Skip to main content

Advertisement

Log in

Market imperfections, trade reform and total factor productivity growth: theory and practices from India

Journal of Productivity Analysis Aims and scope Submit manuscript

Abstract

The study investigates how market imperfections distort the impact of trade reform on productivity growth. As the trade expands it influences both product and factor prices and if the distortions arise due to these market imperfections are not eliminated, the usual estimate of total factor productivity growth, using the growth accounting method, would be misleading. Theoretically, it shows that the usual estimate tends to be overestimated in the export competing sector and underestimated in the import competing sector. A modified approach of Olley–Pakes and Levinsohn–Petrin methods involving three-digits industries over the fifteen major Indian states during the period 1998–2005 has been used to deal with the simultaneity issue of factor choice and market distortions for the better estimate. A positive and significant impact of openness on the productivity growth has been observed only when the market imperfections are eliminated. Moreover, the modified productivity growth, after controlling market imperfections, has turned out to be lower than that of the usual estimate in India.

This is a preview of subscription content, log in via an institution to check access.

Access this article

Price excludes VAT (USA)
Tax calculation will be finalised during checkout.

Instant access to the full article PDF.

Institutional subscriptions

Similar content being viewed by others

Notes

  1. It essentially means the residual growth that is not explained by the growth of inputs used in production, and the growth depends on the level of technological improvement, efficient and intense use of resource in the economic activities.

  2. For example, Young (1992) found a low level of TFPG in Singapore, using a growth accounting exercise, when the per capita income of the economy rose from third world levels to those of industrialized levels during 1970s and 1980s.

  3. The domestic firms in some sectors receive favorable treatment from other non-tariff barriers (like Anti-Dumping initiatives) in India (Maiti 2012). As a result, the domestic price is perhaps not reduced significantly with the rise of import competition. .

References

  • Abraham F, Konings J, Vanormelingen S (2009) The effect of globalization on union bargaining and price-cost margins of firms. Rev World Econ 145(1):13–36

    Article  Google Scholar 

  • Aghion P, Bloom N, Blundell R, Griffith R, Howitt P (2005) Competition and innovation: an inverted U relationship. Q J Econ 20(2):701–728

    Google Scholar 

  • Ahluwalia IJ (1991) Productivity and growth in Indian manufacturing. Oxford University Press, New Delhi

    Google Scholar 

  • Balakrishnan P, Parameswaran M, Pushpangadan K, Babu SM (2006) Liberalization, market power, and productivity growth in Indian industry. J Econ Policy Reform 9(1):55–73

    Article  Google Scholar 

  • Blanchard O, Giavazzi F (2003) The macroeconomic effects of regulation and deregulation in goods and labor markets. Q J Econ 118(3):879–909

    Article  Google Scholar 

  • Dobbelaere S (2004) Estimation of price-cost margins and union bargaining power for Belgian manufacturing. Int J Ind Organ 22:1381–1398

    Article  Google Scholar 

  • Domowitz L, Hubbard RG, Peterson BC (1988) Market structure and cyclical fluctuations in U.S. manufacturing. Rev Econ Stat 70(1):55–66

    Article  Google Scholar 

  • Goldar BN (2004) Productivity trends in Indian manufacturing in the pre and post-reform periods. Working paper no. 137, Indian Council for Research on International Economic Relations, New Delhi. http://www.icrier.org/pdf/wp137.pdf

  • Goldar BN, Kumari A (2003) Import of liberalization and productivity growth in Indian manufacturing industries in the 1990S. Dev Econ 41(4):436–460

    Article  Google Scholar 

  • Grossman GM, Helpman E (1990) Trade innovation and growth. Am Econ Rev Papers Proc 80(2):86–91

    Google Scholar 

  • Hall RE (1988) The relation between price and marginal cost in U.S. industry. J Polit Econ 96(5):921–947

    Article  Google Scholar 

  • Harrison AE (1994) Productivity, imperfect competition and trade reform: theory and evidence. J Int Econ 36:53–73

    Article  Google Scholar 

  • Konings JP, Cayseele V, Warzynski F (2001) The dynamics of industrial mark-ups in two small open economies: does national competition policy matter. Int J Ind Organ 19:841–859

    Article  Google Scholar 

  • Konings JP, Cayseele V, Warzynski F (2005) The effects of privatization and competitive pressure on firms’ price-cost margins: micro evidence from emerging economies. Rev Econ Stat 87(1):124–134

    Article  Google Scholar 

  • Krishna P, Mitra D (1998) Trade liberalization, market discipline and productivity growth: new evidence from India. J Dev Econ 56:447–462

    Article  Google Scholar 

  • Kumar S (2006) A decomposition of total productivity growth: a regional analysis of Indian industrial manufacturing growth. Int J Product Perform Manag 55(3/4):311–331

    Article  Google Scholar 

  • Levinsohn J, Petrin A (2003) Estimating production functions using inputs to control for unobservables. Rev Econ Stud 70(1):317–342

    Google Scholar 

  • Li J, Treichel V (2012) Applying the growth identification and facilitation framework: the case of Nigeria. In: Li J (ed) New structural economics. The World Bank, Washington DC, pp 215–258

    Google Scholar 

  • Madsen JB, Saxena S, James BA (2009) The Indian growth miracle and endogenous growth. J Dev Econ. doi:10.1016/j.jdeveco.2009.06.002

    Google Scholar 

  • Maiti D (2012) Anti-Dumping, competitiveness and consumer welfare: a study on commodity prices with a special reference to India. SANEI Working Paper Series No. 12-07, South Asian Network of Economic Research Institutes, Dhaka, Bangladesh

  • Milner C, Vencappa D, Wright P (2007) Trade policy and productivity growth in Indian manufacturing. World Econ 30(2):249–266

    Article  Google Scholar 

  • Nin-Pratt A, Yu B, Fan S (2010) Comparisons of agricultural productivity growth in China and India. J Prod Anal 33(3):209–223. doi:10.1007/s11123-009-0156-4

    Article  Google Scholar 

  • Nishimizu M, Page JM Jr (1990) Trade policy and market orientation, and productivity change in industry. In: Melo J, Sapir A (eds) Trade theory and economic reform, North, South and East. Basil Blackwell, Oxford, pp 245–264

    Google Scholar 

  • Olley S, Pakes A (1996) The dynamics of productivity in the telecommunication equipment industry. Econometrica 64(5):1263–1297

    Article  Google Scholar 

  • Pla-Barber J, Alegre J (2007) Analysing the link between export intensity, innovation and firm size in a science-based industry. Int Bus Rev 16(3):275–293

    Article  Google Scholar 

  • Ray SC (2002) Did India’s economic reforms improve efficiency and productivity? A non-parametric analysis of the initial evidence from manufacturing. Indian Econ Rev 37:23–57

    Google Scholar 

  • Reserve Bank of India (2004) Report on currency and finance, 2002-03, New Delhi

  • Rodrik D (1997) Has globalization gone too far? Institute for International Economics, Washington D.C. http://bookstore.piie.com/book-store/57.html

  • Rodrik D, Subramanian A (2004) From ‘Hindu Growth’ to productivity surge: The mystery of the Indian growth transition. IMF Working Paper WP/04/77. International Monetary Fund, Washington DC

  • Solow R (1957) Technical change and the aggregate production function. Rev Econ Stat 39:312–320

    Article  Google Scholar 

  • Tybout JR (1992) Linking trade and productivity: new research directions. World Bank Econ Rev 6(2):189–211

    Article  Google Scholar 

  • Unel B (2003) Productivity trends in India’s manufacturing sectors in the last two decades. IMF Working Paper, WP/03/22. International Monetary Fund, Washington DC

  • Young A (1992) A tale of two cities: factor accumulation and technical change in Hong Kong and Singapore. NBER Macroeconomic Annual. MIT press, Cambridge

    Google Scholar 

Download references

Acknowledgments

I sincerely acknowledge the research grant (ref.: RP02/001/2008/RP) sponsored by the Indian Council of Social Science Research that helped in preparing this paper. I am grateful to Biswanath Goldar and D N Bhattacharyya for insightful suggestions in the previous version of the paper and also thankful to Poulomi Dasgupta for research assistance in this work. My sincere thanks also go to the editor and the anonymous referees of this journal for giving me some insightful comments in the earlier draft. Usual disclaimers apply.

Author information

Authors and Affiliations

Authors

Corresponding author

Correspondence to Dibyendu Maiti.

Appendix

Appendix

Let us consider the Cobb-Douglas production function where value added Q of a firm using labor L and capital K:

$$ Q = AF(L,K) $$
(22)

The production function is homogeneous of degree 1 + λ for all input factors. By taking a total differentiation of (22) and logarithmic values we get:

$$ (q - k) - \varepsilon_{L} (l - k) = \lambda k + a $$
(23)

Under perfection competition, the wage is paid according to the value of marginal product, i.e., \( w = PMP_{L} \). Re-arranging the terms, we get that \( \varepsilon_{L} = \frac{\Updelta \ln Q}{\Updelta \ln L} = \frac{wL}{PQ} = s_{L} \). Then, we get:

$$ (q - k) - s_{L} (l - k) = \lambda k + a $$
(24)

Now, (q − k) − s L (l − k) is defined as SR.

Under imperfections in product market, the wage is paid according to their marginal revenue product, i.e., \( w = MR.MPP_{L} \). If \( \mu = P/MC \), then \( \varepsilon_{L} = \mu s_{L} \). Assuming \( \varepsilon_{L} + \varepsilon_{K} = 1 + \lambda \) and substituting then in (24), we can easily rearrange as follows:

$$ (q - k) - s_{L} (l - k) = \left( {1 - \frac{1}{\mu }} \right)(q - k) + \lambda k + (1 - \beta )a $$
(25)

Under imperfections both in the product and labor markets, the labor union is assumed to have a bargaining power θ. \( \bar{L} \) is the total workers and w 0 is the alternative wage for workers outside the firm. Nash bargaining equation is as follows:

$$ \max_{w,L} \Upomega = (Lw + (\bar{L} - L)w_{a} - \bar{L}w_{a} )^{\theta } (PQ - wL)^{1 - \theta } $$
(26)

Differentiating with respect to wage and employment and then rearranging the terms, we get:

$$ w = (1 - \theta )w_{a} + \theta \frac{PQ}{L} $$
(27)
$$ w = \frac{\theta }{1 - \theta }\left( {\frac{PQ - wL}{L}} \right) + \frac{\partial (PQ)}{\partial L} $$
(28)

Now, we get \( \frac{\partial (PQ)}{\partial L} = \frac{\partial (PQ)}{\partial Q}\frac{\partial Q}{\partial L} = \frac{P}{\mu }\frac{\partial Q}{\partial L} \) where \( \mu = \frac{{e_{p} }}{{e_{p} - 1}} \) and \( e_{p} = \frac{P}{Q}\frac{\partial Q}{\partial P} \).

Then, we find that

$$ \varepsilon_{L} = \mu s_{L} + \mu (s_{L} - 1)\theta /(1 - \theta ) $$
(29)

Combining (25) and (29), we find that

$$ (q - k) - s_{L} (l - k) = \left( {1 - \frac{1}{\mu }} \right)(q - k) + \frac{\lambda }{\mu }k + \frac{\theta }{1 - \theta }(s - 1)(l - k) + (1 - \beta )a $$
(30)

Rights and permissions

Reprints and permissions

About this article

Cite this article

Maiti, D. Market imperfections, trade reform and total factor productivity growth: theory and practices from India. J Prod Anal 40, 207–218 (2013). https://doi.org/10.1007/s11123-012-0313-z

Download citation

  • Published:

  • Issue Date:

  • DOI: https://doi.org/10.1007/s11123-012-0313-z

Keywords

JEL Classification

Navigation