1 Goods for processing Training Workshop on 2008 SNA for ECO Member States October 2012, Tehran, Islamic Republic of Iran GULAB SINGH United Nations Statistics Division

Introduction With globalization and outsourcing, it is becoming more common to have parts of a production process conducted in different economies. Firms are increasingly sending their material to an affiliate or non-affiliate for processing. Sometimes the material (raw materials or semi- processed goods) is sent to firms within the domestic economy; sometimes the material is sent abroad. The process of sending material for processing is called "goods sent for processing". This practice is very common in industries such as chemicals, manufacturing of electronic and metal goods.

3 Treatment in 1993 SNA and BPM5 Both the 1993 SNA and BPM5 treated goods that were sent abroad for processing and then returned to the same country as undergoing an effective change of ownership – treatment based on physical movement of goods basis The goods were therefore recorded in exports and imports when they leave the first country and again when they return to it. The country undertaking the processing was shown as producing goods which were valued as their full value, even though the processor never has to pay for the value of the goods on entry. Transactions are imputed.

4 Treatment in 1993 SNA and BPM5 - Example An enterprise in Country A owns raw materials/semi- finished goods valued at 80 units. In period 1, the raw materials/semi-finished goods are sent to an enterprise in Country B for assembly/processing. In period 2, enterprise in country B undertakes the processing. In period 3, finished goods are returned to the enterprise in country A, which pays a 20 unit processing fee to the enterprise in country B. Enterprise in country A retains ownership at all times.

5 Country B: Processing (Contractor) Country A (Principal) 80 unit materials Finished goods returned after processing 20 unit processing fee

SNA and BPM5 treatment (Gross approach/Imputed change of ownership) Country A: Period 1: Exports of goods 80 Imputed reduction in inventories of 80 Imputed increase in accounts receivable of 80 Period 3: Imports of goods 100 Imputed increase in inventories of 80 Imputed reduction in accounts receivable of 80. Country B: Period 1: Imports of goods 80 Imputed increase in inventories of 80 Imputed increase in accounts payable of 80 Period 3: Exports of goods 100 Imputed reduction in inventories of 80 Imputed reduction in accounts payable of 80

7 Change from 1993 SNA and BPM5 treatment – Why? Both the 1993 SNA and BPM5 treated goods that were sent abroad for processing and then returned to the same country as undergoing an effective change of ownership – treatment based on physical movement of goods basis The goods were therefore recorded in exports and imports when they leave the first country and again when the return to it. The country undertaking the processing was shown as producing goods which were valued as their full value, even though the processor never has to pay for the value of the goods on entry.

8 Change from 1993 SNA and BPM5 treatment – Why? With the increasing importance of offshore processing, this treatment is increasingly questionable. Case study : Small Country C assembles personal computers on a fee for processing basis for an owner in Large Country U. Large stock of computer chips, owned by business in Country U, held in storage in Country C for future assembly/processing. Owners in Country U decided to scrap the entire stock of existing chips to make way for a new model/version. Result: If followed 1993 SNA and BPM5, Country Cs trade balance much worse (chips imported, but never exported). Huge holding loss experienced by Country C.

SNA and BPM6 treatment Transactions should be based on ownership principle. The SNA shows transactions, not physical movement of goods. The SNA concept of ownership and balance sheet is to show assets with the entity that has the risks and benefits of ownership, not physical possession. Export and imports should be recorded on a strict change of economic ownership basis. Imports and exports of goods sent abroad for processing are no longer recorded. Processing fees are recorded as service (net basis of recording)

10 Goods for processing – domestic economy Though goods sent for processing are mostly discussed in an international context, the phenomenon also occurs on domestic markets. When goods move between affiliates (establishments of the same enterprise), there is no change of ownership since the entities have the same owner. Where goods move from A to its affiliate B and then B sells the processed goods on the open market, a change of ownership must be recorded. In such a case, according to the 2008 SNA, establishment A is viewed as taking the risks related to production, determining the price of the processed goods and finding buyers for them.

SNA and BPM6 treatment (Net approach/No imputations) Country A: Period 2: Imports of processing services 20 Goods stay on Enterprise As balance sheet all the time. Country B: Period 2: Exports of processing services 20

12 Example Country A sent to country B of raw materials worth 80 units for processing. 100 units worth of finished goods are sent back to country A after processing. A 80 B ( proc 20) A (100) The 1993 SNA treatment is based on physical movement of goods The 2008 SNA treatment is based on change of ownership principle 1993 SNA Country A (Principal) Country B (Contractor) Export of goods 80Import of goods 80 Import of goods 100Export of goods SNA Country A (Principal) Country B (Contractor) Export of goods 100Import0 Import of services 20Export of services 20

13 Effects on SNA accounts Current account Under the 2008 SNA, the imports and the exports of goods sent for processing are no longer recorded. The processing fees are recorded, as a service and the import (export) of the principal (contractor). In principle, the overall current account balance is not affected. However, trade in goods will diminish while trade in services will increases by the same amount.

14 Effects on SNA accounts Production account Under the 1993 SNA, the value of goods sent for processing entering the country of the contractor is allocated to intermediate inputs of the receiving industry. The value of gross output of that industry is equal to the value of the material and the processing fee. In the 2008 SNA, the value of the goods to be processed is not included in intermediate consumption. Value added in the processing economy is unaffected.

15 Effects on SNA accounts Accumulation account 1993 SNA treatment implies a need to record a change in inventories in the capital account and balance sheet of the processor if processing is unfinished at the end of the accounting period. Since the capital account and the balance sheet of the Principal country will also be adjusted for inventories, imputations will be necessary in the financial account of both countries to prevent errors and omissions in BOP equal to the value of the goods sent for processing. Under the 2008 SNA, no imputations will be necessary, Though better information on business practices related to trade in goods will be needed.

16 Data sources Trade data The main source for the compilation of the BOP is the merchandise trade statistics, recorded at physical movement of goods basis. The trade data may be coded to identify goods for processing as well as goods resulting from such processing. Identify goods that are declared as "for processing when they clear customs, and use the information to adjust merchandise trade estimated on a balance of payments basis

17 Data sources Sample surveys In the production surveys, for a principal unit, new questions need to be added covering: Value of goods of own manufacture that are sent abroad or outsourced domestically for processing, Post processing value when the goods are returned, and Fees paid to foreign and domestic contractors Adjusted for timing and transaction costs, make up the difference between the two values. The two gross values, summed across all industries, could be compared with the tagged data obtained from customs sources to enhance data quality and consistency of a given class of goods.

18 Goods for processing – A sum up Change of economic ownership: Export and imports should be recorded on a strict change of economic ownership basis. Net basis of recording:– processing fees are recorded as service. Goods sent abroad for processing: Imports and exports are no longer recorded. Processing fees are recorded as service and export of the contractor. Effects on SNA accounts: Overall current account balance is not affected - trade in goods will diminish while trade in services will increases by the same amount, Value added in the processing economy is unaffected, and Accumulation accounts - no imputations will be necessary, Data Sources: Merchandise trade data - identify goods for processing as well as goods resulting from such processing. In the production surveys, for a principal unit, new questions need to be added

19 Thank You