Benefit of Liberalizing Trade in Services: Impact on ... -...
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Benefit of Liberalizing Trade in Services: Impact on Growth and
EmploymentYan Wang
Senior Economist, World [email protected]
Prepared for the Training of Trainers course on “Trade Policy and WTO Accession”
Hanoi, VietnamMay 8-16, 2005
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OutlinePrevious session looked at impact of trade in goods,
here we examine trade in services• Theories regarding the gains from trade• Why are Services so important?• Benefits of opening services trade: deepening
division of labor, higher productivity in goods sector, learning by doing, etc
• Empirical evidence on services trade and growth• Impact of China’s service liberalization-CGE
analysis, based on Li, Wang and Zhai (2003)• Summary
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I. International Trade Theory: a Review
• Well-known trade models:– Ricardo (comparative advantage based on
differences in productivity levels)– Heckscher-Ohlin (comparative advantage based
differences in factor endowments)– Krugman-Helpman (trade driven by economies
of scale and consumers’ love of variety; explains intra-industry trade)
– The new trade models and new growth theory based on creative destruction [see below]
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Growth models• Neoclassical growth theory (Robert Solow)
– Diminishing returns to the accumulation of capital and labor
– Sustained growth requires continuous technological progress (exogenous to the model)
• Endogenous growth theory (Paul Romer)– Technological progress within the system– Models incorporate research, development and
technology diffusion
• New models of Creative Destruction (Aghionand Howitt 1992)
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The role of Entry and Exit• Schumpeter’s idea of Creative Destruction (1942) stresses
innovation /new products & new services• New endogenous growth model stress vertical innovations
generated by research (Aghion and Howitt 1992)– Monopoly rents provide the payoff /incentives for research– Better products/ services render previous ones obsolete.
• New entrants with better products /services drive the old firms out--good for productivity.
• Implications for trade: Competition / entry and exit are good for productivity growth– process encourages innovation and reallocation of resources from
inefficient ones to efficient one.
See also Melitz 2003, Hummels and Klenow 2005.
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Creative Destruction: Entry, Exit &competition raise productivity growth
New EntrantsWith new tech
Firms with obsolete tech
Exit
Manufacturing firmsBecome more productive
Spin-offServices
DeeperDivision of Labor
Reallocation
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Competition forced spin-offs and out-sourcing and led to deeper division of
labor
Accounting
Marketingdistribution Other business services
Legal services
Transport and logistic services
Manufacturer
Deeper DivisionOf Labor / Specialization
Expansion of Services
Productivity growth
CompetitivePressure
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Global Local
Basic R&D
ComponentManufacturing
Product design
Marketing
Assembly
Global Sourcing is possible:Local vs. global along the value chain
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II. Why services matter• Services account for large shares of production and
employment in most economies around the world. These ratios are higher for industrial countries
• The share of services in world trade and investment has been increasing. They have been among the fastest growing components of world trade over the last 15 years. Today, more than half of annual world FDI flows are in services, and the value of sales abroad by foreign affiliates of US service firms is estimated to be 3.5 times greater than their cross border exports.
• Some services are low-skilled labor intensive such as tourism and personal services. Thus the expansion of these services are conducive to job creation and poverty reduction.
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China (2004) new data
data: NBSChina 2004 Service Source: WDI 2005,
Saudi Arabia
Trend Line
Norway
Vietnam
Thailand
Sweden
Spain
SingaporeRussia
Poland
Nepal
Mongolia
Mexico
Malaysia
Lao PDR
Korea
Jordan
Italy
Iran
Indonesia
India
GreeceGermany
France
Finland
Egypt
U.K.Denmark
Czech Republic
ChinaCambodia
Brazil
Belgium
Azerbaijan
Austria
Argentina
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30
40
50
60
70
80
0 5000 10000 15000 20000 25000 30000 35000GDP per capita, PPP (constant 2000 international $)
Serv
ice
Valu
e A
dded
( %
of G
DP)
Service Sector as a Percentage of GDP (Year 2003)
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The role of services as input to the good sector
• Many services are key input to the production of other goods and services, and thus crucial for the competitiveness of the goods-export sector.
• Inefficient provision of services acts like a tax on other producers in the economy
• For exporters in agriculture and manufacturing, inefficient provision of services can lead to negative rates of effective protection
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Why open the service sector• Services as engine of growth: since deeper division of
labor and specialization contribute to competitiveness and higher productivity
• Services trade / entry [foreign or domestic] and exit are conducive to productivity growth
• Liberalization in service may generate sizable gains– A) Standard gains from trade and specialization;– B) Services as intermediate input—better services
for the goods sector; – C) Gains from FDI as a means for trade --learning-
by-doing.– D) Entry and exit /Competition are good for
productivity growth due to resource reallocation, etc
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III. Empirical evidence on Services Trade and Growth
• In the US, Service-producing industries account for – three-fourths of post-1995 growth in aggregate
labor productivity. and– all of the acceleration in labor productivity and
Multi-factor Productivity (MFP) relative to 1987-95.
• Large contribution of IT-producing sectors to MFP is offset by declines in other goods-producing industries (Bosworth and Triplett 2004)
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Evidence in Transition Economies• Exports of services (BOP basis) up from 2
to 8% of GDP, 1990-2004– EU-15 average = 8%– Southern/Eastern Europe = 11%; CIS = 5%
• Services FDI now accounts for 60% of global stock; but some 80% in Baltics
• Business services = 40% of total inward FDI stock in DCs, vs. 20% in OECD
• Transport/telecoms = 25% in transition economies vs. 10% elsewhere
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In transition Economies• Controlling for change in investment/GDP, inflation,
crises, addition of services policy variables statistically significant > 1% level (Eschenbach & Hoekman 2005)
• Using firm data from 350 firms from Czech Republic, Mattoo et al found that– There is a positive relationship between services
sector reform and the performance of domestic manufacturing firms relying on services inputs
– Allowing foreign entry is the key channel through which services liberalization may affect performance of downstream manufacturing sectors
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Services liberalization and growth
Source: Mattoo, Rathindran, and Subramamian (2001)
Linear prediction
1 8.5 -.024
.059
ITA
NZL
SLV
PAN
PRT
FIN
ISL
ARG
CHE
ESP
BELNLD
NORUSACANSGP
EGY
FRA
SWE
GRC
GUY
AUS
GBR
AUT
CYPJAM
BOL
DNK
MLT
MWI
CRI
ZAF
TUR
MOZ
KEN
IND
MAR
VEN
MEX
PHL
NIC CHL
URYKOR
PER
MYS
ECU
AGO
THA
HND
COL
TUN LKA
BRA
IDN
DOM
Composite services liberalization index
Growth rate (adjusted for other factors)
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IV. China lags behind in service sector development
• Underdeveloped and inefficient: in China, Services accounted for 34% of GDP in 2004 (which was adjusted upward to 40.7% by NBS), lagging behind other industrial and developing countries. Why?
1. Under-reporting /data issue2. It is a part of “Imbalances” existing in the Economy
– Inadequate education and health services in rural areas– Inadequate access to financial services by SMEs
Overinvestment in physical capital and underinvestment in human and natural capital
3. State monopoly, lack of competition in some sectors;• How to correct this imbalance?
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However, China’s service sector share in GDP had been stagnant or falling.
China Service Sector's Share in GDP
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22
24
26
28
30
32
34
36
1981
1983
1987
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
Year
% Current Price1990 Price
Source: China Statistics Yearbook(2002) and China Statistics Abstract (2003)
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Factors for China’s lagging Services• Under-reporting (as informal sector is large)• Lack of competition— entry barriers in many sectors
such as banking, telecom, civil aviation, and railways, and restrictions on non-state capital and foreign capital investment
• Low level of marketization (government-led growth)• Low level of urbanization• Inadequate human resources in many services: legal,
accounting, financing, multimode distribution, E-commerce, computer software, R & D, market service, corporate management service, etc.
• Therefore, reform and liberalization is needed for the development of the service sector.
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V. Macro impact of liberalizing the service sector—CGE analysis
A Computable General Equilibrium (CGE) model (based on Li, Wang and Zhai 2003)
• 52 production sector and 2 households: urban and rural
• Factors of Production– agricultural land, capital, labor by rural / urban and skill levels
• Monopolistic Competition – Transportation, communication, finance, insurance, real estate,
social service, education, health and cultural service
Source: Li, Shantong; Yan Wang; and Fan Zhai 2003. “Impact of Service Sector Liberalization on Employment and Output: A CGE Analysis”. Paper presented in NDRC-WBI seminar, September.
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Simulations Design
• Base case projection for 2000-2010• Service liberalization case – incorporated four
aspects of policy or institutional changes.– Promote competition in service sector – Increased foreign investment resulted from reduction of
barriers– Increased productivity induced by service liberalization– Halving the barriers to services trade
• All policy changes will be phased in over the period from 2003-2010
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Economic efficiency gains
Percentage change of GDP relative to base case, 2010
-1 0 1 2 3 4
Combine (1)(2)(3)(4)
(1) Perfect competition
(2) More FDI
(3) Productivity promoption
(4) Reduction trade barrier
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Sectoral adjustment
Percentage change of output relative to base case
-1 0 1 2 3 4 5 6 7 8 9
Agricultural
Industry
Service
(4) Reduction trade barrier(3) Productivity promoption(2) More FDI(1) Perfect competitionCombine (1)(2)(3)(4)
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Change of output in service sector
Percentage change of output relative to base case
-1 1 3 5 7 9 11 13 15
Infrastructure
Commerce
Finance
Oth. Serv
(4) Reduction trade barrier(3) Productivity promoption(2) More FDI(1) Perfect competitionCombine (1)(2)(3)(4)
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Change of employment in service sector
Percentage change of output relative to base case
-6 -4 -2 0 2 4 6 8
Infrastructure
Commerce
Finance
Oth. Serv
(4) Reduction trade barrier(3) Productivity promoption(2) More FDI(1) Perfect competitionCombine (1)(2)(3)(4)
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Effects on sectoral output and employment, 2010
Output Employment Output EmploymentAgriculture 0.8 0.5 0.2 0.2Industry 1.1 0.3 0.3 0.3Construction 4 3.1 0.7 0.7Service 9 -2.2 0.8 0.5
Transportation 11.3 1.2 1.2 1Post 8.1 -1.8 0.3 0.3Tele-communication 16.5 6 0.4 0.4Commerce 4.7 -5.3 0.3 0.2Restaurant 5.8 -4.2 0.7 0.7Finance 15.2 3.4 0.5 0.5Insurance 12.7 1.5 0.5 0.5Real Estate 24 11.9 0.4 0.4Tourism 64.4 48.6 23.3 23.1Civil Service 9.8 0.1 0.8 0.7Education, health etc. 5 -4.2 0.3 0.2Public Administration 0.8 -0.3 0.1 0
Source: Li, Wang and Zhai 2003. Authors' model simulation results
Liberalization (% change with baseline)
Tourism boom (% change with
liberalization case)
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Effects of service liberalization• Service liberalization will boost economic
efficiency and have shared benefits• Annual GDP growth rates will increase by 0.5
percentage point in 2003-2010• Welfare gains amount to 827 bn yuan or 4.2% of
GDP in 2010• Real consumption rises by 6.8 % and real
investment by 3.8 %• Employment will rise only if construction is
included, and wages for skilled and unskilled labor will rise by 3-6%, benefiting both rural and urban HHs.
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Sectoral and Employment Results• Output will expand in all service sectors,
especially in highly regulated subsectors such as telecom, insurance, and banking
• Tourism and real estate will experience big output booms and significant increases in their employment
• Employment in the service sector will increase, if construction is included.
• In the case of a foreign tourism boom, both employment and output will increase significantly by 0.8 and 0.5 percent over the baseline.
Note: WTO/GATS definition includes construction in services.
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Conclusions• Trade in services brings efficiency gains from deeper
division of labor, specialization, services as intermediate input to the goods sector, and “learning by doing” in new types of services.
• Entry and exit are crucial for productivity growth, as new ideas, technologies and processes are often embodied in new entrants to the market
• Empirical evidence links services trade with productivity growth, in the US and Transition economies, and China.
• Our CGE analysis shows that opening service trade plus a tourism boom may lead to a rise in both output and employment
• Complementary measures are needed to reduce strains for the rural poor.
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References• Aghion, Philippe, and Peter Howitt, 1992. “A model of growth through creative
destruction”, Econometrica, 60:2 (March 1992) 323-351.• Grossman, G. M. and E. Helpman, 1991. “Quality Ladders in the Theory of
Growth”, Review of Economic Studies, 58, 43-61.• Hummels, David and Peter J. Klenow, 2005, AER, 95(3): 704-723• Melitz, Marc J. 2003. “The impact of trade on intra-industry reallocations and
aggregate industry productivity” Econometrica, 71 (6): 1695-1725.• Noguer, Marta and Marc Siscart. 2005. “Trade raises income: a precise and
robust result” Journal of International Economics, 65 (2005) 447-460.• Schumpeter, J. A. 1942: Capitalism, Socialism, and Democracy. New York:
Harper and Brothers. p.83.On services trade• Eschenbach & Hoekman 2005• Bosworth and Triplett 2004• Arnold,Jens, Beata Javorcik and Aaditya Mattoo 2006• Li, Shantong; Yan Wang; and Fan Zhai 2003. “Impact of Service Sector
Liberalization on Employment and Output: A CGE Analysis”.• WANG, Yan and Nihal Bayraktar. 2006. “Banking Sector Openness and
Economic Growth,”, working paper. March 2006.• Wang, Yan and Nihal Bayraktar, 2004. “Foreign Bank Entry and Performance of
Domestic Banks”, WB Policy Research Working paper no 3416, 2004.