Is Manufacturing Still an Engine of Growth in Developing Countries

1. Is Manufacturing Still an Engine of Growth in Developing Countries Adam Szirmai and Bart Verspagen Emanuel Ules and Vu Thi Minh Ngoc 19th October 2010 Development Workshop

2. Structure Our presentation is following: • Introduction • Manufacturing in Developing Countries • The Engine of Growth Argument • Literature Review • Technical Part • Results • Conclusions Development Workshop

3. Introduction • Definition of manufacturing: • make products from materials by use of labor or machines • make papers from wood; make computers from steel, plastic, gold… • The role of manufacturing for economic development: manufacturing is the key sector in economic development • The role of manufacturing seems to be of particular important during growth accelerations • The role of manufacturing compare with service sectors in developing countries: • service sectors (finance or tourism) play as leading sectors and manufacturing is decreasing in developing countries. • industrialization play as the key role in the past fifty years Development Workshop

4. The highlight of Manufacturing in Developing Countries • Manufacturing is an engine of economic growth and development. • Industrialization seems to be main engine of growth and development. • But, developing countries are still dependent on agriculture and mining • Global industrialization started in Great Britain in the nineteenth century and spread through Europe and USA, reached Japan and Russian by the end of the nineteenth century (“late Industrialization”). • Industrialization was bypassed in developing countries • Since World War II, manufacturing emerged as a major activity in many developing countries and the share of global manufacturing production and trade has changed Development Workshop

5. The highlight of Manufacturing in Developing Countries cont. • The highlight of manufacturing in Developing countries in the period 1950-2005: • In 1950, the share of agriculture in developing countries was 41%, down to 16% in 2005. • The average share of services in the advanced economies was 40% in 1950, far higher than the total of industry. • In 1950, the share of manufacturing in developing countries was only 11% of GDP compared with 31% in the advanced countries. • The share of manufacturing average increased in all developing countries between 1950 and 1980, around 20% in the early 80s. • In advance countries, the share of manufacturing decreased from 31% in 1945 to 17% in 2005. • The most important in 2005 is the service sector, account around 70% of GDP, up from 43% in 1950. Development Workshop

6. The Engine of Growth Argument • empirical correlation between the degree of industrialization and per capita income in developing countries • structural change bonus (productivity in manufactoring higher than in agriculture) • structural change burden  transfer of resources from manufacturing to services • Baumol´s Cost Disease • Easier capital accumulation in manufacturing • Possibility of economies of scale in manufactoring • average cost per unit falls as the scale of output is increased Development Workshop

7. EGA cont. • Technological progress spreads from manufacturing • Linkage and Spillover effects • Linkage effects create positive externalities between different sectors • Spillover effects refer to knowledge flows between sectors • Engel´s law: proportion of income spent on agricultural goods (food) falls, even if actual expenditure on agricultural goods rises • 0< Income elasticity of demand < 1 • Share of expenditures on manufactured goods increases Development Workshop

8. Literature Review • Fagerberg and Verspagen, 1999: manufacturing is as a engine of growth in developing countries in East Asia and Latin America, but no significant effect of manufacturing in advanced economies. • Fagerberg and Verspagen, 2002: manufacturing is more positive contributions before 1973 than after. Information and Communication technologies become more significant in productivity growth, especially in the 90s. • Szirmai, 2009: service and industry is high than in manufacturing for some periods. In advanced countries, productivity growth in agriculture is more rapid than in manufacturing. Development Workshop

9. Literature Review Cont. • Rodrik, 2009: manufacturing is significant positive in the post war periods and industrial activities is an engine of growth in transition periods. • Tregenna, 2007: manufacturing is especially important in South African economic development. • Timmer and de Vries, 2009: service sectors is more important in Asia and Latin America. Development Workshop

10. Research Questions/Hypotheses • Is there a positive relationship between the value added share of manufacturing and growth of GDP per capita? • This would imply that manufacturing is one of the main drivers of growth • Is the relationship between the value added share of manufacturing and per capita GDP growth stronger than that between the value added share of services and growth of per capita GDP? • What is more important for growth, manufacturing or services? Development Workshop

11. Hyptheses cont. • Does the relationship between the share of manufacturing and growth of GDP per capita become weaker over time? • Manufacturing especially important in early stages (of industrialization) 4. Is there a positive relationship between the share of manufacturing and the rate of growth during growth accelerations? • If share of manufactoring is growing in times of growth accelerations, also GDP should grow faster Development Workshop

12. Hyptheses cont. • Is the relationship between the share of manufacturing and growth during growth accelerations stronger or weaker than that between the share of services and growth? • Again, what is more important - Services or Manufacturing? • Are there systematic differences between the role of manufacturing in countries with different characteristics (e.g. level of GDP per capita, human capital and region) Development Workshop

13. Data Set and Methods • Data Set constructed from various data bases (World Development Indicators, Barro-Lee data set on education, EUKLEMS, Maddison data set, Penn World Tables) • Panel regression model • dependent variable: growth of GDP per capita per five year period • Independent variables: shares of manufacturing (MAN), services (SER) in GDP, GDP per capita relative to the US (RELUS), education level (EDU), and time-intercept dummies Development Workshop

14. Random or Fixed Effects • Basic Question: how to deal with potential country level effects that may have an effect on dependent variable, but are not observed as an independent variable in the dataset • Are the country-effects correlated with the other independent variables in the model? • If yes, then fixed effects are better choice • Further problem: splitting sample up (country effects in each of the group is normally distributed) or running one „big“ regression (country effects of the group together form one normal distribution) • leads to differences in the estimated coefficients Development Workshop

15. Reminder RE and FE • FE takes form yit = β0 + β1 xit + ai + uit • So ai captures all unobserved, time-constant factors that effect yit • individual specific effect ai is correlated with one or more of the independent variables  so get rid of it • Now assume that ai is uncorrelated with xit  elimination of aiwould lead to inefficient estimators • So FE is a special case of RE Development Workshop

16. „Within approach“ • Uses fixes effects • looks at variation within countries, as opposed to between countries • Subtract country averages from regression model • Country effects don´t have to be estimated explicitly • not be very helpful for estimating the effect of a particular variable on growth Development Workshop

17. „Between approach“ • all available observations for a country are averaged • Ignores time aspects  to estimate long-run tendencies • focuses on the country intercepts themselves, and asks how the independent variables are related to these • Intercepts are constant over time  variable which explains them must vary between countries • The estimated coefficients of the between model provide insights into which of the variables drive the fixed effects Development Workshop

18. Choice of the Authors • Random effects, Within Approach or Between approach? • Authors performed all of the test! Development Workshop

19. Results • Manufacturing is a key for growth • The effects are stronger in the poorest countries with largest income gaps • Manufactoring is especially important in times of accelerated growth • When sample is splittet up in 3 time periods: • Manufacturing has significant effect on growth in all 3 periods (1950-1970, 1971-1990, 1991-2005) • Services are also important, but not as manufacturing • When sample is splittet up in country groups • Very mixed results Development Workshop

20. Conclusions • Manufacturing is positive relation to economic growth in general. • In advance countries, service sector account for over two thirds of GDP. Manufacturing is increasing in developing countries. • In poorer countries, manufacturing is more positive relation to economic growth. Service sector is low effects. • In four groups of countries: Asia, Latin America, Africa and advances economies • convergence affects are more important in Latin American and Asia, and insignificant in the advanced economies • shares of manufacturing on average rates of growth are significant in Latin America, but not in others groups. Development Workshop