Designing Growth Policy

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DesigningGrowth Policy

• Philippe Aghion and Steven Durlauf

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Latin America versus Asia

• Average growth rate over 1960-200 period in
  Brazil lies between 2.5 and 3...versus 7 in
  Singapore and Taiwan, 6.5 in South Korea, 6 in
  Hong Kong, 5 in Thailand.

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EU versus US

• 1970s EU average annual growth rate of per
  capita GDP 3.5 versus 1.5 in US
• 1995-2006 EU per capita GDP grows at less than
  2 versus 3 in US

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Growth Policy specialists

• Easterly (2005) Policy does not matter for
  growth as long as countries avoid extremes
• Rodrik (2005) growth diagnostic approach

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Growth diagnostic approach

• Start from Euler equation to identify potential
  growth determinants
• Use equilibrium price comparisons to find binding
  constraints on growth

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Problems with the GD approach

• Equilibrium prices do not necessarily reflect a
  constraint on growth (low interest rates under
  credit rationing, Mincerian wage does not account
  for knowledge externalities)
• The approach cannot generate prescriptions that
  affect two sides of a same market (e.g demand for
  and supply of RD labor)

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Alternative approach

• Use endogenous growth theories to identify growth
  determinants and also interactions
• Use growth regressions to assess relative
  importance of the various determinants and to
  derive priorities in growth policy design

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Our main points

• Easterlys finding is not robust to introducing
  interaction terms (e.g interacting policy
  variables with technological or financial
  development)
• New growth theory and growth regressions together
  can deliver growth policy design (e.g for EU or
  for Latin America).

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A new growth paradigm
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Schumpeterian growth model
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Growth regressions
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Four main issues

• Endogeneity
• Interactions
• Level of aggregation
• Heterogeneity and fixed effects

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Foster growth in Western Europe
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RD and innovation

• More important for sectors closer to world
  technology frontier or for more high-tech sectors

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Foster competition and entry
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Invest in higher education
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Finance and labor market flexibility
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Entry Financial Development vs. Labor Protection
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Post-entry growth
(significance 10 significance level 5
level 1 level calculated with robust
standard errors)
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Foster growth in Latin America
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Develop credit markets
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Private credit over GDP

• Brazil 0.345
• Argentina 0.244
• Mexico 0.184
• Chile0.683
• EMU 0.76
• US 1.42

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Invest in education
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Schooling indexes

• Schooling index in Brazil 3.49
• Schooling index in Chile 6.45
• Schooling index in US 11.79

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Spending in primary, secondary and tertiary (in
of per capita GDP)

• Brazil 10.8 11.2 48.87
• France 17.8 28.6 29.4
• US 21.6 24.4 26

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Foster competition
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Frazer index

• Brazil 88th
• Argentina 74th
• Mexico 60th
• Chile 20th

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Increase domestic savings

• Average private savings in Latin America over
  2000-2002 7.8
• Average private savings in Asian tigers including
  China 28.1
• Average private savings in US 10.3

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Table 1 Savings and Growth
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Conclusion 1

• Policy matters, but need to account of
  interaction terms
• Case-by-case as a function of technological
  development, financial development, slow moving
  institutions

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Conclusion 2

• New growth theory hand-in-hand with econometrics
  is the most promising approach to growth policy
  design

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Conclusion 3

• Agenda-setting, based on cost-benefit analysis of
  the growth potential and social costs of the
  various reforms