Does Manufacturing Matter? Forward Linkages and Downstream Growth in the Malaysian Solar Industry

In light of the rapidly rising climate change threat, emerging economies are vying to build a domestic solar industry across the value chain. 

Scholars have argued that industrial policy that targets manufacturing and learning from foreign direct investment (FDI) creates forward linkages in downstream segments of the supply chain in emerging economies.

Recently though amid the recent US-China trade war, China rerouted solar manufacturing to Malaysia, Vietnam, Thailand and Cambodia to avoid United States and European Union tariffs. Did this new manufacturing relocation lead to more installation among local countries that receive upstream FDI?

In a new working paper, Ishana Ratan finds that Chinese production relocation had no effect on local solar installation. Rather, she found that exports from mainland China reduced solar technology costs for Malaysian firms, while Chinese panels manufactured in Malaysia were  exported to Western countries.

Moreover, Chinese manufacturers in Malaysia profited more from exporting to the US rather than selling to locals, meaning that panels produced in Malaysia are not consumed in the local market. Ratan says this finding calls into question existing industrial policy scholarship that emphasizes the localization of production for downstream market growth and indicates that escalating global trade tensions can lead to inefficient externalities that do little to benefit local markets through technology transfer.

Main findings:

• Countries with antidumping (AD) laws imported fewer Chinese solar module imports, while the rest of the world imported more Chinese products: the US and EU tapered off their share of Chinese exports after tariffs were introduced in 2012 and 2013, respectively, while countries like Malaysia found a new, low-cost source of solar panel supply.
• Exports from middle-income Southeastern Asian countries increased to countries with active AD duties, namely the US and EU: Panels manufactured in Malaysia were exported to countries with tariffs against China, rather than purchased by local firms. Solar imports from China increased to Malaysia while local exports to the US and EU increased, consistent with a strategy of tariff circumvention.
• Global declines in the cost of solar technology allowed Malaysia to import low-cost modules and leave costly suppliers behind: Chinese manufacturing overcapacity has allowed Malaysian firms to swap out costly German panels for low-cost alternatives, with the cost reduction in switching from German to Chinese modules a significant factor in boosting industry growth.

While China’s industrial policy is shaping the local solar industry in emerging markets, Ratan emphasizes that these changes are likely not through the relocation of production facilities and technology transfer via forward linkages to local markets. Rather, her findings indicate that while cost reductions did indeed occur due to Chinese solar panels, it was not through production localization, but through across-the-board cost reductions for firms in the Malaysian market that likely occurred elsewhere in similar economies.