No. 509 Structural Transformation and Economic Resilience:The Case of Malaysia Cassey LEE* ISEAS – Yusof Ishak Institute, Singapore Abstract:Exports have been a critical source forthe resilience of the Malaysian economyduring the COVID-19 pandemic and post-pandemic period. Long-term structural change inintersectoral production networks could have reduced this resilience. Stronger domesticintersectorallinkages and declining participation in backward global value chainparticipation are likely to reduce the impact of positive export shocks on the country’seconomy. The services sector has become increasing important over time.Consumption inthe services sector is clearly an important driver of growth. A positive export shock isenhanced by higher domestic intersectoral linkages in the services sector but not inmanufacturing. Keywords: structural change, exports, macroeconomic fluctuationsJEL Classification: F14, E32, L16 1.Introduction The Malaysian economy experienced a sharp contraction during the novel coronavirusdisease (COVID-19) pandemic. The country’s real gross domestic product (GDP) growthdeclined by 6.2% in 2020. The contraction was primarily brought about by the severe lockdownimposed by the Malaysian government as well as cross-border travel restrictions. Malaysiawent through several phases of mobility restrictions starting in mid-March 2020. The countryonly began to enter the endemic recovery phase in early August 2021. The Malaysian economysubsequently experienced a robust recovery in 2021, achieving an 8.9% growth in real GDP(Figure 1). Exports played a positive role in terms of shielding the economy from experiencing adeeper contraction in 2020 and in supporting economic recovery in 2021 and 2022. In otherwords, the country’s export sector was resilient during the pandemic and recovery periods. Itis possible that the resilience of Malaysia’s export sector could be understood from theperspective of long-term structural changes in the economy and the global demand formanufactured goods. There has been a lack of research on this topic. The goal of this paper is to analyse how structural changes in the Malaysian economyhave affected the resilience of the country’s economy. To do this, this paper will examine howthe Malaysian economy has changed structurally from 2000 to 2020 in terms of sectoral GDP,trade structure, and global value chain (GVC) participation. It is hoped that the findings of thispaper will shed some light on how structural changes have affected the resilience of theMalaysian economy in terms of domestic and external shocks. The research literature that informs this study is drawn from research on intersectoraldomestic linkages, GVC, and macroeconomic stability. This diverse body of literature isconverging towards a research framework that links economic fluctuations to firm sizedistribution and production networks. Such a framework links long-term structural change inproduction networks to macroeconomic fluctuations and stability. The outline of the rest of the paper is as follows. Section 2 will discuss the relevantliterature and their key findings. Section 3 analyses the trends in structural trends in Malaysiafrom various perspectives. The state of inter-industry production network is examined inSection 4. An econometric analysis is carried out in Section 5. Section 6 concludes. 2.Literature Review The research literature relevant to this study is based on structural change and economyvolatility. Key characteristics of structural change include sectoral composition of the economyand inter-sectoral linkages (as measured through input–output tables). Carvalho (2008) provides an analysis of how intersectoral production linkages canamplify macroeconomic fluctuations. In the study, productivity fluctuations in hub-likeconnected sectors propagate through the economy. An economy’s response to exogenousshocks depends on the production network structure of the economy. Acemoglu et al. (2012) studied how the propagation of idiosyncratic shocks andaggregate fluctuations depend on the structure of interactions between different sectors. Inparticular, productivity shocks in a given sector can be cascade to the entire economy if thesector has higher-order interconnections with other sectors. Moro (2015) provide evidence that an increase in share of services in GDP reduces totalfactor productivity growth and volatility. This is explained by the fact that the services sectorhas less share of intermediate goods in gross output, which leads to it having a smallermultiplier. Constantinescu and Barauskaite (2018) used the interconnected network approach toexamine how shocks propagate in open economy. The authors find that the sectoral linkagesresult in a decay in aggregate economic volatility but at a rate lower than theoretical prediction.Such linkages appear to be important in closed as well as open economies. Klimek, Poledna, and Thurner (2019) estimated resilience as a nonequilibr