Economic Research Forum (ERF)

Global value chains and domestic innovation: evidence from MENA firms

1393
Global interlinkages play a significant role in enhancing innovation by firms in developing countries. In particular, as this column explains, participation in global value chains fosters a variety of innovation activities. Since some countries in the Middle East and North Africa display a downward trend on measures of global innovation, facilitating the GVC participation of firms in the region is a prospective channel for stimulating underperforming innovation.

In a nutshell

Global interlinkages play a significant role in enhancing firms’ innovation performance in developing countries; participation in global value chains is a vital channel for catching up to the fast-shifting world technological frontier.

GVC participation provides incentives for firms’ technological and auxiliary services innovation in the MENA region; medium R&D intensive sectors strengthens the positive effect of GVC participation on auxiliary services innovation.

Investing in physical and human capital is key to enhancing firms’ absorptive capacities and stimulating innovation output; fiscal policy can also play a vital role in easing the financial constraints that are obstructing firms from innovation.

Despite the rapid technological advances of the fourth industrial revolution, firms in emerging regions continue to lag behind the technological frontier (UNCTAD, 2021). But although innovation remains spatially clustered in advanced economies, foreign interlinkages provide the opportunity for the dissemination of knowledge between firms participating in global value chains (GVCs). Foreign knowledge sourcing is a key input into domestic innovation, and participation in GVCs directly stimulates that (Coe and Helpman, 1995).

Achieving greater impact of GVC participation on firms’ innovation performance will help to deliver on the ninth United Nations sustainable development goal, which aims to foster innovation and infrastructure. Equally important, revealing the moderating role of sectoral heterogeneity is necessary for GVC-driven progress on innovation in Middle East and North Africa (MENA) countries that are abundant in unskilled labour.

Because of several disadvantages, GVC participation is mitigated in many developing regions. In MENA, more than four-fifths of firms do not participate in GVCs. In addition, most economic activities are highly intensive in unskilled labour and low-intensive in research and development (R&D).

Yet, compared with skilled labour and medium-high R&D intensity, the innovation shares of firms engaging in unskilled labour and low R&D intensive activities indicate that the comparative advantage of the MENA region does not justify its poor innovation performance.

Research on innovation and global value chains

In recent research, we show that GVC participation by MENA firms positively affects different innovation measures (Eissa and Zaki, 2023). We distinguish between two kinds of innovation: technological innovation, which encompasses new products and services, and new production processes; and auxiliary services innovation, which relates to less substantive innovation such having a website and communicating by email.

Figure 1 presents the shares of firms’ innovation against GVC participation in the MENA region. On average, along the two innovation measures, GVC-participating firms perform significantly higher than their non-GVC-participating counterparts.

Figure 1: Technological and auxiliary services innovation against GVC participation

Source: Authors’ construction based on the comprehensive WBES dataset.

Notes: GVC 1 entails that firms are engaged in exporting and importing activities. GVC 4 entails that firms are engaged in exporting and importing activities, have foreign-owned shares, and have international quality certification.

Studying the impact of GVC participation on firms’ technological and auxiliary services innovation emphasises a learning opportunity for firms in the region. In addition, since sectoral heterogeneity potentially catalyses the positive impact of GVC participation on firms’ innovation, we integrate sectoral analysis and distinguish between two factor intensities: skill level and R&D. While skilled labour directly motivates technological innovation, unskilled labour does not mitigate the GVC-positive effect.

By underlining the importance of firms’ GVC participation in realising innovation progress, we highlight that sectoral heterogeneity does not regulate the GVC impact on technological innovation in MENA countries. Put differently, sectoral heterogeneity remains neutral in catalysing the GVC-positive effect on technological innovation.

Yet, medium R&D intensive activities strengthen the GVC-positive effect on auxiliary services innovation. Given the slow progress of innovation in the region, encouraging GVC participation is a vital channel for catching up to the fast-shifting global technological frontier.

Implications for policy

From a policy standpoint, recommendations for realising greater GVC-driven innovation in the MENA region are twofold. First, ample GVC participation in the MENA region necessitates minimising underlying mitigators. Aside from controlling trade costs, a revitalised investment climate is necessary to encourage greater integration into GVCs.

Second, investing in physical and human capital is key to enhancing firms’ absorptive capacities and stimulating innovation output. Undoubtedly, R&D spending requires sufficient access to finance, which is limited in developing regions due to undeveloped financial markets.

Hence, fiscal policy can play a vital role in easing the financial constraints that are obstructing firms from innovation. For example, implementing tax incentive programmes for innovative firms can counterbalance the burden of innovation costs.

In addition, directing government spending to knowledge-intensive services and providing direct financial support to research activities can enhance domestic capabilities and facilitate the process of absorbing new technologies.

Finally, at the institutional level, providing more extensive protection of intellectual property is indispensable to initiate the virtuous circle of innovation.

Further reading

Coe, DT, and E Helpman (1995) ‘International R&D Spillovers’, European Economic Review 39(5): 859-87.

Eissa, Y, and C Zaki (2023) ‘GVC and Innovation: Evidence from MENA Firm-level Data’, ERF Working Paper No. 1672.

UNCTAD (2021) ‘Technology and Innovation Report: Catching Technological Waves, Innovation with Equity’, United Nations.

Tags: , , ,

  • Yasmine Eissa
    Yasmine Eissa
    Assistant Professor, Onsi Sawiris School of Business, The American University in Cairo
  • Chahir Zaki
    Chahir Zaki
    Chaired Professor of Economics, University of Orléans

Most read

Egypt’s labour market: new survey data for evidence-based decision-making

As Egypt faces substantial social and economic shifts, understanding the labour market is crucial for designing policies that promote employment and inclusive economic growth. This column introduces the latest wave of the Egypt Labor Market Panel Survey, which provides fresh, nationally representative data that are vital for examining these dynamics.

The evolution of labour supply in Egypt

Egypt stands at a critical point in its demographic and labour market evolution. As this column explains, while fertility rates have dropped, reducing long-term demographic pressures, the ‘echo generation’, children of the youth bulge, will soon enter the labour market, intensifying the need for policies to accelerate job creation. At the same time, participation in the labour force, particularly among women and young people, is declining, partly as a result of discouragement.

More jobs, better jobs and inclusive jobs: the promise of renewable energy

Among the many economic and environmental challenges facing the countries of the Middle East and North Africa (MENA), two stand out: the need for jobs and the need to combat the threat of climate change by moving away from reliance on fossil fuels. As this column explains, embracing renewable energy technologies presents an opportunity for the region to diversify its economy, mitigate the possible negative impacts of digital technologies on existing jobs, reduce its carbon footprint and create significant levels of employment, particularly for women and the youth, across a variety of sectors.

Sanctions and energy efficiency in Iran’s industries

What is the effect of economic sanctions on the energy efficiency of Iran’s industries? This column reports the findings of new research, which examines the impact of sanction intensity within industrial sub-sectors of the Iranian economy on their energy efficiency.

Towards a productive, inclusive and green economy in MENA

Decarbonisation of the global economy is a huge opportunity for countries in the Middle East and North Africa. As this column explains, they can supercharge their development by breaking into fast-growing industries that will help the world to reduce its emissions and reach net zero, as well as offering greater employment opportunities and new export lines. Micro, small and medium enterprises in the region can lead the transition to a cleaner and sustainable future, but this may require the formation of clusters of firms that overcome some of the constraints that their limited size could involve.

Poverty and plutonomy: measuring extreme bipolarisation in the Arab world

Inequality in the Arab world is not just a question of extreme poverty or extreme affluence: it’s about both. This column presents research that uses the lenses of both poverty analysis and plutonomy analysis to capture the extreme polarisation between the poor, who suffer from exclusion and deprivation, and the ultra-wealthy, who wield immense power over economic and political systems.

Participation of Arab countries in global value chains

To what extent are countries in the Arab region participating in the global value chains (GVCs) that now dominate world trade? What are the main determinants of engagement in GVCs? And what are the expected benefits for Arab countries from joining them? This column answers these questions, concluding that it is important to focus on the products in which countries both enjoy a natural comparative advantage and can increase domestic value added in the intermediate and final parts of the production process.

The future of regionalism in the Arab world: a political economy view

The potential growth benefits of greater trade integration of the Arab countries, both within the Middle East and with the rest of the world economy, have long been discussed. But as this column explains, in the current climate of international political and economic relations, moves towards trade liberalisation and new or deeper trade agreements are unlikely to happen. Policy-makers in the region need to pursue alternative strategies to develop their economies.

Growth in the Middle East and North Africa

What is the economic outlook for the Middle East and North Africa? How is the current conflict centred in Gaza affecting economies in the region? What are the potential long-term effects of conflict on development? And which strategies can MENA countries adopt to accelerate economic growth? This column outlines the findings in the World Bank’s latest half-yearly MENA Economic Update, which answers these questions and more.

Rising influence: women’s empowerment within Arab households

In 2016 and again in 2022, a reliable poll of public opinion in the Arab world asked respondents in seven countries whether they agreed with the statement that ‘a man should have final say in all decisions concerning the family’. As this column reports, the changing balance of responses between the two surveys gives an indication of whether there been progress in the distribution of decision-making within households towards greater empowerment of women.