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“
“
Productivity isn’t everything,
but in the long run it is almost everything.
—Paul Krugman
Inter-American Development Bank
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Low Productivity: The Root Cause
of Weak Economic Growth
The economies of Latin America and the Caribbean suffer
from a chronic low-growth disease caused by low productivity.
Unfortunately, the region has become so accustomed to this
economic ailment, that it no longer considers slow growth its most
pressing problem. And yet, the countries of the region are paying
dearly for not assigning economic growth the highest priority.
For example, income per capita in Latin America and the
Caribbean was almost one-quarter that of the United States in
1960 while today it is only one-sixth. In contrast, several East Asian
countries, which in 1960 had income levels well below those of Latin
America and the Caribbean, are fast approaching or have joined the
ranks of high-income nations (Figure 1).
If productivity in the region had grown at the same rate as in
the United States, the income per capita of the region relative to the
United States would have remained unchanged at one-quarter, even
with the reported investments in human and physical capital. If, on
the other hand, productivity had converged to the U.S. level—that
is, if the physical and human resources which Latin American and
Caribbean countries currently enjoy were used with the productive
efficiency of those in the United States—per capita income would
have doubled and the income of the region relative to that of the
United States would be one-third.
1
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Figure 1 Relative Productivity in Latin America, 2005
35.8
Chile
76.6
25.1
Costa Rica
75.5
20.3
Dominican Rep.
69
31.6
Argentina
63.5
28.2
Uruguay
63.1
13.3
El Salvador
60.7
22.8
Mexico
58.6
20.7
Brazil
57.3
18
Colombia
56.1
24.8
Panama
54.7
20.6
Venezuela
52
16.8
Typical country of
Latin America
Paraguay
51.8
13.4
49.3
9.74
Nicaragua
46.1
13
Jamaica
44.4
13
Ecuador
39.7
8.52
Bolivia
39
13
Peru
37.3
6.53
Honduras
0
10
31.1
20
30
40
50
60
70
80
TFP relative to United States (percentage)
GDP per capita relative to United States (percentage)
Source: Authors’ calculations based on A. Heston, R. Summers, and B. Aten (2006), Penn World Table
Version 6.2, Center for International Comparisons of Production, Income and Prices at the University
of Pennsylvania; World Bank (2008), World Development Indicators Online; R. J. Barro, J., and Lee
(2000), International Data on Educational Attainment: Updates and Implications, CID Working Paper
No. 42, Center for International Development at Harvard University.
Note: TFP = total factor productivity.
2
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The Concept of Productivity
Raising productivity implies finding better ways to more efficiently
use the existing labor, physical capital and human capital of the
region. One standard way to measure gains in efficiency is to
compute increases in total factor productivity (TFP), that is, the
efficiency with which the economy transforms its accumulated
factors of production into output. Reporting that TFP grew 1 percent
is equivalent to saying that 1 percent more output was obtained
from the same productive resources. This is the preferred measure
of productivity in this study, which focuses on the drivers of the level
and growth of TFP rather than on the determinants for increasing
human or physical capital (Figure 2).
Figure 2 Average Annual Labor Productivity Growth by Region
and Period, 1950–2005 (percent)
5
4
4.60
3.90
3.80
3
2.70
2.40
2
1.50
1
0
–0.30
–1
1950–1975
Latin America
1975–1990
High-Income Countries
1990–2005
East Asia
Source: Authors’ calculations based on M. P.Timmer, Marcel P., and G. J. de Vries (2007), A CrossCountry Database for Sectoral Employment and Productivity in Asia and Latin America, 1950–2005,
Research Memorandum GD-98, Groningen: University of Groningen.
3
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Small and Unproductive Companies
The root problem of productivity in the region is too many resources
allocated to too many small low-productivity companies, and a
dearth of middle-level and high-productivity firms. While in the
United States 54 percent of firms have fewer than 10 employees, in
Argentina, for example, 84 percent have no more than 10 employees.
In Mexico and Bolivia, small companies account for more than 90
percent of all firms. The least productive companies tend to be the
smallest: a Latin American company with more than 100 employees
can generate, on average, double the output with the same resources
of a company with only 10 to 19 employees (Figure 3).
0
185.32
216.32
Chile
2006
132.12
Uruguay
Colombia El Salvador Venezuela
2005
1988
2005
2001
Firm size (number of employees)
20–49
50–99
57.75
38.44
74.62
102.94
100.60
105.23
43.90
60
55.43
61.79
79.41
120
133.50
142.60
179.11
180
26.84
35.34
Percentage Increase in Productivity
Figure 3 Productivity by Firm Size Relative to Firms with 10–19
Workers, Manufacturing Establishments
Bolivia
2000
100–249
Sources: C. Birbuet, and C. G. Machicado (2009), Understanding Productivity Levels, Dispersion and
Growth in the Leather Shoe Industry: Effects of Size and Informality, Washington, DC: IDB; M. Busso, L.
Madrigal, and C. Pagés (2009), Productivity and Resource Misallocation in Latin America, Washington,
DC: IDB; A. Camacho, and E. Conover (2009), Misallocation and Manufacturing TFP in Colombia,
Washington, DC: IDB; J. Atal, M. Busso, and C. Cisneros (2009), Productivity and Misallocation: The Case
of El Salvador, Washington, DC: IDB; C. Casacuberta, and N. Gandelman (2009), Productivity, Exit and
Crisis in Uruguayan Manufacturing and Service Sectors, Washington, DC: IDB; INE (2001), Encuesta
Industrial Anual de Venezuela..
4
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The Key Role of the Service Sector
Raising the productivity of services is a must to boost economic
growth and improve the standard of living of all Latin American
and Caribbean people. Sixty-one percent of all workers in the
region are employed in the non-tradable service sector, and the
competitiveness of the primary and industrial sectors depends on
having good transport and communications, efficient storage and
distribution systems, and many other services.
The productivity gap of service companies in the region
compared with the United States is 85 percent. Meanwhile, the gap
in productivity for the region’s manufacturing sector, which employs
about 20 percent of the workforce, is 61 percent. In the agriculture
sector, which employs about 18 percent of the total workforce in the
region, the gap is only 20 percent (Figure 4).
Figure 4 Average Annual Labor Productivity Growth in
Agriculture, Industry and Services, 1951–2005 (percentage)
6
2.5
1.4
–1.8
–1
–2
–3
1.3
1.3
–0.9
0
0.1
2.4
3.5
2.2
2.0
2.6
1.8
1
3.2
3.6
2.5
1.8
2
2.8
3
3.8
4
3.5
5.0
5
1951–
1975
1975–
1990
1990–
2005
Agriculture
Latin America
1951–
1975
1975–
1990
Industry
East Asia
1990–
2005
1951–
1975
1975–
1990
1990–
2005
Services
High-Income Countries
Source: Authors’ calculations based on M. P.Timmer, Marcel P., and G. J. de Vries (2007), A CrossCountry Database for Sectoral Employment and Productivity in Asia and Latin America, 1950–2005,
Research Memorandum GD-98, Groningen: University of Groningen.
5
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Policies to Foster Productivity
With the right economic policies, Latin American governments can
go a long way toward solving the productivity problem. Many of the
problems arise from market failures that have yet to be properly
addressed, and others from failed economic policies that, often
unintentionally, have taken a toll on productivity by increasing
allocation of resources to small and inefficient firms.
This study explores whether policies on trade, credit, taxes,
social protection, aid to small firms, innovation and industrial
promotion are at the root of the problem, or instead part of the cure
for the low-productivity-growth disease of the region. This book
focuses on the less studied dimensions of productivity that may be
vitally important for the design of public policy in Latin America and
the Caribbean.
High Transportation Costs and Trade
Free trade has often been touted as a boon to productivity because it
exposes producers to greater competition, forcing them to cut costs
and increase their efficiency while providing greater access to more
and better inputs, particularly capital goods.
However, high trade costs, particularly those associated with
transportation, have prevented the region from reaping all the
benefits from greater international trade. Moreover, economic
resources are diverted to an inefficient transportation system,
hurting the overall level of productivity in the economy.
The region as a whole spends in freight nearly twice as much as
the United States to import its goods. Most Latin American countries
have higher freight rates when exporting to the United States than
countries in the Far East and in Europe. This is alarming, particularly
when considering countries that are very close to the United States,
such as those in the Caribbean (Figure 5).
6
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Figure 5 Freight Expenditures as a Share of Exports to the
United States, 2006
China
Oceania
East Asia
European Union–12
Paraguay
Guyana
Argentina
Chile
Panama
Guatemala
Uruguay
Ecuador
Brazil
Costa Rica
Colombia
Jamaica
Belize
Trinidad and Tobago
Honduras
Peru
Bolivia
Barbados
Nicaragua
Salvador
Venezuela
Mexico
6.24
5.50
4.41
3.77
15.87
12.43
7.73
7.65
7.55
7.32
6.82
6.74
6.27
6.22
5.99
5.95
5.90
5.36
4.69
4.69
4.22
4.08
3.56
3.38
3.17
1.14
0
5
Percentage
10
15
Source: Authors' calculations based on U.S. Census Bureau dataset on U.S. Imports of Merchandise
(various years).
Note: European Union-12 countries are: Austria, Belgium, Denmark, Finland, France, Germany,
Ireland, Italy, Luxembourg, Netherlands, Sweden and United Kingdom.
Ports and airports are grossly inefficient in the region. Inadequate physical infrastructure is to blame in some countries, but more
important are the support activities for the movement of cargo and
the inefficiencies caused by inadequate regulation, lack of competition in services, and deficient operating procedures and information
systems.
7
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Too Little Credit
Despite the financial deregulation of the 1990s, the depth of Latin
American credit systems remains very low by international standards
(Table 1). Consequently, lack of credit is one reason why there is
so much dispersion in the productivity of firms. Without credit,
productive firms cannot expand and less productive firms cannot
make the technological changes and investments needed to raise
their productivity.
The credit drought has another damaging effect on productivity:
it weakens the incentives for informal firms to comply with tax, legal
and social security provisions. This hurts productivity by allowing
unproductive firms to survive because they have lower costs than
their formal counterparts. Expansion of credit to enterprises can help
formalize jobs and, as a result, improve productivity.
Table 1 Financial Development and Total Factor Productivity
Growth by Region, 1965–2003
Number of
countries
Credit to the
private sector
(percentage of
GDP)
TFP growth
(percentage)
7
77
1.3
Industrial Countries
22
74
0.6
Africa
16
18
–0.1
Latin America
18
31
–0.5
Region
East Asia
Source: Credit to the private sector: World Bank (2009), The World Business Environment
Survey; TFP: C. Daude, and E. Fernández-Arias (2010), On the Role of Aggregate Productivity
and Factor Accumulation in Economic Development in Latin America and the Caribbean,
Washington, DC: IDB.
8
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Complex Tax Systems
Tax systems in the region remain very complex, segmented and
ineffective. It takes an average of 320 hours per year for Latin
American and Caribbean firms to file taxes compared to an average
of 177 hours in high-income countries (Figure 6). Almost all
countries have multiple tax regimes for firms of different sizes,
and tax collection is decidedly low: 17 percent of gross domestic
product (GDP) in 2005 compared to 36 percent in industrial
countries) Taxes on profits are high by international standards, yet
collection is very inefficient due to high evasion, particularly among
small and micro firms.
As a result, the region’s tax systems distort the allocation of
productive resources: the sectors and firms that expand are not
necessarily the most productive but rather those that enjoy higher
tax breaks or can evade their tax obligations more easily. The
creation of simplified tax systems for small companies has increased
formalization but created incentives for these firms to remain small
in order to avoid a sharp drop in their profitability.
Simplifying, unifying and enforcing the tax provisions that
apply to enterprises could contribute greatly to productivity; in turn,
higher productivity would boost both the gross domestic product
and tax receipts.
Social Policies: Good Intentions, Unintended Outcomes
Social policies—either through government spending or regulation—
can change behavior in labor markets and hurt productivity by
preventing the efficient allocation of resources in the economy.
The strategy of financing social security by taxing formal labor
adds to nonwage labor costs and induces workers and companies to
pursue informality, misallocating the economies’ resources.
Higher labor informality, then, prompts governments to increase
social protection to those without a formal job. That, in turn, can
9
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reduce workers’ willingness to search for jobs with social security
coverage, distorting firms’ and workers’ decisions on labor allocation
and scale of operations, decisions that further hurt productivity.
It is estimated that increased informality causes Latin America
and the Caribbean to lose annually between 0.4 and 5.2 percent
of output (Table 2). The answer is not to eliminate social policies
but to cut the linkage of benefits and funding of those policies with
employment. Universal coverage services, such as health insurance,
or even retirement pensions, can be funded with fewer distortions by
general taxation instead of labor taxation.
Programs for Small and Medium-Sized Enterprises
Do programs for small and medium-sized enterprises (SMEs)
increase firms’ productivity? Unfortunately, evaluations of these
programs have been few and far between and when done, the
variable of focus has been employment rather than productivity.
On average small firms—particularly the smallest ones—do not
necessarily use additional resources more productively than medium
and large firms. If anything, most of the evidence suggests the
opposite: many of the smallest firms are actually too large relative
to what they should be because they benefit from implicit subsidies
in the form of unpaid taxes and social security contributions. Thus,
they may not be able to employ additional labor or capital very
productively, particularly relative to larger firms.
The objective of such programs should not be to create jobs but
to create productive jobs, which can appear in an enterprise of any
size, including but not limited to SMEs. Estimates in this volume
suggest that SME programs may indeed boost the productivity of
beneficiary firms but, in the aggregate, the effects would be greater
if support was open to all firms no matter their size, particularly
companies in the formal sector.
10
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Figure 6 Time Required to Complete Tax Payments, 2007
Europe and Central Asia
Latin America
Middle East and North Africa
South Asia
Sub-Saharan Africa
East Asia and Pacific
High Income
350
320
295
293
287
228
177
Brazil
Bolivia
Venezuela, RB
Ecuador
Mexico
Panama
Argentina
Peru
Guatemala
Uruguay
Paraguay
Dominican Republic
El Salvador
Chile
Guyana
Costa Rica
Nicaragua
Honduras
Colombia
Suriname
Haiti
St. Kitts and Nevis
Belize
Grenada
Dominica
St. Lucia
2,600
1,080
864
600
517
482
453
380
344
336
328
324
320
316
288
282
240
224
208
199
160
155
147
140
120
92
0
500
1,000
1,500
2,000
2,500
3,000
Annual Hours
Source: Authors’ calculations based on World Bank (2009), The World Business Environment Survey.
Note: Information based in 181 countries, with data from 2007–2008. Time is recorded in hours per
year, and it measures the time to prepare, file and pay (or withhold) three major types and contributions: the corporate income tax, value added or sales tax, and labor taxes, including payroll taxes and
social contributions.
11
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12
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Year
2002
2007
2006
2005
2006
2007
2005
2006
2002
Country
Bolivia
Brazil
Chile
Colombia
Costa Rica
Ecuador
El Salvador
Guatemala
Mexico
13.6
1.7
0.6
2.1
0.2
2.4
0.9
17.8
0.9
Uncovered
salaried
workers
(million of
workers)
(I)
Nonwage
labor cost
(percentage
of salary)
(II)
37.9
53.6
31.7
53.5
33.0
34.8
32.4
31.8
36.4
Uncovered
salaried
workers
(percentage
of salaried
workers)
75.0
31.9
20.1
31.8
18.1
66.9
49.0
63.4
50.7
Table 2 Output Loss Estimates for the Region
14.0b
21.8a
12.5
20.9
12.5
19.9
13.5
17.9
8.72a
Covered/
uncovered
wage gap
(percentage of
average salary)
(III)
50.3
53.6
44.9
55.6
45.5
73.4
45.1
71.5
46.6
Continues on next page
[1.4–2.1]
[1.9–4.1]
[1.6–2.4]
[2.1–4.1]
[0.6–0.8]
[1.1–1.5]
[0.4–0.6]
[1.8–2.5]
[3.6–5.1]
Annual GDP loss range
Difference in
(percentage
marginal
of GDP)
productivity
(V) = 0.5 x (I) x (IV)
(percentage
x (average wage)/
of salary)
(IV) = (II) + (III)
GDP
13
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2005
2006
2004
Nicaragua
Paraguay
Venezuela
1.9
0.9
0.7
Nonwage
labor cost
(percentage
of salary)
(II)
51.1
27.8
22.9
Uncovered
salaried
workers
(percentage
of salaried
workers)
67.0
83.3
41.0
14.0
15.0
19.8
Covered/
uncovered
wage gap
(percentage of
average salary)
(III)
36.9
42.9
70.9
[0.4–0.8]
[2.7–5.2]
[3.9–6.3]
Difference in
Annual GDP loss range
marginal
(percentage
productivity
of GDP)
(percentage
(V) = 0.5 x (I) x (IV)
of salary)
x (average wage)/
(IV) = (II) + (III)
GDP
Source: Authors’ calculations based on: IMF (2009), World Economic Outlook, and countries’ household surveys from Bolivia: INE (2002); Brazil: IBGE (2007);
Chile: MIDEPLAN (2006); Colombia: DANE (2005); Costa Rica: INEC (2006); Ecuador: INEC (2007); El Salvador: DIGESTYC (2005); Guatemala: INE (2006);
Mexico: INEGI (2002); Nicaragua: INIDE (2005); Paraguay: DGEEC (2006); and Venezuela: INE (2004).
Notes:
Column (III) shows the wage gap that remains after controlling for gender, age, education, living in the capital city, economic sector and firm size.
The lower bound in Column (V) assumes that the covered–uncovered wage gap is zero. The upper bound in that column uses the result in Column (III) .
a
Due to data availability, not controlling for either firm size or economic sector.
b
Due to data availability, not controlling for firm size.
Year
Country
Uncovered
salaried
workers
(million of
workers)
(I)
Table 2 Output Loss Estimates for the Region (continued)
New Ideas for Innovation
The capacity of a society and its firms to generate and assimilate
technological change is a key component of prosperity and growth.
Many Latin American firms invest in innovation. Nonetheless, their
financial commitment amounts to a mere 0.5 percent of gross
revenue compared to 2 percent, or four times higher, for countries
in the Organisation for Economic Co-operation and Development
(OECD). Firms in the region spend most of their innovation dollars
on assimilating technology in new equipment and machinery, while
developed countries invest primarily in research and development.
The public sector is the biggest spender on research and
development, but its focus is on basic research in universities and
public research centers which, with valuable exceptions, have little
influence on productive innovation and low scientific performance by
international standards.
The main obstacles to innovation in the region are lack of
finance, long return periods, small domestic markets, and a shortage
of trained personnel. Consequently, deepening credit markets,
lowering transportation costs, and improving education and worker
training can boost the incentives for firms to innovate. Governments
must solve failures in communication among the various actors
in innovation systems in order to have positive outcomes in the
productive system.
14
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A New Era for Industrial Policy
Increased productivity for the region will depend on the coordinated
efforts of individuals, enterprises and institutions in the private and
public sectors, paving the way for a new era for industrial policy.
In a departure from the past, industrial policies today are
understood as a set of instruments and institutions that facilitate
coordination and generate specific public inputs required by specific
sectors. Although the final product may be exports or goods tradable
internationally, the goal of these new industrial policies is not to
stimulate any sector. Rather, the goal is to develop and expand
sectors that have potential comparative advantages or positive
externalities over other areas in the economy.
Successful policies promote public–private cooperation, exploit
the information advantages of the private sector, create incentives
for risk-taking, and above all discourage rent-seeking behavior.
Outstanding examples of these policies come from the agricultural
sector, such as the development of genetically improved rice
varieties or soy seeds adapted to the Brazilian savannas through
public–private partnerships.
Implementing policies that foster productivity in the region is a
challenge because it may go against measures that give immediate
political benefits, such as tax exemptions for certain sectors. In
addition, such policies may be difficult to implement because
economic activity has been diversified, the powers of national
governments have been decentralized and political systems have
become more participative.
Countries will need to build a politically feasible social
consensus in favor of productivity. Such public support is possible.
In the past 15 years, after many setbacks, Latin American
societies have succeeded in building a social consensus in favor
of macroeconomic stability. Thanks to this, the region has come
15
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through the worst international financial crisis since the Great
Depression in relatively good shape.
A new consensus now is imperative to allow the region to
build upon its macroeconomic stability, paving the way for Latin
America and the Caribbean to achieve sustainable long-term
economic growth that is stimulated by rising productivity and not the
exploitation of natural resources.
16
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