2017. Recommendations for Trade Adjustment Assistance in Sri Lanka, Growth Lab at Harvard's Center for International Development.Abstract

Sri Lanka has an excessively complex tariff structure that distorts the structure of the economy in important ways. It is a priority for the Government of Sri Lanka (GoSL) to rationalize the system in order to facilitate a transition to greater economic diversification, stronger export growth, and the emergence of new, higher paying jobs. Sri Lanka’s New Trade Policy makes this tariff rationalization a priority. It also recognizes that tariff rationalization should go hand in hand with new trade adjustment assistance measures to support the adjustment of firms and of people. The New Trade Policy outlines the basic contours of tariff rationalization and trade adjustment assistance measures but does not provide a detailed roadmap.

This discussion paper was prepared at the invitation of the Ministry of Development Strategies and International Trade (MoDSIT) as part of the Center for International Development’s research project on sustainable and inclusive economic growth in Sri Lanka. The aim of the paper is to study policy tools that the GoSL could use to structure trade adjustment assistance in the context of tariff rationalization. In order to accomplish this aim, we begin by outlining the type of tariff rationalization that needs to take place in order to address key constraints to growth in a way that is sensitive to both government revenue needs and political economy considerations. We stress that tariff rationalization must be approached in a holistic way that treats the various tariffs and para-tariffs as interrelated, rather than an approach that attempts to address one part of the system at a time. A holistic approach would provide many degrees of freedom to solve the underlying problems in the system while increasing revenues and potentially generating strong public support. Critically, a holistic approach would allow for a single tariff rationalization plan to be phased in over a period of years in a predictable way, whereas attempts to rationalize the system one part at a time would lead to extreme uncertainty.

With the principles of smart tariff rationalization in place, we draw upon international lessons and Sri Lanka’s own institutional capabilities to recommend a two-tiered approach to helping industries and workers adjust. In each case, the first tier represents low-cost measures that can begin in the short term to help industries and workers, regardless of whether they will be negatively impacted by tariff rationalization, while the second tier of assistance applies only to trade-affected industries and workers and can be developed in the medium term. For industries, Tier 1 support involves the use of an innovative process of public-private problem solving of industry-specific constraints, and Tier 2 support involves the use of special safeguard measures to provide an objective and transparent process for determining which industries require longer phase out periods for tariff reductions versus the tariff rationalization plan. For workers, Tier 1 support involves improved access labor market information and training opportunities through the development of regional (or local) job centers. Tier 2 support provides government funding for training and job placement services. We conclude that this package of trade adjustment assistance measures could be used to complement a holistic tariff rationalization plan. But we caution that attempts to rush the implementation of these measures without careful design and communication could deeply undermine the potential for the reforms to work in solving underlying economic problems.

O'Brien, T., et al., 2018. Opportunity Analysis of Agriculture Products in Sri Lanka. Measuring markets and feasibility.Abstract

In August 2017, CID began focused work with Sri Lanka’s Ministry of Primary Industries (MPI), specifically with their Agriculture Sector Modernization Project(ASMP) team. MPI requested Harvard assistance in the analysis of constraints and opportunities in the agriculture and fisheries sector, specifically in non-plantation, export-oriented activities. As a first step, CID worked with MPI research officers to compare the more than twenty agricultural and fishery subsectors being considered under the ASMP. These subsectors were analyzed across over 53 quantitative and qualitative variables, measuring market demand, feasibility, current strength, and poverty considerations. The analysis ultimately identified spices (especially pepper), aquaculture (especially shrimp) and plantains and bananas as especially promising subsectors for future research and ASMP activities. More broadly, the analysis identified the basic market and feasibility considerations that can provide a starting point for value chain analyses and public-private strategic planning. This presentation was prepared jointly by MPI project officers and CID Growth Lab researchers in order to inform MPI initiatives, both within the ASMP and beyond.


Sennett, J., 2018. Engaging Overseas Sri Lankans to Facilitate Export Diversification.Abstract

Insufficient export diversification is a binding constraint to economic growth in Sri Lanka

  • The Harvard CID growth diagnostic found that with wages in traditional export sectors now below average Sri Lankan wages, new higher-wage export industries are required

Overseas Sri Lankans (OSL) have the potential to create new export industries in Sri Lanka

  • Diasporas were involved in the export-led development of India, Taiwan, and China by bringing industry knowhow and market connections to their home countries
  • There are large, well-educated OSL communities living in the US, UK, Canada, and Australia that have the industry knowhow to assist in export-led growth in Sri Lanka

OSL can have the biggest impact on diversifying exports if they return to start firms in new export industries rather than working with firms while based overseas

  • OSL can play a useful role connecting the existent Sri Lankan IT export sector to overseas markets, but they cannot start firms in new export industries from abroad
  • If OSL return to start firms they can “seed” a new export industry that grows organically through the diffusion of knowhow
  • The pharmaceutical sector is an example of an industry with high potential to be “seeded” by returning OSL entrepreneurs

Preliminary policy recommendations focus on removing barriers and catalyzing latent motivations to facilitate OSL return entrepreneurship:

  • The Department for Immigration and Emigration should continue to ease border processes for OSL through dual citizenship and the OSL lifetime resident visa
  • The Board of Investment should orient part of its “one-stop-shop” to dealing specifically with OSL issues
  • The Ministry of Foreign Affairs should utilize its diplomatic network to engage potential OSL entrepreneurs to catalyze latent motivations to return

*This is an edited version of a Policy Analysis written in fulfilment of the requirements for the degree of Master in Public Administration in International Development, John F. Kennedy School of Government, Harvard University

Hausmann, R., Sturzenegger, F. & Horii, M., 2008. The Growing Current Account Surpluses in East Asia: The Effect of Dark Matter Assets. International Economic Journal , 22 (2) , pp. 141-161. Publisher's VersionAbstract
In a series of papers we have developed the notion that net foreign assets could be better approximated by capitalizing the net investment income line of the balance of payments statistics. Hidden assets or changes in financial costs may change the net return of net foreign assets even when the valuation of assets remains unchanged. By capitalizing the net investment income a more realistic picture emerges on the true burden or return of net foreign assets. This paper estimates external positions for East Asian economies using this methodology and compares the results with that of official accounts. We find that, until the late 1990s, net investment income increased relatively little, signaling that net foreign assets had not grown as suggested by the large current account surpluses of these countries. This is consistent with the fact that the region had attracted large amounts of foreign direct investment, for which the transfer of technology and knowledge are not accurately captured by the valuation of the foreign asset position. Since 2002, however, the trend has reversed, indicating much larger surpluses than officially registered. We discuss individual country cases.
Shen, J.H., Wang, H. & Lin, S.C.-C., 2021. Productivity Gap and Inward FDI Spillovers: Theory and Evidence from China. China & World Economy , 29 (2) , pp. 24–48. Publisher's VersionAbstract
This paper constructs a two-stage sequential game model to shed light on the spillover effect of inward FDI on the efficiency of domestic firms in host countries. Our model shows that, given an optimal joint-venture policy made by foreign firms, the impact of the spillover effect of inward FDI is contingent upon the productivity gap between the domestic firms and foreign ones. In particular, we demonstrate that the spillover effect of inward FDI varies negatively with the productivity gap between domestic low-productivity firms and foreign firms but works in the opposite way for high-productivity firms. This suggests that once the productivity gap widens, the entry of foreign firms will increase the efficiency of high-productivity firms but reduce the efficiency of low-productivity firms. In support of our theoretical model, we provide robust empirical results by using the dataset of annual survey of Chinese industrial enterprises.
Toward an empirical investigation of the long-term debt and financing deficit nexus: evidence from Chinese-listed firms
Jiang, X., Shen, J.H. & Lee, C.-C., 2021. Toward an empirical investigation of the long-term debt and financing deficit nexus: evidence from Chinese-listed firms. Applied Economics. Publisher's VersionAbstract
As the literature has studied the financing method of Chinese-listed firms for a long time, but with inconclusive indications, this research thus adopts non-financial Chinese-listed firms’ data from 2003 to 2015 to investigate the relationship between long-term debt financing and financing deficit. We pay particular attention to three channels (ownership concentration, market timing, and state ownership) that potentially affect the adoption of long-term debt financing when there is a financing deficit. The empirical analysis documents a positive relationship between financing deficit and changes in the long-term debt ratio in our sampled firms for both static and dynamic panel models. Moreover, among the three channels we show that state ownership has the strongest positive impact on the adoption of long-term debt financing, followed by ownership concentration, while the weakest channel is the market timing’s negative effect. In general, our empirical analysis finds that the important external financing method of long-term debt is most likely to be impacted by the state ownership aspect.

Growth Diagnostics in Real Life: The Growth Lab's Project in Sri Lanka

On today's episode of The Growth Lab Podcast, CID Student Ambassador Emily Ausubel interviews Tim O’Brien and Dan Stock, Research Fellows at Harvard's Growth Lab. Tim and Dan discuss the Growth Lab project in Sri Lanka and how they are applying the Growth Diagnostics Methodology to identify the country’s binding constraints for diversification and economic growth. Read the Growth Diagnostic. Read more about Growth Diagnostics in Real Life: The Growth Lab's Project in Sri Lanka
Shen, J.H., 2020. Supply-Side Structural Reform and Dynamic Capital Structure Adjustment: Evidence from Chinese-Listed Firms. Pacific-Basin Finance Journal , 65. Publisher's VersionAbstract

The literature extensively discusses the increasing commitment toward comprehensive structural reform of China’s economy as it targets to achieve high quality and sustainable economic growth. This research investigates the inherent relationship between supply-side structural reform (SSSR) and dynamic capital structure adjustment in Chinese-listed firms. Our results show that SSSR’s introduction has significantly improved the adjustment speed toward the optimal debt ratio, especially for firms with high indebtedness and low investment performance. Importantly, China’s bond market plays a crucial role through SSSR for firms’ debt ratio to adjust toward their optimal level. However, there is no such evidence among state-owned enterprises (SOEs), suggesting that the structural reform concerning corporate capital structure for SOEs is more challenging and longstanding when compared with non-SOEs.

Shen, J.H., 2020. Towards a Dynamic Model of the Industrial Upgrading with Global Value Chains. The World Economy. Publisher's VersionAbstract

This research constructs a simple dynamic model to illustrate the micro‐mechanism of industrial upgrading along the global value chains. Our model predicts that as firms move up from downstream to upstream stages, (a) there is higher profitability if and only if the following three conditions are satisfied. First, the increasing rate of sunk cost (including R&D expenditure) over sequential stages of production cannot be sufficiently large (endogenous sunk cost effect). Second, the decreasing rate of change of intermediate input demand with respect to the price set by firms at a production stage cannot be sufficiently high (intermediate input price effect). Third, the decreasing rate of change of intermediate input demand with respect to the pricing dynamics over the sequential stages of production cannot be sufficiently large (sequential pricing uncertainty effect); (b) total cost is lower if and only if the decreasing rate of change of input demand with respect to the price is sufficiently large; (c) output is higher if and only if and the decreasing rate of change of input demand with respect to the price is not sufficiently large; and (d) the price decreases. We show that the empirical patterns revealed in China are consistent with our model's predictions.

Hausmann, R. & Klinger, B., 2008. Structural Transformation in Pakistan, Growth Lab at Harvard's Center for International Development.Abstract
Structural transformation is the process by which countries change what they produce and move from low-productivity, low-wage activities to high-productivity, high-wage activities. The purpose of this report is to use emerging methodologies to analyze Pakistan’s history of and opportunities for structural transformation, in an effort to better understand past economic performance and accelerate future economic growth. Part 1 looks at the composition of Pakistan’s export basket and establishes that the country is specialized in relatively unsophisticated export activities that are typical of poorer countries. Compared to other countries in Asia, Pakistan has not been moving to new and better export activities, and consequently has fallen behind. We show that this is in part because the actual products that Pakistan currently produces are intensive in capabilities with few alternative uses. Pakistan is specialized in a relatively peripheral part of the product space, and has not explored the productive possibilities as actively as its comparators. Given this record, an important priority in the future is to accelerate structural transformation. Pakistan’s current orientation in the product space suggests that such acceleration would require a mix of facilitating movements to nearby activities, as well as encouraging more strategic jumps to new areas of the product space. Part 2 uses the data and methodologies of Part 1 to identify what those nearby and more distant activities might be, while Part 3 discusses appropriate policies that follow from these results and promote structural transformation, without suffering common failures of past industrial policies. The key message is that the government of Pakistan must actively learn the sector-specific constraints to structural transformation and overcome them in order to accelerate future economic growth.
Hausmann, R. & Purfield, C., 2004. The Challenge of Fiscal Adjustment in a Democracy: The Case of India.Abstract
India’s fiscal problem has deep roots in its federal fiscal system, where multiple players find it difficult to coordinate adjustment. The size and closed nature of the Indian economy, aided by its deep domestic capital market and large captive pool of domestic savings, has disguised the cost of fiscal laxity and complicated the building of a consensus on reform. The new fiscal responsibility act establishes a new rules-based system to overcome this coordination failure. To strengthen the framework, we recommend an autonomous scorekeeper and the extension of similar rules to the state governments as part of a comprehensive reform of the federal system.
Lim, E., Spence, M. & Hausmann, R., 2006. China and the Global Economy: Medium-term Issues and Options - A Synthesis Report.Abstract

China’s economic and social achievements since the beginning of reform and opening are unprecedented in global history. Managing the growth process in this continuously changing environment has required great skill and the use of unconventional economic policy. Now China has entered a new era in its development process with a set of challenges largely different from those of the recent past. Some problems - such as growing internal and external structural imbalances, increasing income and regional inequality – have arisen from, or been exacerbated by, the very pattern and success of high growth since reforms began. Others are newly posed by rapid changes in the global economy. These challenges can best be tackled in an integrated and coordinated fashion. This report, supported by the China Economic Research and Advisory Programme (CERAP), identifies the primary challenges facing China today and presents options for meeting them.

New Pathways to Inclusive Growth: The Sri Lanka Project in Retrospect

Starting in November 2015, The Growth Lab was engaged in economic policy research with the Government of Sri Lanka. Led by Professor Ricardo Hausmann, the team focused on a single question: what is holding back investment in Sri Lanka – especially in new and non-traditional export-oriented sectors – and what can the government do about it? In this Growth Lab podcast, members of the Sri Lanka team share their learnings from the project and how they partnered with key counterparts in the government and civil society to support potential solutions, and better understand the deeper...

Read more about New Pathways to Inclusive Growth: The Sri Lanka Project in Retrospect
Zhao, D., Chen, Y. & Shen, J.H., 2020. Mortgage Payments and Household Consumption in Urban China. Economic Modelling , 93 , pp. 100-111. Publisher's VersionAbstract

By exploiting variation both in mortgage payoffs and mortgage interest rate resets, we find that a decline in mortgage payments induces a significant increase in nondurable goods spending, even when households have substantial amounts of liquidity. Following mortgage payoff, households increase consumption expenditures by 61% of the original payment. In comparison, households increase consumption by only 36% in response to a transitory payment adjustment induced by interest rate changes. Households with a higher payment-to-income ratio have a significantly lower marginal propensity to consume (MPC). These results have practical implications for policy markers seeking to design consumption boosting policies and are important for understanding how changes in monetary policy may affect consumer spending patterns.