LINKAGES AND ECONOMIC DEVELOPMENT

Dominick Bartelme & Yuriy Gorodnichenko

University of Michigan & UC Berkeley

World Bank Conference on The Rise of the SouthMay 16, 2016

RESEARCH QUESTION

How are intermediate goods linkages related to economic development?

I Demand externalities and poverty traps for early development theorists(e.g. Hirschman 1958)

I More recently, underlying domestic distortions can reduce productivitythrough reduced intermediate use (Jones 2011)

I Little empirical work on domestic input-output tables and development

WHAT WE DO

I New and extensive panel dataset of input-output tablesI Document new facts regarding the empirical relationship between

aggregate productivity and intermediate goods linkagesI Industry levelI Aggregate level

I Theoretical framework for understanding how domestic distortionsaffect input-output tables and productivity

I Computes the implied productivity losses from domestic distortions in asimple Cobb-Douglas neoclassical growth model

DATA

I Cross-section is GTAP7 in 2004: 91 countries, 56 sectors, standardizedformat

I Additional IO data from a variety of sources going back to the 1950sI UN agencies and commissions, OECD, country websitesI Over 100 countries total, over 70 countries with 2 or more observationsI We aggregate these to 4x4 for consistency: Agriculture, Manufacturing,

Services and Other (Mining, Construction, Utilities)I Output per worker from PWT 8.1 (updated from the paper)

TABLE: Panel: Observations by Region and Time Period

Africa Asia Latin Eastern Europe Western EuropeAmerica & Transition & Offshoots

1950 0 0 2 0 01955 0 0 2 0 01960 1 2 5 4 111965 1 1 2 6 151970 6 6 8 2 181975 6 7 4 5 141980 1 4 1 0 71985 1 4 1 0 91990 1 3 0 0 91995 2 13 6 13 242000 2 14 6 13 242005 16 19 15 21 242010 2 13 6 13 24

MEASUREMENT

How do we measure the “strength” of “linkages?”

Direct linkages based on the entries of country c’s observed IO matrix Bc

I bijc is the value of intermediates that industry j buys from industry i,divided by industry j’s gross output

I Backward linkages in industry j country c by∑

i bijc

I Forward linkages in industry i by∑

j bijc

I “Mean Direct Linkage”

MDLc =

∑i

∑j bijc

J

where J is the number of industries

MEASUREMENT

What about indirect linkages or “network effects?”

I Based on the Leontief inverse of Bc:

Lc = (I−Bc)−1

which satisfies (in a closed economy)

Gross Output = L · Final Demand

I Interpretation: bij is the amount of gross output in industry i needed toproduce one unit of final demand in industry j

I This matrix takes all second round, third round, etc. effects into account

INCLUDING INDIRECT LINKAGES

L = (I−B)−1

I Backward linkages: total gross output required to produce a unit of finaldemand in industry j, ∑

i

`ij

I Forward linkages: total gross output in industry i required to produce aunit of final demand in every industry j,∑

j

`ij

I Aggregate linkages: the “Average Output Multiplier” (AOM)

AOMc =

∑i

∑j `ij

J

DIRECT LINKAGES AND OUTPUT/WORKER

PDR

WHT

GROV_FOSD

C_BPFB

OCRCTLOAP

RMKWOLFRSFSH

CMTOMT

VOL

MIL

PCRSGROFD

B_T

TEXWAP

LEALUMPPP

P_CCRPNMMI_SNFMFMP

MVHOTNELE

OMEOMF

COA

OILGASOMN

ELY

GDT

WTR

CNSTRDOTP

WTPATP

CMN

OFIISR

OBSROS

OSG

PDR

WHTGROV_F

OSDC_B

PFBOCRCTLOAP

RMK

WOLFRSFSH

CMTOMTVOL

MIL

PCRSGR

OFD

B_TTEX

WAPLEA

LUM

PPP

P_C

CRP

NMMI_SNFM

FMP

MVHOTNELEOME

OMFCOAOIL

GASOMN

ELYGDT

WTR

CNSTRDOTP

WTPATP

CMN

OFI

ISR

OBS

ROSOSG

-.50

.5-.5

0.5

0 20 40 60

A: Direct Backward Linkages

B: Direct Forward Linkages

corr, sector == Agriculture corr, sector == Manufacturingcorr, sector == Other corr, sector == Services

Industry Number

TABLE: IO coefficient correlations with output/worker, panel

Panel B: Correlations with log output/worker, (N = 402)Using Sector

Agriculture Manufacturing Services Other

Ag. 0.03 -0.52* -0.56* -0.25Man. 0.37* 0.05 -0.39* -0.17*Serv. 0.40* 0.18* 0.57* 0.19*Other 0.26* -0.06* -0.04 0.24*

Panel C: Correlations with fixed effects (N = 374, Countries= 71)

Ag. -0.09* -0.14* -0.14* 0.04*Man. 0.03 0.06* -0.07* -0.12*Serv. -0.03* 0.01 0.10* 0.00Other 0.05* -0.01 0.05* 0.05*

TABLE: IO coefficient correlations with output/worker, panel

Panel B: Rich Countries, (N = 174, Countries = 27)Using Sector

Agriculture Manufacturing Services Other

Ag. -0.10* -0.27* -0.08* 0.02Man. 0.18* 0.20* 0.06 0.01Serv. 0.04 0.06 0.09 0.01Other 0.08 0.12* 0.00 0.00

Panel C: Poor Countries (N = 200, Countries= 44)

Ag. -0.14* -0.12* -0.18* 0.09*Man. -0.02 0.07 -0.12* -0.17*Serv. -0.07* -0.10* 0.16* 0.10*Other -0.07* -0.04 0.09 00.02*

SUMMARY

I Backward linkages in agriculture, services, and some manufacturingindustries are strongly positively correlated with aggregate productivityin the cross-section

I Forward linkages in agriculture negatively correlated with productivityI Most variation is across broad sectoral groupsI Growth in rich countries generally correlated with stronger linkages,

much more mixed in poor countriesI Patterns are robust to including intermediate imports (cross section)I Next: aggregate linkages and productivity

LINKAGES AND PRODUCTIVITY - GTAP

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1.2 1.4 1.6 1.8 2 2.2Average Output Multiplier ( AOM )

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1.8 2 2.2 2.4 2.6Average Output Multiplier ( AOM ), Manufacturing & Services

TABLE: Productivity and Linkages, PanelFixed Effects

Panel A: Rich CountriesAll Sectors Man. & Services

AOM MDL AOM MDL

FE 0.13* 0.16* 0.67* 0.20*(0.02) (0.03) (0.12) (0.04)

Panel B: Poor Countries

FE -0.09* -0.11* 0.06 0.04(0.04) (0.04) (0.10) (0.05)

SUMMARY

I Very strong correlation between AOM and productivity in thecross-section

I Small or negative correlation of linkages with growth in poor countries,positive for rich countries (especially for manufacturing and servicelinkages)

I Strong positive time trends in bothI Robust to controls (openness, institutions, technology adoption,

etc)...need to look at imported inputs more carefully

WHAT DOES IT MEAN?

I Countries might endogenously adopt different production techniques asthey develop, become more or less intensive in intermediates as anoutcome of “natural” economic development

I Poor countries have distorted intermediate input markets and can gaintoday by correcting these distortions, holding technology fixed

I Explore second option using a calibrated growth model

A SIMPLE THEORETICAL FRAMEWORK

I With Cobb-Douglas production functions and competitive input markets,the observed ijth entry of the input-output matrix B is

bij =σijtij

where σij represents the Cobb-Douglas exponent on inputs fromindustry i (“technology”) and tij represents domestic distortions

I tij reflects anything not recorded in the reported transaction price thatnonetheless discourages transactions outside the plant or firm

I Formal taxes on intermediate goods and/or sales (usually small)I Implicit taxes: corruption, costly contract enforcement, costly or

unreliable transportation

PRODUCTIVITY EFFECTS OF DISTORTIONS

bij =σijtij

I Theory shows how to aggregate sectoral distortions into aggregateproductivity losses

I Each distortion generates a multiplier effect: each intermediate is taxedmultiple times because of input-output loops

I Distortions are more costly in more connected industriesI Subsidies are also distortions that can lead to overuse of intermediate

inputs

SEPARATING TECHNOLOGY FROM DISTORTIONS

bijc =σijctijc

I We use rich country variation in bij to “predict” the technology of poorcountries that are closest to them in terms of population, openness,sectoral specialization, etc.

I For example, more open economies tend to use less domestic and moreimported inputs→ assign that to “technology”

I Assign prediction error to domestic distortions tijcI Compute implied productivity losses using the model (Cobb-Douglas

neoclassical growth model)

FIGURE: TFP Gains from Removing Distortions - Adjusted Technology Panel

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0 .1 .2 .3 .4Total Gains

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0 .02 .04 .06 .08 .1Gains from Agriculture

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FIGURE: *

Notes

CONCLUSION

I Intermediate linkages and productivity are robustly positively correlatedin the cross-section, and in the time series for rich countries

I Historically, growth in poor countries has not necessarily beenassociated with increased domestic linkages

I Significant but modest gains from eliminating distortions in poorcountries, with a balance between agricultural, manufacturing andservices

I Domestic supply chains still matter - even today