New industrial models

Producing elsewhere: joys and sorrows

Financial stability is one of the most important conditions to allow reducing risks in the world trade and in the transfer of investments on a global scale.
Financial stability is one of the most important conditions to allow reducing risks in the world trade and in the transfer of investments on a global scale.

The productive delocalization of Western enterprises to rising Countries constitutes the initial phase of an epochal change, with the successful spreading of a model of production distributed on a world scale that aims at optimizing the labour cost and the coverage of markets.

Roberto Papeschi

In this time in Italy we are talking a lot about productive delocalization, especially when we face the growing unemployment in the Country and the decisions taken by the main brands in the two most important sectors of the manufacturing system of the Country: automotive and household appliance industry. Nevertheless, if with production delocalization abroad we mean the transfer to other Countries of some machining phases or of complete productive processes, it is worth observing that this has not been a new event for Italy.

Already in 1930, in fact, Fiat had moved to Poland the production of Fiat 508 Balilla, in the successive years followed by numerous other models, such as 500, 1100 and 1500, all of them locally produced with the Polski Fiat trademark. These initiatives were then followed, in 1970, by the creation of the large industrial site in Togliattigrad, for the production of Fiat 124. In the same years also Piaggio had delocalized to India a good part of its production of motor scooters, including the most successful model: Vespa. In more recent years, this same course has been adopted also by the major industries of household appliances, preceded and then followed by Merloni Group, which already in 1975 had given birth to a joint-venture with the Chinese industry Qingdao Haier for the production of washing machines.

The European Community still today constitutes the biggest international market but its importance has diminished owing to the lack of political unity among the various Countries that are part of it.

The involvement of SME
What has changed, if compared with these experiences, consists in the fact that until the Nineties the productive delocalization was undertaken with the precise goal of controlling local rising markets, thus avoiding also logistic costs, very high for big-size products like cars and household appliances. Besides, in some cases the transfer opportunity was favoured by relevant facilitations granted by the Governments of some Countries, interested in favouring their own industrialization.

Finally, the phenomenon concerned only big-size enterprises, which constitute a small part of the Italian industry, taking into account that over 97% of the national manufacturing companies employ less than 50 employees and 83% of them have even fewer than 10. For these small and very small enterprises, the globalization mainly consisted in the search of export of their products, often belonging to niche ambits, with the support of government institutions such as ICE – Institute for Foreign Trade and with the financial instruments as collateral for the loans granted by the State.

When China joined WTO in 2001, it took place the most significant event in the course that has led to the market integration.

But afterwards, the progressive increase of the tax and social burdens starting from the Eighties until nowadays, has caused in the Italian companies a strong incentive for the reduction of the labour cost. At the beginning, especially small-medium Tuscan enterprises in the textile, leather and shoe industry stood out in this, followed some years later by the Venetian enterprises in the fashion industry, which long time before had already started using the low cost labour of the neighbouring Slovenia. The target pursued by enterprises, in all these cases, consisted in reducing the manpower costs for the operations with higher manual content, especially in the field of goods with minor added value and at low cost, from textile to shoes.

The industrial model that became consolidated at that time in Italy is the same that the United States adopted in the Sixties-Seventies in their relationships with the Southern nations of the NAFTA area, when they outsourced the whole productive process abroad, maintaining at home the product devising and design, together with design and quality control. Likewise Italian enterprises, they too aiming at knocking down production costs, exported to the closest foreign nations, of North Africa and East Europe, raw materials and semi-finished products, then re-importing and selling the finished product, once assembled it.

The market globalization
At the beginning of the new century a new fact however takes place, which will permanently connote the future, revolutionizing the institutions that ruled international relationships and those inside single States. In unexpected way, under certain aspects, especially for the speed with which it developed, it starts in fact that process of market integration, on a world scale, which has been called “globalization” and that lives its turning point when China joined the WTO, on December 11th 2001.

One of the first examples of delocalization carried out by an Italian enterprise is represented by Fiat Auto that, already in 1930 had started producing in Russia its Fiat 500 Balilla model.

It is anyway worth noticing that the globalization has been actually preceded by a long series of facts, which took place even starting from the half of the nineteenth century, coinciding with the first industrial revolution and with the development of transports and of communications, which have allowed the exchange of goods on bigger distances, in faster, safer and cheaper way. The technological elements were then completed by other integration factors, such as the formation of colonial empires by the main western powers and the widespread membership in the so called “gold standard”, which linking the value of the various currencies with gold, and then reducing the risk of foreign investments, favoured the integration of the capital market.

This first globalization phase was however interrupted by the two world wars and was then restarted in the second half of the twentieth century mainly upon the initiative of the United States, which had assumed a protagonist role in the reconstruction of economies in Europe and Japan. But only after the collapse of the Bretton Woods system and the fall of the Berlin wall sprang the conditions for the formation of wide areas of free exchange of goods and of capitals, in Europe with the European Economic Community extended to Eastern nations, in the Countries of Latin America with the Mercosur agreements in 1995 and almost simultaneously in North America with the Nafta (North American Free Trade Agreement) agreement, which involved USA, Canada and Mexico.

A container ship that goes towards Western markets. By joining WTO, China has started being the major exporter of goods in the world.

The benefits of this second globalization phase, nevertheless, have not been equally distributed among the various Countries. The most relevant consequences of the new integrated economy on a world scale were in fact registered in Asia where, among the Countries performing the highest growth, initially the so called Asian “four tigers” stand out (Hong Kong, Singapore, South Korea and Taiwan). These nations were then surpassed by China that, combining in original way the State economy with the market freedom, over the last twenty years has succeeded in becoming the second economic power in the world.

Then, at the end of the first ten years of the new century, the world economy has screwed onto itself, with an impressive chain of negative events: financial scandals, economic recession, unemployment, terrorism, local and international wars. Events that have first involved the Countries traditionally more developed and then have provoked troubles to the same rising Countries, which have anyway maintained a still high growth rate, even if lower than in the past (4.8% in 2012 compared to 6.3% in 2011). Therefore, in 2010, there is an inversion of the trend that had seemed unstoppable until that time, with a general slowdown of the international trade, while with the economic crisis emerges a new more attentive globalization phase, characterized by greater balance of production and trade exchanges.

In Italy SME are damaged in their internationalization pursuit by their small sizes. Among the institutions that carry out a support action stands out ICE – Institute for Foreign Trade.

From selective outsourcing to global delocalization
Since the beginning of the Nineties, in Italy the delocalization activity had mainly concerned big enterprises that, in that way, intended to be present with their productive sites in the rising markets characterized by a growing demand. Since that time, however, also numerous small and medium enterprise take part in the delocalization and an increasing bent for internationalization is surveyed among them.

It is also worth noticing that at the beginning the delocalization phenomenon was characterized by a systemic approach, according to a logic of business reorganization where the different phases of the product value chain had been analyzed and assessed by the management as possible activities to be outsourced, with the target of improving the efficiency of productive processes, making the enterprise organization more flexible and increasing the availability of financial resources. The outsourcing activities were on the other hand favoured by the easy communication of information and the simple transport of goods, thanks to the progresses made by net technologies and the better integration of logistic systems.

The business model that had consolidated in those years was that of a business with high organizational culture, which had decided to accomplish a strategy of outsourcing, or “partial delocalization” of single phases of the productive process. All that after attentively assessing what activities were to be considered as “core business” to be maintained inside the company, while the non-strategic phases of the product life cycle were entrusted to external selected suppliers.

The market liberalization was preceded by various treaties that have created free exchange zones, from the European Community to the Nafta area in North America and to the Mercosur one in Latin America.

In this first phase the company operated to achieve competitive advantages, especially in terms of production costs, remaining anyway rooted in its territory of origin, where they went on designing and assembling the finished product and in whose market the majority of the production was located, or was exported from it. Aron and Singh (2005) define the new organizational structure as “extended organization”. A structure where companies indicate the demanded service to their suppliers and afterwards work in team with the same suppliers to obtain the service according to the requested terms and quality.

The better knowledge of new markets and the relationships established with local partners pave then the way for a new more extended form of outsourcing, which must be more properly meant as “global delocalization”. This strategy allows the enterprise to manufacture a product resembling that implemented in homeland, doubling the production process, for which enterprises negotiate, with local governments, tax practices and investment costs, which in some cases might be reduced thanks to collaborations with local companies.

The financial bubble and the consequent economic crisis have however drastically changed the situation. While the demand for European business is decreasing on the home markets of European enterprises, the competition of the new producers from Eastern nations and especially China, which ranks as the “world factory” of the manufacturing industry, is strongly increasing. Under these conditions, among the enterprises of the European Countries more affected by the crisis, is generated the conviction that it is by now impossible to compete in the global market if you produce at home.

This happened especially in Italy where the general troubles that the market globalization has created for European manufacturing enterprises, are worsened by the inefficiency of the Country-system, by the high taxes and the heavy social burdens that fall on the labour cost. It starts then, in the early 2000s, a race of manufacturing enterprises toward foreign nations. Not only towards East, China included, but also towards the developing Countries of the European Union, which offer facilitated establishment conditions and a very favourable tax system to enterprises.

Globally they calculate that from 2000 to 2010 over 10,000 companies left Italy, to be summed to the other 17,000 that had already left the Country with the previous delocalization phase, landing in the most different destinations.

The other side of the coin
To go on in the global delocalization ambit, however, is not always easy, especially for small enterprises. The initial difficulties of knowledge of cultural, social and legislative realities of the Countries where we are going to operate are summed to financial and operational problems, which need reasonable times and adequate resources to be faced with awareness. There are then the problems linked with the choice of local partners and with the service level, besides those concerning the production quality, so that the quality control constitutes the weak link of the new supply chains.

It is for these reasons that in the latest years we can see numerous cases of activities going back to their homeland because, without an accurate analysis of all the aspects, they had been recklessly outsourced abroad considering the simple economic advantage of the minor labour cost. For this reason and for a whole range of other considerations, productive delocalizations have recently stopped or at least slowed down. Even in China (included Hong Kong) the balance between the created enterprises and those sold by Italian entrepreneurs showed the negative sign in 2011.

A typical example of this “re-localization” of activities at home is represented by the mould and die manufacturing, a sector where the Italian engineering industry is world leader, availing itself of high competences and sophisticated automation technologies. Since it is a sector with high work intensity, in a certain phase it seemed that there was no more space for a domestic production, to the extent that numerous users of moulds and dies had thought of turning to Chinese enterprises, favoured by the low costs of labour, of material and of energy. This was actually true only for relatively simple moulds and dies while, when the complexity of the solution is high, the problems concerning the definition of moulds and dies, their possible modifications, installation and maintenance have made the operation much less advantageous than what was initially thought.

In other cases, such as in Italian induced activities of the household appliance industry, it was reasonable to think that most of these enterprises would have followed the customer industries, which had delocalized abroad good part of their production. But most of these enterprises, generally small-size ones, were not willing to face the costs of a new establishment abroad without the guarantee, which their customers could not give, of the continuity of the supply relationship for a sufficiently long time to justify the necessary investments.

At the same time, owing to the growing unemployment, it starts spreading among the Governments of the major European Countries the belief that it is necessary to intervene to protect the national manufacturing industry, with measures favouring local products. Contemporaneously, the explosive industrialization of Eastern Countries and of China has entered a slowdown phase, while in those same countries become unbearable the serious problems caused by pollution and by the social development that cannot be put off anymore.

Under these conditions, even if it is still early to be able to state that we are living a turning point in the global distribution of manufacturing activities and international trades, they are anyway multiplying the signals that induce to think that the world, in its whole, is going to search for a new more advanced level of balance between industrially mature Countries and rising nations.