Absorptive capacity and growth nexus in the South African pharmaceutical sector

Abstract

South Africa is the largest pharmaceutical producer in Africa, with a market exceeding $3.9 billion and around 128 companies, including Aspen Pharmacare and Adcock Ingram. However, the industry heavily relies on imports for Active Pharmaceutical Ingredients (APIs) and some finished products, exposing it to external shocks, higher prices, and counterfeit products, leading to reduced domestic manufacturing. In recent decades, the sector has engaged in intra-industry trade (IIT), which is believed to spur innovation and facilitate the adoption of advanced technologies. IIT also increases the capacity to absorb external knowledge, stimulates growth by integrating more sophisticated production techniques, and expands market reach. The study assessed the relationship between absorptive capacity and growth through IIT covering 2002-2021. This was achieved by addressing five goals of the research, which are (i) measuring IIT and identifying its key driving factor, (ii) determining the comparative advantage within the South African pharmaceutical sector and pharmaceutical trade complementarity with other African countries, (iii) identifying determinants of absorptive capacity, (iv) establishing the relationship between IIT and absorptive capacity, (v) and examining the effect of IIT and absorptive capacity on the growth of the South African pharmaceutical industry. To address the first objective, the study utilized the Marginal Intra-Industry Trade (MIIT) index and Unmatched Changes in Trade (UMCIT) to assess how new imports are matched by exports. The findings revealed a low proportion of new matching trade, indicating that trade is mostly inter-industry with limited specialisation. Subsequently, the study identified productivity as a key driver of exports needed to improve IIT in the South African pharmaceutical sector. Using the Malmquist Total Factor Productivity (MTFP) index, the study found that productivity is mainly driven by technical changes. Periods of high Total Factor Productivity correlated with significant intra-industry trade and specialisation in the sector. The second objective was addressed by employing the Normalized Revealed Comparative Advantage Index, comparing South Africa to 17 countries, made up of six African, three emerging, and eight developed countries. The results indicated that South Africa has no comparative advantage in producing pharmaceutical products, with a comparative disadvantage in producing products under the category HS3004. However, there is potential to specialise in producing products in categories HS3005 and HS3001. Egypt, Tunisia, Morocco, and Nigeria are the only African countries that showed some comparative advantage in producing pharmaceuticals. The study subsequently measured pharmaceutical trade complementarity between South Africa and selected African and emerging countries. The results revealed a strong alignment in trade, providing insights for promoting intra-African trade in pharmaceuticals under the AfCFTA agenda. To address the third to the fifth objectives, the study used the Partial Least Squares-Structural Equation Model (PLS-SEM) to examine the determinants of absorptive capacity, its relationship to intra-industry trade, and how this relationship affects growth in South Africa’s pharmaceutical sector. The findings revealed that Trade Barriers, Research and Development share (R&D), Institutional Quality, Foreign Direct Investment, and the Number of Patent applications are key determinants of absorptive capacity in the pharmaceutical sector. Additionally, the results showed that absorptive capacity mediates the relationship between intra-industry trade and growth. Furthermore, low intra-industry trade negatively affects industry growth. The findings of this study are relevant for achieving the shared objective of the PMPA and the African Continental Free Trade Area (AfCFTA) of improving access to medicines and healthcare products across the African continent, which provides an opportunity for South Africa to establish and uphold a connection between trade and health within the continent. The study recommends strategically aligning international technology with local innovation and emphasizes the need for strong government support in R&D investment and infrastructure. South Africa requires a sustainable innovation system to ensure consistent technological improvements to enhance intra-industry trade, rather than relying on crises like HIV/AIDS and COVID-19 for technological advancements.