The Future of Growth - World Bank Blogs
The Future of Growth Dani Rodrik August 2011
0
.02
.04
.06
An extraordinary decade
1950
1960
1970
1980 year smoothed trend
1990
2000
2010
actual
Growth trends in world economy: GDP per capita growth rates, 1950-2008
0
.02
.04
.06
…with sharply diverging performance
1950
1960
1970
1980 year
1990
smoothed developed countries growth smoothed developing countries growth
2000
2010
Developed Developing
Growth trends in developed and developing countries, 1950-2008
0
.02
.04
.06
Growth was widespread, for once
1950
1960
1970
1980 year
Asia (excl. Japan) Africa
1990
2000
Latin America
Developing country growth trend by region, 1950-2008
2010
What’s new in the post-crisis environment
Advanced countries hobbled by high public debt Lower growth in the North Eurozone preoccupied with its crisis Doubts about cross-border financial flows From a multilateral regime to a G-0?
Can developing country growth be sustained in this environment?
Growth theory (1)
Rate of economic growth is a function of convergence gap – closing existing gaps in knowledge and capital-labor ratios
So growth rate of rich countries largely irrelevant – unless it affects possibilities of catch-up
.1
.2
.3
.4
.5
Convergence gap remains very large
1950
1960
1970
1980 year
All developing countries Latin America
1990
2000
2010
Asia Africa
Ratio of developing to developed GDP per capita by region
Growth theory (2)
But convergence is conditional – depends on doing the “right things”
And not clear we have a good handle on what the “right things” are – the new consensus is about search and pragmatism rather than ready-made of list of to-do’s
“This time will be different?”
Policies are much better in conventional sense – Macro stability and low inflation – Openness to world economy – Improved governance
But these tend to increase resilience without necessarily igniting or sustaining growth
Not all countries with “improved” policies do better 0.04
Brazil 0.035
Mexico 0.03
0.025
0.02
0.015
0.01
0.005
0 1950-1980
1980-2000
Growth rates of Brazil and Mexico by period
2000-2008
How the original Washington Consensus has turned into non-operational truisms “I would suggest that the rate at which countries grow is substantially determined by three things: their ability to integrate with the global economy through trade and investment; their capacity to maintain sustainable government finances and sound money; and their ability to put in place an institutional environment in which contracts can be enforced and property rights can be established. I would challenge anyone to identify a country that has done all three of these things and has not grown at a substantial rate.” But:
-- Larry Summers (2003)
• “ability” to do X and “capacity” to manage Y do not tell us what the requisite policies area • and if we try to give it operational content, it turns out that the immediate implications are not quite consistent with the evidence
So… -- ability to integrate with the global economy through trade and investment
low barriers to trade and capital flows? but what about Latin America?
--capacity to maintain sustainable government finances and sound money low budget deficits, independent central banks and inflation targeting? again, what about Latin America? --ability to put in place an institutional environment in which contracts can be enforced and property rights can be established private property rights and American-style investor protection legislation? What about China and Vietnam?
A change in emphasis in thinking on growth (1)
Presumptive strategies – – – –
ISI Washington Consensus U.N. Millennium Project, MDGs Governance agenda
Long laundry list of reforms
– In a wide range of areas: trade, fiscal, legal, regulatory, health, education, etc.
Focus on complementarity of reforms rather than prioritization or sequencing A bias towards universal recipes, “bestpractices,” and rules of thumb
A change in emphasis in thinking on growth (2)
Diagnostic strategies
– We do not know ex ante what works and what doesn’t – Need to look for binding constraints Which tend to be context-specific
– Experimentation central part of discovery – Monitoring and evaluation equally central
Focus on selective, more narrowly targeted reforms Based on the idea that there exists lots of slack
– Well targeted reforms can produce a big bang
Suspicious of “best-practice,” universal remedies – Looking for policy innovations that unlock local second-best/political complications
A change in emphasis in thinking on growth (3)
The structural transformation imperative Economic growth is fueled by movement of resources from low- to high-productivity activities
– key role of modern tradable goods and services – need to focus on entire economy, not just misallocation within modern industries, on the most competitive industries
Key question is what constrains this process – Government versus market failures – Economy-wide remedies versus short-cuts
Selective interventions targeted at binding constraints are more likely to be effective
-.35 -.25 -.15 -.3 productivity across broad -.2 sectors dispersion in labor
Productivity gaps within economy are large, but diminish over the course of development NGA
SEN
MWI
KEN
ETH ZMB
GHA
BOL CHN
THA
BRA IDN COL PER PHL IND
7
8
VEN MYS KOR TWN NLD DNK HKG CHL ARG TUR MEX ZAF UKM SGP JPN ESP USA MUS ITA CRI SWE FRA
9 10 lnlabprod05 Economy-wide labor productivity
11
Relationship between inter-sectoral productivity gaps and income levels
Productive heterogeneity in the economy Indian labor productivity as percent of U.S., 2005 63% of employment
11% of employment
2% of employment
Manufacturing has the greatest potential to create jobs, yet is among the least productive activities outside of agrculture
Heterogeneity within organized manufacturing
Indian labor productivity as percent of China, 2005
2.7 % of formal manuf. empl.
1.4 % of formal manuf. empl.
20% of formal manuf. empl.
0
.2
.4
.6
.8
1
Productivity dispersion within manufacturing
7
8
9
10
11
x India
China
Log labor productivity across 4-digit manufacturing industries
12
Are resources moving in the right direction within manufacturing? 1.5
Structural change within manufacturing has reduced labor productivity growth of the sector by 0.9% p.a. during 19982005.
241
1
basic chemicals
transport equip. nec 359
other chemicals
.5
221
242
above average productivity
291 gen. purpose mach.
331 292
155
0
281 251 210 351
below average productivity 171 textiles, spinning, weaving
154
222 273 202
369 289 172
191 153 grain mill products, etc
-1
-.5
151
269
-.04
-.02 0 change in employment share, 1998-2005
.02
How China fits
Pragmatic, often heterodox solutions to overcome political constraints and second-best complications
– Two-track pricing insulates public finance from the provision of supply incentives – Household responsibility system obviates the need for explicit privatization – Township and village enterprises overcome weaknesses in legal (thirdparty) enforcement of contracts – Special economic zones provide export incentives without removing protection for state firms (and hence safeguard employment) – Federalism, “Chinese-style” generates incentives for policy competition and institutional innovation – “Exchange-rate protection” subsidizes manufactures following WTO entry
Strategic and sequential approach targeting one binding constraint at a time – First agriculture, then industry, then foreign trade, then finance…
Remaining institutional challenges
– Especially with regard to political democracy and the rule of law
Chinese experimentation
Source: Heilmann (2008)
Undervaluation, industrial employment and growth Undervaluation and industrial employment
0
.05 -.05 -.15
-.1
0
-.05
part) industrial empoyment share (orthogonal .05
.1
.1
Industrial employment and growth
0
.1
.2 .3 .4 industrial employment share
.5
-2
-1
0 1 undervaluation index
2
Each observation is a country over a 5-year period. Initial income and fixed effects for countries and time periods included.
Role of the real exchange rate
The undervaluation index is the price level of Indian goods relative to other countries, corrected for the Balassa-Samuelson-effect.
Conclusions
The presence of a large convergence gap ensures significant potential for rapid economic growth in developing world, regardless of what happens in the rich countries Fulfilling this potential requires ongoing process of diversification and structural change This process is not automatic, especially in countries with an initial comparative advantage in primary products It necessitates pragmatic, experimental policies that support new industries – These are often unconventional policies – Require a supportive external environment – Will WTO/IMF, advanced countries condone such policies?
0
.02
.04
.06
An extraordinary decade
1950
1960
1970
1980 year smoothed trend
1990
2000
2010
actual
Growth trends in world economy: GDP per capita growth rates, 1950-2008
0
.02
.04
.06
…with sharply diverging performance
1950
1960
1970
1980 year
1990
smoothed developed countries growth smoothed developing countries growth
2000
2010
Developed Developing
Growth trends in developed and developing countries, 1950-2008
0
.02
.04
.06
Growth was widespread, for once
1950
1960
1970
1980 year
Asia (excl. Japan) Africa
1990
2000
Latin America
Developing country growth trend by region, 1950-2008
2010
What’s new in the post-crisis environment
Advanced countries hobbled by high public debt Lower growth in the North Eurozone preoccupied with its crisis Doubts about cross-border financial flows From a multilateral regime to a G-0?
Can developing country growth be sustained in this environment?
Growth theory (1)
Rate of economic growth is a function of convergence gap – closing existing gaps in knowledge and capital-labor ratios
So growth rate of rich countries largely irrelevant – unless it affects possibilities of catch-up
.1
.2
.3
.4
.5
Convergence gap remains very large
1950
1960
1970
1980 year
All developing countries Latin America
1990
2000
2010
Asia Africa
Ratio of developing to developed GDP per capita by region
Growth theory (2)
But convergence is conditional – depends on doing the “right things”
And not clear we have a good handle on what the “right things” are – the new consensus is about search and pragmatism rather than ready-made of list of to-do’s
“This time will be different?”
Policies are much better in conventional sense – Macro stability and low inflation – Openness to world economy – Improved governance
But these tend to increase resilience without necessarily igniting or sustaining growth
Not all countries with “improved” policies do better 0.04
Brazil 0.035
Mexico 0.03
0.025
0.02
0.015
0.01
0.005
0 1950-1980
1980-2000
Growth rates of Brazil and Mexico by period
2000-2008
How the original Washington Consensus has turned into non-operational truisms “I would suggest that the rate at which countries grow is substantially determined by three things: their ability to integrate with the global economy through trade and investment; their capacity to maintain sustainable government finances and sound money; and their ability to put in place an institutional environment in which contracts can be enforced and property rights can be established. I would challenge anyone to identify a country that has done all three of these things and has not grown at a substantial rate.” But:
-- Larry Summers (2003)
• “ability” to do X and “capacity” to manage Y do not tell us what the requisite policies area • and if we try to give it operational content, it turns out that the immediate implications are not quite consistent with the evidence
So… -- ability to integrate with the global economy through trade and investment
low barriers to trade and capital flows? but what about Latin America?
--capacity to maintain sustainable government finances and sound money low budget deficits, independent central banks and inflation targeting? again, what about Latin America? --ability to put in place an institutional environment in which contracts can be enforced and property rights can be established private property rights and American-style investor protection legislation? What about China and Vietnam?
A change in emphasis in thinking on growth (1)
Presumptive strategies – – – –
ISI Washington Consensus U.N. Millennium Project, MDGs Governance agenda
Long laundry list of reforms
– In a wide range of areas: trade, fiscal, legal, regulatory, health, education, etc.
Focus on complementarity of reforms rather than prioritization or sequencing A bias towards universal recipes, “bestpractices,” and rules of thumb
A change in emphasis in thinking on growth (2)
Diagnostic strategies
– We do not know ex ante what works and what doesn’t – Need to look for binding constraints Which tend to be context-specific
– Experimentation central part of discovery – Monitoring and evaluation equally central
Focus on selective, more narrowly targeted reforms Based on the idea that there exists lots of slack
– Well targeted reforms can produce a big bang
Suspicious of “best-practice,” universal remedies – Looking for policy innovations that unlock local second-best/political complications
A change in emphasis in thinking on growth (3)
The structural transformation imperative Economic growth is fueled by movement of resources from low- to high-productivity activities
– key role of modern tradable goods and services – need to focus on entire economy, not just misallocation within modern industries, on the most competitive industries
Key question is what constrains this process – Government versus market failures – Economy-wide remedies versus short-cuts
Selective interventions targeted at binding constraints are more likely to be effective
-.35 -.25 -.15 -.3 productivity across broad -.2 sectors dispersion in labor
Productivity gaps within economy are large, but diminish over the course of development NGA
SEN
MWI
KEN
ETH ZMB
GHA
BOL CHN
THA
BRA IDN COL PER PHL IND
7
8
VEN MYS KOR TWN NLD DNK HKG CHL ARG TUR MEX ZAF UKM SGP JPN ESP USA MUS ITA CRI SWE FRA
9 10 lnlabprod05 Economy-wide labor productivity
11
Relationship between inter-sectoral productivity gaps and income levels
Productive heterogeneity in the economy Indian labor productivity as percent of U.S., 2005 63% of employment
11% of employment
2% of employment
Manufacturing has the greatest potential to create jobs, yet is among the least productive activities outside of agrculture
Heterogeneity within organized manufacturing
Indian labor productivity as percent of China, 2005
2.7 % of formal manuf. empl.
1.4 % of formal manuf. empl.
20% of formal manuf. empl.
0
.2
.4
.6
.8
1
Productivity dispersion within manufacturing
7
8
9
10
11
x India
China
Log labor productivity across 4-digit manufacturing industries
12
Are resources moving in the right direction within manufacturing? 1.5
Structural change within manufacturing has reduced labor productivity growth of the sector by 0.9% p.a. during 19982005.
241
1
basic chemicals
transport equip. nec 359
other chemicals
.5
221
242
above average productivity
291 gen. purpose mach.
331 292
155
0
281 251 210 351
below average productivity 171 textiles, spinning, weaving
154
222 273 202
369 289 172
191 153 grain mill products, etc
-1
-.5
151
269
-.04
-.02 0 change in employment share, 1998-2005
.02
How China fits
Pragmatic, often heterodox solutions to overcome political constraints and second-best complications
– Two-track pricing insulates public finance from the provision of supply incentives – Household responsibility system obviates the need for explicit privatization – Township and village enterprises overcome weaknesses in legal (thirdparty) enforcement of contracts – Special economic zones provide export incentives without removing protection for state firms (and hence safeguard employment) – Federalism, “Chinese-style” generates incentives for policy competition and institutional innovation – “Exchange-rate protection” subsidizes manufactures following WTO entry
Strategic and sequential approach targeting one binding constraint at a time – First agriculture, then industry, then foreign trade, then finance…
Remaining institutional challenges
– Especially with regard to political democracy and the rule of law
Chinese experimentation
Source: Heilmann (2008)
Undervaluation, industrial employment and growth Undervaluation and industrial employment
0
.05 -.05 -.15
-.1
0
-.05
part) industrial empoyment share (orthogonal .05
.1
.1
Industrial employment and growth
0
.1
.2 .3 .4 industrial employment share
.5
-2
-1
0 1 undervaluation index
2
Each observation is a country over a 5-year period. Initial income and fixed effects for countries and time periods included.
Role of the real exchange rate
The undervaluation index is the price level of Indian goods relative to other countries, corrected for the Balassa-Samuelson-effect.
Conclusions
The presence of a large convergence gap ensures significant potential for rapid economic growth in developing world, regardless of what happens in the rich countries Fulfilling this potential requires ongoing process of diversification and structural change This process is not automatic, especially in countries with an initial comparative advantage in primary products It necessitates pragmatic, experimental policies that support new industries – These are often unconventional policies – Require a supportive external environment – Will WTO/IMF, advanced countries condone such policies?
