April 23, 2018

Manufacturing & The Economy

MANUFACTURING AND THE ECONOMY

Economic activities are grouped into primary, secondary and tertiary activities. The primary activities are those involved in direct exploitation of resources in the environment such as farming, fishing, lumbering and hunting. The secondary activities are those that add value to the primary goods such as the textiles, clothing, automobiles and computers. The tertiary activities involve providing services in the form of transportation, teaching, banking and insurance to people. One main sub-sector under secondary activities is manufacturing.

Manufacturing is a secondary economic activity that involves the conversion of raw materials obtained from the primary economic activities. For example, fish obtained from fishing can be processed into sardine or mackerel. Also cotton obtained from primary activities is used in the textiles industry. Based on the scale of operations, manufacturing industries can be grouped into small scale or large scale. Small scale manufacturing industries are usually labour intensive and they produce goods and services on relatively small scale, for instance pottery making, beads making and kente weaving.  Large scale manufacturing industries on the other hand use robust machines and cover wide areas. Examples include automobile and computer manufacturing companies. The manufacturing sub-sector adds value to the primary goods and thus their contribution to the economy cannot be overlooked. This article therefore seeks to outline some of the benefits of manufacturing to the economy.

First and foremost, manufacturing leads to growth of gross domestic products (GDP) and GDP per capita income of countries. Since the inception of the industrial revolution in the eighteenth century, both developed and developing countries have experience significant growth in their GDP and GDP per capita income. According to Naudé and Szirmai (2012), GDP and GDP per capita in catch up countries (countries where industrialization spread later after Britain) have seen positive changes. They summarized it in a table by comparing the GDP and GDP per capital between the immediate and post periods of industrialization and it is presented below:

Country Period Growth of GDP (%) Growth of GDP Per capita (%)
1820–1913
Germany 1880–1913 3.1 1.9
Russia 1900–1913 3.2 1.4
Japan 1870–1913 2.5 1.5
 
1950–2003
Germany 1950–1973 6.0 5.0
Russia 1998–2005 7.2 7.2
Japan 1946–1973 9.3 8.0

Source: Naudé and Adam Szirmai (2012)

Years after the intensification of manufacturing, GDP growth rate and GDP growth per capita in Germany increased from an average of 3.1% to 6.0% and from 1.9% to 5.0% respectively (an increase of 2.9% points and 3.1% points in GDP growth and GDP growth per capita). Russia and Japan also experienced similar increase in GDP growth of about 4.0% points and 6.8% points respectively over the two periods. Notwithstanding, the developing countries also enjoy a share of these benefits. The contribution of manufacturing to GDP which was 12%, increased in all developing countries between 1950 and 1980, peaking at around 17.4 per cent in the early 1980s. China and Taiwan are the extreme cases with manufacturing accounting for 40% and 36% of GDP in 1980. (Naudé and Szirmai, 2012). Specific countries have also experienced significant increases in GDP due to intensification of manufacturing, although there were years characterized by some falls. This is expressed below for some selected countries;

Contributions of manufacturing to GDP in % overtime
Countries 1950 1960 1980 2005
Nigeria 2 4 8 4
South Africa 16 20 22 19
Tanzania 3 4 12 7
Average
Developing countries (68) 12 13 17 15

Source: Szirmai (2009)

These global patterns of change suggest that manufacturing continues to be a potential engine for growth and catch up-even for the poorest countries.

Secondly, manufacturing creates linkages and spill over effects. Linkages are direct physical relations of inter-sectorial supply and demand. As introduced by Hirschman, a forward linkage is created when investment in a particular project encourages investment in subsequent stages of production. A backward linkage is created when a project encourages investment in facilities that enable the project to succeed; and investments should be made in those projects that have the greatest total number of linkages. He further suggested that the best strategy (to maximize the benefits from the linkages) is induced industrialization-Industries that transform semi-manufactured goods into goods needed by final demand. Examples of these industries include steel industries, metal fabricating industries, pharmaceutical laboratories and assembly and mixing plants. Generally, manufacturing provides ready market for agricultural produce like fish, cocoa, cotton, fruits and by this increase the growth of economic activities in the agricultural sector. Moreover, manufacturing industries also manufacture a wide range of products such as cutlasses, tractors, fertilizers, auto mobiles, computers and automated teller machines amongst others which serve as inputs for both agricultural and service sectors.  Also, disembodied knowledge and technology flows between economic actors and economic sectors. Actors learn from each other, so that investment in technological knowledge or increased efficiency in one firm has positive external effects in the economy as a whole and this is termed the spill over effects.

A major benefit of manufacturing is that it diversifies the economy. Diversification of the economy is when a country becomes more varied and not dependant on one area or sector. Manufacturing activities bring a shift in an economy as it provides other sources of income for that economy. In developing countries for instance there have been a movement from generating income from only primary activities to alternate sources both in local and foreign currencies. This accelerates growth in the country and also prevents the economy from shocks. For instance if Ghana is only dependant on income from agriculture and there is low or no rainfall for some time, there will be serious economic crises in the country. However, if the country also depends on income and foreign exchange from production and sale of manufactured goods, the negative effects or the menace on the economy will be mitigated. Manufacturing therefore serves as insurance to cushion the economy against external shocks especially in low and middle-income economies.

Lastly, manufacturing leads to a reduction in a country’s heavy dependence on other economies. Manufacturing has led to the establishment of import substitution industries, producing products similar to those imported from other countries and this helps to reduce the over-dependence on other countries for these goods. For instance in Ghana, goods such as textiles, stationary, and footwear which were imported from Britain, Germany, and USA, are now produced locally. In effect the country saves foreign currencies which would have been used to import, eventually improving the balance of payments and the exchange rate.

Discussions from the above prove a strong relationship between manufacturing and the economy both directly and indirectly. Szirmai finds a significant positive correlation of 0.79 between the logarithm of income per capita and the share of manufacturing. This empirical evidence confirms the hypothesis that manufacturing has indeed assumed an important role in defining economic growth and development.

REFERENCES

Hirschman, A. O. (1958). The Strategy of Economic Development. New Haven, CT: Yale

University Press.

Naudé, W. and Szirmai, A. (2012). The importance of manufacturing in economic development: Past, present and future perspectives. UNU-MERIT Working Papers, 2012-041.

Szirmai, A. (2009). Industrialization and an Engine of Growth in Developing Countries, 1950–

2005, UNU-MERIT Working Paper Series, 2009-10,

http://www.merit.unu.edu/publications/wppdf/2009/wp2009-010.pdf