Back Matter

Back Matter

Author(s):
Pritha Mitra, Amr Hosny, Gohar Minasyan, Mark Fischer, and Gohar Abajyan
Published Date:
March 2016
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    Annex I. Regression Results

    Three sets of cross-country regressions are performed to examine the determinants of the long-term supply-side drivers of potential growth. This exercise covers a global sample, drawing on indicators from several sources such as the Fraser Institute’s Economic Freedom of the World Index, International Financial Statistics, the International Labor Organization, the PRS Group, World Bank Doing Business, World Bank Education Statistics, the World Economic Forum’s Global Competitiveness Report, the World Economic Outlook, and the World Governance Indicators. The dependent variable in each of the three regressions is average smoothed growth in productivity, physical capital, and long-term employment during 2007-14 (Mitra and others 2016 provide estimation details). The independent variables are based on the latest data available, since many of the variables are structural indicators measured only every few years. The regression results are summarized in Table A1.1 and elaborated in Mitra and others (2016).16

    Table A1.1.Effect on Growth in Potential Productivity, Physical Capital, and Long-Term Employment (in percentage points) 1/2/
    Productivity Growth, 2007-14Physical Capital Growth, 2007-14Long-Term Employment Growth, 2007-14
    FactorsFactorsFactors
    Worker TalentFinancial MarketsLabor Markets
    Educational Quality0.653Financial Market Development1.708Wage Flexibility0.366
    (GCR, rankings 1-7)(0.004)*(GCR, rankings 1-7)(0.008)**(GCR, rankings 1-7)(0.002)*
    Educational Quantity0.127Real Lending Rate0.025Hiring and Firing Flexibility0.086
    (GCR, rankings 1-7)(0.002)(WDI, rate)(0.000)(GCR, rankings 1-7)(0.002)
    Diaspora Support 3/0.717On-the-job training0.200
    (GCR, rankings 1-7)(0.003)**(GCR, rankings 1-7)(0.003)
    Modern Production MethodsInfrastructurePublic Spending on Education0.045
    FDI Technology Transfer0.610Public Investment25.700(EdStats, percent GDP)(0.001)
    (GCR, rankings 1-7)(0.003)*(WEO, percent GDP)(0.099)**
    Quality Standards0.173Quality of Infrastructure0.018
    (EFW, rankings 1-10)(0.005)(GCR, rankings 1-7)(0.004)
    Competitive Business Environment
    Overall Global Competitiveness1.335OpennessOpenness
    (GCR, rankings 1-7)(0.008)*Exports to BRICS and AEs3.480Exports to BRICS and AEs1.133
    Openness(UNCTAD & WEO, percent of total exports)(0.019)**(UNCTAD & WEO, percent of total exports)(0.007)*
    Trade Tariffs−0.265Trade Liberalization0.103FDI1.179
    (EFW, rankings 1-10)(0.002)(GCR, rankings 1-7)(0.007)(WEO, percent GDP)(0.001)***
    Non-tariff Barriers−0.24
    (EFW, rankings 1-10)()
    OtherOtherOther
    Democratic Institutions 4/0.001Democratic Institutions 4/0.002Democratic Institutions 4/0.004
    (WGI, rankings 1-100)(0.000)(WGI, rankings 1-100)(0.000)(WGI, rankings 1-100)(0.000)
    Government Spending Efficiency0.173Government Spending Efficiency−1.528Government Regulations 5/−0.035
    (GCR, rankings 1-7)(0.004)(GCR, rankings 1-7)(0.010)(GCR, rankings 1-7)(0.003)
    Quality of Institutions−1.149Government Regulations 5/−0.815Rule of Law0.021
    (GCR, rankings 1-7)(0.010)(GCR, rankings 1-7)(0.009)(WGI, rankings 1-100)(0.000)
    Quality of Infrastructure−0.005Corruption0.013
    (GCR, rankings 1-7)(0.005)(WGI, rankings 1-100)(0.000)
    Female Labor Force Participation Rate0.01
    (ILO, (% of female population ages 15+)(0.000)
    Initial Productivity−0.003Initial Physical Capital−0.444Initial Labor−0.166
    (0.001)(0.002)**(0.000)***
    Constant−0.005Constant−0.012Constant−0.029
    (0.023)(0.033)(0.015)*
    R20.18R20.19R20.30
    N114N94N111
    Source: Mitra and others, forthcoming.

    Robust standard errors are in ();* implies p <0.1; ** implies p <0.05; *** implies p <0.01

    The latest available values are used for each factor. Their sources and units are in brackets under the variable name; GCR=Global Competitiveness Report with 1=Poorest and 7= Highest Score; WEO=World Economic Outlook; EFW=Economic Freedom of the World Index; WGI=Worldwide Governance Indicators; EdStats: World Bank Education Statistics, WDI: World Development Indicators.

    Measured as the negative of the brain drain index.

    Represented by the voice and accountability index.

    Higher values correspond to more bureaucracy.

    The analysis suggests that potential productivity growth is associated with traditional factors such as strong worker talent, a competitive business environment, and modern production methods. Important findings are the influence of modern production methods and democratic institutions:

    • Worker talent is represented by the quality and quantity of education as well as diaspora support. An improvement in the quality of education (for instance, enough to move up by one score in the Global Competitiveness Report rankings, where 1 is poorest and 7 is highest) raises productivity growth by 0.7 percentage points. The quantity of education is also positively associated with productivity growth but is not empirically significant. Making better use of diaspora support (such as moving up one score in the Global Competitiveness Report rankings) has a significant influence on productivity growth—increasing it by 0.6 percentage points.

    • A competitive business environment—where the government delivers basic services efficiently, promotes the rule of law, reduces corruption and fraud, and streamlines business regulations—significantly influences productivity. An improvement in it (for example, enough to move up one in the Global Competitiveness Report rankings, where 1 is poorest and 7 is highest) is found to raise productivity growth by 1.4 percentage points.

    • Modern production methods are the application of technologies and management techniques that help firms efficiently use energy, capital, and worker talent, while instituting policies that encourage innovation. Technology transfer through FDI serves as a good proxy for modern production methods, since it has been shown to spread new technologies and management methods to local firms, raising their competitiveness (OECD 2002; UN Conference on Trade and Development 2010). Productivity growth could rise by 0.5 percentage points when the use of modern production methods increases (for example, enough to move FDI technology transfer scores up by one in the Global Competitiveness Report rankings, where 1 is poorest and 7 is highest).

    • Democratic institutions, including freedom of speech and media, human rights, voter participation, and accountability and transparency of government, carry a neutral (and statistically insignificant) association with productivity growth.

    Potential physical capital accumulation is found to be associated with well-developed financial markets, public infrastructure, and trade openness—especially with large emerging markets:

    • Financial market development fosters greater investment activity by facilitating access to funds and protecting investors. Its advancement (for example, enough to move up one in the Global Competitiveness Report rankings, where 1 is poorest and 7 is highest) raises physical capital accumulation rates by 1.7 percentage points.

    • Public infrastructure, approximated by public investment (as a percentage of GDP), has the most substantial impact on physical capital accumulation. An increase of 1 percent of GDP raises physical capital accumulation rates by 25.7 percentage points. This reflects both direct and indirect effects through the provision of more affordable and reliable inputs (especially for electricity) into production.

    • Trade openness, especially trade that promotes increased connectedness with large emerging and advanced economies, is also influential. Its improvement increases physical capital accumulation rates by 3.5 percentage points.

    • Democratic institutions, described in Chapter 2, have a neutral and statistically insignificant relationship with physical capital accumulation rates.

    Cross-country regressions suggest that potential workforce growth is associated with flexible labor markets (that ensure adequate worker protection) and openness with the rest of the world—especially large emerging markets (Annex 1, Table A1.1 provides detailed results):

    • Labor market efficiency is represented by flexibility in wage determination as well as in hiring and firing policies. An increase in wage flexibility (for example, enough to move up one in the Global Competitiveness Report rankings, where 1 is poorest and 7 is highest) could raise long-term employment growth by 0.4 percentage points. Flexibility in hiring and firing policies, while providing adequate worker protection, is also positively related to long-term employment growth. However, it is not empirically significant.

    • Openness in trade and investment with the rest of the world, especially large emerging and advanced economies, expands job opportunities. Higher exports to large emerging markets (such as, 1 percent of total exports) correspond to a 1.1 percentage point increase in long-term employment growth. Higher foreign direct investment has a similar effect. When it improves by 1 percent of GDP, long-term employment growth rises by 1.2 percentage points.

    • Democratic institutions, described in Chapter 2, have a neutral and statistically insignificant relationship with physical capital accumulation rates.

    Alternative specifications do not generally affect the results. A number of alternative specifications have been used, and the results are found to be generally robust. These include adding additional, and replacing different, control variables (see Mitra and others 2016 for more details).

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    For the purposes of this paper, the Gulf Cooperation Council (GCC) represents Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates; non-GCC MENAP oil exporters are Algeria, Iran, Iraq, Libya, and Yemen; MENAP oil importers are Afghanistan, Djibouti, Egypt, Jordan, Lebanon, Mauritania, Morocco, Pakistan, Sudan, and Tunisia (Syria is excluded); the Caucasus and Central Asia (CCA) oil exporters are Azerbaijan, Kazakhstan, Turkmenistan, and Uzbekistan; CCA oil importers are Armenia, Georgia, the Kyrgyz Republic, and Tajikistan; Non-GCC MENAP represents non-GCC MENAP oil exporters and importers; Middle East and North Africa (MENAP) represents non-GCC MENAP and the GCC.

    In the short term, actual output growth will deviate temporarily from potential as shocks hit the economy. These deviations reflect the slow adjustment in wages and prices to shocks, which means that the reversion of output to its potential level is gradual. IMF 2015 summarizes the literature on the estimation of potential growth.

    The term “long-term” is dropped after this paragraph.

    Statistical filters and the production function approach were applied to derive long-term growth of real GDP, productivity, physical capital, and labor supply. Details are in Mitra and others (2014).

    Due to measurement challenges, the informal workforce is not included in employment estimates.

    Barro (1997) and Barro and Sala-i-Martin (2004) provide comprehensive literature reviews.

    Statistical filters and the production function approach were applied to estimate long-term growth of output, productivity, physical capital, and employment. Details are in Mitra and others (2014). The analysis was done using real GDP in U.S. dollars for oil importing countries and non-oil real GDP in U.S. dollars for oil exporting countries, gross fixed capital accumulation (combined with the perpetual inventory method), and employment data during 1991-2019 from the WEO database. The employment variable does not include human capital adjustments due to data limitations in the Middle East and Central Asia region.

    Only factors with significance levels of 10 percent or less (that is, with at least a 90 percent confidence interval) are discussed in the text. A more detailed discussion of variables lacking significance in the regressions is found in Annex I and Mitra and others (forthcoming).

    Regression analysis identifies correlation, not necessarily causality. The results are robust to the exclusion of individual BRICS.

    World Bank 2011a provides a summary.

    The policies discussed in this paper focus on structural reforms. The tax structure, exchange rate, and other macroeconomic policies that can also have an impact on productivity, capital accumulation, and labor are not explored in detail here as they have been covered extensively in the literature.

    In the near term, more public and private infrastructure investment will also create jobs. Over the longer term, all the reforms mentioned here foster job-creating investment and a reduction in structural unemployment.

    Security and political stability are especially important for non-commodity foreign direct investment. Burger and others (2015) find that political instability hurts mostly high quality foreign direct investment associated with job creation and technology transfer (and that enables structural transformation).

    Details for GCC economies are discussed in Cherif and Hasanov (2014) and the proceedings of the conference “Economic Development, Diversification, and the Role of the State” in Kuwait City, Kuwait, April 30, 2014 (http://ww.imf.org/external/np/seminars/eng/2014/mcd/).

    The influence on labor growth of trade and investment integration with the rest of the world is smaller than labor market flexibility. However, the CCA oil importers outperform the EMDC average in labor market flexibility. Consequently, in the context of filling gaps with EMDCs in order to raise long-term employment growth, this analysis points to growth of trade and investment integration with the rest of the world.

    Regression analysis identifies correlation, not necessarily causality.

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