metal-mechanic value chain in latin america - germano mendes

LATIN AMERICAN STEEL ASSOCIATION

ASOCIACIÓN LATINOAMERICANA DEL ACERO

Benjamín 2944, 5to piso • Las Condes • Santiago • ChileTel. [56-2] 233 05 45 • Fax [56-2] 233 07 68

[email protected]

www.alacero.org

@RedAlaceroAlacero

Metal-mechanic Value Chainin Latin America: economic relevance,opportunities and threats

by Germano Mendes de Paula, Dr. October, 2012

OBJECTIVE ..................................................................................................................................................................................................................... 3

METHODOLOGY ........................................................................................................................................................................................................ 3

SCOPE ................................................................................................................................................................................................................................ 3

1 > GENERAL CONCEPTS ............................................................................................................................................................................................. 4

1.1. INPUT-OUTPUT MATRIX ............................................................................................................................................................................ 4

1.2. METAL-MECHANIC VALUE CHAIN ...................................................................................................................................................... 4

2 > KEY CONCLUSIONS ................................................................................................................................................................................................. 5

3 > LINKAGE EFFECTS FROM THE METAL-MECHANIC VALUE CHAIN ....................................................................................... 6

4 > METAL-MECHANIC VALUE CHAIN’S MULTIPLIERS .......................................................................................................................... 10

5 > THREATS TO THE LATIN AMERICAN METAL-MECHANIC VALUE CHAIN .......................................................................... 14

6 > DE-INDUSTRIALIZATION IN LATIN AMERICA ...................................................................................................................................... 17

ANNEX 1 > INPUT-OUTPUT MATRIX ......................................................................................................................................................... 19

> CONTENTS

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OBJECTIVE

The general goal of this report is to analyze the economic relevance of the metal-mechanic value chain in Latin America and its impact on economy, employment, value added, tax collection, and other relevant variables.

METHODOLOGY

This study is based on two kinds of information:

a. Descriptive statistics: data on exports, imports and innovation (updated from 2011 study);

b. Input-output matrix: multipliers of production, value added, taxes, salaries and employment (new evidence) (see Annex 1).

SCOPE

This report looks into four Latin American countries: Argentina, Brazil, Colombia, and Mexico.

Local coordination of these studies was directed by:

• Argentina: Bernardo Kosacoff (University of Buenos Aires/UBA),

• Brazil: Claudio Considera (Federal Fluminense University/UFF),

• Colombia: Andrés Mauricio Ramírez Pulido (RAMIREZP Consultores & Asociados) and Juan Manuel Lesmes Patino (Colombia National Association of Entrepreneurs/ANDI)

• Mexico: José Luis de la Cruz Gallegos (Monterrey Technological Institute of Superior Studies/ITESM).

General coordination was conducted by Germano Mendes de Paula1.

National studies and this executive summary are of the exclusive responsibility of the authors and do not necessarily reflect Alacero or the members of its Board opinions.

This report summarizes key finding of «METAL-MECHANIC VALUE CHAIN IN LATIN AMERICA: ECONOMIC RELEVANCE, OPPORTUNITIES AND THREATS», developed at a request of Alacero (Latin American Steel Association), during the first half of 2012.

1 Germano Mendes De Paula is Professor of Economics at the Federal University of Uberlandia (UFU). Bachelor in Economics by UFU (1987). M.Sc. and Dr. Sc. Industrial and Technology Economics by Federal University of Rio de Janeiro (1992 and 1998). Visiting Research Fellow in Economics (Post-Doctor), Oxford University, UK (1999). Currently, he is a visiting scholar at Columbia University, USA. Since 1989, he is been focusing on worldwide iron ore and steel industry. Main publications: eight books (two as editor), 19 book chapters and 315 articles. He lasted book is entitled «Latin American Steel: a retrospective in 101 essays», which was published by Quartz Business Media, in UK, in 2012.

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2.1. INPUT-OUTPUT MATRIX

Information included in this report is based on the analysis of the input-output matrix of the analyzed countries. It considers the most recent available official version for each of them, updated using the RAS Method.

Input-output matrix is integrated by a system of linear equations that shows the interrelationships among different economic sectors and among these sectors and the final user of goods and services. The matrix allows estimating the repercussions of modifications to any of the variables that are part of the aggregated supply and demand (more information is available in Annex 1).

2.2. METAL-MECHANIC VALUE CHAIN

Metal-mechanic, as defined in this report, excludes steel products and its primary transformed products. Basically, the metal-mechanic chain is composed of four large industrial activities:

• Automotive and other transport industries.

• Infrastructure and construction sectors.

• Machinery and equipment production sectors.

• Durable consumer goods manufacturing sectors.

When foreign trade is considered, the metal-mechanic chain is defined within chapters 82 to 90 of the customs nomenclature:

• 82: tools and instruments, cutlery and silverware, in ordinary metal;

• 83: diverse manufactures in ordinary metal;

• 84: nuclear reactors, boilers, machines, mechanic appliances and artifacts;

• 85: machinery, electric materials and their parts;

• 86: vehicles, materials and other parts for railways or similar;

• 87: automobiles, tractors, cycles, other land vehicles, their parts and accessories;

• 88: planes, special vehicles and their parts;

• 89: vessels and other floating artifacts;

• 90: optics, photography and cinematography instruments and appliances.

1 > GENERAL CONCEPTS

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2 > KEY CONCLUSIONS

– Strong multiplier effect, when its indirect and induced impact on demand is considered.

– Strong multiplier of employment (3.8 to 6.2 times) and of value added (3.1 to 5.2 times), which is typical from a labor intensive sector.

• The main threat that metal-mechanic chain is facing today is the growing deficit of trade balance with China, which enlarged from US$8 billion in 2003 to US$48 billion in 2010 and to US$64 billion in 2011.

• Considering the four selected countries, it is clear that, for the metal-mechanic value chain, the commercial flow is unidirectional. In 2011, China exported US$66.6 billion to the four nations, but imported only US$2.5 billion.

• Based on the input-output matrix of each country, it was possible to quantify that every US$1 million of metal-mechanic products imports entails the loss of 10 to 12 direct jobs. When indirect and induced effects are taken into account, the employment loss raises up to 46 to 64 jobs for every US$1 million in imports of metal-mechanic products, pending the analyzed country.

• Summing up, the increasingly commercial deficit of metal-mechanic products in Latin America, in particular in its bilateral relation to China, has resulted in the loss of thousands of high quality jobs in the region.

• Latin America is going through a process of deindustrialization as indicated by the falling share of manufacturing in the region’s GDP. This process is even more intense in Brazil.

• Metal-mechanic value chain plays a central role in the analyzed economies as a whole:

– It represents nearly 16% of the industrial GDP.

– It shows high impact on total exports (57% of total Mexican exports are products of the metal-mechanic chain).

– It generates approximately 0.7 to 1.6% of salaries (direct effect) and 2.4 to 6% (when induced and indirect effects are considered)

– It creates high quality employment, because of R&D investments as well as of paying higher than national average salaries.

• The metal-mechanic sector contributes with more than 4 million direct jobs and almost 20 million indirect jobs in the analyzed countries.

• Metal-mechanic sector input-output matrix presents the following characteristics:

– Strong forward linkages, which is typical from a sector with high capability to provide inputs to the rest of the economic players.

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In Argentina, the most recent input-output matrix was elaborated by INDEC (National Institute of Statistics and Census) for year 1997. The authors have updated it to 2007. Graph 1 shows the Rasmussen-Hirschman index for Argentine economy in 2007.

The average of a given economy is positioned in the point (1;1). Sectors that show greater than average backward linkages (greater than 1) are located to the right of the vertical axis. On the other hand, sectors

that show greater than average forward linkage are located above the horizontal axis.

In Argentina, the metal-mechanic chain is located in position 78 among 101 sectors, considering backward linkages. More importantly, metal-mechanic value chain is positioned number 5 among 101 sectors, in terms of forward linkages. Moreover, the referred chain is the industrial activity that has the greater forward impact.

3 > METAL-MECHANIC VALUE CHAIN LINKAGE EFFECTS

ARGENTINA: METAL-MECHANIC CHAIN IS THE INDUSTRIAL ACTIVITY WITH THE STRONGEST FORWARD IMPACT

Source: Authors based on input-output matrix of 1997, updated to 2007.

Graph 1 • Rasmussen-Hirschman Index, Argentina, 2007

0.00.0 0.2 0.4 0.6 0.8

Backward linkage

Low degreeof nationalintegration

High degreeof nationalintegration

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In Brazil, the most recent input-output matrix was developed by IBGE (Brazilian Institute of Geography and Statistics) for the year 2005 and updated by the authors to 2009. It consists of 44 sectors and its structure substantially differs from Argentina’s. For that reason, it is not possible to compare both matrixes.

Graph 2 shows Rasmussen-Hirschman index for the Brazilian economy in 2007. If backward linkage criterion is taken into consideration, metal-mechanic value chain is positioned 11 among 44 sectors. On the other hand, when forward linkage is emphasized, the mention chain ranks 24 among 44 sectors.


Graph 2 • Rasmussen-Hirschman Index, Brazil, 2009

BRAZIL: METAL-MECHANIC VALUE CHAIN IS A KEY CONSUMER FROM OTHER SECTORS

0.00.0 0.5 1.0

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In Colombia, the most recent input-output matrix was developed by DANE (National Department of Statistics) for the year 2009. Consequently, an update of the matrix was not necessary. Graph 3 shoes Rasmussen-Hirschman index for Colombian economy in 2009.

Metal-mechanic value chain is located in position 13 among a total of 59 sectors, considering backward linkage, which demonstrates the relevance of its demand from other economic sectors. Moreover,

metal-mechanic value chain is the third most important input supplier (forward linkage) to other sectors of the Colombian economy.

Even acknowledging that the input-output matrixes results are not strictly comparable, it is worth to mention that, in Colombian and Mexican experiences, the metal-mechanic value chain is located in the best quadrant and generates a large degree of integration for the national economy.

COLOMBIA: METAL-MECHANIC VALUE CHAIN IS A LARGE CONSUMER FROM OTHER SECTORS AND ALSO THE THIRD MOST IMPORTANT INPUT SUPPLIER TO OTHER SECTORS

Source: Authors based on input-output matrix of 2009.

Graph 3 • Rasmussen-Hirschman Index, Colombia, 2009

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In Mexico, the most recent input-output matrix was developed by INEGI (National Institute of Statistics, Geography and Information Technology) for year 2003 and updated by the authors for 2009. Graph 4 shows Rasmussen-Hirschman index for the Mexican economy in 2009.

The metal-mechanic chain is located in position number 8 among 73 sectors in Mexico, according to the backward linkages criterion. It is also important to highlight that metal-mechanic value chain appears as the second most important activity when it comes to provide inputs to other industries (forward linkage).


Graph 4 • Rasmussen-Hirschman Index, Mexico, 2009

MEXICO: METAL-MECHANIC CHAIN IS THE SECOND MOST IMPORTANT INDUSTRY REGARDING THE FORWARD LINKAGES

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In Argentina, metal-mechanic value chain generates 350 thousand direct jobs and 980 thousand indirect jobs. It is important to stress that it is the industrial activity with the highest contribution to labor income: 29.2% of industrial wages in 2011.

Moreover, average wages of the metal-mechanic chain are positioned among the highest and surpass general industrial average by 41.2%. Evidence also shows that the intensity of investments in innovation was higher than total industry average in 2005.

Table 1 also shows that metal-mechanic chain –considering direct, indirect and induced impacts– represents almost 5% of the wages paid in the country. Metal-mechanic value chain is a labor intensive activity, as it can be observed by its high employment and value added multipliers, comparatively to gross output multiplier. Namely, for each Argentine peso (ARS) that metal-mechanic chain generates, ARS 3.13 are added to total economy. For each job, almost 4 are added at an aggregated level.

Contribution to tax collection, just considering net indirect taxes, represents 4.9% of the total economy.

4 > METAL-MECHANIC VALUE CHAIN MULTIPLIERS

This section summarizes the economic relevance of the metal-mechanic value chain in the four analyzed countries. Generally speaking, substantial multiplier effects can be understood as opportunities (that could or could not be exploited) for these economies.

ARGENTINA: METAL-MECHANIC VALUE CHAIN IS AN EVIDENT ENGINE OF NATIONAL ECONOMY

Table 1 briefly shows the impact of metal-mechanic value chain on Argentine economy in 2007.


Table 1 • Metal-mechanic value chain’s multipliers - Argentina, 2007

Variables Direct Indirect Total Multiplier % impact and induced impact Argentina impact

Gross output (ARS million) 87,804 132,624 220,428 2.51 6.6%

Value added (ARS million) 29,479 62,887 92,366 3.13 4.4%

Operating surplus (ARS million) 16,068 42,238 58,291 3.63 3.2%

Labor income (ARS million) 9,501 18,920 28,420 2.99 4.9%

Net indirect tax (ARS million) 1,351 3,351 4,701 3.48 4.9%

Employment (quantity) 349,579 978,417 1,327,995 3.80 3.4%

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In Brazil, metal-mechanic chain generates 2.5 million direct jobs and 13 million indirect jobs. In addition, industries of this chain pay higher than national average wages. In December 2010, wage differences were around: 20% (electric appliances), 35% (mechanic industry) and 75% (transport equipment industry), above the national average. The metal-mechanic value chain was responsible for 53% of internal R&D activities within Brazilian industry in 2008.

As seen in Table 2, metal-mechanic chain –considering direct, indirect and induced effect– contribute for 6% of national wages in 2009.

Employment (6.2) and value added (5.2) multipliers are higher than the gross output one (2.7), reinforcing that this value chain is labor intensive as well as generate large value added.

It is also important to highlight its important contribution to tax collection, as its net indirect taxes represent 18.6% of total economy.


Table 2 • Metal-mechanic value chain’s multipliers - Brazil, 2009

Variables Direct Indirect Total Multiplier % impact and induced impact Brazil impact

Gross output (BRL million) 485,649 845,123 1,330,772 2.74 8.9%

Value added (BRL million) 131,303 547,197 678,500 5.17 4.7%

Operating surplus (BRL million) 41,419 283,038 324,458 7.83 10.0%

Labor income (BRL million) 85,384 257,705 343,089 4.02 6.0%

Net indirect tax (BRL million) 4,500 6,454 10,954 2.43 18.6%

Employment (quantity) 2,498,261 12,990,957 15,489,218 6.20 2.6%

BRAZIL: METAL-MECHANIC VALUE CHAIN LEADS R&D INVESTMENTS

Table 2 shows the main impacts of the metal-mechanic value chain on Brazilian economy in 2009.

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In Colombia, metal-mechanic value chain generates 96 thousand direct jobs. However, it was not possible to estimate the employment multiplier, since the matrix developed by DANE (Statistics National Department) does not contain disaggregated information about the number of jobs by economic sector. Nevertheless, it is important to highlight that metal-mechanic chain generated 15% of formal industrial jobs in 2010.

Table 3 shows that value added multiplier was 4.2 in 2009. Wage multiplier was also high (3.7), remembering that this chain generates 2.4% of the country’s wages. Net indirect tax multiplier was considerable (3.0) too.

COLOMBIA: METAL-MECHANIC VALUE CHAIN GENERATES 15% OF FORMAL INDUSTRIAL EMPLOYMENT

Table 3 shows the most relevant impacts of metal-mechanic chain on Colombian economy in 2009.

Source: Authors based on input-output matrix of 2009.

Table 3 • Metal-mechanic value chain’s multipliers - Colombia, 2009

Variables Direct Indirect Total Multiplier % impact and induced impact Colombia impact

Gross output (COP billion) 26,421 36,472 62,893 2.38 12.46%

Value added (COP billion) 8,096 26,049 34,145 4.22 6.77%

Operating surplus (COP billion) 4,138 8,590 12,728 3.08 2.52%

Labor income (COP billion) 3,252 8,698 11,950 3.67 2.37%

Net indirect tax (COP billion) 278 560 838 3.01 0.17%

Employment (quantity) 96,178

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Metal-mechanic value chain generates 1.3 million direct jobs and 5.7 million indirect jobs. It is also important to mention that it is the activity that makes the most important contribution to labor income generation, as it accounted for 42.9% of industrial wages in June 2012. Additionally, metal-mechanic chain average wage surpasses by 5.6% national industrial average, for the same period.

Table 4 shows that metal-mechanic chain –considering direct, indirect and induced impact– generates nearly 2.5% of labor income. Metal-mechanic value chain is characterized by labor intensive and high value added, as the employment (5.4) and value added (3.1) multipliers are higher than gross output one (2.5). The net indirect tax multiplier is also considerable (4.2).

MEXICO: METAL-MECHANIC VALUE CHAIN IS THE INDUSTRIAL ACTIVITY THAT CONTRIBUTES THE MOST TO LABOR INCOME

Table 4 indicates main impacts of metal-mechanic value chain on Mexican economy in 2009.


Table 4 • Metal-mechanic value chain’s multipliers - Mexico, 2009

Variables Direct Indirect Total Multiplier % impact and induced impact Mexico impact

Gross output (MXN million) 1,498,301 2,534,874 4,033,174 2.49 32.5%

Value added (MXN million) 402,912 983,702 1,386,613 3.14 19.3%

Operating surplus (MXN million) 244,171 517,644 761,815 2.92 17.0%

Labor income (MXN million) 169,362 425,099 594,462 3.01 2.5%

Net indirect tax (MXN million) 3,204 9,551 12,755 3.98 4.2%

Employment (quantity) 1,304,712 5,701,591 7,066,303 5.37 16.6%

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A growing trade balance deficit is the most important threat that Latin American metal-mechanic value chain faces today (defined as the products that comprises the chapters 82 to 90 of the customs nomenclature).

Graph 5 demonstrates that the metal-mechanic chain trade deficit for the four selected economies increased by US$12 billion in 2012 in comparison with the previous year. This deterioration can also be observed when 1993 is taken into consideration, when the same value chain had generated a US$4 billion trade surplus.

Furthermore, the bilateral trade with China becomes a real concern. The combined deficit from the four countries enlarged from US$8 billion in 2003 to US$56 billion in 2010 and US$64 billion in 2011 (Graph 6).

When these four selected nations are taken into account, it becomes evident that for the metal-mechanic value chain trade flow is unidirectional. In 2011, China exported US$66.6 billion to these countries but imported just US$2.5 billion. Therefore, Chinese exports were 26 times higher than the imports from Latin America. This proportion according to the countries was as follows: Argentina (276 times), Brazil (18 times), Colombia (2,584 times) and Mexico (28 times).

5 > THREATS TO THE METAL-MECHANIC VALUE CHAIN IN LATIN AMERICA

Source: Authors based on national statistics.

Graph 5 • Metal-mechanic chain trade surplus in the selected economies, 2003-2011 (US$ billion)

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Based on Tables 1, 2 and 4, it is possible to deduce that for every additional US$1 million in metal-mechanic products imports (assuming that this results in an equivalent reduction of the domestic gross product), 12 direct jobs are lost in Argentina, 10 in Brazil and 12 in Mexico (Graph 7). Moreover, when indirect and induced effects on gross product are considered, total employment losses in Argentina reaches 46 jobs. For Brazil and Mexico, the respective figures are 64 and 63 lost jobs.

Estimation differences among countries could be rooted on several causes, such as different years of analysis, diverse aggregation levels of the input-output matrixes, effective exchange rates, productivity levels and linkage degree of the value chains.

Summing up, a growing trade deficit of metal-mechanic products in Latin America, mainly in its bilateral flows with China, has triggered the loss of thousands high-quality jobs in the region.

Source: Authors based on national statistics.

Graph 6 • Metal-mechanic value chain trade surplus, in the selected countries with China, 2003-2011 (US$ billion)

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Argentina Brazil Colombia Mexico Total

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2010 2011

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Source: Author

Note: it considers that the import substitutes the domestic production

Graph 7 • Jobs lost as a consequence of US$1 million metal-mechanic products imports in selected countries

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Lost opportunities and intense threats on metal-mechanic value chain have contributed to Latin American de-industrialization. Graph 8 clearly shows

the decline of manufacturing industry participation in Latin American value added. Its share decreased from 16.4% in 2004 to 14.8% in 2011.

6 > DE-INDUSTRIALIZATION IN LATIN AMERICA

Source: CEPAL (United Nations Economic Commission for Latin America and Caribbean).

Graph 8 • Manufacturing industry participation in Latin American value added, 2003-2011 (percentage)

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The four economies analyzed in this report have had diverse evolution processes (Graph 9):

• In Brazil, the decline of manufacturing industry was almost linear, shrinking from 19.2% in 2004 to 14.6% in 2011.

• Colombia shows a similar trend to the Brazilian experience, as the mentioned share diminished from 14.2% in 2007 to 12.6% in 2011.

• In Argentina, de-industrialization process that began in the mid-80s was prematurely forced

and with high impact. Many firms disappeared, installed capacity was reduced, the participation of foreign companies accelerated, and many complex productive areas were discontinued. The recovery observed the so-called «post-convertibility» was not sufficient for reverting this trend.

• In Mexico, after the fall of the mentioned share at the beginning of the last decade –from 20.0% in 2000 to 17.8% in 2003–, the results indicate that re-industrialization faces many obstacles to overcome.

Sources: National Direction of National Accounts), IBGE (Brazilian Institute of Geography and Statistics), DANE (National Administrative Department of Statistics), INEGI (National Institute of Statistics and Geography).

Graph 9 • Manufacturing industry participation in value added in selected Latin American countries, 2003-2011 (percentage)

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Argentina Brazil

2003 2004 2005 2006 2007 2008 2009 2010 2011

Colombia Mexico

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National studies that are part of this report are based on most recent available version of input-output matrixes. However, some data was updated using RAS method, which allows to «adjust» internal matrix indexes by the modification of border variables (aggregated demand).

Some advantages of using the input-output matrix are:

• To characterize the structural properties of the economy, considering both production and consumption.

• To analyze inter-relationships among productive sectors.

• To measure direct and indirect impact generated by each productive activity.

• To quantify the impact that an increase/decrease of one particular sector generates on the economy as a whole.

On the other hand, some disadvantages of the input-output matrix are:

• To adopt the assumption of fixed technical coefficients. This means that the necessary input quantity required to produce a good varies proportionally to the total production of the sector it belongs to. In other words, it does not take economies of scale into account. Moreover, it assumes that all firms have access to the same production technology and same efficiency levels.

• To consider that each economic activity sector produces just one product. This does not allow investigating intra-sector diversity.

• To assume that there are not changes in relative prices.

The repercussions of input-output matrix can be quantified according to: direct impact, indirect impact and induced impact (income effect). The direct effect refers to the first impact of one sector on the rest of the economy. It does not take into account successive rounds of purchase or sale. The direct effects comprise two issues:

• Direct backwards linkages: these measure the capacity of one sector to directly pull other sectors linked to it because of its demand of intermediate goods (first purchase round), stimulating activity within those sectors;

• Direct forward linkages: these measure the capacity of one sector, in its first round of sale, to stimulate other sectors by satisfying their intermediate goods demand.

In its turn, indirect effect refers to the impact of one sector on the rest of the economy, as a consequence of successive rounds of purchase (backwards indirect linkages) or sales (forward indirect linkages)

Induced effect (income effect) is attributed to the impact of consumers’ expenditures, which derive from the income generated by performing the economic activity and that returns to economy through consumption. In other words, the income generated by the expansion of production is spent in new consumer goods that generate new input demand, new income, new expenditures, and so on.

The input-output matrix multiplier shows the total effect (direct, indirect and induced) that one sector has over all the others. This can be measured for:

• Gross output.

• Value added.

• Operating surplus.

• Labor income.

• Net indirect tax.

• Employment.

As an example, a gross output multiplier equal to 1.5 means that the product of all the rest of the economic sectors grows by $0.5 when the production of observed sector amplifies by $1.

The Rasmussen-Hirschman (R-H) index is a tool that facilitates to measure one’s sector degree of integration in the economy. As indexed are normalized (average equals 1), interpretation is trivial. Sectors that show distant to the average indexes have higher levels of integration and, consequently, higher direct and indirect impact on the productive chain as a whole. These indexes are relative: each index depends on the other sectors behavior and gets more or less important depending on what happens in the rest of the productive chain as a whole. Consequently, classification and analysis of each index should be done from an ordinal but not cardinal perspective.

ANNEX 1 > INPUT-OUTPUT MATRIX

LATIN AMERICAN STEEL ASSOCIATION

ASOCIACIÓN LATINOAMERICANA DEL ACERO

Benjamín 2944, 5to piso • Las Condes • Santiago • ChileTel. [56-2] 233 05 45 • Fax [56-2] 233 07 68

[email protected]

www.alacero.org

@RedAlaceroAlacero

Metal-mechanic Value Chainin Latin America: economic relevance,opportunities and threats

by Germano Mendes de Paula, Dr. October, 2012

metal-mechanic value chain in latin america - germano mendes

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