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New results on structural change during the recent growth boom in developing countries

Summary:
The last two decades have been a rare period of rapid convergence for the world's developing economies. Everyone is familiar with China and India's experience, but growth went beyond these two large economies. Many countries in Sub-Saharan Africa and Latin America had their best performance in decades, if not ever. In a new paper, my co-authors Xinshen Diao (IFPRI) and Margaret McMillan (Tufts and IFPRI) and I examine this experience. We ask what drove this growth and how sustainable is it. Looking at recent growth through the lens of structural change proves particularly insightful. Here is our decomposition of recent growth accelerations into the within-sector and between-sector terms. The latter term captures the growth contribution of structural change -- the reallocation of labor

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The last two decades have been a rare period of rapid convergence for the world's developing economies. Everyone is familiar with China and India's experience, but growth went beyond these two large economies. Many countries in Sub-Saharan Africa and Latin America had their best performance in decades, if not ever.

In a new paper, my co-authors Xinshen Diao (IFPRI) and Margaret McMillan (Tufts and IFPRI) and I examine this experience. We ask what drove this growth and how sustainable is it. Looking at recent growth through the lens of structural change proves particularly insightful.

Here is our decomposition of recent growth accelerations into the within-sector and between-sector terms. The latter term captures the growth contribution of structural change -- the reallocation of labor across sectors with different labor productivities.

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What stands out in the analysis is that recent growth accelerations were based on either rapid within-sector labor productivity growth (Latin America) or growth-increasing structural change (Africa), but rarely both at the same time. In Latin America, within-sector labor productivity growth has been impressive, but growth-promoting structural change has been very weak. In fact, structural change has made a negative contribution to overall growth excluding agriculture, meaning labor has moved from high-productivity sectors to low-productivity activities. In Africa, the situation is the mirror image of the Latin American case. Growth-promoting structural change has been significant, especially in Ethiopia, Malawi, Senegal, and Tanzania. But this has been accompanied in these countries by negative labor productivity growth within non-agricultural sectors.

This is not how growth is supposed to happen. As we show in the paper, the East Asian pattern of growth was very different, with both terms contributing strongly to overall growth in high-growth periods. We develop a simple two-sector general equilibrium model in the paper to shed light on these patterns, especially the contrast between the African and Asian models.

We show that the Asian pattern of strong “within” and “between” components is consistent with growth being driven mainly by positive productivity shocks to the modern sectors. The African model, by contrast, is consistent with growth being driven not by the modern sector, but by positive aggregate demand shocks (due to foreign transfers, for example) or by productivity growth in the traditional sector (agriculture). In this version of the model, the modern sector expands and growth-promoting structural change takes place as increased demand spills over to the modern sector. (Our assumptions on preferences ensure that demand shifts are sufficiently biased towards the modern sector to ensure the modern sector expands in both cases, despite relative-price adjustments.) But labor productivity in the modern sector is driven down as a by-product, as diminishing returns to capital set in and less productive firms are drawn in. This is also consistent with the relatively poor performance of manufacturing in Africa.

For more, see the paper.

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Dani Rodrik
I am an economist, and a professor at the Harvard Kennedy School. My most recent book is Economics Rules: The Rights and Wrongs of the Dismal Science (Norton, 2015). I was born and grew up in Istanbul, Turkey. I still follow Turkish politics very closely, as you will find out if you spend any time with this blog.