I have been doing some work on the relationship between structural change and economic growth in different parts of the world, and some of the early results are too striking to wait for the paper to come out.
Here is a chart that provides a key insight on why Latin America has done worse than Asia since 1990. The chart decomposes labor productivity growth in the two regions into three components: (i) a “within” component that is the weighted average of labor productivity growth in each sector of the economy; (ii) a “between” component that captures economy-wide gains (or losses) from the reallocation of labor between sectors with differing levels of labor productivity; and (iii) a “cross” component that measures the gains (or losses) from the reallocation of labor to sectors with above-average (below-average) productivity growth.
(The countries identified by “HI” are the high-income countries.)
Note first that Latin America does better than Asia in terms of the “within” component (the blue bars). The representative Latin America country has experienced faster productivity growth in its individual economic sectors than the representative Asian economy. (China is not included in this data set.)
Why then did Latin America do so much worse overall? Because the reallocation terms have contributed negatively to overall economic growth. Note in particular the hugely negative “cross” term for Latin America (the green bar). In Latin America, labor has moved from sectors with high productivity growth to sectors with low (or negative) productivity growth, offsetting to a large extent the large “within” effect and the much smaller (but still positive) “between” effect.
Here is what’s behind the large and negative cross effect. The scatter plot below shows the correlation for Latin America between the change in a sector’s employment share and the sector’s labor productivity growth.
The main message of the scatter plot can be summarized easily. Labor has moved from tradable sectors (agriculture and manufacturing) where labor productivity growth has been rapid to non-tradables, especially wholesale and retail trade, where productivity growth has been negative.
Put differently, the mechanism through which tradables have achieved significant productivity growth in Latin America (remember the large “within” terms noted above) has been to lay off workers. Such “rationalization” is OK from a partial-equilibrium perspective, but doesn’t look great when the displaced labor moves to sectors with worse performance.
As the first chart shows, Asia (where manufacturing has expanded rather than shrunk) has largely avoided this problem, and has ended up with superior overall performance.
Want to help me write my paper? Provide some hypotheses as to why the structural change patterns in the two continents have been so different.
UPDATE: First, I should have pointed out that the underlying data for the charts here come from the Groningen Growth and Development Centre. Second, in response to Tim Worstall’s puzzlement, the modern supermarkets he has in mind make up a tiny proportion of employment in “wholesale & retail trade.” The bulk of employment in this sector is informal, which is why productivity is low and has plummeted further as the ranks of informality have swelled.