sutton by wuzhengqin

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									Capability Building in Global
          Markets
            Barcelona
        8th October 2008
                 Motivation
• A nice way of combining product and process
  innovation is to introduce the concept of
  ‘Capability’
• This allows us to develop a key distinction
  between productivity and quality
• It also allows us to focus attention on the idea
  that much of the improvements we see in quatity
  (and productivity) come from innovations in
  working practices , rather than from R&D
                Sources

• Sutton, Quality,Trade and the ‘Moving
  Window’, Economic Journal , Nov 2007
• Brandt, Rawski, Sutton, China’s Great
  Economic Transformation, Cambridge
  University Press 2008
• Sutton, The auto-component industry in
  China and India: A Benchmarking Study
             Capabilities
     d
         u          c = ‘productivity’
                    u = ‘quality’
 c
               d


Capability is a pair (c, u) for each
technical trajectory (submarket)
            1
U  (ux) z
Key feature:

The consumers choose products offering the best u/p

Implication: if u>v, the market share of a firm offering
u cannot be eroded to zero by any number of firms
offering v
Proposition 1
  - given any configuration of
    capabilities
   (c1,u1), (c2,u2) . . (cn,un)
    there is a lower bound in (c,u)
    space below which a firm cannot
    achieve positive sales at
    equilibrium

    (ex. Cournot equilibrium)
      Competing in Capabilities
   u
(Quality)   x


            x           u/c = a
                        u/c = b
                      1/c (Productivity)
          Fixed /Sunk costs
• Iso-elastic response of quality(beta)

• Isoelastic response of labour productivity
  (gamma)

• Unit variable cost = labour cost +
  materials cost
Proposition 2

Suppose one element in building
capability is the expenditure of fixed
outlays (“sunk costs”)

- Then competition in ‘capability
building’ will lead to a bound on the
number of firms ‘in the window’.
    X

            X

        X

X
X

        X
X
    X
X

        X
X
    X
X


        X
X
    X
           So what’s new?
• The model has been chosen so that prices
  and qualities, and therefore productivity
  and quality enter in a completely
  symmetric fashion
• The key point is that unit materials cost
  sets a floor to price, thus limiting the
  degree to which changes in wages and
  productivity can offset changes in quality
        Quality vs. productivity

• Once raw materials at international prices
  are an input….
• Wage adjustment can rescue poor
  productivity…
• But not poor quality
          Capability Threshold
    uB
                     WB >>0

Quality     WB 0




    uB


               Productivity      1/cB
           A Digression ….
• An extension of the model adds a second
  parameter (horizontal differentiation)
• This can be further generalized to
  “linkages between sub-markets”
• This extension is important in providing an
  explanation for cross-industry differences
  in market structure
                                σ
                   Linkages Across Submarkets


         β
  Effectiveness
  of Capability
     Building




          The                                     Perfect
Dixit/Stiglitz/Krugman    The Hotelling         Competition
          Line                Line
        A Multi-Country Model
•   m industries ; Cobb-Douglas consumers
•   r of these are commodity type, many firms
•   m-r have n firms in each of countries A,B
•   Country C supplies raw material
•   Labour supply same in all
•   Capability of B firms < A firms
Capabilities, Quality and Wages
    First r goods: qualities =1, Prod. 1/c=1
    Remaining goods: qualities u in A, v in B
                       (Prod. Differs also)

W                     Ls     W                  Ls



                        L                            L
    Country A                    Country B

A third country produces (only) an intermediate
good, a fixed number of units of which enter into
the production of all three final goods
   Modelling Pre-Globalisation
• The aim is to exclude competition in
  “quality” goods, while allowing A and B to
  source materials from C.
• Two routes:
• (i) Partition country C
• (ii) Unify C but inhabitants are
  insensitive to quality differences
            Three Phases
• Phase I: Impact phase…Capabilities given

• Phase II: Transfer phase

• Phase III: Re-investment (escalation)
  phase
          Phase I : Impact
• There are three regimes, depending on
  the size of the gap in capability

• Regime I….gap ~ 0
• Regime II…..moderate gap
• Regime III….wide gap
     Relative Wages
                              I

wB
                   II
wA


     III                              v
                                  1   u
           Relative Quality
    Main substantive argument
• The case for globalisation should rest primarily
  on the transfer and growth of capabilities it
  induces

• A fundamental set of mechanisms are driven by
  the coexistence of high capabilities and low
  wages
• These mechanisms include, inter alia,
• ---self help driven by new incentives
• ---Transfers via FDI/ Supply chains, etc.
       Speed of Transmission
FAST
  Auto components:     Vertical relations
                       with shared technology;
                             standardization and
                             codification of
  working                           practices.
  Domestic Appliances: Horizontal JVs – here
                             incentives of senior
                             partner are critical
  (cf.                              China).
  Machine Tools:       Public sector bodies etc.
SLOW
           Component Suppliers to Multi-National Car Makers

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                                                                          India
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           10
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The Mahindra Story
CNC Machine Tools
     The Machine Tool Industry

  How trajectories develop/divide
                                       Controls
Conventional Machines   CNC Machines   Ball-screws
                                       The ‘machine’

     Pre 1970            Post 1970
The Invidious Trade-Off

               controls
   55%
              ball-screws


   15%          wages
   15% Bought-in Components
         Materials, Energy costs,
   15%
                    etc.



A typical cost breakdown
                    3-axis, 15
                       kW                                     Japan
size & complexity




                    11 kW,
                    350mm

                                        India                         Taiwan


                    7.5 kW,
                    165mm



                                 0.25              1                           4

                                  Gross Labour Productivity
                   Phase III

• Escalation and shakeout

• Outcome depends on initial post-transfer gap

• Under a full transfer regime, shakeout occurs
  only for low-beta industries

• But…only a sub-set of firms re-invest

								
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