Microeconomic Flexibility in Pakistan and India

Summary
Muhammad Faizan Khan Ghori MBA Evening 2011 Roll No.29

In this case study, the pace at which firms adjust their employment levels as a measure of microeconomic flexibility has been analyzed. Flexibility in micro economy aids in creative destruction processes, where less efficient establishments recede and dynamic firms can rapidly expand. In this paper the techniques used by Caballero, Engel, and Micco (2004), have been followed on firm-level data obtained from India and Pakistan to estimate the proportion of the gap closed in a year between desired and actual employment.

The economy-level microeconomic flexibility has been measured by calculating the speed of adjustment in labor in India and Pakistan. The basis for such research on the microanalysis of employment dynamics was initiated by Caballero and Engel (1993) and extended by Caballero, Engel, and Haltiwanger (CEH) (1997).

For this analysis the sectors which have been taken into account are: In India, automobile components, chemicals, drugs and pharmaceuticals, electrical white goods, electronics, food processing, garments, leather and leather products, machine tools, metals, and textiles. And the sectors covered in the analysis for Pakistan included chemicals, electronics, food processing, garments, information technology (IT), leather and leather products, sports goods, and textiles. The required data at firm level are revenues, compensation to labor, and employment.

The data used in this case was of 3 years only; therefore the regression with the correct specification for one year, 2001 has been done, and the previous two years data (1999-2000) has been used to construct the moving average of the firms relative productivity.

At first the regression was done for only 1 year that is 2001, however, considering the events of 9/11 (with the accompanying economic uncertainty) and the odd results for Pakistan in 2001, the regressions for the year 2000 has also been done, using only the 1999 data as a proxy for the firms relative productivity.

By measuring microeconomic flexibility as the proportion of the gap closed in a year between desired and actual employment the results obtained were, for India, 0.46 in 2001 and 0.45 in 2000. For Pakistan, the proportion of the gap closed estimated was 0.2 in 2001 and 0.53 in 2000.

The results for the year 2000 were likely biased downward because only 1 year rather than 2 years of data was used to construct the average sector productivity. The results for 2001 were much lower than expected and lower

than previous estimates for both countries which may be possible due to the events of 9/11.

There are some limitations on this study, notably the limited size of the dataset. The sample only covers selected industries and regions and is relatively small. In addition to this, the regression was run only for 1 year with the complete specification, because 2 years of data was used to construct the moving average of marginal productivities. Given these limitations, we can make some provisional conclusions. Pakistan compares positively to India in various key sectors, including chemicals, food processing, and garments, based on the limited data that we worked with. Surprisingly, exporters do not seem to have a quicker speed of adjustment.