A Comparative Analysis on the Determinants of Bolivia's Economic Growth: Productivity and Institutional Puzzles

Carlos A. Mendez Guerra

Department of International Development (GSID)

1. Background and Motivation Bolivia gained its independence in 1825 from Spain and much of its

subsequent history has consisted of a series of nearly 200 coups, counter coups and social conflict.

Democracy was established “in practice” in 1982 . In 1985 hyperinflation reached 23,000 percent, and a socially painful

structural adjustment program was implemented to stabilize the economy.

In 2009, the Bolivian people reelected the indigenous and socialist leader Evo Morales as president, after he ran on a promise to change the country's political constitutions, the traditional political class and empower the nation's poor and indigenous majority.

After promoting a series of social policies, President Morales’ development strategies have exacerbated racial and economic tensions between the indigenous population and the non-indigenous communities.

The economic history of Bolivia raises several development puzzles, for instance:

From a geographical comparative perspective, Figure 1 highlights the enormous differences in the Bolivian development path and other economies.

From a historical comparative perspective, the Bolivian economic performance also seems to contradict the traditional assumptions of many growth theories. For example, Figure 2 shows that capital deepening is another absent feature in Bolivia.

2. Research Objectives, Analytical Framework and Methodology

Production Function Approach(Cobb-Douglas and CES)

Production-SideMacroeconomic

Variables

Production (GDP)

Capital Stock and Investment

Labor

Random Walk Behavior ?

Long Term Relationships ?

Factor Accumulation Growth ?

Productivity Growth ?

Short-run Fluctuations Institutions and Policies

Initial Conditions

Capital SwallowingAdjustment Costs

Low Returns

Substitutability between

Capital and Labor?

Distribution of income between

Capital and Labor?

InclusiveInstitutions ?

Extractive Institutions ?

Domains of Strategic Interactions: Economic, Political, Social and Organizational ?

GROWTH PERFORMANCE

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Chapter 2:Stochastic Trends and

Production Function ParametersMethodology: Econometric Analysis

Type of Data: Time Series and Macro Data

Chapter 3:Factor Accumulation and

Productivity GrowthMethodology: Growth Accounting Analysis

Type of Data: Time Series Macro Data

Chapter 4:Investment Constraints and Productivity

DeterminantsMethodology: Econometric Analysis

Type of Data: Time Series and Macro Data

Chapter 5:Institutional Outcomes and Domains

Methodology: Descriptive (Kernel Densities) Analysis

Type of Data: Cross Section and Micro Data

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3. Overview of Main Findings Statistical evidence is presented regarding the existence of the random walk phenomena in the main production

aggregates of the Bolivian economy. Production-side variables are characterized by frequent shifts and kinks in their long-run tendencies. As a result, per

capita variables show zero or native growth rates. Based on cointegration methods and a CRS-constrained regression, the capital share in national income is estimated. Its

low value supports the traditional view that the capital share is around 1/3. Constant returns to scale and low elasticity of substitution are recognized as technological features of the Bolivian

economy. There are significant cyclical fluctuations in GDP, factor accumulation and productivity in the three development

paradigms of Bolivia. Growth accounting decomposition shows that in the period 1963-2008, the average growth rate of GDP was 2.69 from

which productivity explained only 16 percent. The inclusion of human capital suggests large returns to educational achievement, but questions are raised regarding the

existence of better measures of educational outputs. Theoretical and empirical evidence suggest that the negative growth of the capital-labor ratio is sharpened by high

volatility in investment, high relative price of capital, low marginal product of capital and high adjustment costs. Econometric evidence on the behavior of Bolivia’s TFP during 1980-2008 highlights the importance of short-run

fluctuations in international prices, structural policy variables, institutions and initial conditions. From a game-theoretic perspective, Bolivia can be represented by an unstable institutional equilibrium between

extractive economic institutions and more inclusive political institutions. Cross section data suggests that insecure property rights, limited enforcement of contracts, high entry barriers,

corruption and bureaucratic inefficiencies are generating a non-leveled playing field for the economic actors. Negative institutional interactions with factors from the social domain (high fractionalization and high cultural

diversity) and the organizational domain (low innovation and low cluster development) tend to prevent the proper functioning of the markets in spite of noticeable improvements in political pluralism and participation.

4. The Seven Puzzles of the Bolivia Economy and Policy Implications 1. Random walk behavior with high volatility and zero per worker growth in half a century. First, fiscal policy should be

contra-cyclical in an attempt to reverse negative shocks, especially in investment. Second, investment in infrastructure projects should try to generate a “crowding-in” effect in private investment. Third, in order to accumulate capacity for intervention, the Bolivian administration should impose upon itself saving rules such as structural surplus commitments in fiscal accounts.

2. Labor intensive economy at the national level but capital intensive in the corporate sector. Capital intensive industries, such as hydrocarbons, require high skilled workers and further efforts in Research and Development (R&D). On the other hand, in the non corporate sector capital is still scarce, suggesting higher returns if there is a minimum endowment of complementary factors such as human capital. Additional credit, training and less bureaucratic procedures may increase local production and wages.

3. Factor accumulation explains the long-run and cyclical aggregate efficiency explains the short-run. The rents generated in the oil and mining sector should be used for the generation of alternative productive sources and formal employment opportunities. New legislation should be clear in defining what percentage of the oil and mining rents should be allocated to social protection and what percentage should go to productive investment in new industries.

4. Are there large returns in schooling but low returns in education? Educational policies, should be outcome-oriented. It is a priority to define specific output measures in terms of learning contents and minimum skills at each level of education. Standardized national tests at different levels might give a better picture of an initial benchmark for planning and control.

5. Many sources of capital swallowing: volatility, higher relative prices, low return of capital and high adjustment costs. It is necessary to increase the stock of complementary factors in order to increase the return of capital. Better and an outcome oriented training, and a stable social environment are necessary conditions for raising the marginal product of capital. More investment is needed to increase the share of reproducible capital. This implies the design of investment funds in new productive sector. In order to effectively do it, institutional reforms are needed in terms of facilitating procedures for accelerating the implementation of projects, minimizing adjustment costs and reducing uncertainty.

6. Under what circumstances are improvements in terms of trade improvements associated with low productivity? In Bolivia, improvements in terms of trade not only generate volatile rents, but also generate pervasive incentives for rent seeking behavior. As mentioned in the policy analysis of Puzzle 1 and 3 predictability and fiscal rules for unstable rents reduce uncertainty.

7. Unstable equilibria: Extractive economic institutions and inclusive political institutions. There are not clear incentives for diversification of the economic system and adoption of more efficient technologies. The debate is centralized in the redistribution of wealth rather than the creation of wealth. The central government is spending too much time in harmonizing social demands rather than designing a more productive economic agenda for economic change based on more inclusive economic institutions.