Recent econometric work by Mattoo, Rathindran, and Subramanian (2001) and Francois and Schuknecht (1999) takes a different approach to assessing the implications of trade liberalization in services and evaluates the links between growth performance and service sector liberalization. This literature is also relevant to any discussion of the impacts of services trade liberalization on developing countries.
5.1 Early Literature
Though this work shows a significant and strong relationship between growth performance and openness in key service sectors, discussion of these issues is in fact considerably older. Goldsmith (1969), in a seminal earlier piece, placed heavy stress on the role of financial services in allowing financial investments to flow to their most productive uses, and hence in generating growth of output and income. He suggested that the ratio of the value of financial intermediary assets to GNP was a variable that in some way represented country performance of the financial sector. He used it in a regression in which economic growth rates were the dependent variable, and found what he termed a
“rough parallelism” between growth performance and the level of financial development as represented by this variable. This lead to later work all pointing in the same direction as recent work, namely that openness and degree of development of the service sectors is associated with stronger growth performance.
4 See again the discussion of these issues in Copeland (2002).
King and Levine (1993), in later work subsequently controlled for other factors influencing long run growth performance. They used further measures of country development for the financial sector in their growth regressions, including the ratio of liabilities in the financial system to GDP and the ratio of gross claims on the private sector to GDP. They found that these measures played an important role and implied an econometrically significant relationship. They assessed whether the level of country financial sector development in 1960 as measured by one of their ratios predicted the rate of growth for the country over the 1960-1990 period, and found that the level of financial sector development in 1960 was a significant predictor of later period economic growth.
In a later paper Levine (1997) further assessed the role that financial sectors played in economic development. He evaluated five functions performed by the financial services sector, including facilitating the trading of risk, allocating capital to its most productive uses, monitoring managerial performance, mobilizing savings through financial innovation, and easing the exchange of goods and services.
5.2 Recent Work
It is only in more recent work, however, that the role of trade and openness in service sectors and their influence on growth surfaces more explicitly. Francois and Schuknecht (2000) regress growth rates of real per capita GDP on a measure of the degree of openness in trade, key macroeconomic variables, and a measure of
concentration in the financial sector. They find a strong relationship between growth rates and financial sector competition, this claim suggesting a positive link between openness and trade.
Mattoo, Rathindran, and Subramanian (2001) use policy rather than results based measures of openness of country services regimes (in contrast to Francois and
Schuknecht). They construct such openness measures for two key service sectors, basic telecoms and financial services and use these in growth regressions. Their econometric evidence shows that openness in service sectors influences long run growth performance.
This link is relatively strong in the financial sector and less strong (but nevertheless statistically significant) in the telecommunications sector. Their estimates suggest that with fully globally open telecom and financial service sectors, growth rates in individual economies may be up to 1.5 percentage points higher than for other countries with more closed regimes.
5.3 Issues of Interpretation
At first sight this evidence seems striking, pointing to liberalization of service sectors as a route to faster growth and development, and suggesting that trade
liberalization in service sectors can also be key for developing countries in achieving enhanced growth performance. There are, however, issues this work raises as with earlier work reviewed here.
One is that this work is generally a theoretical and does not provide solid analytical underpinnings for service trade liberalization and its links to growth
performance. Although Francois and Schuknecht emphasize the role of scale economies and cost structures in financial services and the link to market structure, their theory points (as in most theoretical work on trade liberalization) to once and for all level effects rather than permanent growth effects. Thus whether elevated growth from liberalization
is only a transitional effect, or a more permanent effect of longer standing is the issue.
Indeed, there are parts of the endogenous growth literature (such as Young (1996)) that suggest there are ways in which trade barriers which partly internalize an internalized externalities can raise growth rates and protection can be welfare improving. At first sight, such arguments might well also apply to services. However, also following endogenous growth literature, a key characteristic of services trade – the need for simultaneous production and consumption of the traded service – might imply that
services liberalization moves resources from sectors that do not possess these attributes to those that do, and long run growth rates rise.
Also, there are key issues with excluded variables in these analyses. Thus, in discussing financial services liberalization, there is clear evidence that economies with higher savings rates grow more quickly as investible funds are channelled into productive employment. The links between financial structure and development are long discussed, in both McKinnon (1973) and Shaw (1973), for instance. Financial intermediation will thus correspondingly grow with savings as intermediation helps these savings flow from lenders to borrowers. What drives the growth is primarily the higher level of savings and investment, what facilitates the process is the intermediation. Thus opening up financial services sectors to international competition where domestic savings rates are low need not facilitate higher growth, and to attribute higher growth rates to elevated financial intermediation alone can again potentially be misleading.
This econometric evidence, however, has been widely cited as showing a strong link between financial services liberalization and growth performance; and if correct has
major implications for policy reform in developing countries. The caveats noted above should, however be kept in mind in interpreting results.