Global integration can spur productivity growth in Pakistan

The average Pakistani worker produces 40 percent more value added today than 30 years ago. Compare that to the average Vietnamese worker, who is 328 percent more productive today. Put differently, the productivity of Vietnamese workers grew 8 times faster than that of their counterparts in Pakistan within the same period.  Workers’ productivity has practical implications: it is linked to growth of income and overall national growth.

Therefore, understanding Pakistan’s productivity dynamics and what it would take for firms in Pakistan to grow fast like Vietnamese firms, matters.  We tackle this question of low productivity and stunted growth in Pakistan in our new report, From Swimming in Sand to High and Sustainable Growth: A Roadmap to Reduce Distortions in the Allocation of Resources and Talent in the Pakistani Economy.

Evidence shows that economies integrating into global markets can be a powerful platform to both allocate resources and talent better and for firms to learn faster.

Productivity grows when resources and talent are allocated to more dynamic activities and uses (allocation), and when firms get better at what they do (learning).  Evidence shows that economies integrating into global markets can be a powerful platform to both allocate resources and talent better and for firms to learn faster.

Through the 1990s, Vietnam’s economic structure was not significantly different than that of Pakistan then or now. Vietnam exported textiles, agricultural products, and minerals. Fast forward to 2023, the country added electronics, computers, and semiconductors sectors to the mix. Vietnam’s soaring productivity results from this productive transformation. The stagnation of Pakistan’s, from its productive stagnation.

Vietnam leveraged global integration: it attracted leading multinationals (MNCs) that benefited from local low wages, and in exchange, the MNCs brought in managerial and technological know-how.  This helped boost productivity and create jobs within the multinationals and Vietnamese firms. Take Samsung. When it set up shop in Vietnam in 2008 to assemble and export electronics, almost all its suppliers were foreign.

Between 2014 and 2020, the number of Vietnamese companies chosen as first-tier suppliers by Samsung increased from 4 to 50. Today, Samsung Vietnam produces semiconductor parts and conducts R&D in the country. It has trained its local suppliers and helped them improve their organizational practices and product quality. Their productivity grew, and so did their domestic and foreign sales.

What about Pakistan? Did trade and investment integration within the global marketplace help its productivity growth like it did for Vietnam? We examine firm-level data to answer this question.  We look at whether Pakistani firms learn by integrating within the world economy and if they become more productive by exporting, importing, and connecting to Foreign Direct Income (FDI). The short answers: yes, yes, and somehow, respectively.

Exporting and Productivity

In Pakistan, exporters are substantially more productive than domestic-oriented firms, across sectors and locations. In From Swimming in Sand to High and Sustainable Growth, we split the sample into ‘never exporters’, ‘latent exporters’ (those that are not currently exporting, but will start exporting soon), and ‘systematic exporters’ (those that always export). We find that latent exporters are 26 percent more productive than never exporters. Further, systematic exporters are 21 percent more productive than latent exporters within a given sector and size, suggesting some ‘learning by exporting’. 

Foreign firms in Pakistan are 46 percent more productive than comparable domestic-owned ones.

Yet, export orientation of firms in Pakistan is declining: the export-to-GDP ratio has fallen from a peak of 16 percent to less than 10 percent over the past two decades.  The ratio of exporters among publicly listed firms declined from 60 to 51 percent in the past decade, and the share of exports in sales for those that export, declined from 31 to 27 percent. The learning-by-exporting platform has shrunk in Pakistan.

Importing and Productivity

High import duties have negatively impacted productivity, sales, and wages in Pakistan, as they restrict the possibility of firms to tap into the best possible inputs and technologies.  The productivity-sales-wage troika matters: lower import costs are not just productivity enhancing, they also enhance growth and job quality. But not all firms benefit equally from lower trade costs for intermediates: domestic firms and small exporters, such as those that struggle accessing duty drawback schemes, benefit more. A one percentage point reduction in import duties on intermediates increases the productivity of domestic firms by 0.75 percent, and of small exporters by 0.94 percent, with no effect on that of large exporters.  Yet, contrary to global trends, import duties on intermediates in Pakistan have been on the rise, and duty drawbacks function poorly. The learning-by-importing platform has shrunk in Pakistan. 

FDI and Productivity

Foreign firms in Pakistan are 46 percent more productive than comparable domestic-owned ones.  This is mostly explained by the fact that foreign firms concertedly acquire more productive firms, and some firms perform better after foreign acquisition, i.e., they learn better.

Does the productivity of domestic firms that interact with multinationals grow? Are there productivity ‘spillovers’ like in Vietnam? We found no evidence of horizontal spillovers.  Domestic firms that compete with multinationals do not gain from the presence of foreign competitors. Instead, there are ‘vertical spillovers’: more FDI in upstream services sectors boosts productivity of downstream firms. For example, the recent introduction of the Looptrace platform by Pakistan’s large exporter, Interloop, boosted the textile manufacturer’s productivity and was facilitated by the availability of quality services providers in upstream sectors, ranging from telecom, internet, or business services providers. But FDI has been elusive for Pakistan. Yet another learning platform that has shrunk in Pakistan.

Trade and investment integration are crucial and largely untapped platforms for Pakistan’s productivity growth

How to Accelerate Productivity for Inclusive Growth

Trade and investment integration are crucial and largely untapped platforms for Pakistan’s productivity growth, and our report delivers evidence to support.   Three policy actions can help speed up productivity and spur economic growth in Pakistan:

• Promote FDI in efficiency-enhancing sectors. Start by making the Investment Policy of 2013 a law, replacing the highly protectionist Investment Act of 1976. This will reduce uncertainty, crucial to boosting investment.
• Promote exports actively. Automate duty drawbacks, so that exporters can access intermediates at world prices, just like their global competitors. Support skills upgrading of potential exporters, and help smaller firms connect with markets. Conduct impact evaluations on firms’ support interventions, to ensure public funds are used efficiently.
• Reduce import barriers. Barriers aimed at substituting imports end up substituting exports instead.  Reduce duties on intermediates first. Further, to create the needed fiscal space, eliminate import duty exemptions for non-exporting firms.  

Improving productivity is at the heart of attaining sustainable growth in Pakistan. The fastest and safest route toward this goal is to integrate Pakistan into the global marketplace with the reforms above. The time to act is now.