manufactures account for about 25 per cent of gross domestic product in 1995 and 21 per cent in 2011 (EU 27 median). In 2011, it ranged from a low 13% in Greece to 28% in Germany and even 31% in Hungary.

Ideally, to measure competitiveness one would like to cover value added in all activities that are internationally contestable, and not only those in the production of manufactures.<sup>3</sup> An increasing part of world trade is in services, and only (part of) intermediate services are included in GVCs of manufactures. GVCs of manufactures cover about 59% of gross export flows of all products (primary, industrial and services) in 1995 and 55% in 2008 (median across EU 27). GVCs of services cannot be analyzed however, as the level of observation for services in our data is not fine enough to zoom in on those services that are heavily traded, such as for example consultancy services. The lowest level of detail in the WIOD is “business services” which for the major part contains activities that are not internationally traded, and hence are much less interesting to analyze from a GVC perspective. Only 5 percent of final output of these services is added outside the domestic economy (EU 27 average in 2008), while this is 29 percent in manufacturing as shown later. This is all the more true for other services, such as for example personal or retail services. They require a physical interaction between the buyer and provider of the service and a major part of the value added in these chains is effectively not internationally contestable. More detailed data on trade in and production of services is needed before meaningful GVC analyses of final services can be made.

Note also that the GVC income measure includes value added in the production for both domestic and foreign final demand, which is particularly important for analyzing the competitive strength of countries with a large domestic market. To see this, assume that final demand for cars by German consumers is completely fulfilled by cars produced in Germany with all value added in domestic industries. In this case, the value of consumption accrues completely as income to German production factors. If German car producers start to offshore part of the activities, GVC income will decline. Similarly, if German consumers shift demand to cars from Japan, GVC income in Germany will decline as well. In contrast, measures based on foreign demand and exports only will not pick up this trend.

It is also important to note that GVC incomes are measured on a domestic, rather than a national basis. It includes the value added on the domestic territory and hence measures competitiveness in terms of generating GDP, not national income. To the extent that the value is added by labor, this difference will be small as the majority of domestic workers are employed in the domestic economy. Typically in advanced nations about three-quarters of the value added generated in an industry is labor income. But the divergence between domestic and national is important for the remaining value added by capital. Much of the offshoring is done by multinational firms that maintain capital ownership and hence GVC income in the outsourcing country is underestimated and income in the receiving country is overestimated. Data on foreign ownership and returns on capital is needed to allow for an income analysis on a national rather than a domestic basis, which is left for future research (Baldwin and

> 3 In the limit, GVC income is equal to gross domestic product when final demand for all goods and services in the world economy are taken into account. Hence for a meaningful analysis, one has to limit the group of products and we focus on those products for which production processes are most fragmented and which can be analysed with the data at hand.

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