An empirical analysis of the impact of trade on productivity in South Africa’s manufacturing sector

Abstract

This study contributes to the debate regarding the impact of trade on manufacturing productivity and labour demand over the period 1980 to 2002. The analysis extends existing work in a number of ways. First, total factor productivity is decomposed into efficiency and technical change in order to provide more directions to policy makers. Second, an industry specific time varying measure of total factor productivity is estimated from an underlying production function using panel data of South African industrial sectors. Third, total factor productivity is interacted with trade measures, industry characteristics and macroeconomic factors to determine its key drivers. Finally, the impact of trade on derived labour demand is examined. Panel data econometric techniques are applied to estimate productivity loss due to technical inefficiency in South African manufacturing industries. Technical change and efficiency are estimated using stochastic frontier approaches that allow inefficiency to be either time invariant, or to evolve in a time varying decay mode. A generalised time index is employed to introduce more flexibility on the measurement of technical change. The results account for periods of technical progress as well as regress and indicate the presence of significant room for efficiency improvement, while the pattern of technical change was found to have been particularly slow over the period. The fact that a substantial amount of intermediate inputs into South African manufacturing are imported implies that significant improvement in industry efficiency will be related to the openness of trade policy in South Africa. More importantly, efficiency scores are also likely to be related to how labour force adjusts to these imported inputs. Skill improvements for the labour force are, therefore, fundamental, because the mix of goods manufactured and the factor proportions used to produce them depend on the skill competencies of local technicians. Skills are important for the labour force to produce at its full potential, avoiding waste in inputs and time. The estimation of the determinants of total factor productivity is able to account, in a simultaneous context, for the impact of trade policy, industry level characteristics and the role of macroeconomic factors. The results suggest positive payoffs for industrial productivity of an appropriately managed liberalisation of the external sector. Liberalisation of the external sector is good for competition and learning. Learning is available through increased access to world class intermediate inputs and technology. The evolution of derived labour demand in manufacturing is investigated using the dynamic Generalised Method of Moments estimator (GMM). The results indicate greater induced efficiency effects from some products entering South Africa that are produced at lower cost abroad than obtain for similar products in South Africa; such commodities have tended to displace South African products and labour. Increased import penetration serves to reduce inefficiency and encourages the use of new technology. The positive impact of export expansion on derived labour demand supports results from efficiency estimates that indicate the importance of skilled labour. Increased trade requires emphasis on skill development for the labour force, because intra-industry trade benefits can only arise in an environment in which the skill competencies of labour are improved. In a nutshell, trade has the potential to exact factor adjustment. It is therefore, important to identify the product specific effects that are inimical to some manufacturing sectors and which effects serve to reduce the level of employment in manufacturing for the sake of policy intervention. Increased trade with developed countries is found to provide South Africa with global production networks, where it supplies to the world market. In this arrangement, South Africa benefits from the use of the latest internationally available production and marketing techniques. These networks are important for accelerating the country’s development by transferring technology and innovation, as well as bringing new ideas, to increase its competitive advantage. This comparative advantage should be used to expand the untapped trade potential, particularly with the rest of Africa. However, more needs to be done to improve the technical competencies of industrial labour. Policies are also still required to significantly improve the speed of labour market adjustment.