Assesing the Impact of the Investment Climate on Productivity Using Firm-Level Data: Methodology and the Cases of Guatemala, Honduras, and Nicaragua

Developing countries are increasingly concerned about improving country competitiveness and productivity, as they face the increasing pressures of globalization and attempt to improve economic growth and reduce poverty. Among such countries, Investment Climate Assessments (ICA) have become a standard instrument for identifying key obstacles to country competitiveness and imputing their impact on productivity, in order to prioritize policy reforms for enhancing competitiveness. Given the survey objectives and the nature and limitations of the data collected, this report discusses the advantages and disadvantages of using different productivity measures based on data at the firm level. The main objective is to develop a methodology to appropriately estimate, in a robust manner, the productivity impact of the investment climate variables. To illustrate the use of this methodology, the report applies it to the data collected for ICAs in three countries: Guatemala, Honduras and Nicaragua. Observations in logarithms (logs) of the variables, and not in rates of growth, are pooled from all three countries. The econometric analysis is done with variables in logs to reduce the impact of measurement errors and allow inclusion of as many observations as possible since the “panel” data set is very unbalanced. Endogeneity of the production function inputs and of the investment climate variables is addressed by using a variant of the control function approach, based on individual firm information, and by aggregating investment climate variables by industry and region. It is shown that it is possible to get robust results for 10 different productivity measures, if one follows a consistent econometric methodology of specification and estimation. For policy analysis, the report strongly recommends using those results of investment climate variables on productivity that are robust for most of the productivity measures. Efficiency aspects of firms in each country are also analyzed. Finally, the results are decomposed to obtain country-specific impacts and establish corresponding priorities for policy reform. The actual estimates for the three countries show the level of significance of the impact of investment climate variables on productivity. Variables in several categories, red tape and infrastructure in particular, appear to account for over 30 percent of productivity. The policy implications are clear: investment climate matters enormously and the relative impact of the various investment climate variables indicates where reform efforts should be directed. Given the robustness of the results, it is argued that the econometric methodology of productivity analysis developed here ought to be used as a benchmark to assess productivity effects for other ICAs or surveys with firm-level data of similar characteristics

Just-in-case inventories - a cross-country analysis

The authors find that raw materials inventories in the manufacturing sector in the 1970s and 1980s were two to three times higher in developing countries than in the United States, despite the fact that in most developing countries real interest rates were at least twice as high. Those significantly high levels of inventories are a burden and an obstacle to country competitiveness and need to be addressed. Poor infrastructure and ineffective regulation, as well as deficiencies in market development, rather than the traditional factors used in inventory models (such as interest rates and uncertainty), are the main determinants and explain these differences. Cross-country estimations show that a one standard deviation worsening of infrastructure increases raw materials inventories by 11 percent to 37 percent, and a one standard deviation worsening of markets increases raw materials inventories by 18 percent to 37 percent. These findings are robust across a number of different proxies and specifications, including an industry-level specification that controls for fixed country effects.Banks&Banking Reform,Environmental Economics&Policies,Markets and Market Access,Economic Theory&Research,Labor Policies,Economic Theory&Research,Banks&Banking Reform,Environmental Economics&Policies,Access to Markets,Markets and Market Access

Robust methodology for investment climate assessment on productivity: application to investment climate surveys from Central America

Developing countries are increasingly concerned about improving country competitiveness and productivity, as they face the increasing pressures of globalization and attempt to improve economic growth and reduce poverty. Among such countries, Investment Climate Assessments (ICA) surveys at the firm level, have become the standard way for the World Bank to identify key obstacles to country competitiveness, in order to prioritize policy reforms for enhancing competitiveness. Given the surveys objectives and the nature and limitations of the data collected, this paper discusses the advantages and disadvantages of using different productivity measures. The main objective is to develop a methodology to estimate, in a consistent manner, the productivity impact of the investment climate variables. The paper applies it to the data collected for ICAs in four countries: Costa Rica, Guatemala, Honduras and Nicaragua. Observations on logarithms (logs) of the variables are pooled across three countries (Guatemala, Honduras and Nicaragua). Endogeneity of the production function inputs and of the investment climate variables is addressed by using a variant of the control function approach, based on individual firm information, and by aggregating investment climate variables by industry and region. It is shown that it is possible to get robust results for 10 different productivity measures. The estimates for the four countries show how relevant the investment climate variables are to explain the average level of productivity. IC variables in several categories (red tape, corruption and crime, infrastructure and, quality and innovation) account for over 30 percent of average productivity. The policy implications are clear: investment climate matters and the relative impact of the various investment climate variables indicate where reform efforts should be directed in each country. It is argued that this methodology can be used as a benchmark to assess productivity effects in other ICA surveys. This is important because ICA surveys are available now for more than 65 developing countries.Total factor productivity, Investment climate, Competitiveness, Firm level determinants of productivity, Robust productivity impacts,

Inventories in developing countries : levels and determinants - a red flag for competitiveness and growth

Raw materials inventories in the manufacturing sector in the 1970s, 1980s, and 1990s were two to five times as high in developing countries as in the United States, despite the fact that in most developing countries real interest rates are at least twice as high. Given the high cost of capital in most developing countries, these high inventory levels have an enormous impact on the cost of doing business and on productivity and competitiveness. Poor infrastructure and ineffective regulation as well as deficiencies in market development - rather than the interest rates and uncertainty - are the main determinants of these differences. Cross-country estimates show that a one-standard-deviation improvement in infrastructure reduces raw materials inventories by 27-47 percent. Poorly functioning markets, as measured by the ratio of transfers and subsidies to GDP, are also an important factor, with a one-standard-deviation improvement leading to a 19-30 percent reduction in raw materials inventories. The authors show that these reductions in raw materials inventories are not offset by a reduction in finished goods inventories upstream. The policy implications are clear and strong. Improvements in infrastructure (roads, ports, and telecommunications) can help to significantly reduce inventory levels (and thus the cost of doing business), especially when accompanied by effective regulation and the development and deregulation of associated markets.Economic Theory&Research,Banks&Banking Reform,Environmental Economics&Policies,Transport and Trade Logistics,Common Carriers Industry

Rural credit in developing countries

Subsidized formal credit to the agricultural sector has been advocated as more efficient, equitable, and easier to implement than, say, land reform. But the record on subsidized credit to farmers is dismal. It shows a significant failure either to achieve an increase of agricultural output cost-effectively or to improve rural income distribution and alleviate poverty. Many of the financial institutions have proven to be inept and to lack accountability. Common features of the success stories are tougher stands on default; strict auditing and accounting procedures and financial control; and some form of joint responsibility or liability by small groups of farmers, whereby default by one member cancels future loans to the whole group.Banks&Banking Reform,Environmental Economics&Policies,Economic Theory&Research,Financial Intermediation,Insurance&Risk Mitigation

The interface of trade, investment, and competition policies : issues and challenges for Latin America

Latin American countries have not had much experience with competition policy. Restricted trade policies, together with no competition policy, have often resulted in domestic monopolies. Trade liberalization in the 1980s and 1990s has strengthened import competition, but trade policies alone cannot create a competitive economic environment. Trade policy as an instrument of competition policy (limited as it has been) has been constrained by a disproportionate amount of nontraded goods, vertical integration, and distribution monopolies -- and sometimes the use of antidumping, countervailing, and safeguard measures. Competition policies -- such as antitrust laws, merger controls, and other regulatory measures -- can prevent exclusionary practices, collusion among competitors, and the abuse of market power. Allowing foreign ownership and liberalized investment regimes will further enhance domestic competition by adding market presence. The authors contend that trade and competition policies must complement each other and that when they do, welfare improves. Tensions between the policy areas arise because of globalization, regional policies, technical barriers, certain kinds of industrial policy, and macroeconomic exigencies. Trade policy itself can be used for protection even without high tariffs or quantitative restrictions. Antidumping, countervailing, and safeguard measures limit rather than promote competition. These measures -- which should be GATT-compatible by law and competition-promoting in spirit -- must be used judiciously. The authors favor the use of safeguards rather than other measures to provide temporary protection for firms facing import surges. Latin American countries have recently made impressive strides in trade reform, but have made limited use of competition policies. The authors argue for more use of competition policies to enhance gains from trade reform. They also argue for harmonization of competition policies as these countries reduce barriers against each other through regional agreements. More efforts should be made to: 1) create favorable competitive environments; 2) harmonize trade, regulatory, and competition policies as well as conflict resolution mechanisms; and 3) strengthen enforcement mechanisms and make them binding.Trade and Regional Integration,ICT Policy and Strategies,Environmental Economics&Policies,Economic Theory&Research,TF054105-DONOR FUNDED OPERATION ADMINISTRATION FEE INCOME AND EXPENSE ACCOUNT

Agricultural reform in developing countries : reflections for Eastern Europe

The reform of formerly centrally planned economies involves freeing the price system, developing a competitive environment, and privatizing many of the state-owned or controlled assets and services, while simultaneously generating the social, economic and legal infrastructure that undergrids a market economy. This paper takes an important look at what the reforming countries of Eastern Europe can and cannot learn from the developing countries, including discussions on: (a) reforming prices; (b) credit, financial institutions and marketing boards; (c) property rights, land tenure and privatization; (d) research, extension and technology; and (e) efforts to remediate environmental degradation. A central dilemma in the reform of the Eastern European economies is the tension between commitment and flexibility. Western technical assistance and international financial help can be effective only if professionals of the East and West work together, as this is a process of joint learning, not a pure transfer of knowledge.Environmental Economics&Policies,Economic Theory&Research,Banks&Banking Reform,Markets and Market Access,Access to Markets