The Internet and SME Participation in Exports

Highlights

• The Internet effect on the share of small and medium-sized enterprises (SMEs) in total exports is investigated

• The Helpman, Melitz and Yeaple (2004) model is extended to allow firms to export via e-commerce platforms

• Empirical evidence supports the theoretical prediction that SMEs account for a larger share as the Internet develops

• Similar effects are found for improved Internet quality, but not for phone development

• E-commerce platforms and traditional intermediaries are imperfect substitutes

Abstract

This paper analyzes the effect of the development of the Internet on the share of small and medium-sized enterprises (SMEs) in total exports. We extend the Helpman, Melitz and Yeaple (2004) model to include the opportunity for firms to pay lower fixed export costs by exporting indirectly via well-established e-commerce platforms. SMEs self-select into the indirect exporting mode. In response to the development of the Internet, fixed costs of indirect exporting fall at a higher rate than fixed costs of direct exporting. Consequently, SMEs tend to account for a larger share in total exports as the Internet develops. Using two samples from the Exporter Dynamics Database, we find supporting evidence that the development of the Internet in the exporting country has a significant and negative effect on the share of exports by the top 5% or 25% of exporters, implying a larger share of SMEs. Moreover, we find that improved submarine cable infrastructure in the exporting country also leads to a lower share of exports by large exporters. These are in contrast to the estimated positive effect of telephone development in the exporting country, which may not disproportionately benefit indirect exporting via e-commerce platforms over direct exporting. Finally, we find an imperfect substitution relationship between e-commerce platforms and traditional intermediaries.

Introduction

Internet infrastructure nowadays underpins economic and social activity worldwide. Its presence alters the way firms conduct international business by dramatically reducing information frictions, search costs and communication costs and by forming the e-commerce¹ landscape. Small and medium-sized enterprises (SMEs) have been well known for their contributions to economic development and social well-being, and better access to global markets is key to strengthening SME contributions (OECD, 2019b). Whether SMEs are given more opportunities in international trade through the spread of Internet technology then becomes an important issue.

How does the development of the Internet affect the share of SME exports in total exports? The removal of trade barriers by virtue of the development of the Internet could stimulate the exports of both large firms and SMEs, but the extent of enhancement may differ. One view is that large firms may become the main beneficiaries by accounting for an even higher share in total exports as the Internet develops. Given large firms’ advantages in scale and scope, they are able to exploit many new opportunities that are out of reach to individual SMEs.²

The other view is that the share of SME exports is likely to rise in response to the increasing penetration of the Internet. Advances in digital technologies, differing from other trade facilitation measures such as lower tariffs³, have led to the emergence of online services and e-commerce platforms such as Alibaba, Amazon, Ecplaza, and Tradeindia. Their important intermediary role in international commerce has gained attention, as they lower barriers to starting and operating overseas businesses for SMEs, thereby realizing SMEs widespread participation in the global market (e.g., Kuwayama, 2001; OECD, 2019a; (World Trade Organization WTO, 2016) and offering them a level playing field for competing with their larger competitors (Cho and Tansuhaj, 2013). Although large firms have been early adopters of the Internet (World Bank Group, 2016), the development of the Internet may matter more to the exports of SMEs. Therefore, this is an empirical question to be explored.

To guide the empirical analysis, we propose an adaptation of the Helpman et al., 2004 model by incorporating the firm’s indirect exporting technology via e-commerce platforms. The model predicts that the increasing penetration of the Internet could enhance the share of SME exports. Specifically, we consider that firms exporting via e-commerce platforms pay lower fixed export costs, but higher service fees that translate into higher variable trade costs. In the presence of well-established e-commerce platforms, all SME exporters, or even some less productive large exporters, choose to export indirectly instead of directly exporting, and only the most productive firms choose to overcome the high fixed costs of directly exporting to foreign markets. As the development of the Internet propels e-intermediaries to keep evolving and revealing more cost advantages, the fixed costs of indirect exporting fall at a higher rate than the fixed costs of direct exporting, which leads to a larger share of SME exporters and a smaller share of exports by large firms in total exports.

Our empirical examination mainly relies on the Exporter Dynamics Database, which records the share of exports by the top 1%, 5%, and 25% of exporters from 1997 to 2014. One minus each share above is employed to characterize the share of SME exports in total exports. The standard deviation of the export value per exporter in the database is employed to control for the dispersion of exporter size. The development level of the Internet, which is the key explanatory variable, is measured by the percentage of individuals in the total population that use the Internet, which is based on the World Development Indicators.

The prediction that the development of the Internet boosts the share of SME exports in total exports is empirically supported in this work. The empirical analysis takes advantage of two data samples at the exporting country-product(HS2)-destination-year level (CYH2D) and at the exporting country-product(HS6)-year level (CYH6) separately. After controlling for various country characteristics and fixed effects at the lowest possible levels to partial out corresponding unobserved variables, we find that in the exporting country, the significantly negative effect of the development of the Internet on the share of exports by the top 5% or 25% of exporters remains in both samples.

This paper contributes to the burgeoning literature on the effects of information and communication technologies (ICTs) on international trade⁴ by exploring the nature of exporters in terms of their size. Although this line of literature has generally recognized the trade-liberalization effect of Internet technologies,⁵ the impact may not be the same across heterogeneous firms. We employ export share instead of export flow as the dependent variable in this work. The change in the share of SME exports sheds light on the resource allocation between SMEs and large exporters, especially when their exports both increase. In addition, some common determinants of the trade flows of SMEs and large exporters are eliminated when calculating the export share theoretically so that their potential confounding effects in explaining export share could be of less concern.

The following strategies and corresponding findings are also worth noting. First, we incorporate telephone development in the empirical specification to make a comparison with the development of the Internet, considering that they both fall into the category of national telecommunication infrastructure with active roles in reducing transaction costs. In contrast to the negative effect of the Internet on the share of large exporters, we find that telephone development exerts a statistically positive effect on the share of large exporters. We interpret the evidence as reflecting the key difference that the formation of e-commerce platforms relies fundamentally on the Internet, but not on phone calls.

Second, we construct a measure of the submarine cable infrastructure, and add it as an additional regressor to control for the qualitative differences of Internet traffic across countries that are not reflected by Internet penetration. This infrastructure is the key to cross-border data transfer. Due to the heavy reliance of e-commerce platforms on system capacity and data transfer speed for their services, the trade facilitation effect of improved Internet quality could be stronger for indirect exporting than direct exporting. A higher level of the submarine cable infrastructure is found to be associated with a larger share of SME exports. In this way, we provide suggestive evidence on the potential role of e-commerce platforms that is consistent with the baseline results.

Third, by exploiting the CYH2D sample further, we find that the share of SME exports increases with the development of the Internet to a lesser extent in sectors that have more traditional intermediaries relative to other sectors. Meanwhile, sectors that have more traditional intermediaries have larger shares of SME exports than other sectors, but the difference may lessen as the Internet develops. The results shed some light on the imperfect substitution relationship between e-commerce platforms and traditional intermediaries.

Empirical works that relate the development of the Internet exclusively to the trade performance of SMEs are scarce. Lendle and Olarreaga (2017) show that online markets provide smaller firms access to international markets by using data from eBay sellers. Lanz et al. (2018) find that SMEs tend to participate more in global value chains in countries where a higher share of the population has fixed broadband subscriptions. Our study provides further evidence that the impact could be biased in favor of SMEs, as it quantitatively assesses the impact of the Internet on SMEs in terms of their share in total exports using internationally comparable data.

Research on the traditional intermediaries in international trade (e.g., Blum et al., 2010; Ahn et al., 2011; Felbermayr and Jung, 2008 and Akerman et al., 2018) has investigated the influence of traditional intermediaries on the export behavior of SMEs. To some extent, e-intermediaries act similarly to wholesalers and other traditional intermediaries in international trade. However, e-intermediaries differ from traditional trade intermediaries inasmuch as the Internet plays an elementary role in the emergence and development of e-intermediaries.

The rest of the paper is organized as follows. Section 2 introduces the theoretical framework for modeling firm heterogeneity with e-commerce platforms. Section 3 describes the empirical strategy and the data in detail. The empirical results from the CYH2D sample are presented and discussed in Section 4, while those from the CYH6 sample in Section 5. Section 6 presents the conclusions.