Helping Firms Learn for Faster Productivity Growth
Gonzalo J. Varela
The average Pakistani worker produces 40 percent more value added today than 30 years ago. The average Polish worker 187 percent more, and the average Vietnamese one 328 percent more. Put differently, the productivity of the Polish and the Vietnamese workers grew about 5 and 8 times faster than that of Pakistanis.
Workers’ productivity growth has practical implications: it is closely linked to growth of their average income. Understanding what is it that Poland or Vietnam did differently can help in jumping into a path of faster productivity and incomes’ growth moving forward.
Productivity can grow when resources (machinery, land, materials) and talent are allocated to more productive uses (improved allocation) or when these resources and talent become better themselves (more innovation/learning). For example, if by an accident of history Babar Azam was forced to work as a weightlifter and Talha Talib to work as a batsman in a cricket field, then a simple reshuffle, to allow Babar to bat and Talha to lift would improve the allocation of talent in the economy, leading to an increase in productivity (and in their wages!). Productivity will increase further, if both Babar and Talha became better at batting and lifting respectively, through more training, used of more sophisticated training equipment, and better, innovative, training practices.
How did these two mechanisms: better allocation and more innovation play out in Vietnam’s or Poland’s stories? Why has Pakistan’s experience been any different?
Throughout the 1990s, Vietnam’s economic structure was not all that different than Pakistan’s then or now. Its exports were predominantly textiles, agriculture products and some minerals. Fast forward to 2020, and you will see agriculture and textiles, but also, and predominantly, electronics, mobile phones, computers, or semiconductors. The soaring of workers’ productivity in Vietnam is closely linked to this productive transformation. The stagnation of Pakistan’s, to its productive stagnation.
Vietnam leveraged integration into the global marketplace to become more productive. It attracted top class multinationals, which benefited from the country’s low wages, and in exchange, sent marketing, managerial, and technical know-how. This helped productivity upgrading and job creation not just within the multinationals operating in Vietnam, but also among the domestic firms around them. When Samsung first set up shop in Vietnam in 2008 to assemble and export electronics, most – if not all – of its suppliers were foreign firms. Between 2014 and 2019, the number of Vietnamese companies chosen as first-tier suppliers of Samsung increased from 4 to 42, reaching 50 in 2020. Today, Samsung does not just assemble in Vietnam. It also produces semiconductor parts and conducts R&D. The firm sparked a reaction through the value chain. It trained its local suppliers, which helped improve their organizational practices and the quality of their products or services as a result. Their productivity grew, and so did their sales – domestically and abroad.
The Polish case of productivity upgrading is also linked to economic integration. Deep integration of Poland with the EU, first as an associated state in the early 1990s and then as a full member in 2004 has been a key driver in narrowing the productivity gap between the country and its more advanced trade and investment partners, as argued in Bastos et al (2022). Lower trade and investment barriers for valued clients helped. Manufacturers benefitted from accessing varied, inexpensive, and good quality inputs and machinery from wherever these are produced most efficiently. For domestic firms, accessing these inputs at world prices helped them produce more, and better. Foreign investment also helped improve financial and knowledge flows. Here again, specific firms played key roles. For example, GM Opel started operating in the special economic zone of Gliwice in Poland in 1996, with positive spillovers across firms in Gliwice and beyond. The zone now has more than 80 companies, many of which supply to GM Opel but also to other carmakers in Poland and abroad.
Aren’t these channels linking trade and investment integration with the global marketplace and productivity growth at play in Pakistan? In our latest report, “From Swimming in Sand to High and Sustainable Growth” we answer this question relying on a decade-long panel of firm-level data from publicly listed firms, combined with exporters’ transactions and additional survey data. Specifically, we look at whether Pakistani firms ‘learn by exporting’, ‘learn by importing’ and ‘learn by connecting to FDI’. The short answer is yes, yes, and somehow.
Exporting and productivity
We find that in Pakistan, exporters are substantially more productive than domestic-oriented firms. The exporters’ productivity premium holds across sectors. Evidence points both to selection and learning by exporting explaining the productivity gap between exporters and non-exporters. Selection means that firms that get to sell internationally are more productive in the first place (and that’s why they manage to become exporters, as exporting is tough). Learning implies that their productivity grows because they engage in exporting activities. We split the sample into ‘never exporters’, ‘future or latent exporters’ (those that are not exporting at time t, but we know will start exporting in the following period, t+1), and ‘systematic exporters’ (those that export in every period). We find that part of the productivity premium is driven by selection: latent exporters are 26 percent more productive than never exporters. Another big part is explained by learning: systematic exporters are 21 percent more latent exporters, within a given sector and size category.
These results make sense. Wadho et al (2019) show that in Pakistan, exporting firms innovate more – particularly those exporting to high income countries – while Lemos et al (2016) show that Pakistani exporters are better managed than their domestically-oriented counterparts. And yet, both macro and firm-level data show a decline in the export orientation of firms in Pakistan: exports as a share of GDP declined from 16 percent at the turn of the century, to less than 10 percent in 2021 – more than 6 percentage points in 21 years. The ratio of exporters among publicly listed firms declined from 60 to 51 percent in the past ten years, and the average share of exports in sales for those that export declined from 31 to 27 percent. The learning-by-exporting platform has shrunk in Pakistan.
Importing and productivity
To examine the link between importing and productivity we focus on one specific channel linking changes in import barriers on intermediate inputs and productivity. We find that the reduction in import duties on intermediates that are relevant for a given firm increases that firm’s productivity, but also its sales (helps it expand) and the average wage paid (helps it create better paying jobs). The productivity-sales-wage troika matters: lower import costs for intermediates are not just productivity enhancing, they are also growth and job-quality enhancing.
We also find that not all firms benefit equally from lower trade costs for intermediates: domestic firms and small exporters (those that struggle accessing duty drawback schemes) benefit more: a one percentage point reduction in import duties on intermediates increases the productivity of domestic firms by 0.75 percent, and of small exporters by 0.94 percent, while it keeps that of large exporters roughly unchanged (large exporters tend to access duty drawbacks more easily so may not really care about import duties on intermediates, as we report in Lovo & Varela, 2022). Yet, over the past decade, and contrary to global trends, import duties on intermediates in Pakistan have been on the rise, and duty drawback schemes have functioned poorly. The learning by importing platform has shrunk.
FDI and productivity
Foreign firms in our sample are more productive than comparable, domestic-owned ones, just like everywhere else in the world. The productivity premium of foreign-owned firms is of 46 percent. Almost two-thirds of that premium is due to foreign firms ‘cherry-picking’ more productive firms to acquire (selection, to use the same language as in the ‘exporting’ discussion), and one third is due to firms becoming better as time passes after foreign acquisition (learning).
We also tested for spillovers: do domestic firms that interact with multinationals as competitors or as clients benefit (in terms of their productivity growing) by being exposed to multinationals? We found no evidence of ‘horizontal spillovers’ – that is, domestic firms that compete with multinationals (in the same sector), do not see productivity gains associated with the presence of their foreign competitors. We do find evidence of ‘vertical spillovers’: more FDI in upstream sectors – particularly in services sectors, leads to productivity growth in firms that operate in downstream sectors. For example, the recent introduction of the ‘Looptrace’ platform by Pakistan’s large exporter, Interloop, boosted the textile manufacturer’s productivity, and was facilitated by the availability of quality services providers in upstream sectors, ranging from telecom and internet services, to business services providers. Indeed, our results point to more FDI in upstream services being also associated with more investments in intangible assets – a form of innovation, and consistent with the recent findings in Wadho and Chaudhry (2022). But FDI has been elusive for Pakistan in the past decade. Yet another learning platform that has shrunk.
Accelerating productivity growth for inclusive growth
In 1990, the average Pakistani worker’s income was 2.4 times that of the average Vietnamese. Today it’s less than 80%. The reason is Pakistan’s relative productivity decline. It made the real incomes of Pakistani workers lower than they could be. International and local evidence unveiled in our report points to trade and investment integration with the global marketplace to be a crucial platform for productivity growth. Yet, these platforms have been shrinking in Pakistan as the economy increasingly turned inward rather than outward looking.
Three policy actions can help:
- Reduce import barriers. While import barriers are established to ‘protect’ domestic industry and substitute imports, it ends up substituting exports instead and depriving local firms of crucial foreign technologies to become more productive. Start by reducing import barriers on intermediates and machinery, to facilitate ‘learning by importing’. Regional trade agreements, if covering a substantial amount of trade, can be an effective way of opening up.
- Complement import barrier reductions with active export promotion. Ensure export facilitation schemes (duty drawbacks) are automated, and easier to use so that exporters can access intermediates at world prices, just like their global competitors do. Use the Export Development Fund wisely to support skills upgrading of potential exporters, and to help smaller firms connect with global buyers. Measure impact of these interventions, so that the government intervention learning platform also expands, and impactful interventions are scaled up, and non-impactful ones phased out.
- Promote FDI in efficiency-enhancing sectors. Start by making the liberal Investment Policy of 2013 into a law, replacing the highly protectionist Investment Act of 1976.
For a more thorough discussion, see our report!
 International evidence shows this channel to be crucial for learning by importing.
Gonzalo J. Varela is a Senior Economist (Macroeconomics), Trade and Investment Global Practice, The World Bank
“Thank you so much to Gonzalo J. Varela for writing such an informative and thought-provoking article on the growth of workers’ productivity in Pakistan, Poland, and Vietnam. Your analysis of the factors contributing to productivity growth in these countries and the implications for income growth is insightful and valuable. We are grateful for your permission to publish this article on our website and look forward to sharing it with our readers. Your writing is a true asset to our platform and we appreciate your contributions.”