NS4301 Summer Term 2015 Growth Accounting

1. NS4301 Summer Term 2015Growth Accounting

2. Growth Accounting: Introduction • IMF, Anchoring Growth: Importance of Productivity-Enhancing Reforms in Emerging and Developing Economies (EMDEs), December 2013 • Understanding Past Growth Drivers: A Supply Side Perspective • IMF uses a neoclassical growth model to estimate past sources of growth in the EMDEs • Despite broad based growth in the EMDEs during past decade: • Underlying drivers of catch-up convergence at aggregate and sectoral levels have varied • Suggests different challenges for sustaining growth momentum • Convergence gaps with advanced economies remain wide point to significant catch-up potential

3. National Growth Accounting I Convergence • Rapid growth of EMDEs since mid 1990s reflects resumption of catch up convergence • Economic theory predicts economies further from the global technological frontier will experience stronger economic growth: • Given high return investment opportunities and • Benefits of absorbing imported technologies • In fact growth did pick up in second half of the 1990s and by mid 2000s EMDS as a whole grew faster than advanced economies • Occurred despite • The Tequila, Asian and Russian financial crisis • Sharp transition related collapses in Eastern Europe

4. National Growth Accounting II

5. National Growth Accounting III Favorable External Environment • Range of external factors supported growth • The expansion of global and regional value changes led to trade investment nexus for many countries • Asia and Central, Eastern and South Eastern Europe (CESEE) • Stimulated technology and knowledge transfer • Technology led declines in transportation and communication costs • Facelifted fragmentation of production, buoyed trade and • Propelled growth of information and communication technology (ICT) services • Historically high commodity prices, easy financing conditions led to higher rates of investment

6. National Growth Accounting IV • Domestic Drivers • Wide ranging structural forms • Better policy making and • Greater trade and financial openness • Allowed countries to take advantage of favorable external conditions • Macroeconomic stability improved across broad spectrum of countries and • Economic institutions were strengthened • Reform efforts in product markets, trade and financial liberalization picked up markedly in 1980s and 1990s • In some cases crisis catalyzed reforms • Demographic tailwinds also played a role in some countries – demographic dividend

7. National Growth Accounting V

8. National Growth Accounting VI Heterogeneity • Growth accounting suggests that catch-up has been driven by different factors • In particular, differences in real GDP per capita growth rates across regions driven mainly by labor productivity • Reflects the contribution of technology and efficiency gains (total factor productivity, TFP), greater capital intensity or both • In Europe and Central Asia productivity gains have accounted for larger share of real GDP per capita than other regions • Labor utilization lagged • Sizeable increases in TFP reflected dramatic changes in economic structures in transition • Rebound in capacity utilization in the CIS • Tighter integration with euro area in CESEE

9. National Growth Accounting VII • In developing Asia rapid growth in 19990s • Capital deepening played a more important role in catch up process compared to other regions • Facilitated by high domestic savings rates in East Asia • Region experienced solid TFP as well • Labor utilization rather than capital depending or TFP growth main driver in Latin America and Caribbean • Reflects increasing labor force participation and lower unemployment • The contribution of TFP to growth picked up in 2000s but was more modest than other regions • In sub-Saharan Africa end of armed conflicts and improved macroeconomic conditions in many countries • Led to a turnaround in TFP performance and • Greater capital deepening in the 2000s relative to the 1990s

10. National Growth Accounting VIII

11. National Growth Accounting IX • Economic structure affects growth • Higher skills and the technology component of manufacturing production and • Positive forward and backward linkages with rest of economy • Typically lead to high productivity spillovers and • Greater incentives for capital improvement • Similarly greater diversification leads to • Exports concentrated in sectors characterized by technology spillovers and product upgrading • Growth rates in economies with a high manufacturing share • A more diversified export base experienced not only • significantly higher average contribution from capital deepening • but also larger TFP

12. National Growth Accounting X Closing Convergence Gaps • Rapid growth during past few decades has translated into lower convergence gaps for many EMDEs relative to the US • However income differentials relative to the US remain large and have even widened in some or stagnated in others • Reflects shortfalls in factor inputs and especially TFP • Main implications • As of 2010 the capital to output ratios in some EMDE regions (LAC, SSA) are still lower than in the US • Suggests for some countries investment in physical and ICT (information, communications technology) will be important factors in catch-up

13. National Growth Accounting XI

14. National Growth Accounting XII • Main implications (contd.) • Employment to population rations are also lower in some regions (CESSE, CSIS, MENA) • Partly reflecting higher unemployment rates • Also labor force participation rates among certain groups (e.g. women) • Suggests that measures to boost labor force participation in these countries could be a priority • Stock of human capital (average years of schooling) is considerably lower in EMDEs • Reflects differences in age education structure of the population – expected to close provided educational attainment is sustained at current rates • But gaps in education quality remain equally pressing • Could be a significant payoff from investments in high quality education

15. National Growth Accounting XIII • Main Implications (contd). • TFP levels are well below those in advanced countries • Ranging from 12% in SSA to 55% MENA oil • Suggests a significant source of catch-up potential • Consistent with the findings in literature that TFP gaps account for the bulk of income and labor productivity across countries • Thus technological diffusion and efficiency gains are potentially a key source of future productivity growth in EMDEs.

16. National Growth Accounting XIV

17. Sectoral Sources of Growth I • To summarize • Labor productivity gains at the aggregate level, stemming from capital deepening and improvements in TFP • have been a major force behind growth in many EMDEs in recent years • Gains can be indicative over broad segments of the economy of • Better utilization of resources and • Technology catch-up

18. Sectoral Sources of Growth II • In addition, productivity gains can also accrue from structural transformation • Reallocation of resources from low – to high productivity sectors and activities • Spurts of accelerated growth (take-off) are often associated with a • Strong pickup in productivity growth across sectors and • An increasing pace of labor shifting out of agriculture Structural Change • The relative weight of different sectors in the economy is determined by • Technological progress within industries and firms • Market and non market forces

19. Sectoral Sources of Growth III

20. Sectoral Sources of Growth IV Structural Change (contd.) • With an expansion of the most productive sectors, aggregate productivity increases • Usually, reallocation of labor is from low-productivity agriculture to high productivity sectors (initially manufacturing and subsequently services • Primary channel though which advanced economies have increased their national incomes Sectoral Shares and Shifts • Some generalizations from studies from the period 1990 and 2008 • First, most regions have experienced a reallocation of resources away from agriculture, but magnitudes of such shifts have varied by region.

21. Sectoral Sources of Growth V Sectoral Shares and Shifts (contd.) • Second, in marked contrast to the past experience of advanced economies, • services account for a growing share of employment and value added, even at low levels of development • Services tend to have lower average productivity than manufacturing • Important regional differences have also shaped economic structures and caused differences in aggregate productivity and growth performance • Structural changes in CESEE and CIS have reflected their transition from central planning • Significant labor shedding in agriculture and • A shift of resources toward the previously underdeveloped

22. Sectoral Sources of Growth VI • Sectoral Shares and Shifts (contd.) • Developing Asia stands out with rapid decline in employment share of agriculture and labor sifts into manufacturing and services • Still share of employment in agriculture remains high • On average, manufacturing continues to account for a higher share in value added compared to other regions • In LAC where structural changes took place earlier than other regions • There is a high and growing share of service sector in employment and value added • In many SSA countries especially in the low income countries: • agriculture remains the largest employer, poorer countries, and • Industry’s share of value added has remained stagnant

23. Sectoral Sources of Growth VII • In countries in which growth driven by non-renewable natural resources, mining sector accounts for • A relatively high share of industry value added • The economic structure remains undiversified • Capital intensive nature of sector offers limited employment • Many workers have to drift into other sectors with much lower average productivity

24. Sectoral Sources of Growth VIII

25. Sectoral Sources of Growth IX Productivity Growth by Sector • In general productivity in tradable sectors (industry and agriculture) in EMs has exceeded that in services • However many low income countries experienced more significant productivity increases in the agriculture and service sectors • Fast growing regions that were integrated into global supply chains (developing Asia, CESEE) • exhibited higher productivity growth in industry, • particularly manufacturing compared with other regions that saw limited integration • In regions with relatively slower growth (MENA and LAC), productivity growth was highest in agriculture • But sector’s contribution to aggregate productivity growth was limited given its low share in value added • Productivity growth in LAC’s large mainly non tradable services sector notably lagged that in other regions

26. Sectoral Sources of Growth X

27. Sectoral Sources of Growth XI • Within sector or structural change effects • Analysis suggests that a within-sector component and a structural change component (the inter-sectoral shift effect) have occurred • The bulk of the surge in labor productivity growth in EMDEs between 1990 and 2008 driven by within-sector productivity growth • Reallocation of labor across sectors has been an important driver of economy wide productivity gains in • fast growing regions (Asia, CESEE, CIS), and • countries (China, Turkey, Poland, Bangladesh) that experienced employment shifts out of agriculture and has accounted for a large share of variation in regional growth rate

28. Sectoral Sources of Growth XIII • In contrast structural change on average has been • productivity reducing in LAC, MENA and SSA • Suggests that labor in these regions was absorbed by lower productivity activates • Finally, productivity growth in the mining sector in the CIS and MENA has been low as compared with other regions weighing down aggregate productivity growth

29. Sectoral Sources of Growth XIV

30. Sectoral Sources of Growth XV • Scope for further structural change • The contribution of structural change to aggregate productivity growth depends on • Differences in inter-sectoral productivity levels • These differentials remain high in many EMDEs and are much larger than in advanced economies • Implies potential for growth benefits from further structural transformation • Strategies include • Reducing agricultural productivity gaps • Moving to higher value added activities • Boosting services productivity

31. Sectoral Sources of Growth XVI • Big potential for increased services productivity • As countries develop manufacturing becomes more capital intensive and economies more serviced based • Services generally tending to be less productive than manufacturing the growing importance of the service sector in EMDEs in the absence of productivity enhancing measures could be a drag on potential growth • Still great differences across countries • Median country in the CESSE and SSA exhibiting higher productivity in services than manufacturing • Productivity gps between services and manufacturing very large in many EMDEs (China, Saudi Arabia Namibia) suggesting that tackling barriers to productivity growth within service sectors would be especially important for future growth prospects

32. Sectoral Sources of Growth XVII

33. Sectoral Sources of Growth XVIII Closing within sector productivity gaps • Productivity gaps with respect to advanced countries remain large within sectors • Implies considerable catch up potential through capital deepening, improvements in human capital and • TFP at the sector level • In many cases these gaps are indicative of a significant misallocation of productive inputs within sectors • Policy efforts to improve allocative efficiency within sectors could have a significant positive consequence for closing aggregate productivity gaps and facilitating income convergence

34. Sectoral Sources of Growth XIX