolenes makes money but processing crude lost money – focus on what is important to profit.”

This was said in the context that Petrotrin, in simply refining crude, was ignoring gasolene scheduling/blending optimisation, whereas blending could also be a separate profit centre.

But the separation of the production tasks has been accelerated by the globalisation of industries where previously one company found itself domiciled entirely in its home country and all of its tasks to get the product to market were localised. However, globalisation, and in particular since the 1990s, has allowed these tasks to be located in different countries, with the ICT technologies making this distribution of ideas and technology, and the management and control of the offshore plants easy.

In particular the physical manufacture/production task, normally labour intensive, is usually assigned to the developing countries to benefit from lower labour costs and even location of commodities, while the developed nation partner looks after that part of the manufacturing that can be highly automated, market development, marketing and sales, R&D and innovation.

Since the outsourced production plants benefit from lower costs these tasks have lower value and are now at the bottom of the reward structure of the global value chain. Hence, as Minister Khan suggests, the money is made in marketing, buying, distribution and selling of the refined products.

Still, the developing countries can benefit from the devolution of tasks, the locating of plants in their country, if they understand that the spillovers from these plants using in-country R&D and investment can encourage new innovative companies that can export competitively in the global market. Hence, the country’s value chain does not have to be built completely in the local environment. This can be jump-started by joining a global value chain and building a national innovation system while earning foreign exchange.

The Pt Lisas petrochemical complex in Trinidad was built and the intent was to supply the basic materials that the local private sector could use to build export companies. These petrochemical plants were sold in general to foreign investors but without the supporting institutions there were no spillover benefits into the local economy, though these plants became parts of global value chains. The same can be said about the whole of the country’s energy sector.

We are entering another stage of government using foreign direct investments and foreign loans to build local industrial entities. The question remains as to whether these investment as parts of global value chains can be used to generate spillovers and so encourage our economic development.

What is most interesting is that whomsoever one talks to about diversification you are referred to the government as to what are their plans and initiatives – even the UNC, the current opposition party, is talking about having a diversification plan. Diversification is about investment in the establishment of globally competitive companies. Normally this investment and hence company establishment are in the domain of the private sector.

To date our private sector has abdicated this responsibility to diversify the economy and excuses itself by claiming it has not been given the incentives to take this risk. As long as the rents from the energy sector keep flowing the private sector will continue to exploit the onshore market in low risk and lucrative trading.

Many incentives in the past have gone a begging since the risks were not worth taking given the available rents. Indeed, there is talk today that our private sector is suffering because of the shortage of foreign exchange. The government is being blamed for this (the recent Budget is being criticised since this was not addressed) and this shortage itself is not seen as an incentive to the private sector to try exporting given the nature of our small and open economy that needs foreign exchange to survive.

One would have expected that with the new globalisation the private sector would have sought to join at the production stage global value chains. Possibly Prof John Foster, of the University of Queensland, Australia, is correct – the history of our private sector has made it unable to adapt to these new demands.

Mary K King
St Augustine
Trinidad

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