Global services providers fuelling growth in developing countries

In April a New York fried chicken shop went viral.

It was not the food at Sansan Chicken East Village that captured the world’s imagination, but the service.

Diners found an assistant from the Philippines running the till via video link.

The service is provided by Happy Cashier, which connects American firms with Filipino workers. Chi Zhang set up the business after his restaurant failed during the COVID-19 pandemic.

He says that overseas workers also answer phone calls and monitor security camera footage — doing so at a fraction of the cost of locals.

Virtual cashiers are a visible part of a much bigger trend: the rise of service exports from the developing world.

Exports of goods are familiar. Factories churn out widgets, which are shipped to customers around the world. Yet improved international connectivity has made various kinds of outsourcing and digital commerce much easier.

As a result, service exports have jumped by 60 per cent over the past decade, reaching $US7.9 trillion (7.5 per cent of GDP) in 2023. The market for physical merchandise is even bigger, at $24t, but has grown far slower, remaining flat as a share of GDP

\What does this mean for countries hoping to get rich? Speaking in 2005 Lee Kuan Yew, Singapore’s first prime minister, said that, “since the industrial revolution, no country has become a major economy without becoming an industrial power.”

But since 2005, the world has changed. Manufacturing is now more capital-intensive, making it easier for China to retain its role as the world’s factory.

In the past few years, western countries have embraced industrial policy and protectionism in an attempt to boost domestic manufacturing. Policymakers in emerging markets are arguing about how best to respond.

At present, services are mostly exported by rich countries, where white-collar professionals often work across borders. Although China surpassed America as an exporter of goods in 2009, Uncle Sam still exports two-and-a-half times more services than his rival.

Britain, which has fallen to 14th place in the global rankings when it comes to goods exports, remains the world’s second-largest services exporter.

But developing economies are starting to make a mark in the more advanced types of services that can be sold overseas. Many countries export audiovisual, computer and telecommunication services.

In Bulgaria, Estonia, Latvia, Moldova, Romania and Ukraine these run to more than 3 per cent of GDP. India is the best-performing Asian country in this category; its exports fall just short of 3 per cent of GDP.

In an economy of India’s size, that means a big industry. The country’s five largest it firms have a joint market capitalisation of nearly $350b. It is also home to 1600 global capability centres—technology and research centres for multinational firms—that employ 3 million people. All told, India’s services exports account for nearly 5 per cent of the world’s, up from 3 per cent a decade ago.

The less techy category of “technical, trade-related and other business services”, which covers things such as accounting and human resources, is another area of growth. Estonia and the Philippines top the table here, with such exports accounting for over 5 per cent of their GDP. Like India, the latter offers low labour costs, as well as a large English-speaking population.

In many countries workers also take casual gigs online. These are hard to measure, but two-thirds of the freelancers on English-speaking platforms such as Upwork and Fiverr are based in emerging economies.

Then there is tourism. Not every country can replicate Japan’s temples or Mexico’s beaches, but many are finding ways to entice visitors, such as with medical services. Dentistry, hip replacements and hair transplants are among the treatments on offer. Costa Rica, Croatia and Moldova export health services worth between 0.2 per cent and 0.5 per cent of their economic output. Armenia and Jordan manage 1 per cent each.

A few hours in Istanbul airport provides a display of the thriving industry, as men return home with their heads wrapped in plastic, fresh hair taking root underneath.

In the short term, it seems likely that service exports will keep growing.

In 1992 Stan Shih, founder of Acer, a Taiwanese computer-maker, coined the term “smile curve” to describe how value added in the manufacturing process was rising faster in the first and third parts of making a product (design and distribution, respectively) than in the second stage (manufacturing).

As manufacturing has become more competitive, the smile has deepened.

Think of Apple, which designs and distributes iPhones, and collects the rents from its brand, but produces none of the tech itself.

Its market capitalisation is more than $3t, whereas Foxconn, which makes 70 per cent of the firm’s iPhones, is worth just $99b.

Even more cheerful is the fact that the rise of remote work has made firms far more comfortable with outsourcing operations. After all, a remote employee is not that different from an outsourced one.

But will service exports raise living standards in the manner of manufacturing?

Harvard University’s Dani Rodrik said the industry had historically possessed advantages in three areas: it is more technologically intensive, produces internationally tradable goods and creates lots of jobs. Although services is closing the gap in the first two areas, manufacturing still offers more employment.

Start with technological growth. A factory in a poor country brings man and machine together, placing an unskilled worker at the tech frontier.

Then, as the tech improves, the worker becomes still more productive. Tradable services cannot absorb unskilled workers in this manner.

Yet as the World Bank has observed, since the 1990s labour-productivity growth in emerging economies outside of East Asia has risen at roughly the same rate in services as manufacturing—and services productivity has grown faster in emerging economies than rich ones.

Moreover, artificial intelligence may soon provide service workers with another lift. Two experiments have found that AI tools help the least skilled knowledge workers catch up with more skilled ones when writing marketing copy and providing customer service.

Services are also closing the gap with manufacturing when it comes to tradability, albeit slowly.

Before the internet, the ability to send products overseas was the main way in which goods differed from services. Trade allows exporters to reach much larger pools of demand and achieve economies of scale that would otherwise have been beyond them. Because goods trade has been stagnant as a share of global GDP since 2010, it has become more difficult for newcomers to compete.

Services trade is booming, and thus more welcoming. But even at the growth rate of the past decade, it will take 15 years to reach half the value of trade in manufactured goods.

Job creation is an even thornier issue.

Marc Lautier of the University of Rennes has calculated that, despite automation, the number of manufacturing jobs in 160 countries for which he has data has remained stable since 1991, accounting for 14 per cent or so of total employment.

The problem is that it has become more difficult for governments to attract these jobs. Manufacturing is not moving away from East Asian powerhouses at the same pace as it moved to them in the late 20th century, in part because modern factories require more capital and skill to build.

Our analysis of labour-market data from 51 mostly emerging markets finds that only five — China, Sri Lanka, Taiwan, Turkey and Vietnam — have 18 per cent or more of their population employed in manufacturing, compared with 16 per cent in 1990.

Growth in services offers only modest consolation since services do not tend to offer labour density. The World Bank notes that since 1990 service jobs have risen from 40-50 per cent of global employment, as workers left agriculture.

But just 5-10 per cent of emerging-market service jobs are in tradable, techy industries, compared with 15-20 per cent in rich countries.

India’s IT industry may garner $250b in annual exports, worth nearly 8 per cent of the country’s GDP, which is on a par with manufactured exports. Yet it only employs 8 million people from a working-age population of around 1 billion.

In the long run, AI might cause problems. Models are best at well-defined tasks that do not need in-person context. That makes business services vulnerable.

A report by consultancy Capital Economics argued that AI could lead to the “slow demise” of India’s services exports, cutting growth by 0.3-0.4 percentage points a year over the next decade.

The spread of communication tech has facilitated services outsourcing. Fresh technological change could, in time, be its undoing.

Despite the downsides of a services-oriented approach to development, especially when it comes to providing decent jobs in large numbers, developing economies simply have fewer choices today than they once did.

Governments that want to boost growth will therefore have to focus on different things. Whereas they once had reason to ensure that workers could easily move from farms to factories, today they would be better off paying attention to human capital among future white-collar workers.

Richard Baldwin of IMD Business School said large, well-functioning cities will take on greater importance, too, since services often depend on agglomeration.

Getting services right, especially those which can be sold overseas, is now a crucial condition for growth.