US-led effort to diversify Indo-Pacific supply chains away from China runs counter to trends

The global economy is threatened by the potential for another devastating pandemic, Russia’s invasion of Ukraine, and a belligerent China, all of which have raised concerns about the resilience of worldwide supply chains. Hence, an important outcome of the US-initiated Indo-Pacific Economic Framework (IPEF) negotiations is a proposed supply chain agreement, the outlines of which were published by the US Department of State after negotiations were concluded in May in Jakarta.

The new agreement promises to coordinate actions to anticipate and mitigate supply disruptions and to develop ways to respond more effectively and expediently to acute supply chain crises. Beyond addressing these crises, the IPEF members—Australia, Brunei, Fiji, India, Indonesia, Japan, Republic of Korea, Malaysia, New Zealand, the Philippines, Singapore, Thailand, the United States, and Vietnam—are using negotiations to promote new economic activity and investment with each other. IPEF partners next meet in early September, in Bangkok, to advance negotiations on common concerns related to trade, climate change and the energy transition, and fair taxation, anti-money laundering, and anti-bribery efforts. Increased intra-IPEF trade and cooperation support their goal of diversifying and “derisking” supply chains. For the United States, a goal of the IPEF is to establish a network of “trusted partners” in Asia to reduce reliance on China.

But diversifying the region’s supply chains—an objective repeated by Treasury secretary Janet Yellen during her Beijing visit in July—could prove elusive. Analysis of data from bilateral trade flows from 2010 to 2021 provides clear evidence that IPEF diversification goals push against long-term market trends. IPEF countries now rely more heavily on a smaller set of import sources and export destinations than they did a decade ago, and their import and export patterns have become far less diversified across partners, most notably for middle-income countries emerging as alternative sites for production currently located in China.

The data presented here also demonstrate that, despite efforts by the Biden administration to strengthen ties with its IPEF partners and wean them away from Beijing, these countries are increasingly reliant on economic ties with China. In fact, China is the top import source for all IPEF countries except Brunei as well as the top export destination for half: On average IPEF countries received more than 30 percent of their imports from China and sent almost 20 percent of their exports to China in 2021. These numbers reflect average increases in the China share of over 40 percent for imports and almost 45 percent for exports since 2010.[1]

Diversification as a response to trade weaponization and other economic shocks

The US goal of diversifying trade resonates in the Indo-Pacific region due to China’s “weaponization” of trade with South Korea, Japan, Taiwan, Australia, and other countries to achieve certain political goals. Although these coercive actions have not led targeted nations to alter policies to which China objects, they have imposed substantial costs on their exporters and prompted calls in many countries to reduce dependence on Chinese markets and suppliers.

The threat of economic coercion is not the only consideration motivating the drive to diversify trade patterns, however. Trade disruptions and shortages of essential goods caused by COVID-19 and the Russian invasion of Ukraine are other important drivers of the push to reduce overdependence on any one source of imports or market for exports.

At the G7 meeting in Hiroshima in May, leaders addressed supply insecurities and pledged to advance economic resilience for members and nonmembers alike. The communiqué established essential principles for resilient supply chains, including diversification of trade relationships. This G7 pledge complements both the Biden administration’s efforts to maintain a free and open Indo-Pacific, a region of outsized Chinese influence, and those of the IPEF negotiations.

Using trade data to track trade dependencies of IPEF countries

Prevailing patterns of trade in manufactured goods for IPEF countries illustrate the challenges of diversifying supply chains. We use data from CEPII’s BACI dataset to calculate a measure of export and import concentration, the Herfindahl-Hirschman index (HHI), for each IPEF country in both 2010 and 2021. Comparison of the HHI values across the two years shows whether a country’s trade partners have become more or less diversified. The data used here also allows manufactured goods to be sorted into unique and inclusive groupings. The first categorization is based on UNCTAD’s “degree of manufacturing,” a concept that captures the factor intensity of different products. The second categorization is by end-use, which captures the location of products and components within supply chains. We also explore details of the findings at the country and product level, illuminating which trade relationships are driving trends both in the aggregate and for individual members.

For IPEF economies, both import sources and export destinations have become less diversified on average since 2010. Based on concentration indexes calculated for all IPEF countries, member countries’ export destinations became 31 percent less diversified and import sources became 28 percent less diversified on average.

Deeper bilateral linkages to China drove much of this change.

Almost all IPEF countries now source a larger share of imports from China than they did in 2010. These include final goods as well as intermediate goods used in domestic production. Perhaps surprisingly, however, the data also show that most IPEF members increased the share of exports they send to both China and the United States during this period, underscoring the economic imperative of many IPEF countries to retain access to both of these major markets and their suppliers.

Exploring trade dependencies by country and product

The extent to which trade diversification has changed over the past decade differs substantially among IPEF members and the goods and services they trade. Figure 1 charts the change in import concentration on the vertical axis. The concentration index has been normalized, so that Indonesia’s index of 1.56 indicates that its imports were 56 percent more concentrated than the average for all IPEF countries in 2010. US imports were the most diversified, with a 2010 concentration index of 73 percent of the IPEF average.

For most IPEF countries, import sourcing has become much less diverse since 2010. Only the two largest economies, the United States and Japan, as well as Fiji, experienced a decrease in the concentration of their imports. US diversification reflects a lower market share for China since 2018, when the Trump administration’s tariffs were put in place. Japan’s diversification also reflects a lower market share for China, but the change was confined to labor-intensive goods, such as apparel and footwear, as other middle-income countries in East and Southeast Asia have gained competitiveness in these activities. The concentration index for all other IPEF countries rose. As shown in figure 1, the import concentration index for Malaysia, Vietnam, India, and Indonesia increased by more than 50 percent after 2010. These changes mainly reflect an increase in the share of imports sourced from China.

Figure 2 shows the change in export concentration since 2010 for IPEF members. Again, there has been a marked increase in the concentration of trade. Only Fiji, New Zealand, and the Philippines, all of which had less diversified export destinations than the average IPEF member in 2010, reduced their export concentration noticeably by 2021. The United States experienced a small increase in export concentration, with a minor shift away from high-income partners and toward China and Mexico. Malaysia, Vietnam, Australia, and Singapore experienced increases in export market concentration of 30 percent or more; Brunei’s export concentration rose more than 200 percent.

Increased export concentration for some IPEF members is driven by more intense trade relationships with both China and the United States, as is the case for Malaysia and Vietnam: The share of Malaysian exports to the United States rose from 14 percent in 2010 to 20 percent in 2021, and to China from 18 percent to 21 percent. Vietnam sent 24 percent of its exports to the United States in 2010 rising to 29 percent by 2021, while also expanding exports to China, from 9 percent of exports in 2010 to 20 percent in 2021. Among the IPEF countries, only Australia diversified slightly away from China while sending a larger share of its exports to the United States.

Many factors have contributed to higher export concentrations. Notable increases in the concentration index for Singapore and Brunei are related to two current hot-button issues: the semiconductor supply chain and China’s Belt and Road Initiative, respectively. Singapore’s increase in export concentration—63 percent from 2010 to 2021—is driven almost entirely by increased exports to China of semiconductors and the machinery used to manufacture them. Brunei’s extraordinary increase is also due almost exclusively to its explosive trade relationship with China, especially in the export of cyclic hydrocarbons, although it’s also true that during this time China funded a massive expansion of the Muara Port through its Belt and Road Initiative.

Each country has a unique story underlying its shifting trade partners and goods. Clicking through interactive figures 3 and 4 below reveals changes in export and import concentration for each country in each type of manufactured good. By exploring changes in traded goods defined by degree of manufacturing, one sees evidence of evolving comparative advantage as countries move up value chains. By exploring products arranged by end use, one sees how IPEF countries have changed their role in global supply chains. Notable details for each IPEF country are summarized in the appendix table, again for both import and export diversification. Table 1 assists such data exploration as it provides descriptions for UNCTAD’s degrees of manufacturing classification.

These extensive data explorations indicate the complexity of supply chain movements within the Indo-Pacific region since 2010. Two policy-relevant messages emerge clearly from the country and product-level details: on average, IPEF countries import sources and export destinations have become significantly less diversified over time. Moreover, the extent to which IPEF countries depend on Chinese suppliers and buyers has greatly increased. These long-term movements are the context within which IPEF partners seek to enhance supply chain security and resilience. Because these trends reflect underlying economic forces, it is unclear how the proposed supply chain agreement, which promises monitoring and coordination, will influence them.

Note

1. These averages exclude Brunei, which is an outlier, as explained in the blog.