productivity growth and job creation in eastern europe and the former soviet union

1

Productivity Growth and Job Creation in Eastern Europe and the Former Soviet Union

Europe and Central Asia Region

Pradeep MitraChief Economist

Expanded version of a presentation made at the plenary session of a conference on “Modernization of Economy and the State” organized by the State University Higher School of Economics, with the participation of the World Bank and IMF, in Moscow, April 4-6, 2006

Views expressed are mine and do not necessarily reflect those of the World Bank.

2

The Presentation

1. The Evolution of Poverty

2. GDP Growth and its Components

3. Growth of Labor Productivity and its Correlates

4. Job Creation and its Correlates

5. The Business Environment facing Firms

6. Conclusions

3

The Presentation

1. The Evolution of Poverty2. GDP Growth and its Components




6. Conclusions

4

Growth and (mostly) no increase in inequality have moved 40 million people out of poverty in Eastern Europe and the Former Soviet Union during 1998-2003

Where roughly 20 percent (or 1 in 5) were poor, today 12 percent (1 in 8) are poor

Poverty has fallen almost everywhere Much of this poverty reduction has

occurred in the populous middle-income countries in the Region (Kazakhstan, the Russian Federation, and Ukraine)

88.6

46.2

139.6

127.3

178.3

231.8

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Around 1998-99 Around 2002-3

Non-Poor: above $ 4.30

Vulnerable:above $2.15 and below $4.30 aday

Poor below $ 2.15 aday

Distribution of Population by Poverty Status

Source: Staff estimates based on World Bank (2005a)

5

As in the 1990s, working adults and children form the bulk of the poor in the region and benefited from growth. Much of the impact of growth on poverty reduction has been transmitted through the labor market.

Note: EU-8 $4.30 a day at 2000 PPP as a poverty line; others $2.15 a day at 2000 PPPSource: World Bank (2005a)

EU8 Countries

Czech Rep, Estonia, Hungary, Latvia, Lithuania, Poland, Slovakia, Slovenia

SEE Countries

Albania, Bosnia, Bulgaria, Croatia, Macedonia, Romania, Serbia and

Montenegro

Middle Income CIS

Belarus, Kazakhstan, Russia, Ukraine

Low Income CIS

Armenia, Azerbaijan, Georgia, Kyrgyzstan, Moldova, Tajikistan,

Uzbekistan

6

Growth of public transfers due to improved public finances, combined with high coverage, has also helped to reduce poverty

Real social spending increased very strongly in SEE and middle income CIS, but most resources goes to pensions

Some targeted social assistance programs made contribution to poverty reduction: Romania, Bulgaria, Belarus

Source: World Bank (2005a)

7

But all is not well Nearly 130 million people – almost a third of the

population – live on an income of between $2.15 and $4.30 a day and, while not absolutely poor, are vulnerable to downturns in economic activity

While consumption inequality declined in the CIS as a whole between 1998 and 2003, inequality increased in Tajikistan (the poorest country in Central Asia) as well as in Georgia (the poorest country in the South Caucasus) and, among the European countries, in Poland and Romania.

Non-income poverty shows mixed trends in health (no decisive progress in life expectancy, low

health care utilization in low income CIS, AIDS/HIV/TB epidemics)

in education (falling quality in regional mathematics performance, rich/poor and rural/urban disparities)

in infrastructure (reduced affordability for electricity, heating, water and sewerage, disparities in water quality between rich and poor)

8

GDP Growth

Poverty Reduction

Structure of the Argument

Slide 6

Slide 23

Firm Entry and Exit

Growth in Labor Productivity

Employment Growth

Public transfers (pensions, social

assistance)

Labor market institutions (employment protection

legislation, system of wage bargaining, unemployment

benefits)

Business Environment (regulations,

institutions/property rights, taxation, competition)

Conclusions

Firm Entry

Slides 4-5

Slides

Slides Slides

Slides

Slides

9-15

16-18 19-22

24-34

35-36

Slide 36

9

The Presentation


2. GDP Growth and its Components3. Growth of Labor Productivity and its

Correlates



6. Conclusions

10

Growth in GDP per capita from 1998 to 2003, the most rapid for CIS countries recovering from a deep transitional recession, owes more to growth in labor productivity (GDP/EMPL) than improved employment rates (EMPL/Working POP) or favorable demography (Working POP/POP)

-15%

-10%

-5%

0%

5%

10%

15%

Azerb

aija

n

Kazakhsta

n

Arm

enia

Russia

n F

edera

tion

Latv

ia

Alb

ania

Ukra

ine

Esto

nia

Bela

rus

Lith

uania

Bulg

aria

Hungary

Mold

ova

Rom

ania

Cro

atia

Slo

venia

Slo

vak R

epublic

Pola

nd

Czech R

epublic

Macedonia

, F

YR

GDP/EMP EMP/Working age POP

Working age POP/POP GDP/POP

Growth in GDP/POP) = (Growth in GDP/EMPL) +(Growth in EMPL/Working POP) + (Growth in Working POP/POP)

Average annual growth in GDP per capita and its components, 1998-2003

Working age population covers the age range 15-64

Source: ILO LABORSTA database, World Development Indicators

11

Growth in labor productivity was reflected in real wage growth across all consumption quintiles . . . .


12

. . . . but employment growth was weak except in selectedCIS countries.


13

Indeed the employment rate continued to fall in many countries after 1998. Slack labor markets are manifest in either open unemployment, falling labor force participation or low-productivity employment. While the employment rate is generally higher in CIS countries, (compared to the EU-8 countries where it falls short of the Lisbon target of 70%) many jobs in the CIS are in low-productivity occupations partly because . . . .

Note: The earliest years (blue bars) for each country are as follows:1990:Azerbaijan, Belarus, Bulgaria and Estonia1992: Hungary, Russia1993: Armenia, Czech Republic, Kazakhstan, Poland and Slovenia1994: Albania, Lithuania, Romania and Slovak Republic.1995: Moldova and Ukraine.

Source: ILO LABORSTA database, World Development Indicators

Note: The employment rate in Moldova between 1998 and 2003 shows a decline based on LFS but an increase based on household survey data (previous slide) on account of a likely more restrictive definition of informal sector employment in the LFS.

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

Kaz

akhs

tan

Aze

rbai

jan

Cze

ch R

epub

lic

Rus

sian

Fed

erat

ion

Est

onia

Slo

veni

a

Bel

arus

Lith

uani

a

Rom

ania

Ukr

aine

Bul

garia

Slo

vak

Rep

ublic

Hun

gary

Pol

and

Arm

enia

Mol

dova

Alb

ania

Earliest year 1998 2003

Employment Rates: Early Transition, 1998 and 2003

14

. . . . de-industrialization in low income CIS has been accompanied by a large labor transfer into low-productivity agriculture in the absence of adequate social safety nets. Not so in Central Europe, where over-industrialization has been corrected through a reduction in agricultural and industrial employment, with jobs moving to market services, but with high open unemployment and/or low labor force participation in some countries.

0% 25% 50% 75% 100%

2002

1989

Agriculture Industry Services

0% 25% 50% 75% 100%

2000

1989

Agriculture Industry Services

Czech Republic Kyrgyz RepublicSource: World Bank (2005b)

15

These sectoral shifts reflected in declining share of skilled labor- and capital-intensive exports in low income CIS and move towards natural resource exports. In EU-8, by contrast, increased share of skilled labor- and capital-intensive exports, while in SEE an increased share of unskilled labor-intensive exports.

Source: Computations based on UN COM Trade Statistics adapted from World Bank (2005c)

Factor Intensity of Merchandise Exports in Subgroups of Transition Countries, 1996 and 2003

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

EU 8 (9

6)

EU 8 (0

3)

SEE (96

)

SEE (03

)

CIS-M

id inc

(96)

CIS-M

id inc

(03)

CIS-L

ow in

c (96

)

CIS-L

ow in

c (03

)

ECA tran

sition

(96)

ECA tran

sition

(03)

Natural Resources Unskilled Labor Capital Intensive Skilled Labor

16

The Presentation






6. Conclusions

17

The change in aggregate labor productivity is decomposed into (i) within-firm, (ii) between-firm, and (iii) cross components1/, and the contribution of (iv) entrant and (v) exiting firms

Sources of Productivity Growth in Transition, Emerging, and OECD Countries

Labor Productivity decomposition shares – Manufacturing Five-Year Differencing, Real Gross OutputFor Hungary and Romania the decomposition refers to a three-year differencing which, given significant learning and selection by new entrants,underestimates the contribution of entry to productivity growth.1/ The cross term reflects gains in productivity from expanding employment shares in high productivity-growth firms or shrinking employment shares in low productivity-growth firmsSource: Staff estimates based on Bartelsman, Haltiwanger and Scarpetta (2004)

Labor Productivity growth - Five -Year Differencing, Real Gross Output. For Hungary and Romania the decomposition refers to a three-year differencing.

-80-60-40-20

020406080

100120140

% o

f to

tal la

bo

r p

rod

ucti

vit

y g

row

th

Within Between Cross Entry Exit

18

Firm entry and exit are more important in transition countries, contributing between 20 to 45 percent of productivity growth, as against between 3 and 35 percent in developed and other developing countries.

19

The Presentation




4. Job Creation and its Correlates5. The Business Environment facing

Firms

6. Conclusions

20

Job destruction generally surged first but it was the response of job creation which varied across countries – catching up rapidly with job destruction in leading reformers but staying lower than job destruction for prolonged periods in lagging reformers

21

Job creation1/ and job destruction2/ rates increased dramatically in transition countries, reflecting increasingly dynamic labor markets, to levels equaling or exceeding those in developed countries and lagging slightly below those in developing countries

1/ Employment gains during a year divided by average employment during the year.2/ Employment losses during a year divided by average employment during the year.

22

Firm entry contributed strongly (25% to 50%) to job creation. But the contribution declined over time . . . except in Russia and Ukraine – both late reformers – where the role of firm entry in job creation increased in the second half of the 1990s. In contrast to the behavior of entrant firms, existing firms resorted on average to “defensive restructuring”, i.e. improved productivity by downsizing and shedding redundant labor.

23

Labor market regulations – on the books – are rigid in the transition countries but enforcement varies across the region

Notwithstanding significant reforms, employment protection legislation (EPL) in the transition countries is, on average, among the strictest in the world with, however, considerable variation in legislation and enforcement across subgroups of countries

Even with weak enforcement, stringent EPL can have deleterious effects on job creation and destruction and likely on productivity growth

However, factors outside the labor market – the business environment – rather than labor market institutions such as EPL and systems of wage determinants are more important for labor market outcomes, as evidenced by high unemployment to vacancy ratios and, except in the EU-8, firms not reporting labor regulations as among the most important obstacles to business

Source: World Bank (2005b) drawing on calculations from Doing Business database (2005)

24

The Presentation






6. Conclusions

25

The business environment has been improving steadily in the transition countries, but is generally still more difficult than in the cohesion countries of Western Europe, with labor regulations a notable exception

1.0

1.5

2.0

2.5

3.0

3.5

Regulation Labour Taxation Institutions Infrastructure Finance Macroinstability

1999 2002 2005 Cohesion countries 2005

The business environment was assessed on a scale from 1 (no obstacle) to 4 (major obstacle)Cohesion countries include Greece, Ireland, Portugal and SpainSource: EBRD-World Bank Business Environment and Enterprise Performance Surveys 1999, 2002, 2005

26

Unbundling by ownership category reveals that business environment in 2005 more difficult for de novo than privatized and state firms in areas such as regulation and taxation and institutions protecting property rights, as well as taxation . . . .

The business environment was assessed on a scale from 1 (no obstacle) to 4 (major obstacle)Source: EBRD-World Bank Business Environment and Enterprise Performance Survey, 2005

1.0

1.5

2.0

2.5

3.0

de novo state & privatized de novo state & privatized de novo state & privatized

Regulation Taxation Institutions

Cohesion countries New EU member states SEE Middle Income CIS Low Income CIS

27

. . . . particularly with respect to customs and trade regulations and business licensing and permits, within the overall area of regulatory constraints . . . .

1.0

1.5

2.0

2.5

de novo state & privatized de novo state & privatized

Customs and trade regulations Business licensing and permits


Source: EBRD-World Bank Business Environment and Enterprise Performance Survey, 2005

28

. . . . as well as with respect to judiciary and corruption within the overall area of institutions. Hence business environment is more difficult for de novo firms which are critical for productivity growth and job creation.

1.0

1.5

2.0

2.5

3.0

de novo state & privatized de novo state & privatized

Judiciary Corruption



29

Moving from entrant firms to potential exiters, while the fraction of firms with arrears has been falling and those receiving subsidies is virtually unchanged, (although note that the fraction of subsidized firms in SEE and CIS is lower than in the cohesion countries) . . . .

Source: EBRD-World Bank Business Environment and Enterprise Performance Surveys, 2002, 2005

0.0

0.1

0.2

0.3

2002 2005 2002 2005

Subsidies Arrears


30

. . . . subsidies from all levels of government to a higher fraction of state and privatized firms compared to de novo firms in 2005 retard the exit of the former . . . .(true in cohesion countries too)

0

0.1

0.2

0.3

0.4

0.5

Cohesion countries New EU memberstates

SEE Middle Income CIS Low Income CIS

state & privatized de novo


31

. . . . and arrears owed by a higher fraction of state and privatized firms compared to de novo firms in 2005 on utility payments and taxes as well as to employees and suppliers also retard the exit of the former.

The business environment was assessed on a scale from 1 (no obstacle) to 4 (major obstacle)Source: EBRD-World Bank Business Environment and Enterprise Performance Survey, 2005

0.0

0.1

0.2

0.3

Cohesion countries New EU memberstates

SEE Middle Income CIS Low Income CIS

state & privatized de novo

32

Unsurprisingly, various measures of administrative corruption are related to perceptions of the business environment and show improvement pari passu, e.g. bribes as a proportion of sales (bribe tax) show more rapid decline between 2002 and 2005 in subregions where the bribe tax was higher . . . .

-1.5

-1.0

-0.5

0.0

0.5

1.0

5 6 7 8 9 10 11

GDP per capita (log)

Bri

be

Tax

(lo

g)

2002

2005

EU Cohesion

EU-8

Southeast Europe

Middle-Income CIS

Low-IncomeCIS

Source: BEEPS 2002, 2005.Notes: Low-Income CIS icnludes Arm, Aze, Geo, Kyr, Mol, Taj, Uzb; Middle-Income CIS includes Bel, Kaz, Rus, Ukr; Southeast Europe includes Alb, BiH, Bul, Mac, Rom, SAM; EU-8 includes Cze, Est, Hun, Lat, Lit, Pol, Slk, Sln; EU Cohesion includes Gre, Ire, Por, Esp. Income levels based on previous full year (2001, and 2004).

Source: Staff calculations based on World Bank (2006)

33

. . . . but progress is more mixed when administrative corruption is unbundled into its components, although the deterioration shown for courts and public procurement between 2002 and 2005 is not statistically significant.

Source: Staff calculations based on World Bank (2006)

0%

5%

10%

15%

20%In

flue

nce

La

ws

Util

itie

s

En

v. In

sp.

Occ

. He

alth

an

d S

afe

tyIn

sp.

Fir

e a

nd

Blg

Insp

.

Co

urt

s

Cu

sto

ms

Bu

s. L

ice

nse

s

Ta

xes

Go

v. C

on

tra

cts

av

era

ge

pe

rce

nt

of

firm

s in

dic

ati

ng

ty

pe

of

bri

be

ry is

fre

qu

en

t

Source: BEEPS 2002, BEEPS 2005

Transition Countries:decrease betw een 2002 and 2005

Transition Countries:increase betw een 2002 and 2005

Transition Countries:level in 2005

EU Cohesion Countries:level in 2005/2004

34

Business environment difficulties partly reflected in FDI stock per capita at end-2003, ranging from $11 in Tajikistan to $3771 in the Czech Republic, a ratio of over 300:1

EU-8, some SEE: high FDI instrumental in integration in global “producer-driven” networks (e.g. automotives, IT), leading to skilled-labor and capital-intensive exports and better jobs

CIS, some SEE: low FDI and limited integration in “buyer driven” networks (e.g. apparel, furniture), unskilled labor-intensive or natural resource exports and lower quality jobs

AlbaniaArmenia

Azerbaijan

Belarus

Bulgaria

Croatia

Czech Republic

Estonia

Georgia

Hungary

Kazakhstan

Kyrgyz Republic

Latvia

Lithuania

Macedonia

Moldova

Poland

Romania

Russian FederationSerb & Montenegro

Slovak Republic

Slovenia

Ukraine

45

67

8ln

(FD

I sto

ck p

er

capi

ta in

20

03 in

US

$)

0 20 40 60 80Share of skilled-labor and capital intensive products in total exports in 2003

FDI Stock per Capita and Share of Skilled Labor and Capital-Intensive Exports, 2003

Source: Staff calculations based on World Bank (2005c)

35

The Presentation






6. Conclusions

36

Conclusions Continued poverty reduction among working families will depend on

growth in both labor productivity and job creation, together with a targeted program of public income transfers.

Labor market slack in transition countries is manifested in high unemployment, low participation or low-productivity jobs which, if not addressed, could limit the impact of future growth on poverty reduction.

Entry of new firms and exit of obsolete firms are important for the growth of labor productivity.

Entry of new firms is important for job creation as well as productivity growth in the transition countries. Whereas new firms have expanded employment, existing firms have, on average, improved productivity by downsizing and shedding labor (“defensive restructuring”).

While the business environment and many (though not all) measures of administration corruption have been improving, the latter at the level of the region as a whole, the business environment continues to be more challenging in the transition countries (esp. SEE and CIS) than in the cohesion countries of the EU, and particularly so for those firms which are important in productivity growth and job creation, viz, new private firms compared to state and privatized firms.

37

Conclusions (cont.) The business environment also retards the exit of state-owned

and privatized firms relative to new private firms through tolerance of arrears and subsidies from all levels of government, also impeding productivity growth.

Difficulties in the business environment in part limit the FDI that would integrate CIS and parts of SEE into the global economy, expand the share of skilled labor- and capital-intensive exports and create better jobs.

Looking ahead, continued improvements in the business environment, but particularly a level playing field for de novo firms, as well as exit mechanisms for obsolete firms, will be critical for productivity growth and job creation and call for reform of competition policy, the regulatory regime and institutions which protect property rights.

While labor market institutions are not the primary cause of low labor market performance, job creation can be helped by reform of employment protection legislation, firm-level wage determination, and reform of social assistance schemes to encourage labor turnover.

38

References EBRD-World Bank Business Environment and Enterprise

Performance Surveys 1999, 2002, 2005

E. Bartelsman, J. Haltiwanger and S. Scarpetta (2004), Microeconomic Evidence of Creative Destruction in Industrial and Developing Countries, World Bank Policy Research Working Paper No. 3464

World Bank (2005a), Growth, Poverty, and Inequality: Eastern Europe and the Former Soviet Union

World Bank (2005b), Enhancing Job Opportunities: Eastern Europe and the Former Soviet Union

World Bank (2005c), From Disintegration to Reintegration: Eastern Europe and the Former Soviet Union in International Trade.

World Bank (2006), Anticorruption in Transition 3, forthcoming

productivity growth and job creation in eastern europe and the former soviet union

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