Liberalization and Structural Change Evidence from

ECONOMICGROWTHCENTERYALEUNIVERSITYP.O.Box208269NewHaven,Connecticut06520-8269CENTERDISCUSSIONPAPERNO.812LIBERALIZATIONANDSTRUCTURALCHANGE:EVIDENCEFROMNEPALESEMANUFACTURINGKishorSharmaYaleUniversityandCharlesSturtUniversity(Australia)April2000Note:CenterDiscussionPapersarepreliminarymaterialscirculatedtostimulatediscussionsandcriticalcomments.LiberalizationandStructuralChange:EvidencefromNepaleseManufacturingKishorSharmaCharlesSturtUniversity(Australia)AbstractTheconsequencesofliberalizationonstructuralchangesareexaminedusingdatafrommanufacturingindustryinNepalwhichisclassifiedasaleastdevelopedcountry.Thisisimportantbecausedoubtsthatliberalizationmaynotsolvetheproblemsoflow-incomedevelopingcountriesremainstrongduemainlytolowsupplyelasticitiesandtheearlystageofindustrialization.Resultssuggestsomestructuralchangesinmanufacturingoutputandtradeorientation.However,nosignificantimprovementswererecordedintheoverallproductivitygrowthandspatialdistributionofmanufacturingwhichappeartobeduemainlytothelackofbasicinfrastructureandtheshortageofskilledmanpower.Thus,appropriateinvestmentpolicies,whichchannelresourcestoimprovehumancapitalandinfrastructure,appeartobeessentialifthepotentialbenefitsofliberalizationaretobefullyachieved.KeyWords:liberalization,importpenetration,exportintensity,totalfactorproductivitygrowth,Nepal.JELClassificationCodes:E13,F13,F14,F43,041______________*IamgratefultoProfessorT.N.Srinivasanforencouragingmeinwritingthispaper.Needlesstosayallremainingerrorsaremine.11INTRODUCTIONDespitegrowingliteratureontheconsequencesofliberalizationonlyafewstudieshaveexaminedtheimpactonindustrialstructure.1Thesestudiesfocusontheexperienceofmiddleincomedevelopingcountrieswhilestudiesonlow-incomedevelopingcountriesorleastdevelopedcountries(LDCs)areextremelylimited.Theexperienceoftheformer,however,cannotbegeneralizedtothelattergiventhelowerlevelsofhumancapital,physicalinfrastructureandR&DinLDCs.Thereisaviewthatifliberalizationprogramsareintroducedatthestageofdevelopmentitwillhaveanegativeratherthanpositiveimpactongrowth(Kawai,1994,andAdelmanandMorris,1997).Forexample,deregulationoffinancialmarketsinLDCsmayleadtohigherinterestratesmakingthecostofinvestmenthigh.Thismightdiscouragenewinvestmentandtheexpansionofexistingactivities.Measurestocontrolfiscaldeficitmightleadtoafallingovernmentexpenditureoninfrastructureprojects,furtherloweringsupplyelasticities(Stein,1992).DoubtshavebeenexpressedastotheeffectivenessofliberalizationincreatingacompetitivemanufacturingsectorinLDCs(Taylor1981,DiazAlejandroandHelleiner,1982andRodrik,1992a).First,thesecountriespossessalowlevelofphysicalinfrastructure,haveashortageofskilledlaborandlackefficientinstitutions.Second,industrializationisintheearlystageofdevelopmentinLDCsandexportsaredominatedbyprocessedprimaryproductswhicharepriceandincomeinelastic.1TheseincludeYenturk-Coban(1992)forTurkey,Diehl(1995)forVietnam,Aswicahyonoet.al(1996)forIndonesia,Dijkstra(1996)forNicaraguaandNordas(1996)forSouthAfrica.2Thus,despiteliberalizationastrongmanufacturingsectormaynotbedevelopedatleastintheshort-run.Third,sincesecond-handmarketsincapitalgoodsarenotwelldevelopedinLDCs,lessefficientsectorsmaynotexitiftheyarecrosssubsidizedbyaffiliatesinothersectors.Thus,transferofresourcesfromlessefficienttomoreefficientsectorsmaynottakeplaceandthebenefitsofliberalizationcanbeeasilyeroded(Rodrik,1992b).InthispaperweshedlightonthisdebatebyinvestigatingtheexperienceofmanufacturingindustryinNepalwhichhaspursuedanoutwardorientedliberaldevelopmentstrategysincethemid1980s.2Morespecifically,ouraiminthispaperistoexaminewhathappenstooutputstructureandtradeorientationfollowingliberalization?.Willtherebeanyimpactonmanufacturingproductivity?.Willspatialdistributionofmanufacturingactivitychange?.3WeknowofnostudythatexaminestheseissuesinthecontextofLDCs.Thelackofclearevidenceisnotaccidental.Toexaminetheeffectsofliberalizationonemustmake'beforeandafter'comparisonsofalargenumberofindustriesusingalongtimeseriesdata.Sufficientdataarerarelyavailablefortheappropriatecountriesattheappropriatetimes.Fortuitously,Nepalhasanexcellentdatasetatdisaggreatedlevelwhichallowsustoinvestigatetheseissues.2NepalisaLDCwiththepercapitaincomeofUS$210.Itseconomyisdominatedbytheagriculturesectorwhichcontributesover50%toGDPandemploysabout90%oftheworkforce.Manufacturingisintheearlystageofdevelopmentcontributinglessthan10%toGDP.3Liberalizationalsoappearstohaveanimpactonownershipstructure,concentrationratioandthesizeofmanufacturingindustries.Unavailablityofdata,however,doesnotpermitustoexaminetheseissues.3Thepaperisorganisedasfollows.Followinganintroductioninsection1,thenatureofthepolicyregimeisdiscussedinsection2.Section3developsananalyticalframeworkwithinwhichweattempttoconjecturetheconsequencesofliberalizationonindustrialstructure.Theempiricalfindingsarepresentedinsection4.Thepaperconcludesinsection5withpolicyrecommendations.2NATUREOFTHEPOLICYREGIMETheevolutionofNepal'stradeandindustrialpolicieshavepassedthroughthreedistinctphasesduringthepost-warperiod,movi