ACCUMULATION, COMPETITION AND CONNECTIVITY:

RE-ENGINEERING A NEW GROWTH MODEL FOR ARMENIA

APIRG CONFERENCEWASHINGTON DC, JUNE 1,

2013

Gohar Gyulumyan

World Bank Senior Economist

AGENDA

• Armenia’s recent Growth Dynamics

• Micro and Macro determinants of the new growth model

• Labor Market Dynamics and Symptoms

• Engaging with Skilled Diaspora

SOME FACTS ON ARMENIA’S RECENT GROWTH DYNAMICS

STEADY INCREASE IN PER CAPITA GDP SINCE 1995, THOUGH DECELERATING NOW

GROWTH MOVED FROM SUPPLY-DRIVEN TO DEMAND-DRIVEN

WHILE INVESTMENT WAS ACCELERATING

WITH A WIDENING SAVING-INVESTMENT GAP

AND NEW INVESTMENT CHANNELED MAINLY TO THE NON-TRADABLE SECTOR

THE JOB IMPACT WAS A SLIGHT SHIFT FROM PUBLIC TO PRIVATE NON-TRADABLE SECTOR

THE BULK OF THE LABOR FORCE REMAINING IN THE AGRICULTURE SECTOR

WHILE FEMALE LABOR PARTICIPATION WAS NOT TRANSLATING INTO EMPLOYMENT

AND MANUFACTURING WAS LOSING COMPETITIVENESS

TO GROW SUSTAINABLY, THERE IS A NEED TO ENGINEER A SHIFT TO THE TRADABLE SECTORBy keeping investments high and channeling them into the

tradable sector: ACCUMULATION

By fostering the reallocation of labor into its most productive use: REALLOCATION

By diversifying products, sectors and trading partners beyond traditional products, sectors and partners: TRANSFORMATION

ACCUMULATIONMICRO DETERMINANTS OF SAVINGSWe use ILCS for 2004, 2006, 2008 and 2010.

Positive impact of income: an increase of 10% in the household income leads to 3.9% increase in the savings rate of the households

Positive impact of volatility of expected income proxied by education level and access to borrowing

Larger households tend to save less, probably in response to a more diversified income stream

At high savings rates, increases in income have a much lower impact on savings rates than at lower levels of income

ACCUMULATION MACRO DETERMINANTS OF SAVINGSWe use quarterly data over 2002-2011 to estimate an Error

Correction Model which combines long run and short run dynamics.

The long run dynamics is:

s = - 2.88 + 0.37y + 0.02tdr – 0.36reer -0.2crisis

The short run dynamics is:

∆s = -0.012 + 0.49 g + 0.15 ∆openness – 0.94 ECM-1

ACCUMULATIONBOOSTING DOMESTIC SAVINGSJob creation measures: households will increase their saving as

their income increase

Financial market development: households will increase their saving as it become easier to use bank service and deposit rates are attractive

Macroeconomic policy: sound macroeconomic policy reducing volatility and a competitive exchange rate will stimulate aggregate saving

ACCUMULATION FILLING THE SAVING GAP

ACCUMULATION FILLING THE SAVING GAP

ACCUMULATION FILLING THE SAVING GAP

ACCUMULATION FILLING THE SAVING GAP

ACCUMULATION WHERE TO LOCATE INFRASTRUCTURE?

Accessibility Poverty

ACCUMULATION WHERE TO LOCATE INFRASTRUCTURE?

Agriculture potential Agriculture efficiency

ACCUMULATION WHERE TO LOCATE INFRASTRUCTURE?

High potential and low average efficiency

Low potential and low average efficiency

High poverty areas High poverty areas

What are the principal differences between high and low efficiency households in the area?

Productive projects differentiated to meet local needs and problems

Conditional Cash Transfers and Nutritional Programs

The inclusion of socioeconomic characteristics and access in the analysis allows for the identification of bottlenecks in areas of high potential but low or medium efficiency

Productive and Efficiency potential based on market, socioeconomic, bio-physical and access characteristics.

Typology

Diagnostic from Poverty map

ACCUMULATION WHERE TO LOCATE INFRASTRUCTURE?

Areas of high potential and efficiency should be studied to identify key factors behind their better performance

In areas of low efficiency and high potential, bottlenecks should be identified:

Reductions of transaction costsAccess to optimal productive technologies through access to

human capital and relevant technical assistance Strategies to diversify income Investments in infrastructure (accounting for their

complementarities)

ACCUMULATION WHERE TO LOCATE INFRASTRUCTURE?

In low potential areas the bottlenecks that prevent expansion to the productive frontier should be identified:

The introduction of transfer of knowledge and new technologies to the area

Problems in input and goods marketsAccess to more dynamic urban or international marketsLand management and soil quality featuresNatural risks (e.g. weather variability and strategies to mitigate

risk such as insurance).

ACCUMULATION WHERE TO LOCATE INFRASTRUCTURE?

In critical areas the focus should be on social interventions. Thus short term assistance should be provided along the following

Social networksConditional transfer programsSchool nutrition programs

LABOR MARKET

Starting Point

• “To grow sustainably, there is a need to engineer a shift to the tradable sector…By fostering the reallocation of labor into its most productive use.”

• “Poor labor market outcomes are an important cause of poverty in Armenia. High unemployment, inactivity, and low-paid employment significantly reduce social welfare.”

THE LABOR FORCE PARTICIPATION RATE IS COMPARABLE TO THE REST OF ECA…

The economically active population is projected to decline—if there are no demographic or policy changes—from 2012 onwards

…but there are longer-term challenges to Armenia’s labor supply

Source: World Bank (2011) “Demographic Change and Implications for Social Policy and Poverty”

SOME EVIDENCE THAT INTERNATIONAL MIGRATION MAY ALSO AFFECT LABOR FORCE PARTICIPATION

Source: Ongoing work led by Saumik Paul (2012) These bars represent the labor

force participation of households with migrants relative to households without migrants.

THE EMPLOYMENT RATE IS LOWER THAN IN MOST EUROPEAN COUNTRIES

…and the unemployment rate (near 20 percent in 2010) is among the highest in the region and is of

long duration

Source: Rutkowski 2012

THE UNEMPLOYMENT RATE IN URBAN AREAS AT 28 PERCENT IS VERY HIGH…

…and people have little incentive to move from rural to urban areas, or to move in general, like

most of ECA

Source: Tiongson 2012Source: Rutkowski 2012

AS A RESULT, MOST WORKERS REMAIN IN LOW-PRODUCTIVITY JOBS

…which also tend to be low-paid, seasonal, part-time

Source: World Bank 2012 Main CEM Presentation

Source: Rutkowski 2012

WORLD UNDEREMPLOYMENT IS 17% IN 2011…

…but Armenia’s underemployment rate (35%+)is among the highest in the world

Source: Gallup 2012

LABOR FORCE PARTICIPATION RATE IS AT PAR WITH ECA AND SOCIAL PROGRAMS DO NOT APPEAR TO CREATE WORK DISINCENTIVES. ..

• No evidence to date that social programs, such as the Family Benefit Program (FBP), creates disincentives to work

• Members of beneficiary households versus non-beneficiary households: essentially the same labor market characteristics

Source: World Bank (2011) “Social Assistance Programs and Work Disincentives”

IMPROVING LABOR MARKET OUTCOMES RESTS ON THREE PILLARS

Strengthening labor demand and creating productive jobs

Enhancing labor supply and improving workforce skills

Improving job-worker matching

Source: Rutkowski 2012

JOB CREATION/LABOR DEMANDAMONG FIRMS, INCIPIENT JOB CREATION LED BY NEW PRIVATE FIRMS WAS OVERTAKEN BY A SERIES OF GLOBAL CRISES…

…and latent entrepreneurship is not particularly encouraging.

This requires a better understanding of impediments to firm entry and business start-ups

Source: Tiongson 2012

SKILLS/LABOR SUPPLYWORKFORCE SKILLS ARE SEEN BY FIRMS AS A CONSTRAINT TO THE CREATION OF NEW, MORE PRODUCTIVE JOBS…

…and innovative and modern firms suffer from skill shortages the most

Source: Rutkowski 2012

SKILLS/LABOR SUPPLY 2THE LARGEST GROUP AMONG THE UNEMPLOYED ARE THOSE WITH SECONDARY GENERAL EDUCATION WITH NO TECHNICAL SKILLS, ALTHOUGH MANY POSSESS SECONDARY TECHNICAL AND TERTIARY EDUCATION. …

This suggests that unemployment has two dimensions: those with no job-specific skills and those who do have skills but are still

jobless. This requires helping the first acquire critical employable skills

and helping the second find jobs that match their qualifications.

Source: Rutkowski 2012

MATCHINGFEW UNEMPLOYED WORKERS TURN TO THE PUBLIC EMPLOYMENT SERVICES (PES) OFFICE WHEN SEARCHING FOR A JOB…

…and the effectiveness of job matching services provided by PES is limited because of the high

unemployment/vacancies ratio. This requires improving the proportion of all vacancies

that is reported to PES

Source: Rutkowski 2012

Enhancing Armenia‘ Growth

by Engaging its Skilled

Diaspora

Setting the Stage

Three ingredients of success:• Change in the ‘’status quo’’ at home: a window of opportunity to open up and shake vested interests and entrenched elite (often after a major crisis) •First generation ‘ high achiever’ (highly successful individual) from the skilled diaspora who lends his status to the country rather than seeks it from it•Dynamic segments of economy at home which utilize contributions of diasporas

In many countries, diasporas played a critical role in knowledge-based growth: China, India, Israel Example: Chinese approach to attract back high level migrants -- Specialized technology parks

INSTRUMENTAL VIEW OF INTERNATIONAL MIGRATION

AND DIASPORAS As a pragmatic tool to advance domestic agenda ‘Diaspora for what?’ – as a second step (never

the first) in the argument. In our case: diasporas for growth and institutional development

Key focus: domestic institutions and constraints (rather than migration flows)

Key question: how can diaspora members help to design and implement actions to alleviate the constraints

Paradoxes:o Diaspora members as antennas and mentors to reveal

and foment dynamic segments of the home country institutions (particularly governments)

o Diaspora as part of the country: who know the country but not (yet) part of the entrenched elite

Creating a credit reporting agencyAmerican-American real estate businessmenBusiness opportunity seen by others, but no

investment had taken place yetNeed for cultural intermediation and use of search networks

2004: ACRA Credit reporting LLC is founded:Involvement of WB, KfW, and Diaspora members in ACRA’s advisory board, foreign-educated, local management team

2005: Outside, private Investors get involved in ACRA

2007: Online reporting launched

Example and a key policy question

Policy question A number of isolated examples like this exist in Armenia• Which policies would facilitate their emergence? • How to scale up and diffuse promising experiences ?

Instrument 1. to identify and link exceptions 2. to institutionalize exceptions3. to solve concrete problems

Conceptual framework: search networks

Knowledge for Development, WBIKnowledge for Development, WBI

Search networks are networks that allow you to rapidly identify people or institutions that are solving (part of) a problem closely related to the one you are trying to solve

Antennas to construct a strategic shared vision of the future

Remittances Remittances

DonationsDonations

Investments

Knowledge & Innovation

Hierarchy of Diaspora Impact

Institutional Reform

Armenia: huge diaspora (6 mln.)Unparalleled heterogeneity (by generation, skills etc): the need for ‘high resolution’ strategy for engagement

•Significant remittances and large philanthropic contributions which were important for poverty reduction but may have been counter-productive for growth: shock-absorbers delaying reforms • Yet engagement in the institutional development has been modest but promising

First mover role: bringing new business, educational and management practices (e.g. Marriot hotel)

Setting the Stage: Armenia

POLICIES FOR ENGAGEMENT WITH DIASPORAS

In the long run: need for good business environment (investment climate). It is desirable but rarely present

In the short and medium-run: focus on dynamic segments of the economy. Engage diasporas with these better performing dynamic segments of the economy

Medium-term is pragmatic: take advantage of the realignment of the domestic elites

Better performing segments of Armenian economyHigher education: American university, Slavic university

Industry and services: IT cluster, jewelry cluster, tourism industry

Public Sector: Enterprise Incubator Foundation (EIF), Armenia Development Agency (ADA)

POLICY IMPLICATIONS FOR ARMENIA Three-prong approach:

1. Facilitate a diversity of initiatives from the bottom-up: ‘let one thousand flowers bloom’

Bringing cutting edge international expertise into higher education (particularly into new universities, such as AUA)

Innovation clusters and venture capital (leveraging EIF expertise)

‘What is at stake’ scenarios of country long-term future – Armenia 2035

2. Provide a framework for information sharing and lessons-learning from promising projects: contests and networks

Contest between domestic actors to leverage diaspora members for long-term projects

One or two pilot sector-specific diaspora networks (IT and innovation, education or health)

3. Establish an overall framework for engagement with diaspora which recognizes its heterogeneity: Diaspora for Growth Strategy

Being humble and ambitious at the same time Humble: recognize huge heterogeneity of diaspora and design

multiple nuanced messages Ambitious: focus on big challenges and growth issues rather

than remittances and donations