Competitiveness and Growth in Latin America: The Chilean Case

1. Competitiveness and Growth in Latin America: The Chilean Case Matías Braun Universidad Adolfo Ibáñez & IM Trust Ignacio Briones Universidad Adolfo Ibáñez Christian Johnson Universidad Adolfo Ibáñez September 2007

2. Non-Binding Constraints Selected scores at the WEF-Global Competitiveness Report 2006-2007 We dismiss the following as being material constraints • Property rights • Macroeconomic unstability • Tax scheme • Infrastructure • Public institutions

3. Selected binding “suspects” • Poor quality of Education • Bad Income Distribution • Micro Constraints on Growth: a) labor, b) energy constraints • External sector and self-discovery • Financial Constraints

4. Methodology Benchmark Groups • We consider a factor to be a considerable constraint if three conditions apply: • If, compared to a relevant group of countries, a measure of the relevant issue is shown to be significantly smaller in Chile. • If there is an economic and statistically significant association between the measure of the particular concept and the rate of growth and/or the level of income. • If we can show either shadow prices or behavior that is consistent with the hypothesis that there is a significant constraint steaming from supply rather than demand factors. • For each candidate, we compute and rank

5. Our own implementation of GDM y=f(X) dy=δy/δX·dX • dX lower than benchmark (expected, desired, rich or fast-growing countries) • δy/δX relatively large and in the right direction • δy/δX X=>y and not the other way around (behavior or prices consistent with lack of supply instead of lack of demand) • For X to be binding we need all 1, 2, and 3 to be true. • Also, dy=δy/δX·dX allows us to rank them

6. 1- Lack of resources: human capital • Quantitative educational indicators • Qualitative educational indicators • Behavior: Industry panel regression

7. Education: Quantity Average years of Education (pop, 25+), 2000 Percentage of Higher school attained (pop, 25+),2000 • Both attainment and years of school in Chile are in line or over the country’s economic development.

8. Quantitative educational indicators • Gross tertiary enrolment is higher than LA and than the fast growing economies • In line in 1990, over the expected value in 2004 • Quantity is NOT a problem

9. Quantity. Indirect measures wage premium Wage premia and % of labor force with tertiary education completed • At first sight Chile’s wage premia looks high… • However, it is in line with its quantity of skilled workers (and also level of development and capital per worker) • Quantity rather than quality?

10. Quantity. Indirect measures wage premium • Skilled wage premia roughly constant during the 1990s • Ceateris paribus, supply of high skilled workers has compensated the demand expansion. • Supply was not a mayor constraint • Wage premia secondary vs primary are converging. Quality? Wage premia in Chile 1970-2003

11. Quality: indirect measures • Mincer> ex-post => negative quality effect at school level • Mixed Results: • No difference from national data • Mincer > ex-post, Santiago’s data

12. Quality: direct measures Prueba TIMSS 2003 Prueba Pisa 2000 • Chile’s results in TIMSS and PISA test should be 15% higher (=1 standard deviation) • In principle, economic effect could be large: 1% in in per capita GDP growth per year. (Hanushek and Kimko, 2000) • However, quantity x quality= ok. Combined economic effect 0.4% in per capita GDP growth per year. • Quality could be binding

13. Quality. Further tests: Industry panel approach • 2 specifications: • A- Dependent variable is value added growth at isic3 level, over interaction of human capital intensity x availability + other control variables • B- Dependent variable is the share of isic3 value added (to GDP), over interaction of human capital intensity x availability + other control variables • Idea is to test behavior: given Chile´s endowment of human capital, do its HK intensive industries are growing slowly than in other countries?

14. Quality. Further tests: Industry panel approach • 1985 - 2002 Chile was not different from other countries (value added growth an share) • 85-95 binding= 0.4% GDP growth. • 95-02 the opposite • All in all, industrial behavior not consistent with the quality binding hypothesis. Latent restriction?

15. 2. Inequality • High inequality in Chile • Empirical (weak) link (income inequality)= 0.5-0.8 % GDP gth. • Asset inequality: 0.6 % GDP gth.

16. 2. Inequality • High growth coupled with high but stable inequality. Binding? Not clear. • Channels: • Political making process? No • Social unstability? No • Capital market? No • Conclusion: NOT binding

17. 3- Micro Distortions on Growth • A) Labor Market Regulations • Policy-induced price distortions and regulations in some sectors • World Economic Forum Competitiveness Reports indicate that by far labor regulation is a problem • B) Energy • Experiences such as the oil shock of the recent years, the shortage of gas from Argentina during the last few years, and the low levels energy investment in the economy were circumstances that might be constraining Chilean’s future growth prospects.

18. A) Labor Market Rigidities • Labor market would be binding constraint to Chilean growth? • Evidence supporting the view that labor regulation and labor market rigidity (Job security Indexes) does not affect • Employment growth • Investment • Industrial production growth • Substitution of Labor and Capital • And what about Investment Climate Survey? • Labor regulations does not affect employment growth • Labor regulations does not affect production

19. B) Energy Constraints

20. Worldscope Data ENIA Energy is consistently a relevant factor in the productive process Robust Elasticity

21. B) Energy • BUT: Is Energy really a Problem? No • WB Inv. Climate Survey • Not binding for • Sales • Employment • production

22. B) Chile: Is Power Supply a Problem? No • Based on official projections, the Chilean economy will require additional energy in an amount close to 400-450 Mega Watts • Planned infrastructurewillsatisfy demand (see annex.) • Many actions taken by the Energy Minister to decrease our energy dependence in short and long run: • Efficient use of energy from households, firms and government agencies (Programa Pais Eficiencia Energetica:PPEE) • Promoting a tripartite agreement between Chile, Argentina and Brazil to make energy swaps in case of shortage • To control the use of hydro resources, to avoid leakages, etc.

23. B) Energy: Conclusion • Energy supply is important for • …However from World Bank’s Investment Climate Survey • energy has not been an obstacle for the operation and growth of businesses • And supply planned power infrastructure is in line • Energy will not be a binding constraint for growth in Chile

24. 4-External sector and self-discovery • Despite its outstanding growth rate and its relevant size, the export sector is still very concentrated in a few primary products. • This lack of diversification could be hampering Haussmann’s Self-Discovery process and thus constraining Chile’s future growth.

25. 4- External sector and self-discovery • Chile shows a level of open forest that is lower than expected from the growth equation

26. 4-External sector and self-discovery • Chile’s current export basket is very peripherical • export sophistication is low • specialized in activities with few new applications • however, output and export growth has been high • The ability of the economy to transit to a new development stage is not for granted • Chile’s nearby efficient frontier favors: • agricultural-based manufactures, shipbuilding, industrial chemicals, non-electric machinery, and forestry-based manufactures

27. 4-External sector and self-discovery • It is Chile’s ability to move to these sectors where future growth probably lies • education quality, and energy, and financial constraints, can play an important role • Given the low density of its open forest, Chile will likely require the other determinants of growth to be much more enhanced than in other countries without this condition

28. 5. Financial Constraints

29. Chile’s Financial System is Large And is not perceived as a constraint for growth

30. Financial Development has a large effect of Growth A one standard deviation increase in financial development is associated with around 1% faster growth per year. Across countries [King and Levine (1993) Across countries and time [Levine, Loayza, and Beck (1998)] Across industries [Rajan and Zingales (1998)] Across firms [Demirguc-Kunt and Maksimovic (1998)]

31. There is behavior consistent with financing being a constraint in Chile Internal Cash/ Inv. Opp. Sensitivity Small, Young Firms and growth decelaration Firms are more sensitive to internal cash and less to investment opportunities than elsewhere, particularly the young, small and intangible. More tangible industries grow disproportionaly faster in Chile Young and small firms were more severely affected during the post-Asian Crisis growth deceleration period. However, large, listed firms appear not to be particularly constrained in Chile.

32. 6. Conclusion

33. Bad Local Finance and Poor Quality of Human Capital make the Self-Discovery constraint much more critical Constraints on Growth: Summary

34. 6. Conclusions • Not binding • Quantity of Education • General Institutions • Finance for large, old, and collateral-rich firms • Binding • Self-Discovery • Finance for small, young, and collateral-poor firms • Quality of Education • Energy (future)