mupout No. 7921-CO

2 ColombiaIndustrial Competition and Performancej ue29I19"Trade, Finance, and Industry OperationsCountry Departrent IIILatin America J the Caribbean Region

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Abbreviations0(con

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I',Banco do la R*p;blicaCAy! Corporacidi de Ahorro y ViviendaCDT Certificado de D.pg'ito a T4frm.inoCF Corporacidh FinancieradEC Companfa de Financiamiento ComercialCn Corporaci6n Financier& PopularCIIU ClAsIficACId& Industrial Intemnacional Uniform.CR4 Four-firm (plant) concentration-ratioCONPES Coneejo de Politica, Kconamica y SocialDANE Departamento Administrativo Nacional de Estad(uticaDNP Departamento Nacional do Planeaci5nDTF Depdsito do Te6mino FipoFCE Fondo do Capitalizacion EmpresarialFFA,P Fondo Financiero AgropecuarioFFI Fondo Financiero IndustrialIFI Instituto do Famento Indu-strialINCOMEX Instituto do Comercio ExteriorISE Inversion Sustitutiva del En:ajeNABANDINA Nomenclatura Bruselas Andina (tariff nomenclature)PROEXPO Fondo do Prom'oci'rm do Exportaciones

QR ~~~~~Quantitative restrictionSHE Small and medium scale enterpriseTFP Total Factor Productivity

FOR OFFIIAL USE ONLY

This report is based on the findings of a vork program on the industrialsector in Colombia, initiated in January 1988 anJ concluded in March 1989.The report was written by Kristin Hallberg (LA3TF). Much of the backgroundwork for the report was undertaken by consultants in Colombia, guided by theGovernment's Industrial Sector Working Group and funded by a grant from theJapaniese government. The consultants were Gabriel Misas A. (marketstructure), Rudolf Hommes and Alberto Villate (financial sector issues),Hanuel Ramirez (labor markets), Nohra Rey de Marulanda (tax incentives andprice controls), and Jorge Ospina Sardi (institutional issues). Estimates ofproductivity change and their relation to internal and external competitionwere provided by Mark Roberts of Pennsylvania State University, as par.t of theWorld Bank research project *Industrial Competition, Productive Efficiency,and Their Relation to Trade Regimes' (RPO-674-46). Contributions to thefinancial sector chapter were made by Silvia Sagari (CECFP) and Felipe Saezand Ana Maria Llorente (Colombia Resident Mission).

This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwise be Jisclosed without World Bank authorization.

COLWGIAs INDUSTRIAL COIPETITION AND PERFORMANCETable of Contents

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mcsmn suuY

1. INTRODUCTION 1

1.1 sconomic Recovery Since 1984 11.2 Indicators of Industrial Performance 21.3 Conclusions 211.4 The AnalyticAl Framework of the Report 23 L

2. TINDUSTRAL PERFORMANCE AND INTERNAL AND EXTZRNALCOMPETITION 26

2.1 Introduction 262.2 Trade Policy and the Degree of External Competition 262.3 Domestic Harket Structure and the Degree of Internal

Competition 402.4 Trade Policy, Industrial Structure, and Performance 612.5 Tax Policy and Industrial Incentives 652.6 Legislation Governing Non-Campetitive Behavior 672.7 Conclusions and Policy RecoiAmendations 68

3. RESOURCE MOBILITY 71

3.1 Introduction 713.2 Patterns of Plant Entry, Exit, and Growth 713.3 Price Controls 763.4 Labor Legislation, Labcr Costs, and Labor Mobility 903.5 The Concordato as a Barrier to Exit 1053.6 Conclusions and Policy Recommendations 106

4. THE FINANCIAL SECTOR AND INDUSTRIAL STRUCTURE ANDPERFORMANCE 108

4.1 Introduction 1084.2 Characteristics of Credit Markets 1084.3 The Financial Behavior of Industrial Firms 1164.4 Implications for Industrial Market Structure and Financial

Sector Development 1264.5 Conclusions and Policy Recommendations 132

5. THE DESIGN AND IHPLEMENTATION OF INDUSTRIAL AND TRADEPOLICY 134

5.1 Introduction 1345.2 The Institutional Framework for Macroeconomic, Trade,

and Industrial Policy 1345.3 Conclusions and Recommendations 139

BIBLIOGRAPHY 140

ANNEX 1: Industrial Performance and Internal/External Competition:Regression Results 144

LIST OF TABLES

Table No. Pate No.

1.1 Manufacturing Output by Subsector 31.2 Manufacturing Output Growth 41.3 Share of GDP by Sector 51.4 Manufacturing Share of GDP: International Comparisons 51.5 Share of Manufacturing Output by Subsector 71.6 Share of Manufacturing, Output by Subsector, 19Fr5s

International Comparisons 81.7 Manufactured Exports 91.8 Share of Manufactured Exports 91.9 Export Growth Rates, 1965-85 101.10 Total Exports, 1980-88 111.11 Composition of Minor Exports, 1985-88 131.12 ExpoLt Orierntation of Manufacturing 141.13 Export Orientation by 3-Digit Manufacturing Subsector 151.14 Total Factor Productivity Growth in Ma.nufacturing, 1977-87 191.15 Aggregate Total Factor Productivity Growth, 1950-86 20

2.1 Import Licensing Requirements, 1980-89 282.2 Frequency Distribution of Tariffs, 1989 282.3 Licensing Requirements and Average Tariff by Sector

and Stage of Processing, 1989 292.4 The System of Import Licenses in 1989 312.5 Production Coverage of QRs by 2-Digit Subsector, 1989 322.6 Production Coverage of QRs by 4-Digit Subsector, 1989 332.7 Import Protection: International Comparisons 362.8 Imporc Penetration for Broad Product Groups 382.9 Import Penetration, 1977-86 382.10 Distribution of Plants by Size, 1977-85 412.11 Distribution of Plants by Age, 1977-85 412.12 Distribution of Plants by Major Metropolitan Areas,1977-85 422.13 Distribution of Plants by Departments, 1981-85 422.14 Distribution of Plants by Industry, 1977-85 432.15 Concentration of Production, 1968 and 1984 452.16 Concentration by Type of Industry, 1968 and 1984 462.17 Production Participation of the 100 Largest Industrial Firms 472.18 Measures of Concentration by 4-Digit Subsector 482.19 Concentration of Production: International Comparisons 522.20 Internal and External Competition by Manufacturing Subsector 572.21 Industries Ranked by Internal and External Competition 602.22 Price-Cost Margins by Manufacturing Subsector 63

3.1 Entry and Exit of Manufacturing Plants 733.2 Entry and Exit Rates by Manufacturing Subsector 743.3 Share of Manufacturing Output, Average Plant Size

and Survival Rates of Entry Cohorts 753.4 Evolution of the Price Control System 793.5 Characteristics of Industries Subject to Pr_ce Controls 823.6 Annual Variations in Price Controls by Manufacturing Industry 86

Table No. PLae No.

3.7 Index of Prices for Major Subsectors 873.8 Profits of Major Firms, 1985-87 883.9 Statutory and Extra-Legal Non-Wage Benefits 923.10 Statutory Not-Wage Benefits 933.11 Vage and Non-Wage Paymento to Labor, 1970-86 933.12 Non-Wage Costs Int"rnational Comparisons 963.13 Real Remneration in Manufacturing, 1970-86 973.14 Real Wages in Manufacturing, 1970-86 983.15 Real Hourly Cost of Labors International Comparisons 993.16 Labor Share of Manufacturingt International Comparisons 1003.17 Labor Turnover Rate, 1984-87 1023.18 Informal and Temporary Labor, 1984-88 104

4.1 Credit by Ecovamic Sector, 1983-88 1084.2 Directed Credit to Industry, 1984-88 1104.3 Share of Directed Credit, 1984-87 1114.4 BR Industrial Development Credit Terms, 1989 1124.5 BR Industrial Development Credit: Resource Cost

and Lending Rates 1134.6 Interest Rates on Directed and Non-Directed Credit, 1981-87 1144.7 Soutces and Uses of Funds of Private Corporations 1174.8 Sources and Uses of Funds of Manufacturing Firms 1184.9 Financial Indicators, 1971-85 1194.10 Financial Indicators, 1983-85 1204.11 Real (Ex-Post) After Tax Costs and Yields 1244.12 Securities Markets Indicators, 1984-88 1304.13 Selected Equity Market Statistics for Latin

American Countries 131

LIST OF FIGURES

Figure No. Page No.

1.1 Growth in Minor Exports and the Real Exchange Rate 121.2 Total Factor Productivity Growth and Total Input Growth:

International Comparisons 22

2.1 QR Coverage and Concentration of Production 612

VZCUTIVZ SUMARY

1. This report assesses the performance of the Cclombian industrialaector, and examLnes the relationship between industrial performance andtrade, regulatory, and financial policies. The report seeks explauations forthe allepgd lack of dynamism of Colombian industry -- the failure of resourcecto move into areas of evolving comparative advantage, and a lack of ability toreduce costs and improve international competitiveness. Policyrecomendations are focused on the objective of raising a-locative andproductive efficiency, in order to increase international competitiveness andspeed adjustment to changes in markets and technologies. The report isdesign d to provide analytical support to the Government's industrial strategyand a basis for industrial and trade policy discussions between the Governmentand the Bank.

2. In 1984 the Government adopted a macroeconomic program ofstabilization with growth. The program emphasized fiscal and exchange ratepolicies as instruments to achieve internal and external balance. The resultsof the adjustment program were impressive -- the fiscal daficit wassubstantially reduced, and real GDP and manufacturiDg sector growth averaged5Z during 1986-88. Strong growth in non-coffee exports -- particularlypetroleum -- and the 1986 coffee boom improved the current account from aposition of deficit equivalent to 62 of GDP in 1984 to a small surplus in1987.

3. Despite the encoaraging recovery of GDP and manut c:uring followingthe adjustment program, a closer look at some irdicators ot 4.ndustrialperformance suggests that the recent growth of the industri, sector, andindeed the experience of the sector since the mid-1970s, has - -rowthwithout change, and growth at high cost. A lack of structural ca.. we' isevidenced by the fact that the contribution of manufacturing to GDP hasremained relatively constant, contrasting with the experience of some 3thernewly industrialized countries that have seen more dynamic manufacturinggrowth. The paze of diversification into intermediate and capital goodsindustries has slowed, and the share of nondurable consumer goods in Colombianmanufacturing is now high comptred to much of Latin America and other newlyindustrialized countries. Raecent non-traditional export growth has beenconcentrated in a few products, and the value of minor exports has just nowrecovered to its pre-recession level. The export orientation of mostindustries is low and in many cases below that of the 1970s; exporting remainsa marginal activity for most industrial firms. Thus, a fundamental shift inthe structure and market orientation of industry does not seem to haveoccured.

4. An esti -tion of total factor productivity growth, both for theeconomy as a whole and for the manufacturing sector, indicates that recentoutput growth has been costly, in the sense that it has been mainly due toexpansion in tie quantities of resources used (primarily cap al) rather than

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increases in the efficiency of resource use. Low and frequently negativerates of productivity growth were evident not onlr during the recession of theearly 1980s, when capacity was underutilized, but also during the economicexpansion of the late 1970s and the recovery of the mid-1980s. Theseproductivity estimates suggest that significartlv higher economic growth couldhavu boen achieved if productivity levels had merely stayed constants during1977-87, the fall in productivity growth reduced the growth rate ofmanufacturing output from 6.1x to 4.9?, and improvementr in the efficioncy ofresource use would have raised output growth above 6.11. For the future, thefailure to increase productivity is problematic not only from the standpointof Colombia's ccmpotitiveness in international markets, but also becausecontinued output growth achieved by using ever gruater quant' ies of resourcesmay be unsustainable.

5. The report focuses on the degree of competition facing industrialfirms from both internal and external sources, and how this competitivepressure (or the lack of it) may explain the level of efficiency of differentsegments of the industrial sector. As in many developing countries, the smallMse of the Colombian market comb'ned with economies of scale in productionencourage oligopolistic market structures and limited internal competitivepressure. The concentration of production in the industrial sector appears tohave increased during the last twenty years, particularly in intermediate andcapital goods industries. The historical tendency toward concentration ofonnership and control via horizontal and vertical integration has become muchmore prevalent, implying more limitsd internal competition and moresignificant barriers to entry than are suggested by traditional measures ofdomestic concentration.

6. While the trade policy reforms undertaken in the 1984-86 adjustmenLtprogram eliminated a number of import restrictions, the reform program did nottundamentally alter the inward orientation of the trade regime. Importscontinue to be restricted via prior license requirements for the majority ofdomestically produced goods, with little or no regard to price or Cqualitydifferences. The coverage of local industry by quantitative restrictions,estimated at 841 of domestic production in 1989, is high by internationalstandards: during comparable time periods. the coverage of domesticmanufacturing by quantitative restrictions was 181 in Argentina, 412 inBrazil, 232 in Mexicu, and 482 in Venezuela, and more recent trade reforms inthese countries have further lowered quantitative restrictions. While thedegree of constraint of the licensing regime has been eased during periods ofrelative abundance of foreign exchange, the system introduces an element ofuncertainty and lack of transparency for both consumers and producers. Theanti-export bias of the trade regime continues to eesult in a low exportorientation of industry and a lack of export diversification, further limitingcompetitive behavior among firms in export markets.

7. The empirical analysis of this report suggests that the low degree ofinternal and external competition have been factors causing the industrialsector's disappointing productivity growth and lack of international pricecompetitiveness. The welfare losses of the imperfectly competitive domesticmarkets, reflected in higher price-cost margins, are reinforced by the lick ofcompetition from imports. In thls sense the current trade regime, which

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grants nearly complete protection from imports to domestic producers, protectsthe ability of oligopolistic firms to earn excess profits. The pricediscipline eftects of higher rates of import penetration are greater in moreconcentrated industries where the ability to earn excess profits is higher,and the effects are greater for larger plants.

8. Both internal and external competition are also related to dynamicefficiency. Higher rates of total factor productivity growth are observed inindustries with a more competitive domestic market structure. Higher rates ofproductivity growth are also associated -eith increased import penetration.Import discipline seems to have a greater efficiency-improving effect in moreconcentrated industries -- i.e., those that face little ,ompetition in thedomaestic market -- implying that the efficiency benefits of tradeliberalization would be higher in more concentrated industries.

9. The relationship between competition and performance clearly pointsto the need fcr aggressive pro competition policies, both internal andexternal. While competition policies on both fronts are important, and infact may be complementary in many cases, there is an argument for makingexternal competition policy the leading policy effort. First, by its verynature the trade regime restricts import competition across a wide range ofdomestic production, so that a general liberalization would be expected topromote efficiency improvements across many subsoctors. Second, in industriescharacterized by economies of scale or other natural barriers to entry,imports may be the only source of significant competition. Finally, thedesign of policies to increase internal competition, both as a complement tothe trade reform and as a means to improve performance in industries in whicha concentrated domi.stic market structure is the main cause of inefficiency, ismore complex. The analysis of this report suggests that the focus of policiesto incrpAse domestic competition and facilitate entry should be the financialsector. In addition, anti-monopoly legislation and regulations restrictingnon-competitive behavior will need to be strengthened and applied.

10. With respect to trade policy, a pro-competition stance requires afundamental shift from past attempts to protect inf- industries from importcompetition that relied on the hope that the provisbn of a wide "marg.n ofinefficiency, would give them the ability to mature and become morecompetitive. It must be recognized that while this import-protection strategywas useful during the initial stages of industrialization, it has becomecounterproductive. The trade regime has protected the position of inerficientincumbents, perpetuating their infancy. Trade policy must now focus on givingfirms the incentive to become more efficient, by exposing them to the forcesof international competition.

11. To bring international price pressure to bear on domestic industry,the trade policy reform should begin by changing the main instrument ofprotection from quantitative restrictions (import licenses) to tariffs and theexchange rate. To achieve greater neutrality across markets and industrialactivities, the level and dispersion of protection must be reduced. Thiswould imply reducing the number of tariff rates, the average tariff, and asubstantial reduction in the maximum tariff, while at the same time reducingtariff exemptions granted to both public and private sector importers.

Greater relianco neods to be placed on the exchange rate as the mininstrument of export promotion and officient import substitution. Furtherexchange rate adjustamets would *ncourage *zpansion of the traded goodssector. Reform in the iport regime should be accompanied by reductions infiscal incentives (CZRTs) and subsidized crodit for exports, with exportcredit offered only at interest rates cospatible with those which prevail fordomestic economic activity. Finally, the Governmat should continue itsprogram of l proving the customs administration.

12. The Government has recently announced a plan of trade policy reformas an integral part of a five-year program to modernize the economy. Theprogram is to begin by replacing quantitative restrictions by equivalenttariffs, followed by a reduction in the level and dispersion of protection.There would be an increase in the role of fiscal, monetary, and exchange ratepolicies to achieve external balance. The program would also includeinstitutional reforms to encourage exports and discourage unfair tradepractices.

13. The program represents a sigiiificant initiative on the part of theGovernment to increase the exposure of Colombian producers to importcompetition and to gradually reduce the anti-export bias present in thestructure of trade incentives. A central issue now is the need to put thetrade reform program in the context of the medium term macroeconomicframework, detailing policies to be taken to adjust to the balance of paymentsimpact of the trade reform itself as well as other policies to improve theefficiencf of resource allocation and to maintain internal and externalbalance. In addition, it would be advisable to set (and announce)quantitative targets for the t-ansfer of products to the free import list andthe structure of tariffs throu&nout the reform period.

14. 'urning to other industrial policies, the report finds that the taxregime, as a result of the 1986 :eforms, is basically neutral in its incentiveeffects across industrial subsectors. Thus tax incentives do not seem to beacting as a barrier to entry and competition, or biasing resource allocationacross industrial activities, as they do in many developing countries. On theother hand, the function of the seemingly ad hoc system of price controls isunclear. The usual objectives sought by countries applying price controls donot seem to have been achieved by their use in Colombia. For example, it doesnot appear that price controls have been used to limit the ability ofoligopolistic firms to earn excess pro'its, since not all industries with aconcentrated market structure are so regulated. Neither do price controlsseem to be used as a mechanism of providing basic necessities to lower incomesegments of the population, since they cover only a few items, and notnecessarily the most important items, in the consumer market basket. Inindustries subject to price controls, the cost-based price adjustmentmechanism may be disadvantageous for dynamic efficiency, as firms have littleincentive for cost discipline. Though the Government has moved to redu.e thecoverage of price controls, it would be recommendable to eliminate thesecontrols altogether, in concert with trade policies to increase externalcompetitive pressure and industrial policies to reduce barriers to entry andgrowth.

15. The report Investigate* the mobility of non-financial resources inthe industrial sector, snd the extent to which cortain structural and policyfactors act as barriers to resource mobility. In labor markets, high non-wage benefits contribute to the relatively high labor cCbt9 in Colombiarelative to other developing countries, though to som extent non-wagebenefits have substituted for wages in total labor compensation. While laborlegislation has not been the only cause of high non-wage benefits, soeregulationa governing severance payments, in particular the retroactivLty ofcesantia payments, are important contributlng factors. RegulatLons designedto protect workers from arbitrary dismissal increase the costs of layoffs tofLrms, thereby reducLng labor sobllity, but the sharp lncrease in requiredpayments after an eployee's tenth year of service leads to premature layoffsbefore the tenth year. StrLngent labor regulations encourage evasion byfLrms, reflected in the frequtent use of temporary contracts and a largeinformal labor market. Labor legislation reforms should focus on eliminatingthe retroactivity on partlal withdrawals of the cesantia regima, replacing thevension-sancion with a more complete pension system that does not suffer frominflationary erosion, and converting the accion de reintearo system into anunemployment insurance scheme.

16. The structure of financial markets and the incentive effects offinancial policies affect industrial performance directly, through theirimpact on the availability and cost of financial instruments, and indirectlvthrough their effects on industrial market structure. The report finds thatfinancial sector inefficiency and the distortionary effects of some financialpolicies have had significant effects on the financial behavior of industrialfirms, and have reinforced the concentrated structure of industrial markets.

17. The oligopolistic structure of the financial sector and, untilrecently, restrictions on the entry of foreign-owned banks have reducedpressure on financial institutions to minimize costs. The high operatingcosts of financial institutions have been one cause of large intermediationmargins. The other major factors, explaining an estimated half ofintermediation margins, are the high reserve requirements and mandatoryinvestments required of financial institutions. In turn, high intermediationmargins affect industrial performance by increasing the cost of credit andencouraging an industrial market structure conducive to interfirm credittransactions.

18. The subsidized directed credit system has distorted relative costs infavor of debt rather than equity financing, resulting in a highly leveragedfinancial structure of industrial firms. The availability of subsidizeddirected credit may have also led firms to choose more capital intensivemethods of production, contributing to the capital-using pattern of industrialgrowth of the industrial sector.

19. The existence of subsidized directed credit also has perniciouseffects on the structure of financial and industrial markets. In financialmarkets, though directed credit has been intended to be a partial solution Ltthe pro-lem of market failure for private long term credit, the fact thatdirected credit offers a cheaper alternative to other financing options mayhave been part of the reason that private long term credit markets failed to

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develop. The notable decline in the importance of securities markets andunderdeveloped capital markets in general has been partly a result of theeffects of tax incentives and directed credit on financing choices cf firms.Finally, subsidized directed credit has provided a source of low-cost fundsthat has encouraged the growth of the interfirm critit maket.

20. In the industrial sector, the distribution of directed creditreinforces the imperfectly competitive structure of indastrial u.arkets. Sinceintermediation margins on directed credit are fixed, credit tends to beallocated to larger and more well-established incumbents (except for thespecial SHE window). This works to the disadvantage of medium-scale firms,those wviti higher risk (such as new firms or firms financing non-traditionalactivitiec), and those without a close relationship with a financialinstitution. For this reason the system of subsidized directed credit withfixed intermediation margins can also be seen as a barrier to entry, growth,and change in the industrial sector. The desire to obtain subsidized directedcredit also leads firms to form industriallfinancial conglomerates.

21. Recent financial policy reforms have addressed some of theseproblems: the burden of reserve requirements and mandatory investments hasbeen reduced; a law has been passed to allow greater competition from foreignbanks; the volume of directed credit to industry has declined; interest rateson most directed credit lines have been made variable and brought closer tomarket levels. The analysis of this report points to the need to continuefinancial policy reforms in these directions. Efforts to increase competitionin financial markets should go beyond encou.-aging entry of foreign banks, toreducing barriers to entry of new domestic competitors and harmonizingregulatory requirements across different types of financial institutiorAs. Thesubsidy element of directed credit should be eliminated and intermediationmargins freed, maintaining voltme only transitionally for the purpose of termtransformation. The reform of directed credit would need to include theelimination of the subsidy element of PROEXPO financing, in line with a tradeprogram that uses the exchange tate as the principal instrument of exportpromotion. These reforms will allow a reduction in the burden of mandatoryinvestments, the main source of funds for directed credit. Moze aggressiveefforts will be needed to encourage the development of capital markets.

22. The report is organized as follows. The first chapter providesfactual background on the composition of manufacturing production and trade,and indicators of industrial performznco- The second chapter explores therelationship between industrial performanc;, and internal and externalcompetition. The following chapter focuses on the mobility of non-financialresources in the industrial sector, and the extent to which certain structuraland policy factors act as barriers to resource mobility. Chapter 4 examinespatterns of industrial finance, and attempts to identify financial sectorconditions and policies that have a negative impact on industrial structureand performance. The final chapter analyzes the institutional frameworkwithin which industrial and trade policies are designed and implemented.

CHAPTER 1: INTRODUJCTION

1.1 Economic Recovers Since 1984

1. The economic adjustment program initiated in 1984, which included adrastic reduction of the fiscal deficit, major devaluation of the peso, andmodest liberalization of external trade, restored internal and externalbalance in th_ economy. The fiscal deficit was reduced sharply from a peak of6.82 of GDP in 1984 to 1.42 in 1987 and 2.21 in 1988. After a perio.d ofrecovery, the economy grew strongly at 5.82 in 1986 and 5.3Z in 1987, beforeslowing to 3.7Z in 1988. The unemployment rate fell by about four percentagepoints to around 102 by December 1987, and remained at about that level during1988. Investment growth (mainly private investment) was a dominant componentof the growth of domestic demand, contributing 302 to the increase in totaldemand. The restraint in public consumption and investment also made possiblea strong recovery in the growth of private consumption.

2. A distinguishing feature of the 1986-87 economic recovery was theimpressive growth of the industrial sector. Real industrial output grew 6.0Zin 1985, 11.31 in 1986, and 6.31 in 1987; the manufacturing sector (includingcoffee) registered growth rates of 3.0Z, 5.92, and 5.02, respectively. Itshould be noted that some of the swift recovery in manufacturing outptut waspossible because of an increase in utilization of existing capacity, evidencedby a decline in the incremental capital-output ratio during 1985-87. In 1988,industrial and manufacturing growth slowed to 2.22 and 2.3Z respectively.

3. By late 1984, the pace of exchange rate depreciation increased to arate greater than the differential between domestic and foreign inflation.Between the last quarLer of 1984 and the last quarter of 1986, the exchangerate depreciated by 392 in real terms. Exchange rate policy since December1986 has been to maintain the real exchange rate attained in that month. Inspite of the 1987 decline in coffee prices, the current account balanceimprovee from a deficit of 6.02 of GDP in 1984 to near balance, andinternacional reserves recovered to above 5 months of imports of goods andservices by end-1987. Non-traditional export growth was particularly strong:non-coffee exports grew 242 in 1986 and 572 in 1987 in U.S. dollar terms.

4. Colombia's impressive macroeconomic and industrial performance in themid-1980s seems inconsistent with claims by some that the industrial sectorlacks a certain 'dynamism' -- that resources continue to fail to move intoareas of evolving comparative advantage, and that industry lackscompetitiveness in international markets. To provide information on thedynamism and efficiency of the industrial sector, the remainder of thischapter looks back over a longer period of time and in more detail. at someindicators of industrial performance -- the share of manufacturing in GDP andcomposition of manufacturing production, the growth and diversification of

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manufactured exports and the export orientation of domestic producers, andproductivity change.

1.2 Indicators of Industrial Performance

1.2.1 Growth of the Manufacturina Sector

5. The 1967-74 period was characterized by significant g owth anddiversification of Colombian industry, both as a result of import substitutionand export expansion. Manufacturing output grew by 8.6Z per year in realterms (Tables 1.1 and 1.2). Thereafter, the macroeconomic problems associatedwith a boom in world coffee prices in 1975 led to an actual contraction of themanufacturing sector which, together with low growth in 1977, gave the 1975-79 period an average annual growth rate of 4.11. With the end of the coffeeboom of the late 1970s, and a macroeconomic policy framework generallyunfavorable to industrial development, manufacturing output fell by an averageof -0.5Z per year during 1980-83. However, the decline in Colombian industryir the early 1980s was less than in other Latin American countries.

6. As noted above, the years 198" to the present represent a period ofimpressive macroeconomic recovery and in.ustrial growth. Manufacturing outputrecovered more quickly in Colombia than in the rest of Latin America.However, the manufacturing growth rates of the 19809 recovery have not yetreached those of the late 1960s and early 19709.

7. The share of manufacturing in GDP has remained relatively constantsince the late 1960s. In 1987, non-coffee manufacturing comprised 192 of GDP,compared to 17Z in 1967 (Table 1.3). Small variations around this levelfollowed the output trends described above: the share of manufacturingincreased during 1 67-74, declined during 1975-83, and rose somewhat duringthe adjustment pexiod beginning in 1984. Agriculture has declined inimportance, from 26.6Z in 1967 to 21.62 in 1987, and the services sector hasexpanded.

8. The importance of industry in Colombia has been and continues to belower than in other Latin American countries and newly industrializingcountries (NICs). In 1985, the industrial share of GDP was 28.92 in Colombiacompared to 39.12 in Latin America and 37.12 in NICs; in developed marketeconomies, the share was 35.62. Correspondinglf, the share of services inColombia was larger than in the rest of Latin America and NICs. The stagnationof manufacturing's share of GDP in Colombia contrasts with the experience ofsome other NICs (e.g., Korea, Indonesia, Thailand, the Philippines, Turkey,and Mexico) that have seen more dynamic manufacturing growth (Table 1.4).

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TAKE 1.1: Mlaufacturing u uwt y Sbseetor(19N5 Col WII lea1t)

1966 1V, 1_ 1is 1617

TOTAL 132.7 336.' MK. go.6 6.7

NMe-urable Consumer Good. 6.7 125.1 1n.$ 157.1 172.4

Food5 U.1 37.1 115.$ 121.1 182.6Othr food products 46.3 63. 90.1 4.7 In.&s.ora.e 6.6 14.6 21.7 22.2 24.6Tocco 2 3.6 4.4 1.7 4.3 4.1

ToKti lea, Clothing, Loather 22.6 6.9 09.6 ".0 49.4

Durabl- Consumer A Intermediate Go*o 44.8 91.1 13 7 114.5 13.6

Wood Indu telte & Furniture 2.9 4.2 4.4 4.2 5.2

Paper Products to rinting 6.2 14.6 16.9 29.4 23.6

Chemlcal. A Rubber Product. 16.5 6 7.0 44.4 46.9 54.6

Petrolem Refining Product. 6.5 10.4 11.1 14.9 13.6

Mon-Metal Mineral Products 4.6 7.9 10.6 11.1 13.3

Basic Metals 8.2 16.5 19.1 17.9 29.6

Capital Goods 5.7 13.6 23.3 24.7 25.9

Machinery A Equipmnt 3.7 9.6 12.8 12.3 13.7

Transport Equipment 2.9 6.2 11.9 12.4 12.2

Other Industries 1.6 2.5 C .3 3.6 4.6

Source: DANE, National Account.

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TANA 1. 2 Menufacturig Output Greoth

1#7-74 1974-79 1979-0 11081-1

TOTAL O.OX 4.1X -8.5X 4.0X

Nes-Durablo Consumer Goeods 6. 4.83 4.5 8&.8

Food 6.OX 5.82 1.83 2.8XOther teod product. 5.73 5.4X 1.2X 2.51Beverages 7.6x 6.3x 1.83 S.1sTobacco 6.1X -4.09 1.2X 4.8X

Textiles, Clothing, Leather 7.73 2.5X -5.7X 4.0X

Durable Consumer A Intero Gd 10.7X 3.03 0.23 5.9X

Wood Industries A Furniture .4X *.2X -1.83 O.9X

Paper Products A Printing 18.2X 4.7X 0.7X 6.1X

Chemicals A Rubber Product. 12.6X 8X.x -S.a S.4X

Petroleum Refining Products 7.1X 0.83 5.9X 8.9X

Non-Metal Mineral Products 8.53 .6ex 1.4X 5.3X

Basic Metals 10.73 3.6X -8.3X 65.X

Capital Goods 15.13 6.83 -4.OX 7.83

Machinery A Equipment 15.1X 5.6X -8.63 6.3X

Transport Equipment 28.1X 6.83 -4.5X 9.0e

Other Industries 7.9X 4.8t 4.X 7.1X

Source: DANE, National Accounts.

Notes: Growth rates are simple avorage of annual growth rates.Growth of Manufacturing Output in 1975 Colombian Pesos.

-5-

TAKLE 1.8 $ hre of W by Secor

9117 1174 11 11 4 11 1416

PhIY 16.6N 18.11 ".X 22.11.21 11.13 21.83Agriviter., Fishing, Forestry 26.6X 28.11 22.71 22.23 2 l. 21.311.

SECOUAR (DOUSUM 1.4X 119.6 23.x3 21.0 80.4X 8.21MimIng 21.3 1.7X 1.81 1.73 4.21 4.21Manufacturing 21.1X 2.53 221.81 21.21321.43 11.11

Coffee 8.6 2.61 8.811 J." 2.61 2.81Other 17.83 12.71 16.1 16.213 1U.S1 16.8X

E IetrIcIty, Gas, Water 6.7x 9.sx1 1.1X 1.1 1.1X 1.1XConstruction 8.71 8.61 8.41 4.13 8.731 8.6

TERTIARY (SEICES) 42.5 44.6X 46.4.61 47.6X 48.nCommere s.2x 18.8 11.73 12.83 11.6X 11.61Transport, Storage, Communications 7.3X 3.5X 9.8X 9.61 6.61 o.7xFinancial Estabi ahmentn 14.11 18.7X 14.6 14.4 14.13 14.2XCommunity, Social, Pereonal Services 14.21 11.9X 12.7X 1t.2X 18.8X 18.3

Minus Imputed Bank Service. -2.8X -2.6X -2.73 -2.73 -2.15 -21.1

VALUE ADDED 97.1 97.71 96.6X 97.13 07.2X 07.xIndiroect Taxes 2.5a 2.8X 8.41 2.sx 2.61 8.61

CROSS DOMESTIC PRODUCT 116.61 11.61 1wX .X 16.13 1.01 1S.13

Source: DAVE, National Accounts.

TABLE 1.4 : Manufacturing Shere of OP: Intornational Comprliono

Country Manufacturing Share of COP

1#67 1917

Colombia 1o1 19X

Koreo 1x UNXInd'neoi a BX 14XThailand 143 24XPhilippines 2X 26XTurkey 16x 26XMaxico 26X 26X

Source: World Bank, Wor1J Development Report 1169.

-6-

1.2.2 The Comosition of Manufacturina Output

9. The structure of Colombian industry diversified rapidly in the firsttwo decades following World War II, from predominantly traditional consumergoods (851 of manufacturing value added in 1945) toward intermediate products,reflecting the strategy of import subatituting industrialization. Growth wasparticularly evident in steel, chemicals, petroleum refining, and paper. By1966, intermediate goods accounted for a larger share of manufacturing valueadded (432) than was the case for other newly industrializing countries S371).

10. During the 1967-74 period of export-led growth, expansion of capitalgoods industries, at almost 18Z per year, exceeded the 81 annual growth ofnon-durable consumer goods and capital goods, and was also greater than inother NICs. The pace of 4iversification into capital goods slowed after 1974,and the concentration in chemicals and basic metals which Colombia haddeveloped relative to other NICs disappeared by the 1980s.

11. In 1987, ncndurable consumer goods (food products, textiles,clothing, and shoes) accounted for over half of manufacturing output, aproportion that has remained fairly constant over the last ten years but isbelow the proportion that prevailed in the mid-1960s (Table 1.5). Durableconsumer goods and intermediate goods accounted for 402 and capital goods 82.International comparisons show that the share of nondurable consumer goods inColombia is now high compared to other Latin American counLries and NICs. In1985, food products accounted for 38Z of manufacturing value added inColombia, compared to 30% in Latin America, 152 in NICs, and 14X in developedmarkat economies (Table 1.6). Durable consumer goods were 40Z ofmanufacturing value added in Colombia, the same as in Latin America and NICs,and capital goods accounted for 7t, compared to 152 in Latin America, 261 inNICs, and 402 in developed market economies. Thus, a notable characteristicof the structure of Colombian industry is the stability of the share ofnondurable consumer goods since the mid-1970s, and the prominance of theseindustries in Colombia compared to other NICs.

-7-

TALE 1.5: SMre ol Maufaeberim Output by Sub eesr

197 1174 low 1i4 1337

TOT 1.11 111.4 11.41 1.11 1.

Nen-Durable Coenmer Geood 4c.11 5u.ns 5.43 U.4X 0.3S

Food 43.711 6.3X n.7rs 41.41 n.esOther ooed produst 34.6X 23.73 81.11 31.61 S 11.0s.wergr 6.73 6.23 7.41 7.41 7.23Tobacco 2.23 1.91 1.3S 1.43 1.23

Textilee, Clothing, LeAther 17.13 16.lX 13.73 12.11 11.9

Durable Consumer A Intermoeiato Goode 88.7X U.51 37.33 X 8.2S 41.11

Wood Industries A Furnituro 2.2X 1.63 1.51 1.43 1.53

Paper Product. A Printing 4.7X 6.13 6.5X 6.31 7.6S

Cheicals A Rubber Products 12.43 1S.9X 15.3X 16.63 16.1X

Petroleum Refining Products 4.93 4.43 3.93 4.7X 5.5S

Non-Metal Mineral Products 8.43 8.3X 3.6X 3.7X 3.9X

Basic Metals 6.2X 7.3X 6.6X 5.96 6.3X

Capital Goods 4.3X 7.6X 6.2X 6.2X 7.73

Machinery A EquIpment 2.6X 4. 1X 4.4 4.1X 4.0X

Transport Equipment 1.65 3.5s 3.61 4.13 3.63

Other Industries 1.2X 1.1X 1.1X 1.33 1.4X

Source: DANE, National Accounts.

.9...~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

TAKE 1.6 : 1hare o Maufacturing Value Added by Subeseter, 1666Intereatilel Ceperleoe

DM Nice LAC CI.

MAMUFIJACTU11N VALUE AD=S 11.11 I1.11 16.6 X .6

81 Foed, e*eraee A Tobacc 14.13 15.131 81.6 7.53

81 Textiles, Apparel * Leatber 6.43 16.63 18.61 12.73

8U Wocd a Wed Preduets 8.83 8.1X 6.1 2.2X

84 Paper A Paper Produtct .7x 4.2X 2.2X 1.93

85 Chmicals, Petroleum Products 16.9X 17.63 16.1X 21.tX

86 Nor-Metolic Mineral Product. 5.13 6.63 5.63 5.6x

87 Basic Metal InduW4.;os 6.63 9.3X 8 .X 5.23

Metoal Products, Mach, Equip 89.53 26. x 15.43 7. X

89 Other Man 'acturing 1.43 2.13 6.8X 21.X

Not.: OMEs a Developed Market EconomleNICn * Newly Industrialized CountriesLAC a Latin America and the CaribbeanCol a Colombia

1.2.3 Export Growth and Export Composition

12. The predominance of coffee as Colombia's main export has leclinedsince the late 1960s, from over half of total goods exports to an average of421 over 1984-88. Manufactured exports grew and diversified, particularlywith the increase in exports of petroleum products (Tables 1.7 and 1.8). Thegrowth of manufactured exports was higher during the late 1960s and early1970s than it was during 1975-85, partly due to a reversal of export growthover 1978-83. Garcia-Grrcia (1987) shows that manufacturing exports grew 13-16Z during 1965-74 (depending on whether the definition of manufacturingincludes all manufacturing, excludes agricultural-based manufacturing, orexcludes agricultural and petroleum refining), compared to -1lZ to -57 during1978-83 (Table 1.9).

~~~-9

TARLE 1.7: Mbnufactured ExportsCUS M Ion)

1974 1906 1964 1967 19m

TOTAL 656.9 1199.9 1196.9 1002.6 1744.2

Non-4urable Consume Goods 3. 608.4 *7.4 514.6 65.6Food, Bev, Tobacco 189.6 515.6 161.1 196.4 246.4Textiles, Clothing, Leather 161.4 3.6 146.5 815.6 416.6

Durable Conumer A Intormdltoe Goods 273.2 n79.7 793.9 924.2 366.6Wood Industries A Furniture 36.6 14.9 7.7 17.9 11.3Paper Products & Printing 14.0 71.9 71.4 128.4 111.6Chemicals, Rubber, Petrol Products 198.3 217.0 664.8 648.6 511.5Non-Metal Mineral Products 25.6 71.5 84.5 55.3 58.1gasIc Metols 6.P 3.6 76.6 64.6 160.6

Capitol Goods 52.6 187.9 55.7 1in 5 106.4Metal, Machinery, Transport 52.6 137.9 55.7 I"6 6 106.4

Other Industrioe 26.1 76.9 *909 68.3 15. 2

Source: DANE.

TABLE 1.8: Share of Manufactured Exports

1974 1966 1964 1967 196

Ti nAL 166.61 166.61 16.61 1006.61 106.61

Non-Durable Conumer Goode 46.7X *. 1X 25.9X 82.11 36.11Food, Bev, Tobacco 21.2X 26.2X 18.61 12.41 14.?'ATextiles, Clothing, Lether 25.61 24.1X 12.81 19.71 2 9X

Durable Conouer A Inter-dist. Goods 41.5 1 .81 e 6. 91 57.7X 49.1Wood Industrie2 A Furniture 4.61 1.21 6.61 1.11 6.71Paper Prod...t. A PrintIlg 2.11 6.61 6.11 7.7x 6.41Chemicals, Rubber, Petrol Product. 29.41 16.21 56.91 46.21 26.8XNon-Metal Mineral Products 8.0X 5.9X 2.9X 8.51 8.*XBasic Metal.* 1.2X 6.ax 6.41X .2X 10.4X

Capital Goods 6.61 11.5X 4.tX e6.a1 6.1Met l, Machinery, Transport 3.X 11.5X 4.71 6. 8X 6.6

Other Industries 4.6X 6.6x 2.5X 4.61 6.61

Source: DANE.

- I0 -

TAU 1.0 a aport Growth Et., 1665

165-74 1P446 1P43 136-5

q~~~~~~~~~~$S -. S - - - s._1_

Nee-Ceffe. Aylister.l (1,3) 6.5 -eel -4.1353_I_mrnetemls I (0-11, U-IS) 14.13 6.13 -5.43 .MIfecurlrw It (15-13 13.3 1.13 -. 65 6J.7

me"feeterlas II (1W1, 011-1) 15.61 J."3 -W.0 0.1sGeds (1-1) l." 1.65 -1.6 4.03seeldN sd elose 5.1 3.65 -1.43 4.4X

Se": Garcla @arch, (IS) Table S. Nu*mer In perenthese retfr toee_te setore as dredl by DANE.

13. Since the beginning of the adjustment program in 1984, non-coffeeexports have increased, and had particularly impressive growth rates in 1986and 1987 (Table 1.10). In 1986, non-coffee exports grew 24Z in U.S. dollarterms; in 1987, though coffee exports declined 402 with the fall in the priceof coffee, non-coffee exporta grew 57S. A decline in petroleum exportsassociated witL guerilla activity contributed to 1OS decline in non-coffeeexports in 1988.

14. A closer look at the export data shows that even the significantexpansion in non-coffee exports in 1986-87 did not represent a significantdiversification of exports nor a fundamental shift in the export orientationof the industrial sector. The majority of the increase in ron-coffee exportsduring the economic recovery was due to growth in exports of petroleum, coal,and nickel. 'Minor exports', including agroindustrial, industrial, and miningproducts, increased at lower rates of 21Z in 1986 and 141 in 1987 and 1988.In 1988, minor exports amounted to US$l.780 billion, only 72 more than their1980 value of US$l.668 billion. The increase in minor exports during therecovery period was largely explained by the significant real devaluation ofthe peso that was a cornerstone of the adjustment program (Figure 1.1).

TAKS 1.19: Tsl i-rl, 1_1"

i1 lo 1904 i* am so9_ am

IWAL 4# 11 am am gm mm

C f_ an 1s 1784 im 14 19 10

NO*-Co efs gm 170 IK Ml MlW 46 11Pebrle1_ in 1s1 441 460 1141 1911Coal 19 .4 8 13 U US 8Nickel 0 a a 4U 70 1inMi or xwert. s6n 1171 *O 1126 I8" 1567 170Gold 1s 1 1245 Su t 792 419

Souroe. Benco de I Rqwubileo, ftvlta

1S. With4n the category of minor exports, agroindustrial exports grew atan average annual rate of 18Z during 1987 and 1988, and industrial exportsgrew at an average annual rate of almost 21Z. Accounting for most of thegrowth of agroindustrial exports were three products: bananas, flowers, andcotton (Table 1.11). For industrial goods, the leading performers weretextiles, garaents, leather, and shoes industries (402 average annual growthin 1987 and 1988), followed by industrial chemicals (22Z), and paper andprinting (llZ). Remaining industrial exports had growth rates below 1OZ peryear in nominal dollar terms. In other words, the recent diversification ofexports into minor exports was not generalized across a wide range ofprc.'ucts.

Figure 1.1

Growth In Minor Exports and the Real Exchange Rate

'U~~~~~~~~~~~~~~~~~~~~~~~3

'/ 0

t_l ~ ~ ~ ~ ~ ~ ~ ie t ut_

| RER (12186-100) -- Growth in MinorSourRe (12/86-100)cExports (%/yr.)

Source: Banco de la Republics,.

TANA 1.11: CempOolti. of Milser 9xperW, 186646(as X of Tot., ft"ort)

1ifS 1967 11 _

AOROINUThAL M.4 a7.1 M.so oft Agroidustriala 664178.

Bananas 111.0 41.7 FFlowers 8.2 27.4 30.8Cettoft 18.6 6.6 9.4Shellfish 6.2 7.9 5.8mot 1.5 4.8 1.5Tobacco t.2 8.J 2.6Cocoa 1.5 2.9 8.0Frults and vogotablos 6.9 1.7 1.2Other 6.1 2.8 11.0

INDUSTRIAL 57.6 58.6 55.1as X of Industrial:

TextilIs, garments, loather, shoos 27.8 81.9 84.5Industrial chemicals 21.9 23.7 17.6Food product. 13.6 12.5 6.5Paper and printing 11.4 15.4 11.1Motel products 11.9 6.J 7.8Construction m0terlels 658 6.9 7.9Wood and furniture 2.6 1.0 7.9Other 1.5 1.8 7.9

MINING 3.4 4. a.cas X of Mining:

Precious stones 61.3 981 8.8 Other 86.7 1.9 16. 7

Source: Banco do Is Ropublics, Revists.

1.2.4 Import Orientation

16. The export orientation of the industrial sector r maIns lowsanufactured exports were 6.32 of do ntic production in 1966, below the ratioof 7.53 in 1975 (Table 1.12). The largest decline in export orientation waslc ao-durable con uer goods (.1 In 1975 to 5.11 In 1986), ccpepnatedsomwhat by the increased export orientation of the petroleum sector(increasing fro- 32.61 Iu 1975 to 69 72 in 1986). Non-petroleum non-durableconsumer goods and intoimdiate goods increased from 6.91 to 8.21, and capitalgoods declined soewhat from 3.31 to 4.31. At a more disaggregated level,export orientation in 1966 was not significantly different than it was in thelate 19703 for *may of the products that have ezperienced significant exportgrowth (e.g., textiles, industrial chemicals, paper) (Table 1.13). The onlynon-petroleum, non-mineral industry to register significant growth in exportorientation was the leather industry (from 241 in 1977 to 322 in 1986).

TABLE 1.12: Export Orlentation of Maunw icturing(1 of Production Exported)

1975 1906 1964 1906

Total oxcl. petroloe 7.5 7.C 4.8 6.3

Non-durable consumer gooda .1 7.2 4.4 5.1

Durabl, conumer 2oods and 19.1 1.4 11.7 16.4Intermediate goodsR fInod petroleam 32.6 31., 52.6 69.7Other 6.9 7.9 6.9 8.2

Capital goods 5.3 6.7 2.1 4.9

Othor 0.4 16.7 5.4 7.2

Source: Banco do Io RepubiIco, Rev Ieta.

- i5 -

TABLE 1.13: Expert OrleaUtles by -O4git ManufeoUring Sub eeetr

1077 1976 1979 1DU lN" 166

I11 food Producte 5.2S 5.61 X .3 6.71S 4.11 41.7313 0eversge 6.0 6.6 6.63 X.6x 6. S X.23314 Teowo 6.23 6. 6.711 6.61 06.4 6.5311321 Textilso 7.1X 7.33 7.53 S J.3 95.0 7.7X322 Apparel 1.41 14.6 23.63 1 1.3X 1609. 17.0323 La4thr 23.6J 23.63 19.2S 15.2X 26.71 32.63324 Shoes 12. S11 l. 1 X 11.3 11.1 9.4X 14.43331 Wood 16.03 11.23 16.4X 11.71 14.33 17.X332 Wood Furniture 1J16S 1323 160JX 4.1 6. 7X 13.5X341 Paper 4.43 8.4311 4.4 6.4 3.411 5.11342 Prlnting 186.S 25.5 16.15 11.2% 3.aSE 18.?X351 ChomTcal Pr*ducts 4. S 4.3J 4.91 S.2N 5.61 S. .353 Patrol R@fti 18.9% 27.71 19.7X 8.4X A#.4X 32.61354 P.trol, Coal 14.EX 6.41 1.2X 90.91 5.61 12.63355 Rubber 3.61 1.9X 1."? 2.63 1 .5 2.2X856 Plastic 1.61 2.51 2.91 2.91 2.1N 2.21361 C.re.tics 11.53 ,86X 26.63 1.03U 5.13 6.6X3J2 Ole* 11.5X 6.7X 9.4X 16.86 4.5X 4.6X369 Other non-metal 10.1X 9.2X 1.61X 9.43 5.1X $5.X371 Iron Steel 1.2X 6.0X 6.43 *.X 10.9X 16.7X372 Non-Sorrowe metals 2.9X 1.9X 1.43 2.6X 16.5X 13.33301 Fab Metal Prodte 6.33 6.6x 9.6X 7.6X 4.1X 5.45382 Nonelec Machin 13.6X 16.6X 15.1X 13.3X 7.06 7.3X363 Eloc Machinery 3X 2.73 4.6X 3.1X 3.5X 9.23364 Transport Equip AX 2.7X 2.13 3.1X 1.2X 3.23385 Scilntif Equip 2t.OX 14.3X 39.7X 17.1X 9.3X 0.6x390 Other Manut 27.6X 16.6X 6.53X 68.6X 20.9X 27.2X

TOTAL 6.61 8.61 6.81 7.33 7.4X 7.5X

Sources: Boletin do Eatedistica, Oct-Doc, 106; Colombia Estadistica1987; DANE, 1977-1906.

17. During the last twenty years, the chief source of growth in demandfor manufacturing output has been domestic demand. Exports have been only amodest source of growth, rarely contributing more than 102 to annual outputgrowth in any subsector. In contrast, the typical NIC derived significantadvantages for growth and structural change from international marketexpansion, particularly during the late 1970s. During that period, with thereal appreciation of the peso, Colombia lost out to competitors in exportmarkets and to imports in the domestic market.

18. The data is consistent with anecdotal evidence that suggests thatexporting is a marginal activity for most industrial firms: exports expandduring short-run episodes decline in domestic demand, but most firms do nothave a long-term commitment to sell in external markets. This Lack ofcommitment to export is partly due to the greater risk and initial informationcosts involved in selling in external markets, but probably mostly explained

- 1G-

by the anti-export bias of the trade regime, which makes sales to the domesticmarket significantly more profitable than exporting. In addition, the lowexport orientation suggests the existence of dynamic inefficiencies thatresult in a lack of competitiveness in international markets.

1.2.5 Total Factor Productivity Growth

19. The level of output produced in an industry depends on the amounts ofinputs used (labor, capital, and materials) and on the manner in which theseinputs are used. An increase in output may come about by increasing theamount of inputs and/or by using a given amount of inputs more efficiently.Total factor productivity (TFPI growth refers to the latter: it is theresidual component of output growth after the share of output growthattributable to input changes has been netted out. TFP growth is meaeured asthe growthi rate of output minus the ccst share-weighted growth ratos of allprcduction inputs. Equivalently, it is the percentage reduction in theaverage cost of production, sdjusted for the share-weighted percentage changein input prices.

20. In general, technical change, scale econumies combined with outputgrowth, and/or increases in capacity utilization can lead to reductions inaverage cost and hence positive rates of productivity growth. Even withoutany change in technology, TFP growth can result from a more efficient use ofinputs by the firm. In fact, this last source of productivity growth isprobably the most important one for developing countries.1

21. Roberts (1989) measured TFP growth for each of 28 3-digitmanufacturing industries for each of ten years, 1977-78 through 1986-87,averaging the growth rates for three subperiods: 1977-80, 1980-83, and 1983-87.' The results are shown in Table 1.14. Beginning with a look at the

lNishimizu and Page (1987).

2The growth rate of total factor product'-rity in industry i between yearst-l and t is measured as the growth rate of real output minus the share weightedgrowth in labor, capital, and materials using the Tornquist index number formula:

l in TFPit - [ ln Qit - ln Qit_l ] - I SL (ln Lit - ln Lit.1)+ SK (ln Kit - ln Kit_1) + SM (ln Mit - ln Mit_,) ]

Real output Qit is measured as the nominal value of output in industry iin year t, deflated by an industry price index Pit for domestic industry output.The inputs are labor Lit, measured as the number of employees in the industry;capital input Kit, measured using the perpetual-inventory method; and materialsMit, measured by deflating the value of industry material purchases by anindustry-specific material price index. The share weights SL, SK, and SH arethe average expenditure shares of labor, capital, and materials in the value ofoutput in years t-l and t.

- 17 _

recession of the early 1980s, reflected in negative manufacturing outputgrowth averaging -1.3Z per year during 1980-83, TFP growth averaged -2.62 peryear across all manufacturing. In other words, the decline in output vasmainly due to a loss of efficiency of resource use. The results suggest thatoutput would have declined even more than -1.32 but for increases in thequantities of resources used. Equivalently, if productivity had stayedconstant, manufacturing output would actually have increased, at 1.32 peryear, during the early 1980s. Productivity growth was negative in fully 23 ofthe 28 industries (the exceptions were rubber products, glass products, non-ferrous metals, non-electric machinery, and scientific equipment). Of the 23industries with negative TFP growth, 11 experienced output growth.

22. It is interesting to note that low and frequently negative rates ofproductivity gro'th in the manufacturing sector were found not only during the1980-83 recession, but also during the prior and sutbsequent periods of outputexpansion. During the 1977-80 tibperiod, average TFP growth in manufacturingwss negative, at -0,72 per year, even though real output grew at 7.9? peryear. This saggests that if productivity had merely stayed constant,manufact.1ring output would have increaspd by 8.6? per year instead of 7.9?.Of the 28 industries, 14 had negative rates of productivity growth; of these,the majority (10) had experienced positive output growth. During the economicrecovery of 1983-87, when output growth averaged 7.4Z annually, productivitydeclined on average by -0.5? per year, with 13 of 28 industries bufferingnegative TFP growth. These results suggest that the negative productivitygrowth estimated for the early 1980s did not merely reflect low rates ofcapacity utilization, since even during the 1977-80 and 1983-87 periods ofincreasing capacity utilization and strong output growth, TFP declined.

23. Despite the fact that productivity growth was negative in virtuallyall industries in 1980-83, nine of the industries actually had higher (i.e.,less negativre) rates of productivity growth in that period than in the 1977-80 period. At the same time, of the fourteen industries with positive TFPgrowth in 1977-80, all had lower rates of growth in 1980-83. This indicatesthat the decline in the average TFP growth rate between the two time periodsis not characteristic of all industries. Rather, the decline in productivitygrowth of the initially high-growth industries more than offset the increasesin productivity of the initially low-growth industries. During 1983-87,though the majority of industries experienced improved productivityperformance, nine (including many chemicals and basic metals industries)deteriorated. Over the entire 1977-87 period, the two-digit industrias withthe lowest rates of productivity growth were basic metals (averaging -3.7? peryear), paper and printing (-3.3Z), and chemicals (-3.1?). The only industrywith positive TFP growth over the whole period was nonmetallic minerals(1.2Z).

24. These productivity estimates suggest that the main source ofmanufacturing output growth has been expansion at the extensive margin (theuse of greater quantities of resources) rather than at the intensive margin(more efficient use of inputs). In fact, negative TFP growth even duringtimes of output expansion implies that resource use is expanding at an evenhigher rate than output. Over the entire 1977-87 period, the contribution of

- 18 -

TYP growth (-1.21) to real output growth (4.91) was -24S--in other words, thefall in productivity reduced the growth rate of manufacturing output by 241.Equivalently, the fall in productivity increased the growth of productioncosts, after adjusting for changes in input prices, by 242.

2S. The productivity estimates for manufacturing are consistent withrecent estimates at the aggregate level for the economy as a whole. Garcia-Garcia (1988) finds that TIP growth averaged -0.2S per year over 1975-86,while real output grew at 3.61 annually (Table 1.15). In other words, realoutput growth was the result of a weighted average increase of 3.8Z per yearin the quantities of resources used, which more than compensated for fallingefficiency of resource use. Since 1950, aggregate economic growth has beenderived primarily from increasing inputs of labor and capital and secondarilyfrom productivity increases. Of the average economic growth rate of 4.81 perannum over 1950-86, TFP growth accounted for about 27Z. The contribution ofTFP growth to aggregate economic growth rose during the 19509 and 1960s,peaking at nearly 50 during 1967-74. Since the mid-1970s, TFP growth hasfallen, both in absolute terms and as a proportion of output growth. A malorcontributing factor has been the declining pioductivity of capital, reflectedas well in an increasing capital-output rat3o.

- 19 -

TAKLE 1.14t TOTAL FACTOR PROOUCTIVITY GROWTH Di WANUFACTIDO,G 1977-1967

PRCPJCTIVITY GROWTH S I

,~ ~ ~ ~ ~~~~~~~L LOP

81 P00, WEV, TOSCCO - .428 -4.42 0.61 9.978 9.11 0.e2811 Peed products -9.138 0.191 41.067 9.69 0.024 01.604812 Food Prdt., n.o.n. -.. -4.942 *.967 C.2e 9.42 9.122818 oveorage 9.916 -4."S -4.919 *.117 0.916 6.023814 Tobeeo -4.115 -4.9S4 9.602 0.827 9.U87 - .025

82 TEXTILES, LEATHER -.0.6 -4.941 9.929 9.942C 40.0 91.14821 Texti I.a -04098 4.957 .1.01 _d.4. -4.128 9.976822 Apparel 6.078 -0.00 6. ON 9.906 4.681 0.114828 Lather Products 9.036 -. 61 -. 676 9.940 -0.061 6.as6824 Footwear 6.945 -0.641 -O.025 6 *119 0.911 *0.77

I8 WOOD PRODUCTS .6os -O.649 0.025 9.074 9.191 0.977881 Wood Products -O.03O -J.632 6.914 6.061 6.671 *.641382 Wood FurnIture O0.71 -4.074 6.941 0.098 -0.976 *.13S

84 PAPER, PRINTINH -0.64 -o.e65 -o.eee .623 -OU4 *96C2841 Pulp, Paper -. 17 -4.056 6.029 .640 -4.019 *.e6c342 Printing -0.995 -0.655 -. 965 -0.916 0.027 -0.01

85 CHEMICALS, PETROLEUM -o.640 -4.16 -o.087 .698 -J.920 6.663351 Industrial Chemicals O.643 -4.915 0.026 o099 0.027 *.121852 Drugs, Cometics -0.018 -. 064 -4.926 9.087 -4.19 *.161854 Petroleum Prdta, Refin -0.166 -4.668 -0.112 9.2&4 -4.e24 *.eee856 Rubber Products -4.O40 0.002 -4.027 *0.12 -4.652 9.61686 Plastic Products -0,025 -4.8 -0.090 6.166 .626 6. fz

86 NONMETALIC MINERALS *.078 -o.o33 -4.eo5 9. 1SC .60 9 .os6861 Pottery, C*eramics .075 -4.665 9.S" *.14 -4.079 0.126862 Olass Products 9.931 0.001 6.weo 0.119 0.098 0.074#89 Nonmtl Products nos. 0.092 -4.064 -4.919 0.142 0.024 0.081

87 BASIC METALS 40.9s8 -o.eo4 -4.019 -9.562 o.9n S.Ob871 Iron Steel Beaic ktl -4.669 -4.618 -4.926 -4.42 0.118 0.074372 Non-ferrous Metals -4.113 0.64 0.925 -4.108 -J.07 6.115

36 METAL PRODUCTS, MACHINERY 9.011 -4.022 -4.018 9.e6 -9.oen 9.687861 Fabricated Metal Prdt. -4.e25 -0.024 -4.920 9.O66 -4.6 O.686$82 Nonelectric Machinery 0.090 6.684 -4.66 a.me3 9.al -4.681S83 Eloctrical Machinery 6.698 -0.036 6.98 6.140 -0.656 o.o8S84 Transport Equipment O.615 -6.982 -0.028 8.064 -J.126 6.169a83 Sciontific Equip_mnt 9.6" 9.e909 0.077 0.265 -4.09 6.162

89 OTHER MANUFACTURING 0.020 -C.es 9.689 6.064 -4.9W6 *.116890 Other Manufacturing 9.020 -4.9os 9.o.6 .G4 -o.oe3 6.116

AVERAGE -4.O7 -4.026 4.065 6.079 -4.18 .974

Notes: 2-Digit CIIU averages weighted by 1986 8-Digit producclon.Shore of TFP Growth In Output Growth calculated as Productivity Growth/RealOutput Orowth.

Source: 'The Structure of Production In Colombian Manufacturing Industries 1977-19605;Mark J. Roberts, May 1909 (updated by Roberts, March 1990).

- 20 -

Table 1.15: Agyegt Total Petre Productlvty G o, 196646(averane"I grew"h rot.")

low-1T 4.0 6.8 2.5 1.1 14.61166-" 4.9 *.9 2.4 1.9 89.61167-74 6.4 4.1 2.6 8.1 49.61974-4 5.5 4.9 4.1 1.0 16.0196146 2.7 4.2 2.6 -4.6 -22.0

19t 166 4.6 4.8 2.0 1.8 17.91967-86 4.6 4.4 8.2 6.9 19.5197-1116 4.3 4.4 8.2 6.9 16.6197&-4 8.6 4.7 8.2 -4.2 - 5.0

Source: J. Gercie4Qrcla, Macroeconomic Crtmm .aero.conoalc Pollies! andLon-Run Growth: Pert Ii, The Colombian Exprernce 1956-, Bogota, July 106.

26. This analysis of productivity change puts the recently-achievedeconomic growth in a new light, for it suggests that macroeconomic andmanufacturing growth has been very costly, in the sense of being veryresource-using. If the productivity decline had been avoided, these resourcescould have been used to produce significantly more output and a higherstandard of living.

27. International comparisons of economic growth and productivity changesuggest that countries can be broadly c'.assified into three groupsdistinguished by the rate of TFP growth and the contribution of TFP growth tooutput growth.3 Industrialized countries other than Japan are characterizedby low rates of factor accumulation and TFP growth, but the latter accountsfor about one-half or more of cutput growth. 'Typical' developing countriesexhibit somewhat faster growth rates of both inputs and TFP thanindustrialized economies, but TFP growth accounts for less than 20Z of outputgrowth. 'Atypical' developing countries -- including newly industrializedcountries such as Hong Kong, Israel, Taiwan, Korea, Spain, as well as Japan -- have high rates of input, TFP, and GDP growth. As in the case of thetypical developing countries, however, TFP growth plays a relatively lessprominent role in output growth than in industrialized countries.

28. The TFP, output, and input growth estimates for Colombianmanufacturing can be compared with similar data for 17 other countries (13LDCs) covering various periods during 1960-81 that were compiled by Nishimizuand Page (1987). Figure 1.2 shows TFP growth and share-weighted growth incapital, labor and material inputs for each of these countries (using 1977-83

3Chenery (1986).

- 21 -

averages for Colombis); the series of 45 degree lines represents increasingrates of output growth. The three rays from the origin show the combinationsof TVP growth and input growth that give the share of TFP growth indicated.Countries that ad manufacturing growth rates similar to Colombia's during theperiod of study (e.g., Argentina and Chile) had higher rates of TFP growth,and thus a higher contribution of TFP to output growth. Those with similarratoe of input growth (eg.., ggypt and Mexico) combined this with highor TIPgrowth to achieve higher rates of output growth. With Zambia, Colombia standsout vith its strongly negative rate of productivity change.

1.3 Conclusions

29. In 1984 the Government initiated a major economic adjustment programdesigned to restore internal and external balance, using mainly fiscal andexchange rate policies as instruments. In 1986-87, the improvement in thefiscal deficit and the trade balance, and growth in real GDP andmanufacturing, all evidenced the success of the stabilization program.

30. Despite the encouraging recovery of both GDP and manufacturing, acloser look at some indicators of industrial performance suggests that thegrowth of the industrial sector since the adjustment program, and indeed theexperience of the sector since the mid-1970s, has been growth without change,and growth at high cost. The contribution of manufacturing to GDP hasremained relatively constant, in contrast to the increased importance of thissector in other newly industrializing countries. Recent non-traditionalexport growth has been concentrated in a few products (petro'eum. coal,nickel, and some agroindustrial and industrial products), and the value ofminor exports has just now recovered to its pre-recession level. The exportorientation of most industries remains relatively low and in many cases belowthat of the 19709; exporting remaini a marginal activity for most industrialfirms. Thus, a fundamental shift in the structure or market orientation ofindustry does not seem to have occurred.

31. An examination of total factor productivity growth, both for theeconomy as a whole and for the manufacturing sector, indicates that outputgrowth has been costly, in the sense that it has been mainly due to expansionin the quantities of resources used (primarily capital) rather than increasesin the efficiency of resource use. The contribution of TFP growth to outputgrowth has been low, and frequently negative. In manufacturing, negativerates of productivity growth were evident not only during the recession of theearly 1980s, when capacity was underutilized, but also during the economicexpansion of the late 1970s and the recovery of the mid-1980s. Theseproductivity estimates suggest that significantly higher economic growth couldhave been achieved if productivity levels had merely stayed constant. For thefuture, the falling productivity of industry is problematic not only from thestandpoint of Colombia's competitiveness in international markets, but alsobecause continued output grnwth achieved by using ever greater quantities ofresources may be unsustainable.

- 22 -

Total Factor Productivity Growth and Total Input Growth:International Comparisons

16.

16-

30I

-2~ ~ ~ ~~~~~~~~~~~0

yX=s~~~~O-2 0 2 * * S 10 U12 14 6 1

Tota Fadw hdo Growth

Country Codes:

1. Sweden 10. Korea2. U.S.A. 11. TurkeyJ. Finland - 12. Phillipines4. Japan 13. Thailand5. Yugoslavia 14. Egypt6. Argentina 15. Zambia7. Chile 16. Indonesia8. Mexico 17. India9. Hungary 18. Colombia, 1977-83

Source: Page (1988).

- 23 -

1.4 The Analytical Framework of tb. Rioort

32. The sections above presented data on the composition of industrialoutput, the growth and diversification of industrial exports, and productivitychange that brought into question the dynamisa of the industrial sector.Dynaism refers to both the ability of the industrial sector to move resourcesinto areas of evolving comparative advantag, and to its ability to r*ducwcosts and improve international competitiveness. In other words, there aretwo aspects to industrial efficiencys the efficiency of allocation ofresources across industries (inter-industry efficiency), and the efficiency ofuse of resources within industries (intra-industry efficiency). In a dynamicsense, inter-industry efficiency refers to the ability of resources to move totheir most valuable uses in response to changing market conditLons, and intra-industry efficiency refers to reductions in production costs achieved vith theadoption of technological improvements, better organization and managementtechniques, etc.

33. The focus of this report is on the degree of competition faced byindustrial firms, and how competitive pressure is related to inter- and intra-industry efficiency. It examines the relationships between industrialstructure, performance, and public policies -- trade and industrial regulatorypolicies, and labor and financial sector policies. In addition to looking atcompetitive pressure and the resulting incentives pushing firms to move intonew activities or reduce costs, the report questions whether there existbarriers to resource mobility that affect efficiency.

34. Public policies can affect inter-industry and intra-industryefficiency directly, through their effEcts on relative prices, or indirectly,through their effects on market structure and firm competition. An example ofthe former is the effect of import protection on the price of importsubstitutes relative to exports and nontradeable goods, which affectsperformance by biasing resource allocation. Tax policies and price controlsalso affect performance directly through their effects on relative prices. Asan example of the indirect impact of policies on performance through theireffects on structure and competition, import protection may encourage excessentry and result in a market structure characterized by firms of suboptimalscale. This in turn can produce the performance result of technicalinefficiency as firms fail to realize economies of scale. Import protectioncan also affect performance through its impact on managerial behavior, asfirms are not forced by external competition to minimize pr,duction costs.Financial pollcies can affect performance directly (through, e.g., theireffects on interest rates) and indirectly: for example, a system ofadministered credit can reinforce the position of oligopolistic firms.

35. Conceptually, it is useful to think of competitive pressure ondomestic producers as coming from three sourcess from other producers in thedomestic market (internal competition), from foreign producers selling in thedomestic market (import competition), and from foreign exporters competingwith domestic exporters in third markets (export rivalry). The competitivepressure may come from existing firms, or from potential entrants (i.e., from

- 24 -

the threat of competition in contestable markets).4 All three types ofcompetitive pressure can lead to a 'challenge-response' mechanim wherebydomestic firms are induced to adopt new technologies, cut waste, allocateresources more efficiently, and generally reduce costs. In addition,competition can be a force for industrial restructuring as firms shed outdatedoperations, introduce new product lines, and search for new markets.

36. Increases in internal and external competition can improve bothinter-industry and intra-industry efficiency. For example, the efficiencyimprovements of a trade liberalization that increases import competition mayarise from a more efficient allocation of resources among sectors (asresources are reallocated to sectors more in accordance with. comparativeadvantage, what is usually thoight of as the efficiency effects of a tradeliberalization) and intra-industry efficiency effects -- increased scaleeconomies as firms expand into export markets, reductions in prices inoligopolistic industries as firms are faced with higher !import competition,and improvements in X-efficiency.

37. In some industries, and for some types of efficiency, it may be thatpolicies prc,oting external competition and internal competition can bethought of as substitutes -- alternative ways of achieving efficiency gains.For example, promoting external competition via import liberalization orinternal competition via reducing barriers to entry could be seen asalternative ways of reducing excess profits in oligopolistic industries. Inother cases, there may be less substitutability between internal and externalcompetition policies. For example, in some industries, the small size of thedomestic market combined with potential economies of scale raise naturalbarriers to entry and imply that, in an efficient equilibrium, the domesticmarket will be served by a few large firms. Regulation of the industry topromote internal competition may be a less feasible alternative than openi.,gthe market to competition from imports.

38. Internal and external competition may be actually couaplementary inseveral important ways.5 First, while each dimension of competition is likelyto improve both resource allocation and firm-level efficiency, they may haverelatively stronger or weaker effects on different types of efficiency. Forexample, it is thought that domestic competition has a particularly strongeffect on improved managerial (X-) efficiency, as managers are forced to cutdown on waste and use resources more effectively. Import competition isthought to have the greatest impact on inter- and intra-industry resourceallocation, creating incentives for firms to restructure or shed inefficientoperations, and to expand output along more specialized lines. Export rivlarycan help bring major dynamic efficiency gains, giving firms a sustainedincentive to continuously adapt their production and marketing organization inresponse to rapidly changing market requirements.

4See Frischtak (1989).

Sibid., Annex 2.

-25-

39. Second, internal and ezternal competition often act in synergy,utually reinforcing each other. In particular, an increase In eitherdomestic or Import competition has a positive impact on export rivalry in themedlum to long run, even though the short run impact of import competitlon onexports may be negative. Third, each of the three forces of competition facesbarriers, and barriers to one dimnsion of competition can prevent firms frombehaving competitively along another dimnsion. For example, importliberalization may fail to achieve its expected efficiency effects if domsticmarkets for distribution of imports are imperfectly copetitive.

40. The next chapter will begin by examining the degree of internal andexternal competition felt by domestic industry, and how coWpetition haschanged over time. Next it addresses how the degree of internal and externalccopetition affect certain measures of inter- and intra-industry efficiency.Finally, the effects of the tax regime on the inter-industry allocation ofresources are considered.

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CHAPTER 2: LIDUSTRIAL PERFORMANCE ANDINTERNAL AND EXTERNAL COMPETITION

2.1 Introduction

U1. This chapter explores the relationship between trade andindustrial policies and t4e structure, conduct, and performnce of theindustrial sector. It questions whether trade and industrial policies haveintroduced significant biases in the allocation and efficiency of use ofresources by altering iDrentives, both directly via their impact on relativeprices, and indirectly through their influence on market structure. Withrespect to trade policy, the chapter focuses on the import regime (tariffs andquantitative restrictions). With respect to industrial policy, the focus ison price controls, with some reference to tax policy, policies govelning assetrestructuring and receivership, and anti-monopoly legislation.

2.2 Tr&de Polic? and the Degree of Extetnal Competitiori

2.2.1 The 1984-86 Trade Policy Reforms

42. External sector policies over the last twenty years have been tiedto the macroeconomic management of cycles in agricultural exports,particularly coffee. Rather than relying on macroeconomic policies to smoothout aggregate expenditure in response to external payments deficits or coffeebooms, import and foreign exchange controls have been alternately tightened oreased. The use of trade policy as a stabilization device, combined with aconscious strategy of industrialization through import substitution, resultedin a lack of international coimpetitiveness and stagnant growth of industrialexports.

43. The 1984-86 macroeconomic adjustment program included measures torationalize and liberalize the trade regime. The program broke new ground instressing the roles of macroeconomic policies for stabilizi'ng the economy andtrade reforms for promoting long-term export growth and diversification. Theprincipal elements of the program were the maintenance of a competitiveexchange rate; reduction of import and export restrictions; reduction of thelevels and dispersion of tariff rates; and changes in export incentives.

44. A recent Bank report reviews the accomplishments of the programand describes the characteristics of the trade regime as it existed in 1988.1It cites the maintenance of a competitive exchange rate as one of the majoraccomplishments of the adjustment program. However, despite the substantialreal depreciation of the peso, the decline in the value of the peso was not

1"Colombia: Commercial Policy Survey", Report No. 7510-CO, December 15,1989.

- 27 -

fully translated into changes in the domestic torms of trades the prices oftraded goods relative to nontraded goods remain below those prevailing in themid-1970s.2

45. The adjustment program accoWplished a significant reduction inboth the levels and dispersion of tariff rates, the average tariff rate fellfrom 61S to 30Z, and the standard deviation was cut in half between 1985 and1988. Howevr, tariff surchargeo were introduced in 1985 at a uniform rate of101 and increased to 182 in 1987.

46. The 1984-86 trade reforms achieved the reaoval of some items fromthe prohibited and prior license categories and a concomitant expansion of thefree import list. Unrestricted tariff positions as a proportion of totaltariff positions increased from 0.S2 to 38? during the reform program, and thecoverage of domestic manufacturing by import restrictions fell from 10O in1984 to 822 in l988.3 The value of imports enteririg under free pocitionsincreased less then 3Z of total imports in 1984 to 44? in l9e8. While thesereforms were important, it should be noted that they resulted in a systrm in.which the number of unrestricted and prohibited positions had approximatelyreturned to the levels prevailing in 1981 (Table 2.1). Ir uther words, thereforms of the licensing system mainly reversed the p:otvctionist trend of theearly 19809. In addition, the items which were liberalized were mostlynoncompeting inputs for locally manufactured gooda, so that externalcompetition for domestic industry was not significantly increased. Thepreviously cited Bank report concludes that the recent trade reform progrrmdid not fundamentally alter the inward orientation oi productive incentives.

2'ibid: However, the report also warns that the pr4.re indices used inthe calculations may need to be reviewed carefully to confi=r the empiricalfindings.

3ibid. The c-overage of domestic manufacturing by import rest.-ictions wascalculated as follows: A concordance was constricted between the tariffnomenclature (NKABANDINA) and the industrial classification system(International Standard Industrial Classification, or CIIU). The mappingrelated each four-digit CIIU category to a group of eight-digit NABANDINAcategories. For each four-digit CIIU, the coverage of domestic production isdefined as the proportion of NABANDINA positions in that category that areeither prohibited from import or subject to prior import licenses. For higherlevels of aggregation (three- or two-digit CIIU) the coverage ratio is aweighted average of the four-digit coverage ratios, where the weights areproduction shares.

-2-

T.blo 2.12 leert Leligg Iqir_ , 1_(membr at tariff "wiless)

1ow 1P 1on 1o i"4 low is" in? 1io ioW a/

Prolbibted a a 6 6 61 of U U aPrier Lies. 1 MS aI 8716 4671 41 NO6 11 Ml 8181 1125Free 876 1614 167 4 as nu mm Ion 198 178

TO. I HtON 4778 4864 NU 1ll Ull 1M U42 042 $11 S15L

of July

Soure: 'Coioabi. Commercial Polley Survey", Reprt WN. 7616, Dsembe 15, I1;alk Aremel de Adua es, July 1M.

2.2.2 The 1mort Regime in 1989

47. Tariffs. Under th* tariff code prevailing in 1989, there Are 23tariff rates ranging from 01 to 200Z. The majority of tariff positions (881)have tariff rates less than or equal to 402 (Table 2.2). Tne highest tariffrates, 1001 and 200Z, are assigned to motor vehicles. The tariff structureexhibits the usual cascading structure, with ala average tariff of 401 formanufactured consumer goods, 222 for intermediate goods, and 211 for capitalgoods (Table 2.3). Across two-digit industrial subsectors, average tariffsare highest for food and beverages, textiles, and, to a lesser extent, woodand paper products. Rates are lowest for mining and petroleum, agriculturalproducts, and chemicals.

Table 2.2: Froquecy Distribution Of Tariffs, 199

Tariff Rate X of Tariff Positions

-16X 14X11-263 X4X21-89 19!:81-4eX 21341-56X 4X51-66 5361-76X ax

over 76 6.4X

Source: Arancel de Aduanas, July 1989.

- 29 -

Table 2.5: Lieewimg Reuirements and Average Taritfby looter a Sta of Pro..eaIng, 1909

MBR OF PRIOR AVESECTOR POSITIONS P1011DrrED LICEISE PRE TARIFF

Ubel. Rcoao 5 151 is o1S 9S mAelriclture 276 a 6on 84! 122# nine 79 29X 713 14SMamfteUrlng 4796 1X 62X sox nsCeesurnr Goode t1496 S Us lOX 40Imtrmsdiate Goods m2 48X 521 221Capital Gooed 1162 63X 571 21S

By StaeX of Prosesin:Rev Mat Livo Anl mI, Agr .Prod. 525 soX 421 191Intoermeate Semi-Proc Inputs 1647 54X 661 18XProcese Food, Agric. 396 41 79X 17X !SXProessed Food W/Additives 177 20X 76X as 653

harcmaouticals 61 71X 291 14XOther Intermediate Inputa 827 761 28X 31XCapital Equipment 86s 6an 40X 191Transport Equip_mt 169 791 21X 341Finishe Products: Producer 279 83S 17X 40XFialuhi Products: Consumr 423 9a3 71 46X

Source: Arancel de Aduanas, July, 1989.

48. Actual tariffs paid are! reduced by an extensive system of exemptions,covering about half of all tariff positions. In 1984, the trade-weightedaverage tariff was 212, while actual collections (without surcharges) wereestimated at 10. Tariff surcharges are set at a uniform rate of 182, and areless widely exempted than customs duties. In addition, some imports aresubject to a sales tax.

49. Imort licenses. The foreign exchange budget is fixed by the JuntaMonetaria and rationed among importers by INCOMEX through its import licensingsystem. Each item in the NABANDINA tariff code belongs to one of threecategories: free, for which INCOMEX must grant import licenses; priorlicense, for which INCOHEX has discretion to refuse licenses; and prohibited,for which INCOMEX will grant licenses only under unusual circumstances.

50. The distribution of tariff positions across these three categories isshown in Table 2.4. The characteristics of the products in these categoriesare as follows:

(a) Free: generally intermediate inputs, raw materials, and capitalgoods that do not compete with local production. In 1988, this grouprepresented 39Z of tariff positions and 442 of the value o$ totalimports.

- 30 -

(b) Prior Licenses camprising 602 of tariff positions, these areitems over which INCOMI has discretion. The volume of these goodswhich are granted irport licenses depenas on the availability of foreignexchange and on the degree to which the import competes with domesticproduction. In general, INCOMEX does not approve imports which competewith local production, with little consideration given to price andquality differences.

(c) Prohibited: this third broad category includes items prohibitedfor health and safety reasons, and others considered to be luxury itemsand therefore politically difficult to allow to be imported in a systemwith foreign exchange rationing. In 1988, this group represented 12 oftariff positions (and 02 of import value).

51. In the practice of considering applications for licenses, INCOMEXseparates items in the prior license category into three sub-groups:

(i) Previa-libre: non-competing imports that are de facto freelyimportable during periods of relatively abundant foreign exchange, butfor various reasons (the desire to retain the ability to tightenrestrictions during periods of relatively scarce foreign exchange, thefear of dumping) the Government does not want to pass to the free list.In 1988, these imports comprised 62 of all prior license items and 132of the value of prior license imports.

(ii) Previa-previa: items for which national production exists but maybe insufficient; or items categorized in a tariff code that containsboth competing and non-competing importables. This last point needssome explanation. The level of disaggregation of the NABANDINA tariffcode is not high enough to assign a unique code to each functionallydistinct product. Within a given eight-digit tariff code, there areoften one or more non-competing importables as well as one or morecompeting importables. For example, the eight-digit code assigned to'metal valves, may include both copper valves, for which sufficientnational production exists, and aluminum valves, which are notdomestically produced. In these cases, INCOMEX approves import licenseson a case-by-case basis, again using the criterion of nationalproduction. In 1988, 662 of prior license items (872 of the value ofprior license imports) were in this subgroup.

(iii) Previa-prohibida: de facto prohibited imports, due to competitionwith domestic production. In 1988, this group represented 272 of priorlicense items (as.d zero import value).

- 33. -

TAKS 2.4: The Syem Of Ump.st Lli..... 1. 1

1, Pos1Xo X In Iwor Vs I o

(a) Pr. Ion IS WI 2121 44f

(b) Prier Lie.ao N 2,665 sU

(X) Pevia-libre (M) (U (372) (13)

(11) Prewim-prevl. (2945) (G1M) (2,498) (gm1)

(1Ii) Prewis-prebibid (SU) (271) (a) (U)

(c) Prohibited 64 lox a Ox

TOTAL 5132 1661 USS 5,091 16X

Source: the Government'. draft trade roform progra. There are minor diffrencewbetween thee flgure. and those of the Bank report on comercial polIcy InColombia.

52. Estimates of effective protection for the 22 major sectors of thenational accounts in 1986 suggest that there was no correlation betweenaverage tariff rates and nominal protection calculated on the basis ofdomestic and international price comparisons, nor was there correlationbetween the effective protection implicit in the tariff rates and effectiveprotection as measured by price comparisons.4 It therefore appears that thetariff structure has not been the main determinant of protection or ofimports; instead, tariffs merely place a minimum bound on protection for itemsfor which licenses are the binding constraint on imports. It should be noted,however, that tar'ffs tend to be higher for commodities that are more highlyrestricted by import licenses, capturing some of the rents enjoyed by therecipients of import licenses (Table 2.3).

4Recall that estimates of nominal protection can be calculated in twoways: (i) the percentage tariff on the imported product, and (ii) thepercentage difference between domestic and international prices for theproduct. Similarly, estimates of effective protection can be based on tariffsfor the final good and its inputs, or on price comparisons. If quantitativeimport restrictions are the binding constraint on imports of final goods,nominal and effective protection calculated on the basis of price comparisonswould be expected to be greater than protection calculated on the basis oftariffs.

_ 32 -

2.2.3 The Dearse of Imort Couaetition

53. Production coveraae. Tables 2.5 and 2.6 show the coverage by importlicenses of domestic manufacturing at the industrial classification level.The largest percentages of freely importable itse are in intermediate smi-processed inputs, raw materials, and capital equipment. On the other hand.the most tightly restricted groups are finished goods and food andagriculturil products.

TAKLE 2.5: Production Coverage of IP* by 2-Diglt Subsector, 1969

PRODUCTION COVER40E OF QR*VALUE 7OF

PRODUCTION, 1965 PRIOR(000 PsOJ) FREE LICENSE PROHIUTED

31 Food, Bev, Tobacco 799,516,166 6X 9gX 5X

32 Toxtil- ,Leather 291,125,169 9X 91X

38 Wood Product. 21,416,240 56 963

84 Paper,Printing 169,029,623 aox ?OX

35 Chamicals,Pstrol. 573,773,844 33X 67x

36 None_t. Mlnerals 105,983,646 15X 65X

87 Basic metals 79,265,976 223 78X

86 Metal Prod,Mach. 296,298,976 13 X 2X

39 Oth Manuf. 20,962,991 EX 96X

TOTAL 2,844,371,685 17X 623 2S

Note: Value at 2-digit level are weightod average of 4-digit values, using 1985 productionwolghte.

Source: Coloebl Coas_rclal Policy Survey", Report No. 7516-CO, Tho World Bank,February 28, 1969; and Arancel de Aduanas, July 1969.

- 33 -

TABLE 2.6: Production Covoego of 1ts by 4-Digit Subeotr, 190

VXLUE OF PRODUCTOWI CON !RAU OF S

PRODUCTION 1995 PRIORSECTOR (on Pe;s) FPR! I.CENSE PROHSIBTD

311 FOOD PRODUCTS 47,134,726 ex so 5x32.1 M.at Preration 85,451,573 19X 643 17X3112 Dairy Products 53,142,714 131 97X3113 Frt/Vog Canning 4,418,971 21 9NS8114 Flh Canning 3,61,442 46X 5213115 Veg/Anel Olso 91,499,524 1X 99X3116 Grain Will Prod 162,892,193 ON 923117 Bakery Products 37,290,657 75X 25X3118 Sugar Refining 59,379,449 16X3119 Confectlonery 29,701,20J 41 1ix 15X

312 FOOD PRODUCTS, N.E.S. 133,177,447 Is on 3x3121 Food Proc n.s. 47,358,166 1X 75X 7X3122 AnimI Foed 66,619,211 16X

313 BEVERAGES 219,203,996 9nx 7x8131 Distilled Spirits 45,766,118 651X 353132 Wine Industrieo 2,656,961 13X3133 Molt Bovoerae 116,724,653 1OOX31Z4 Soft Drinks 64,127,263 1JOX

314 TOBACCO3140 Tobacco 133X 57X

321 TE.ATILES 186,717,273 7X 93X3211 Spinning,Waving 32,683,110 12X 88X3212 Textile. 2,602,968 sx 97X3213 Knitting Mille 32,144,571 13OX3214 Carpets, Rugs 3,090,527 1OO13216 Cord and Rops 1,304,956 l1OX3219 Textile. n.e.s. 115,191,121 eX 92X

322 APPAREL3220 Wearing Apparol 65,S62,535 2X 98X

323 LEATHER PRODUCTS 21,204,772 59X 41X3231 Tanneriso 16,007,416 76X 24X3232 Furs, Dyoinq 1,298,341 133X3233 Leather Prod 3,999,618 9X 91X

324 FOOTW8240 Footwear 17,360,689 1331

331 WOOD PRODUCTS 12,932,929 ex 92X3311 Sawmills 11,697,252 71 93xU312 Wood Containers 79,806 160X3319 Wood, Cork n.s. 1,155,672 17% 63X

332 WOOD FURNITURE$320 Wood Furniture 6,462,311 l60

341 PULP, PAPER 196,638,96 $3S 6713411 Pulp, Paperboard 62,446,971 53X 47X3412 Paper Container 29,123,674 1iOX3419 Paper Prod ns.a.- 14,246,461 lOX 04X

- 34 -

TAILE 2.6 (cs.t.): Produetlea Coversg of We by 4-4ig1t Submseeer, 1692

M ODUCTDON AOVERAOE OF USVALUE OF

PRODVCTION, 19St PIORSCTOR ( PeeL) I UWK NIDI

$42 PRINTING3429 Printing £8,191,527 23X 771

351 DIDLQSTRIAL CHEMICALS 159,196,21 54X 46X8ll Ind Choemicl * ,t24,908 oS 2118512 Fertil/Poeticidb 64,%9,983 57S 48X3513 Synthetic Prod 61,669,374 37S 6on

351 DRUGS, COSMETICS 163,746,152 34X 6618521 Paints, Varnish. 15,684,465 1tX3522 Drugs, Medlcines 67,145,466 63X *7X8528 Comsmtics 51,240,213 1ax3529 Chemicals neos. 19,673,608 481 51X 1X

353 PETROLEUM REFINING36S0 Petrol Rofn-eries 138,144,629 31X 69X

364 PETROLEUM PRODUCTS3649 Petrol/Coal Prod 12,922,133 ill Ns

355 RUBBER PRODUCTS 41,744,644 14X 8exC551 Tire, Tube Ind 3,870,451 13X sex3559 Rubber Prd noe.. 10,674,093 17X 83X

356 PLASTIC PRODUCTS356o Plastic Prd n-.s.o 70,021,176 5x 9SX

881 POTTERY, CERAMICS3610 Pottery, Ceramics 11,839,492 14X 86x

362 GLASS PRODUCTS3620 Glass Products 20,570,910 22X 78n

369 NONMETAL PRODUCTS, NES 73,573,244 13X 37X3691 Struct Clay 7,941,420 23X 7713692 Cement, Lim 36,655,533 11X 6sx3699 Non-motl neos. 29,976,291 1JX 67x

371 XRnN, STEEL, BASIC METALSJ7.0 Iron Steel Basic 67,u48,043 15X 8S1

872 NON-FERROUS METALS8729 Non-forr Utl 11,617,928 61x 391

361 FABRICATED METAL PRODUCTS 79,636,798 9x 91X3811 Cutlory,Toolo 13,608,224 21X 7913812 Metal Furn/Fix 5,766,754 10X3813 Structrl Mtis 21,542,646 166X3619 Fab Metl nsee. 39,218,974 16X 96X

382 NONELECTRIC MACHINERY 87,874,965 UX 76x3821 Engines, Turb 616,896 67x S3X3822 Agri Machinery 1,642,811 38x 64X3623 Mtl/Wood Machinery 913,152 48X 54X3624 Ind Machinery 2,633,637 43X 57X3825 Office Machinery 796,811 58x 42X829 Machinery neos. 89,672,776 271 738

- 35 -

TALE 2.6 (cont.)t Production Coverage of lR by 4-Digit Sub ctor, 1989

PROOUC1W=N COVERAGE OF OR$VALUE OP

PROOTIOR, 1ws PRIORt(t Pea") FR! ULCEN5E PWOMSITED

* CLCTRICAL UACNINEWI 67,719,03 t9X 71XSU1 Elec Ied Vachinery 16,741,804 26X 72X3U32 Radio, Ttlecom 14,162,124 235 77XMS El oc Appli nce. 6,749,578 17X UXU339 Eloc Mach n.e.o. 30,067,242 UX 64X

N4 TRANSPORT EQUIPWT 161,ms,168 9X 913U041 Ship Building 4,626,947 103X3842 Railway Equip 711,226 66X 82X3843 Motor Vehicles 13,189,972 7X 93X3844 Motorcycles 5,623,229 1653045 Aircraft Manuf 6,100,797 45X U4X8649 Trnsprt Eq n.e.s. 83,992 11i6

385 SCIENTIFIC EQUIPMENT 9,563,190 53X 47X3651 Sciontif Equip 9,669,657 62X 4653852 Photo/Optical Equip 498,U42 663 34X3863 Watches, Clocks O 3X 64X

390 OTHER MANUFACTURING 20,962,991 5X 95X3901 Jewelry 4,067,667 16633902 Musical Instruments 24,896 62X 85x3963 Sporting Goods 71,716 2ex 3.53909 Other Manuf n.-.s. 16,799,813 7X 03x

TOTAL 2,346,371,635 17X 82S 25

Note: 3-digit values aro production-weightod averges of 4-digit values.

Source: OColombla: Coinircial Policy Survey*, Report No. 7516-CO, Docember 15, 1989and Arancel do Aduanas, July 19809.

54. While these estimates of the restrictive effect of the protectiongiven to domestic manufacturing by import licenses are only an approximation,it appears that the coverage of domestic production by licensing requirementsin Colombia, calculated at 84Z, Is high by international standards. Forexample, the coverage of domestic manufacturing by quantitative restrictionsis 182 in Argentina, 412 in Brazil, 232 in Mexico, and 482 in Venezuela (Table2.7). Bolivia and Chile have no import licensing r,quirements. Compared toColombia's unweighted average tariff of 30S, average tariffs are Z8S inArgentina, 372 in Brazil, 42 in Mexico, and 341 in Venezuela.

TAIUS 3.7a I7 p rt PeRetratiena Itersatieal Cemsri_1

COIA~IY nm 111t.1 04.6

ArgesI" in* 27.7 n.*. 13.01rehalI to" $7.4 a.S. 41.0mi.I Me6 11e.6 a/ 75.0 b/1Za.dmes im n.e., n. e / 84.6 ./'11 I a 13_ 4'.0 0.6 d/ 0.0Ma... 1 _ 4.8 */ n.*. 28.2

.19a *.1 14.0Nt rIl 18_ 82.0

okstm -1_m 1e.a 81.0 n.e.PhiIpI nes 1mm6 28.0Turkey 19" 89.0 18.0 e.g.Veezuela 1967 84.1 a.m. 46.0Yugelavia 1987 12.9 29.9 f/ #6.0 /

*/ Unmmighted av*rag for th, whole economy.b/ Percent of dboeetic value added.e/ Figures s of Decembr 1#07. Expected to drop to 153 for Import coverage

and U0 for production coverage In aM.d/ All Import roetrictions have ben removed as of 1/8J.e/ The production weighted average Is 11X.f/ A further 57X to covered by a quota which s semiautomatic de pnding upon

foreign exchange avalabilIlty.g/ Exp;ctd tofa II to 81X In 1906.

Source: Table 2 In Frischtak (1909).

55. The restrictive effect of the licensing regime naturallydepends upon the size of the foreign exchange budget available forlicensed items, relative to the demand for these imports. Increases inforeign exchange availability in recent months have eased the constrainton imports considerably. However, the variation in the degree to whichimport restrictions are binding introduces an element of uncertainty andlack of transparency for consumers of these goods and producers of theirsubstitutes, raising the protective effect of this instrument beyond thelevel indicated by the production coverage figures alone.

56. The criteria used to grant import licenses when the value ofapplications for import licenses exceeds the foreign exchange budget mayincrease the distortionary effect on incentives of the licensing regime.INCOMEX assigns first priority to inputs and consumer necessities(medicine and food not produced in Colombia) and second to capital goods.Where INCOMEX believes there is domestic production of sufficient qualityand quantity, import licenses are not granted. When there areunanticipated contractions of the foreign exchange budget, INCOMEX, awareof the employment effects of its decisions, tries to minimize unemploymentwhich could be caused by shortages of imported inputs. Consequently,

- 37 -

consumption goods and capital goods for new investments are reduced beforeraw materials and intermediate goods. Data on import licenses awardedreflect INCOMEX's priorities in granting licenses first to inputs, capitalgoods, and consumer necessities. Over the 1980-87 period, there has beenlittle variance in the imports of rr.v materials, whereas imports ofconsumer and capital goods have oeen positively related to the size of theforeign exchange budget. The use of these criteria can impede theexpansion of existing firms and function as a barrier to the entry of newfirm. The latter effect is reinforced by the tendency for INCOIEXdecisions on individual applications to be influenced by a firm's importsin prior years.

57. The dispersion across sectors and subsectors in the degree ofcoverage by import licenses creates non-neutral incentives acrossdifferent import substitution activities as well as between importsubstitution and exports. Estimates of effective protection based on 1986price comparisons show a sharp bias against agriculture and mining infavor of industry. In that year, average effective protection was -8 foragriculture and mining, compared to 712 for industry. Finally, the sheernumber of applications for import licenses that must be reviewed byINCOMEX (113,000 in 1987) implies high administrative complexity and costassociated with the choice of this instrument of protection.

58. Import penetration. Tables 2.8 and 2.9 show, for selectedperiods, the actual levels of import penetration, defined as the value ofimports divided by the value of domestic sales. As would be expected,actual competition from imports reflects the potential competition givenby the structure of QR coverage. Import penetration is lowest for non-durable consumer goods (5.32 during 1984-86), higher for durable consumerand intermediate goods (28.3Z), and highest for capital goods (55.42), thelatter two groups competing less with domestic production. At a moredisaggregated level, 1986 import penetration levels show low rates ofimport penetration -- between 12 and 42 -- in food, beverages, tobacco,textiles, apparel, lsther, shoes, wood products, plastic, ceramics,glass, and non-metallic minerals. Higher rates of import penetration arefound in paper products, chemicals, petroleum refining, metals, and metalproducts. Looking at import penetration over time, most industries showan increase in import penetration during the late 1970s, and a decrease inthe early 1980s.

- Is-

TALUS 2.Sa zapeat Pemetreto Pe"r. St.. Predue Group

1967-74 1975-79 1969-46 1964-06

Noe-durableConsumer, beds 8s. 4.411 6.6 6.81

her.bI CemeumewGbods and Int.rmwsdat Goods 26.61 24.S9 26.21 2.311

Capitol Goode 6.711 54. X1 ".JX 56.4A

Obher Inds"tries 34.611 3.91 44.71 81.4X

TOTAL 19.61 19.8X 24.81 21.11

Source: DANE

TABLE 2.9: Import Pnetration, 1977-96

PRODUC. SHARESubsoctor 1977 1978 1979 1980 1986 1966 1996

811 Food Products 6.1X 6.4 5.8X1 6.6x 8.61 3.11 26.7x318 Beverages 1.4X 1.41 1.11 1.6X 1.1X 1.11 6.2X814 Tobacco 3.11 4.61 6.51 9.7X 1.eX 2.9X 1.5X321 TextIl o 2.1X 2.9X1 .21 8.5X 2.1X 2.6X 7.41322 Apparel 2.63 1.51 2.2X 2.6X 2.91 2.9X 2.7132S Leather 1.1X 1.51 9.71 2.1X 1.5X 1.91 1.6X324 Shoe 9.651 1.1X 2.61 1.0X 1.2X1 1.X S.9X381 Wood 6.11X 9.51 .41 86. 3.6x 4.61 9.5X832 Wood Furnituro 1.7X 1.41 9.61 1.6X 9.4X e.91 9.41341 Paper 13.6x 17.6X 14.5x 17.x1 15.21 17.2x1 8.X342 Printing 12.71 12.x 13.91x 13.3 11.31 8.8X1 2.61351 Chmical Products 29.41 81.31 27.9% 81.5X 29.61 31.6X 12.51tC3 Petrol Retin 10.91 23.2X 26.2X 27.61 37.41 21.11 4.9x354 Petrol, Coal 1.4X 1.51 1.31 6.71 3.51 4.211 .65355 Rubber 7.7X 1.651 9.31 12.6X 7.711 6.6 1.61356 Plastic 2.41 2.61 2.21 2.2X 1.91 2.41 3.6X361 Cramice 4.1X 4.81 4.61 6.5X 2.63 2.31 0.5182 Clas 9.5x 9.2x 7.5 11.61 5.61 6.91 6 1.63369 Other non-metal min. 6.1 6.4X 6.81 4.63 2.8X 86.1 3.11871 Iron Steel 31.51l 4.11X 6.6x 39.sx 44.11 4.91 x 8.OX872 Non-lerrous me"alI 4.111 46.91 49.91 52.71 53.61 55.11X 4.X281 Fab Metal Prodta 6.X 9.81 9.1 17.111 18.1 15.111 3l6862 1onele1 Machin 79.21 72.31 89.6X 75.71 65.71 79.71 1.7Xt33 El.c Machinery 3. 34.41 36.71 41.61 31.21 37.91 2.61864 Trenepert Equip 32.61 33.7XU 4.63 42.91 82.4111 3.711 5.M6 Scientif Equip 79.1X 8.11 61.2X 68.8X1 6.63 58.7X 8.51

396 Other Monuf 18.41 14.61 12.51 25.41 6.6X 8.91 1.63

TOTAL 1.6.1 18.61 17.91 21.51 17.X1 17.611. 1X.1

Sources: Colombia Estadletica Nacional, 1967; DANE; Boletin ds Etadistices, 1977-196.

- S. -

2.2.4 Addendum: Trade Policy Reforms Introduced in February 1990

59. In early 1989, the Government began preparing a plan of trade policyreform as an integral part of a medium-term program to modernize the economy.The program was designed at the technical level by an inter-ministerialworking group including representatives from the Ministry of EconomicDevelopment, the Ministry of Finance, the National Planning Department(Departamento Nacional de Planeacion, or DNP) and the Central Bank (Banco dela Republica, or BR). The Proarama de Modernizacion de la Economia Colombianawas announced in February 1990.

60. The economic modernization program recognizes that Colombia'straditional import substitution model of economic growth has generateddistortions in relative prices and has isolated domestic production frominternational competition. The results of this strategy have been to limiteconomic growth, access to modern technology, productivity, export growth, andemployment, and to increase costs to consumers. The trade reform programseeks to reverse these trends by opening the economy, gradually exposingdomestic producers to external competition and reducing administrativecontrols over imports. Additional measures are intended to increase theefficiency of transport services, support industrial restructuring, andcontrol unfair trade practices.

61. The trade reform is to occur over a five-year period. The firstphase, expected to last two years, would substantially replace quantitativerestrictions with tariffs and the exchange rate as the main instruments ofprotection. The second jhase, lasting another three years, would increase thedegree of external competition by gradually reducing and rationalizing tariffprotection via reductions in the number of tariff rates, the average tariff,and the dispersion of tariff rates. The program announced that the targetaverage tariff, including any remaining tariff surcharge, would be 25Z at theconclusion of the five-year program.

62. The reforms were initiated in February 1990 with the transfer of 861positions from the prior license to the free list, and the foreign exchangebudget for free imports was eliminated. This increased the proportion offreely importable tariff positions from 392 to 56Z; preliminary Bank estimatesshow that this transfer reduced the coverage of quantitative restrictions inthe manufacturing sector from 84? to 652 of domestic production. At the sametime, the number of tariff rates was reduced from 23 to 13, with the majorityof positions distributed in four rates; the maximum tariff fell from 200S to100l; the average tariff was reduced from 272 to 23?; and the tariff surchargewas reduced two percentage points to 161.

63. During the first phase of gradual replacement of the main instrumentof protection from QRs to tariffs, items remaining on the prior license listwill be grouped into four categories. For one of these groups, includingprincipally final consumer goods that compete with domestic production, importlicenses will be assigned according to the results of auctions. This

- 40 -

transitional allocation mechanism marks the change to a price-based allocationsystem, and the auction price information will be used to convert QaR totariffs offering equivalent protection. The allocation of import licenses toitemw in the remaining three groups varies from 'relatively free' (importlicenses will be approved virtually automatically) to 'relatively restrictive'(approval will still be based on the critera of domeatic production and priorimports).

64. The proposed trade reform program represents a significant initiativeon the part of the Government to increase the exposure of Colombian producersto import competition and to gradually reduce the anti-export bias present inthe structure of trade incentives. The fact that the proposal comes so latein the presidential term, and after considerable public and private debate,suggests formation of a consensus within the Government that Colombia facesgrowing problems of productivity growth and efficiency. Greater openness ofthe economy is now seen as the primary mechanism available to improveproductivity and resource allocation.

65. A central issue now is the need to put the trade reform program inthe context of the medium term macroeconomic framework, detailing policies tobe taken to adjust to the balance of payments impact of the trade reformitself as well as other policies to improve the efficiency of resourceallocation and to maintain internal and external balance. In addition, Itwould be advisable to set (and announce) quantitative targets (covering, e.g.,the transfer of products to the free list and the structure of tariffs)throughout the reform period.

2.3 Domestic Market Structure and the Degree of Initemnal Competition

2.3.1 Distribution of Manufacturing Plants by Size, Industry, Age, andLocation

66. Information on the distribution of manufacturing establishments(plants) over time was gathered by Roberts (1989) from the DANE manufacturingsurvey for the years 1977 through 1985. Table 2.10 shows the distribution ofplants by size category, where size is measured by the number of employees.Over the 1977-82 period the total number of manufacturing plants fluctuatesfrom a low of 6625 in 1978 to a high of 7067 in 1982. From 1983 to 1985 (whenthe survey does not include plants with fewer than 10 employees) the number ofplants varies from 6249 to 6406. As would be expected, there are A largenumber of small plants and few large plants, with the majority having 10-49amployees.5 'here has been little change in the size distribution of plantsover time. In contrast, there is evidence of a change over time in the agedistribution of plants. While the proportion of new plants remained fairly

5For the years 1977-82, all plants in the manufacturing sector wereincluded in the manufacturing survey. For 1983-84, plants with fewer than 10employees were not included in the survey. In 1985, a small number of plantswith fewer than ten employees were included.

-41-

constant, there wa a reductLon in the share of plants between three and tenyears of age, while the share of plants over 11 years lncreased (Table 2.11).ThLs suggests an increase in the failure rate of plants over time that hasfallen disproportionately on younger plants.

TWUAE t.1t Distielbutil Of Plmte By Slae, 1977-9115

M_OfEMPLOYEES la? 197 99 19U 19 1 19z 2 19U 19U 19

1-9 11.45 11.53 12.85 12.9X 12.83 18.73X n.. R.*. 1.8319-49 e9.aX $7.95 57.53 s.e1 U.". sees ee. 7 e..N 19.7X

"-99 14.1X 14.43 14.4X 18.61 14.2X 18.5 15.131 15.23 14.4313_-199 7.63 X .41 5.2X *.2X 9X 3 .7.93 5.81 X .83 7.5X

2W#b 7.4X 7.33 ?.9X 7.55 7.43 G.IX 7.43 7.51 7.13

Note: na..: The 19U8-84 Enceeta Manufeaturers does not Include estabisabmente withfewer than If employeee.

Source: Roberts (1989), Table 1.

TABUE 2. 11: Distributlon Of Plants By Age, 1977-1986

ACE (YEARS) 1977 1976 1979 1986 1981 1962 1968 1984 19"

3-2 U11.1 9.51 1.1% 10.7% 9.813 18.4X 11. I 16.71 19. 18-5 17.2X 16. X 15.7X 18.71 18 .7 14.4X 14.9X 18.7X 18.31

6-1i 25.56 26.33 24.73 24.6X 28.0X 21.53 20.63 21.4X 209,511-20 26.04 27.0X 27.9X 29.3 8.4 MO.4 O29. 29.4X .831X

26# 19.9X 21.93 21.41 21.63 22.93 28.83 24.4x 24.ax 25.43

Source: Roberte (1999), Table 1.

67. By location, approximately one-third of all plants are located in theBogota area, 20Z in the Hedellin area, and lOZ in the Cali area (Table 2.12).There have not been significant changes in the regional distribution of plantsduring 1977-85 except for some growth in the share of plants in Medellin.TaAle 2.13 shows the distribution of plants across 23 regions, reported ln thesurvey only for the years 1981-85. Again, about one-third of the plants arelocated in the Bogota area, about 22? in Antioquia (the departmnt of whichMedellin is the capital), and about 14? ln the Cauca region (Cali). The onlyother regions with a substantial share of the total number of plants areAtlantico and Santander, with about 7? each. Together these five regionsaccount for about 82Z of all plants, with no significant change over time.These distributions confirm the accepted notion that manufacturing activity isheavily concentrated in a few geographic regions and metropolitan areas.

_ 42 -

TAMLS 1.12: Setribut) Of PleaI By Mjor Mbtr eelita AresI, 1977-136

IAR EA7 1n7I If7# 1 SWl lUw 12W 1984 1l66

1 sorta U.8. 84.21 U.3X n.61 81.0 81.0 8u.5 81.6 *8.1X2 C1 .01 19.1 19.51 19.711 1.WI 11.11 11.4X 11.6X 11.83a Model i 17.1 16.911 17.6X 19.61 19.6 X 11.2X 18.21 12.21X 1.ex4 Malzgalee 1.6X 1.71 19.13 1.7x 1.71 1.71 1.5X 1.5X 1.515 Barre qulls 0.9X 7.61 7.211 7.01 7.23 7.1 7.61 0.73 0.5X0 BScara.ng 0.81 0.51 0.2X 0.8 0.4% 0.11X .2X 5.X1 5.8X7 Pere re 8.43 8.83 8.11 8.9X 2.9X 2.61 2.5X 2.41 2.018 Cartagena 1.63 19.41 1.41 1.83 1.81 1.2X 1.8X 1.01 1.019 Other 17.9X 17.91 17.41 10.9X 17.25 10.7X 15.81 15.41 15.41

Source: Robert (1909), Table 1.

TABLF 2.18: Distribution O Plants By Departments, 1961-1985

DEPARTIENT 1981 1922 196 1924 1965

Antloquis 20.9X 22.41 24.43 23.81 28.7XAtdlntico 7.41 7.2X 7.2X G.8X ^.exBogot D.E. 81.7X 81.OX 81.03 82.1% 82.21Bollvar 1.4X 1.8X 1.4X 1.7 1.7lBoyaca 9.8X 0.71X O.0X 9.01 o.Calda 2.6X 2.9X 1.6X 1.8X 1.8XCauca 0.4X 0.4%1 .4X 0.4X 0.41Cesar 0.81 9.lX 0.8X 9.83 9.8XCordoba 9.X 0.6X 9.5X 0.6X 0.5XCundinam ca 2.7X 2.01 2.91 2.6X 2.9XChoco 9.11 *.11 O.11 6.1X 9.1XHuils 0.41 9.4X 9.4X *.41 0.4XMagd& Ins 9.8X 0.8X 0.8 a.2X 0..8meta 0.9.8 9.X 0.41 0.4X 0.41NMorno 0.53 .ex 9.56X 0.01 9.0Nte. de Santander 2.41 2.41 1.0X 1.7X 1.9XQuindio 0.9X 9.61 0.7X1 o.71 .exRisaralda 2.91 2.8X 2.6X 2.5X 2.71Santander 7.81 7.1X S.S 0.5X 5.9XSucr 0.2X 0.21 9.2X 0.21 9.21Tolls 2.1.9 1.61 1.7X 1.6X 1.61Val1- de Cauca 14.5X 14.71 14.51 14.1X 14.81lat. Y. Cotesarias 9.111 *.11 0.11 6.11 .1X

Source: Robert. (1909), Tablo 1.

- 43 -

68. To a lesser degree, concentration in the distribution of plantsacross industries is also indicated. Table 2.14 shavs the distribution ofplants across 3-digit manufacturing subsectors. Over the 1977-85 period, theindustries responsible for the largest proportions of plants are foodprocessing, textiles, clothing, and metal products. Together these fourindustries account for about 44Z of all plants. The distribution of plantsacross industries has not changed significantly over tim. The clothingindustry shows the largest increase in the share of plants, from llS in 1977to 1SZ in 1985.

TAILE 2.14: Dltrilbution Of Plants By Industry, 1977-1915(1 of Total PIonto)

INUSTRY 1977 1973 1979 196 1961 1982 190 1964 1906

311 Food Products 15.7X 15.5C 15.11 14.41 14.3% 14.7X 14.4 14.6X 14.4X312 Food Prdte, n.e.a. 2.95 2.90 2.9X J .6X1 .6X 2.9X 2.3X 2.3X 2.7X31s Bev-eras 1.91 1.90 2.6X 2.OX 1.91 1.9X 2.6X 2.6X 1.91314 Tobacco 6.61 0.5 6.410 .4 6.ax1 .31 6.31 0.2X 6.2x321 Textil es 7.5X 7.65 7.SX 7.31 7.2X 6.6X 7.6X 6.31 6.9X322 Apparel 16.91. 11.IX 11.2X 12.2X 12.91 13.6X 14.5X 14.1 15.3X323 Lather Products 1.6X 1.6X 1.5X 1.6X 1.5X 1.5X 1.41 l.5X 1.41324 Footwear 3.1X 3.61 S.11 3.2X 3.2X 3.7X 3.4 3.6X 3.6331 Wood Products 3.11 2.91 2.ex 2.8X 2.7X 2.9X 2.3x 2.7X 2.6%332 Wood Furnitur- 3.1X 3.2X 3.11 3J 1 2.91 3.21 2.9X 2.7X 2.61

341 Pulp, Paper 2.2X 2.1X 2.2X 2.1X 2.11 2.1X 2.1X 2.3X 2.11342 Printing 5.2X 5.2X 5.2X 5.2% 5.4X 6.4X 5.41 5.41 5.3X£51 Industrial Chemicals 1.6X 1.6X 1.61 1.4X1 1. 1.6X 1.7X 1.31 1.8X352 Drugs, Cosmetics 4.41 4.5X 4.41 4.41 4.2X 4.2X 4.31 4.2X 4.41353 Petroleum Rofining 6.2X 6.2X 0.1X 0.1X 0.1X 9.11X .11X .11 6.1X354 Petrolou Product 6.11X 6.3X e.3X 6.31 6.3X 6.3 6.31 6.41 6.3X3S5 Rubber Products 1.21 1.3X 1.3X 1.3X 1.3X 1.3X 1.3X 1.2X 1.1X356 Plastic Product. 2.9X 3.11X .1X 3.6X 3.5X 3.6X 4.1X 4.3X 4.51361 Pottery, Ceramics 6.6x a.71 6.7 6.OX 6.OX 6.51X 0.41 .41 6.41362 Close Product. 6.91 6.6X 6.8X 0.7X 6.9X 6.9X 0.7X 6.71 6.61369 Nonati Product. n.-o.. 5.11 4.8X .61x 4.9X 4.9X 4.91 4.7X 4.6X 4.5X371 Iron Stel Banic ltlo 1.61 6.8X 0.9X 0.8X 9.9 6.61 6.91X 6.9X 6.91372 Non-ferrous Metals 6.6X 0.6 6.61 6.6X .5X 6.E1X 6.41 0.41 0.43l1 Fabricated Metal Prdts 9.61 9.41 9.7X 9.2X 9.0X 3.9X 5.91 3.11 7.9X382 Nonelctril Machinery 4.41 4.6x 4.7X 4.83 4.9X 4.41 4.3X 4.41 4.7X833 Electrical Machinery $.61 3.1X 3.6X 3.1X 2.9X 2.3X 2.9X 2.9X 2.61354 Transp^-t Equlsment 3.5X 3.4X 3.41 3.5X 3.31 3.41 3.2X 3.2X 3.2X385 ScientifIc Equipmnt 6.9X 6.9X 0.9X 6.9X 6.9X 0.9X 6.91X 6.9X .9X799 Other Manufacturing 2.71 2.6X 2.6X 2.5X 2.41 2.2X 2.6X 2.2X 2.1X

Source: Robert. (1909), Table 1.

69. in suma"ry, evidence from the DANE manufacturing survey shows thatthere has been little change in the size distribution of plants during 1977-85, suggesting that the exploitation of scale economies in the manufacturingsector has neither increased nor decreased. The age distribution of plantsdid change, with an increa3e in the proportion of older plants. Theconcentration of plants in a few departments and metropolitan areas has

- 44 -

continued, with two-thirds of manufacturing plants located in Bogota, Cali,and Medellin. Thus, there wma no evident regional diversification ofproduction between the mid-1970s and mid-1980s. The distribution of plantsacross industries was also relatively constant, with a concentration of plantsin traditional industries such as food products and textiles. The noticablestability of plant size, location, and products seems to confirm thehypothesized lack of dynamism of the industrial sector.

2.3.2 The Degree of Internal Comoetition

70. Concentration of production. The structure of the manufacturingsector shows a significant degree of concentration of production which hasincreased over time. Hisas (1988) compared the distribution of four-digitindustries across categories of market structure in 1968 and 1984, using acommonly-ised measure of concentration, the four-plant concentration ratio(CR4).6 His results, presented in Table 2.15, show that the proportion ofindustries with highly or moderately concentrated market structures hasincreased over time, with a corresponding decrease in the proportion ofindustries with less concentrated market structures.

6The CR4 gives the proportion of subsector production accounted for bythe top four plants. Values closer to 100 indicate more concentratedindustries. The fact that this calculation of concentration uses plantsrather than firms as the production unit will tend to understate the acta'Ldegree of market power, since the decision-making unit is the firm, many ofwhich control more than one plant. In addition, the conglomerate structure ofownership increases the degree of market power above what it appears to befrom the CR4 alone. Estimates for 1968 first appeared in Misas (1975).

~~~~~~~~~~~~4 - 45 -

TANAS 3.15. Caseeertcatle of Proeductio, 13 And 1N4

I90 1984

M0.ndusatries U N".I 1"tWe #

CIoo ntratIo 1i 10 iS 26.4

ModeretlyCO twPet..d 20 29.2 n 88.9

Competi wle 3 *1.5 22 81.6

Coept titve 19 21.4 a 4.2

TOTAL U 1i3.0 72 1J004

Source: Misas (193). The total number of tour-digit Industrio refers to thenum br analyzed In each ot tho two years. The definitions of theconecotratlon cat.grioo are:

Highly coneontrated: 75 < CR4 1t9Moderately concntrated: C CR4 1 75Moderately compotltiv-: 26 < CR4 soCompetitive: M < CR4 < 25

71. A disaggregation of this data by type of industries shows severalinteresting patterns (Table 2.16). Intermediate and capital goods industriesshowed clear tendencies toward greater concentration of production between1968 and 1984. For intermediate goods, 782 of the industries analyzed in 1984were highly or moderately concentrated, compared to 492 in 1968; for capitalgoods, 852 of the industries were high:y or moderately concentrated in 1984versus 242 in 1968. For consumer goods industries, the trend is less clear:there was an increase in the proportion of industries in the category ofhighest concentration, and also in the lowest. The corsolidation ofoligopolies in intermediate goods industries is likely to have negativeeffects on consumer goods industries in which small and medium scale firms arepredominant -- for example, it is likely to both allow discrimination withrespect to price or discounts and contribute to high input costs for consumergoods.

- 46

TANA 2.16. Csesteetlee S Tip 0 jadustap, 136 Ad 134Cs. of ladustries miapied)

coJbA I6 etenmsdet. 06 cauital 411

GA lolyCoee_s't 15.1 U.S 3.3 3.9 U6. 5.0

Co.emt.ret. 3.0 3.9 18.6 80.0 18.4 76.2

IbXr XolyCompetitive 46.5 81.7 3.4 22.9 41.8 14.0

Competitive 17.2 21.6 14.7 0.9 88.0 -0

TOTAL 1.9 1.9 13.9 1.N 13.0 1i.9

Source: Hisa (196).

72. An examination of an alternative measure of market structure, theHerfindahl index, shows that the average degree of concentration increasedslightly between 1981 and 1985 along vith a fall in the number of industrialestablishments, from 6792 to 6406 (-6Z).7 In general, subsectors with above-average concentration in 1981 (tobacco, wood and cork, ceramics, petroleumrefining and derivatives, rubber products, non-ferrous metal products, andprofessional equipment) became more concentrated by 1985. In the remainingindustries, in about half the cases the concentration increased, and in halfthe cases the concentration decreased.

73. The proportion of industrial production accounted for by the 100largest industrial firms changed little between 1968 and 1984 (Table 2.17).The 20 largest firms acccanted for 24Z of industrial production in 1984; the50 largest accounted for SS5Z; and the 100 largest accounted for 452.

7Roberts (1989). This index actually measures the degree of dispersion inplant sizes in an industry, with larger values of the Herfindahl index indicatinggreater dispersion. A large variation in plant size is consistent with a largedifference in j coduction efficiency across plants. As a result of their higherefficiency, large plants can earn economic rents and are under lees pressure totake advantage of all possible efficiency gains. Alternatively, if plant sizesare very similar this is consistent with little difference in productionefficiency across plants. In this case plants which failed to exploit allopportunities for improved efficiency would be at a disadvantage.

- 47 -

YlrE 2.17: Production PartelIipetI. Of The 3M LAr.ebImdutcial Fires

(aes 3 of sesufactur productlio)

U Lmrgee Firms 22." 24.$X

U Largpe Flrm N.6 84.05

3M Largst Firm 46.4X 45.131

Souree: Mle1s (I1)

74. Table 2.18 shows data for 1984 at a higher level of disaggregationfor the CR4, the Herfirtdahl index, and the entropy ratio.8 According the thevalues of the CR4, the most highly concentrated industries are malt beveragesand soft drinks, tobacco, cotton and wool textiles, tanneries &ad furs, woodcontainers, paints, petroleum and petroleum prodlcts, tires, glass and glassproducts, non-ferrous metals, electrical appliances, transport equipment(except motor vehicles), and other manufacturing. There are only threeindustries that are classified as having a competitive market structure (i.e..having a CR4 between OZ and 25Z): grain mill products, apparel, and drugs andmedicines. There are a number of cases in which markets for intermediateinputs are less competitive than markets for final goods incorporating them:garments (with concentration in textiles), plastics (with concentration inpetrochemicals), furniture (with coacentration in certain wood products), andmetal products (with concentration in basic metals).

8The entropy ratio, another measure of concentration, varies between 0 and1. Lower values of the entropy ratio indicate higher concentration.

- 48 -

TALE 2.13: Messures of Concentration by 4-Diglt Subeector

ENTRwY HERfINDAHL CONCRTIONCIIU CR4 RATIO IDAM CATEORY

all FOOD PRODUCTS 36.33111 liet Preparntion 36.9 b.3 1.11U C

U12 DeIry Products $4.3 J .6 JSD311a Fruit/Vs. Canning 63.9 2.3 O.146 B3114 Fish Canning 74.2 2.9 O. S l3115 Vog/Animal Oill 44.5 2.8 9.977 C3116 Crain Mill Products 13.2 4.9 O.012 D3117 Bakery Products 53.4 8.6 0.191 B3113 Sugar Refining 52.4 2.6 0.102 a3119 Confectionery 54.3 2.6 S.104 B

312 FOOD PRODUCTS, N.E.S. 33.33121 Food Prod n-.s.. 34.2 3.5 0.48 C3122 Animal Fesd 32.7 3.4 0.045 C

313 BEVERAGES 92.43131 Distilled Spirits 73.4 2.1 9.291 B3132 Wins 47.0 2.6 9.987 C3133 Walt Beverages 199.0 2.4 0.162 A3134 Soft Drink* 95.0 3.6 o.941 A

814 TOBACCO 83.13140 Tobacco 83.1 1.6 0.283 A

321 TEXTILES 61.63211 Spinning, Weaving 36.7 3.6 0.047 C3212 Textiles 63.9 2.7 9.l9 Bb218 Knitting Mills 88.1 3.9 s0.42 C3215 Cord and Rope 72.0 1.9 0.182 B3216 Cotton Textileo 86.7 1.6 0.293 A3217 Wool Texti ls 64.1 1.6 8.217 A3213 Synthetic Texti lIs 49.9 2.8 9.e66 B3219 Textiles, n.-.s. 93.2 0.9 9.613 A

322 APPAREL 17.73229 Wearing Apparel 16.4 5.7 *.019 D3221 Apparel, n.s.a. 46.6 3.0 9.079 C

823 LEATHER PRODUCTS 63.73281 Tannerieo 77.7 2.1 0.131 A3232 Furs, Dyeing 96.6 1.3 9.319 A3233 Leather Products 31.6 3.4 9.953 C

824 FOOTWEAR 33.63240 Footwear 33.6 4.9 0.049 C

331 WOOD PRODUCTS S7.43311 Sawmills 67.2 3.0 o.191 B3312 Wood Containers 89.4 1.6 0.243

- 49 -

TADLE 2.16 (coat.): Measures of Coneestratieo by 4-4Oit Subeeetor

ENTROPY NLDAHL CONCENTRATIONCISU CR4 RATIO INDEX CATEOORY

U82 WOD FR.NrTURE 25.6826 W ed Fraiter. 2u.s 4.5 6.02 c

41 PULP PAPERBOARD 57.68411 Pulp, Paperboard 65.7 2.4 6.146 aU412 Paper Containers 46.4 8.5 01.11 C5419 Paper Producte, n.o.s. 69.1 2.7 4.111 8

542 PRINTING 4C.2U429 Printing 45.2 8.6 4.018 C

551 INDUSTRIAL CHEMICALS 57.43511 Industrial Chemicals 45.5 5.4 d."f5 C8512 Fertilizers, Chomicals 64.3 2.2 6.171 B

862 DRUGS, COSMETICS 46.58521 Paints, Varnishe 76.0 1.9 0.2 6 A5622 Drugs, Medicinoe 22.7 5.7 0.d32 D8525 Cosmetics 68.2 2.6 6.162 B8526 Chemicals, n.o.o. 72.3 1.9 9.251 B

J55 PETROLEUM REFINING 99.63636 Potroleum Refining 99.6 6.6 S.521 A

554 PETROLEUM PRODUCTS 78.53546 Petroleum Products 76.5 2.0 0.252 A

866 RUBBER PRODUCTS 66.65S61 Tiro, Tube Industries 94.4 1.4 6.560 AS569 Rubber Products, n.s.o. 69.6 2.4 d.21S a

366 POTTERY, CERAMICS 71.9566e Pottery, Ceramics 71.9 2.1 6.16U B

562 GLASS PRODUCTS 94.48626 Glass Producte 95.d 2.1 0.236 A5621 Class Products, n.e.s. 34.5 1.2 6.547 A

569 NONMETAL PRODUCTS, N.E.S. 46.t8691 Structural Clay 45.2 8.6 6.065 C3692 Cement, Lim 55.1 7.5 6.997 B5600 Nonmetal Prods, n.e.s. 56.7 8.6 6. a6 C

571 IRON, STEEL, BASIC METALS 61.78710 Iron, Steel, Basic Utls 61.7 2.C S.125 B

572 NON-FERROUS METALS 95.4872d Non-Ferrous Metals 92.8 1.8 6.#4 A8722 Non-Ferrous UtIs, n.o.c. 90.7 1.1 9.867 A

J81 FABRICATED METAL PRODUCTS 46.63511 Cutlery, Toole 60.2 2.6 0.145 B8612 Metal Furniture/Fixture. 51.7 4.1 O.OJ6 C5613 Structural Metals 48.9 a.5 0.106 C

- 50 -

TANLA 2.16 (coat): M) sureo of Coecentetieon by 4-igit Subseetor

ENTROPY HERDQAIL CONCENTRATIONCIIU CR4 RATIO IDX CATEGORY

M2 NONLCTRICAL MACHINY 41.98322 Agricultural Machinery 87.1 8.A A.1" C8628 MeUl/Wsod Machinery 6. 2.8 6.1" S824 Industrial Machinery 87.8 8.4 #4110 C

8S ELECTlICAL MACHINERY 65.7U861 El.e Indust Machinery 61.5 2.9 0.187 a8812 Radlo, Telecom U6.8 2.6 0.094 a8688 Electrical Appliances 67.6 1.5 C.C2 A$689 El.e Machinery, n-.s.. 5U 1 2.9 6.*17 B

864 TRANSPORT EqUIPMENT 73.88641 Ship Building 92.9 1.5 C.* 8 A8648 Motor Vehicles 70.2 2.6 6.155 B8644 Motorcycles 77.7 2.6 6.206 A8645 Aircraft Manufacturing 95.6 1.4 *.819 A

865 SCIENTIFIC EqUIPMENT 72.4J861 Scientific Equipent 72.4 2.2 0.2665

890 OTHER MANUFACTURING 92.58901 Other Manufacturing 92.5 1.4 0 9.4 A

Notes: (t) CR4 is calculated as the proportion of production produced by thetop four plants in each eubsector.

A: 75 CR4 < 1009: 5 < CR4 75C: 25 < CR4 56D: < CR4< 25

(ii) The entropy Index is calculated on:

Ej - Exij log (xij)

where xij * output of plant I as *hare of total output ofindustry J.E lncreasoe as concentration decroases.E. 6 O when xij a 1 (monopoly).

(1ii) The Herfindahl Index Is ca!culated as:

Hj * E xi 32 as defined above.

NJ in a measure of dispersion In plant sizeo In industry J It reaches Itslowest value when all plants are of the sa" size.

(iv) 3-Digit weighted average of CR4 calculated from 1964 4-Disit Production.

Source: Misas (1968).

75. Concentration, economies of scale, and vertical integration ofproduction. The existence of economies of scale in many industries, combinedwith the small size of the domestic market (or regional markets) and the anti-

- 51 -

export bias of the trade regime, contribute to the concentrated structure ofmany industrial markets. This is the case in petrochemicals, petroleumrefining, basic chemicals, iron and steel, paper, tires, and auto assembly.In some cases -- certain petrochemical products and auto assembly, for example-- the size of the market is actually smaller than the optimal size of asingle plant.

76. In some industries, vertical integration creates barriers to entryfor new firms who are unable to overcome the advantage of existing firms. Forexample, the high degree of concentration of the textile industry, partly aconsequence of acquisition and mergers, has been accompanied by verticalintegration. There are essentially no independent yarn, weaving, or finishingfirms, making it difficult to establish one without investing in the others.Similar barriers are apparent in the beer and non-alcoholic beverageindustries, which are integrated into input markets (e.g., glass bottles) aswell as financial markets through their conglomerates.

77. Concentration of production: international comnarisions. A 1978study on industrial concentration in Latin America showed that the pattern ofconcentration across Industries was very bimilar among the ten countriesanalyzed.9 Industries having h'gh (low) concentration levels in one countrycoincided with those having high (low) concentration in other countries.Furthermore, Latin American countries that had smaller (larger) market sizessystematically showed higher (lower) levels of industrial concentration.Among these countries, Colombia ranked in the middle, both in terms of overallmarket size and the degree of concentration.

78. Table 2.l9 shows the average four-plant concentration ratio inColombiL compared to those of some other semi-industrialized countries and theU.S. Here, it appears that Colombia has a relatively highly concentratedmarket structure compared to Argentina, Brazil, and Chile, though less thanMexico.

9Meller (1978).

- 51 -

TAI 1.19t Ceeeeert1ou Of Predutult:ltrnmtlol comrlo_

CSrz R. CR4 NO.o etr

Ceolb10 1964 a 72

Argstl.e 1964 48 172SmIB low 51 119Chile 19- 96 41ltile 1964 40 nR..Ied.eeel 195 SS 119meal.. 1071 78 78Turkeiy 1976 67 1215united $tat" 1972 40 828

Source: Frlesetak (1969).

79. Concentration of ownership. The concentration of ownership ofColombian industry among a few families or conglomerates is not a newphenomenon. Since the beginning of industrialization, dominant firms havefollowed a path of horizontal integration by absorbing competing firms,followed by vertical integration and finally diversification into unrelatedindustries. The rapid elimination of competition by horizontal integrationand the establishment of barriers to entry by vertical integration wereclosely associated for the majority of the large conglomerates that existtoday:

o The Santo Domingo Group is one of Colombia's strongest and most dynamicinlustrial forces. Over the past 20 years, Santo Domingo acquired everynational brewery and now has an _bsolute monopoly on beer production.Its huge success in the beer industry has provided the resources to growand diversify. Today, Santo Domingo controls about 100 companies in keysectors of the economy. From its beginnings with Cerveza Aguila inBarranquilla, Santo Domingo integrated horizontally by acquiringownership in Bavaria, Malterias Unidas, Cerveceria del Litoral,Cerveceria Colombo-Alemania, and Cerveceria Union, and in 1987 had totalassets of US$402 million. Santo Domingo has also integrated verticallyby investing in glass bottling and aluminum canning factories, and incoal production for use in its breweries. As part of itsdiversification strategy, Santo Domingo has developed a major presencein air transport (Avianca, SAM, Helicol); in the financial sector, viaconsiderable holdings in banks, insurance companies, and corporacionesfinancieras; and recently in communications. Other importantinvestments include fisheries, flower exports, and petrochemicals.10

o Sindicato Antioqueno is a heavily diversified group with extensiveholdings in finance, cement, and food production. The Compania

1OBusiness Latin America, September 21, 1987.

- 53 -

Suramericana de Seguros is the holding company for the conglomerate'sfinancial activities, which include Banco Industrial Colombiano, CONAVI(Colombia's third-largest savings and mortgage corporation), Subleasing(the country's largest leasing firm), and Reaseguradora de Colombia andSufinanciamiento (commercial financing). Cementera de Occidente is theholding company controlling most of Colombia's major cement companiesand is presently in the process of increasing its holdings in Paz delRio, the country's largest iron and rteel producer. In the foodindustry, Antioqueno'e holdings include the Compania Nacional deChocolates, Colcafe (instant coffee), and Proleche (milk products). Intextiles, Antioqueno controls Everfit, Tejicondor, Fabricato, Enka deColombia, and Riotex. Other investments are held in the tobaccoindustry, retail department store chains, shoes, and real estate.11

80. A detailed analysis of three conglomerates -- the Santo Domingogroup, Ardila Lulle (which includes Coltejer), and Antioqueno -- showscertain common elements. All were created around firms that wereestablished in the first phase of industrial development, before 1940. Theinitial or principal firm in the conglomerate operates in an oligopolisticmarket in the industrial sector, though the conglomerates' activitiestypically expand to the finance, agriculture, and commerce. Their marketpower has increased by both hori?ontal integration (eliminating competingfirms) and vertical integration (creating barriers to entry). Though theymay be operating in the same industry, the firms within a givenconglomerate tend not to compete with one another.

81. The most recent comprehensive study of the structure of conglomeratesin Colombia was published in 1978.12 Some more recent studies suggest thatthe degree of horizontal and vertical integration increased in the late1970s and early 1980s via the formation of conglomerates, as firms inoligopolistic industries acquired ownership in other enterprises.13

Several factors encouraged the trend toward acquisition of existing firmsinstead of investments in new capacity. The limited size of the domesticmarket, combined with the exhaustion of new opportunities for importsubstitution and the anti-export bias of the trade regime, made the returnon new investments less attractive. It was also encouraged by theoligopolistic market structure, which permitted some firms to earn excessprofits and to seek to increase their market power using this excessliquidity. The existence of subsidized development credit, often directedto the larger and more established firms, freed funds that could be usedfor financial investments by firms engaging in financial arbitrage.Finally, the lack of disclosure requirements and regulations governingtransactions among related firms and financial institutions continued tocreate an incentive to form conglomerates.

11Business Latin America, September 28, 1987.

12Superintendencia de Sociedades (1978).

13Hisas (1986); Hommes (1986).

- 54 -

82. The concentration of control in Colombian industry is also apparentin stock ownership. A Gini coefficient of stock ownership of firmslisted on the stock exchange increased from 0.81 in 1973 to 0.93 in 1978,and continued to increase to 0.96 in the early 19803.14 This trend wasalso apparent for a group of the largest enterprises in Colombia.1 5

83. Market concentration and firm behaviors illustrative examples. Thebehavior of firms in concentrated industries -- how firms coMpete againsteach other, how prices are set, how firms interact vith suppliers andbuyers, etc. -- is difficult to generalize. In addition, a comparison ofconcentration masures alone often hides soma types of non-competitivebehavior. To give some examples of the kinds of firm behavior observed inthese industries, below are discussed in detail four industries:beverages, apparel, chemicals, and non-metallic minerals.

84. Bverages. This industry can be characterized as a highlyconcentrated oligopoly, with a large degree of product differentiation,price similarity across firms, and regionalized markets. The liquorindustry operates as a state monopoly in which the entry of new firms isprohibited. The tendency to limit inter-departmental sales increases theeffective degree of concentration. The dispersion in firm size has changedlittle over time: of 22 establishments, the four largest accounted for 68?of production in 1968 and 732 in 1984. Beer production is concentratedamong five firms which belong to the same financial conglomerate. Beerprices are regulated by price controls, resulting in the existence of bothnon-price competition (e.g., product differentiation) and explicit orimplicit agreements regarding other forms of competitioin. The structure ofthe market for non-alcoholic beverages has changed little since 1968, withthree firms controlling virtually the entire market. Bottling is performedin some cases by small and medium scale subcontractors. Prices areregulated for the general product 'paseosas'; competition is via productdifferentiation. Each firm offers at least twelve varieties, andadvertising expenditures as a proportion of sales are the highest in theindustrial sector.

85. Apparel. The apparel industry is characterized by a small averageplant size and high labor intensity of production. It is one of the leastconcentrated industrial subsectors (though certain products and qualitiesare produced by a small number of firms), with a high degree of productdifferentiation and dual technology. For example, in menswear the smallproducers mainly sell to local and low-income markets, with lower pricesand qualities than those of the large firms selling to the national market.These small firms often lack negotiating power relative to the moreconcentrated textiles subsector which is the main supplier of inputs.

14Melo (1987).

13Carrizosa (1986).

- 55 -

86. Chemicals. The concentration ratio for the industrial chemicalsindustry indicates that 441 of production is accounted for by the top fourplants. Nevertheless, a more detailed analysis by product shows a greaterdegree of concentration. For example, only one firm produces smonia;three firms produce nitric acid: one firm produces amnonium sulfate; of the21 firms producing synthetic resins, four account for 631 of totalproduction. In the chemical industry there are important barriers toentrys scale economies, access to technology, and high initial investmentrequiremnts for many products. The industry is also characterized by ahigh imported component of raw materials, a large volume of inter-firmtrade, and substantial foreign direct investment. For example, importsaccount for 79Z of the input cost of pesticides, with the main source beingthe parent companies of multinational corporations. Eleven of the 16pesticides firms are lOOZ foreign owned. The majority of pharmaceuticalafirms are local subsidiaries of multinationals, from whom the localsubsidiaries obtain imported raw materials and to whom they pay royaltiesand patent fees.

87. Non-metallic minerals. This industry is characterized byheterogeneous products and production technologies. The large number ofplants suggests low level of concentration. Nevertheless, this quantity ofplants is mainly due to a large number of small firms principally dedicatedto the production of bricks and cement blocks. In the production of othergoods, the number of firms is considerably fewer. In the production ofcement, which accounts for about half of the production of non-metallicminerals, the top four firms account for 532 of production, and the heavynature of the product regionalizes the market. In addition, almost allcement firms belong to one of three conglomerates. By contrast, theproduction of cement b'ocks, pipes, and pads is spread among a large numberof small plants operating in regional markets.

2.3.3 Concentration and Import Protection

88. Tables 2.20 and 2.21 and Figure 2.1 combine information for 4-digitindustrial subsectors on internal and external competition. First, itappears that there is no clear association between the degree of internaland externai competition: while some subsectors have low levels ofcompetition of both types, others are relatively competitive internally andnon-competitive externally, or vice versa. A scatter diagram ef tii CR4and QR production coverage (Figure 2.1) suggests there is no clea..association between the two forms of competition, and the simplecorrelation coefficient between the two variables is not significantlydifferent from zero. This lack of association is to be expected, giventhat the intent of the import licensing regime is to protect virtually alldomestic production from import competition.

89. Table 2.21 ranks manufacturing subsectors by their degree of internaland external competition. Seventy-two subsectors are divided into

- 56 -

quartiles for the CR4 and the QR production coverage ratio, respectively.16

For ex ple, cell Al contains industries that are among the 25Z vith thelowest levels of domestic competition (i.e., have the highest CR46) and areamong the 25Z of industries vith the lowest import competition (i.e., havethe highest QR production coverage). Cell A2 industries are amonq the 252most highly concentrated in the domestic market, but are between the 50thand 7Sth percontile in terms of external competition. Cell D4 contains theleast concentrated industries that also have the lowest QR productioncoverage.

90. The subsectors with the lowest levels of both internal and externalcompetition are beer and non-alcoholic beverages, tobacco, furs, woodcontainers, motorcycles, ship building, and jewelry. Those with relativelyhigh competition both internally and externally are drugs and medicines,agricultural machinery, and industrial machinery. It is difficult to findgene al ratterns, but the following observations could be made.

o most food products, textiles, and footwear industries are heavilyprotected from import competition, but as a group these non-durablecousumer goods industries exhibit a wide range of domestic marketstructures;

o many capital goods industries -- industrial and agricultural machinery,scientific equipment, etc. -- are among the more highly competitive,either internally, externally, or both;

o many intermediate goods industries such as non-metallic minerals, ironand steel, rubber products, etc., fall in the middle ranges of bothdimensions of competition.

16Since Hisas (1988) included oinly 72 industries in his calculations of theCR4, a significant number of industries (23) are excluded from the matrix.

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TABLE 2.26: Internal And External Competition By Manufeaturing Subeecter

PRODUCTION FERFINDWSECTOR COVERAGE CR4 INDEX

U 1 FOOD PRODUCTS 94X 38.5 6.6613111 Meat Preparation 31t 38.6 .0656*112 Dairy Product. 87X 34.8 O.9U3113 Frt/V-g Conning 98% 63.0 0.14U3114 Fish Conning lOOX 74.2 0.1653115 Veg/Anml Ollo 99X 44.6 6.0773116 Grain Hill Prod 92X 15.2 *.6123117 Bakery Products 16X 63.4 9.1013118 Sugar Refining 16X 52.4 0.1023119 Confectionery 96X 54.6 *.194

312 FOOD PRODUCTS, N.E.S. 91X 33.3 6.6483121 Food Proc n.s. 82X 34.2 9.6483122 Animal Feed 166X 32.7 0.046

313 BEVERAGES 16X 92.4 0.1343131 Distilling Spirit. l6X 73.4 0.2013132 Wine Industrieo 1WX 47.0 0.0873133 Malt Bovorages 100X 106.0 6.1523134 Scft Drinks 1O6X 96.0 0.041

314 TOBACCO3140 Tobacco 16X 83.1 6.283

321 TEXTILES 93X 61.6 0.1743211 Spinning,Weaving 88X 36.7 0.0473212 Textiles 97X 53.9 0.1003213 Knitting Mille 106% 33.1 0.9423214 Carpets, Rugs 166X3216 Cord and Rope 166X 72.0 0.1623216 Cotton Textiles 88.7 0.2983217 Wool Textiles 84.1 0.2173218 Synthetic Textiloe 49.9 0.0803219 Toxtiloe n.e.o. 92X 93.2 0.618

322 APPAREL 98X 17.7 0.6133226 Wearing Apparel 98X 16.4 0.0193221 Apparel, n.e.s. 46.6 0.079

323 LEATHER POROOUCTS 41X 68.7 0.1693231 Tanneries 24X 77.7 0.1613232 Furs, Dyeing 166 96.6 6.3163233 Leather Prod 91X 31.6 0.863

324 FOOTWEAR3240 Footwer 1WX a8.6 0.049

331 WOOD PRODUCTS 92X 67.43311 Sawmill 93X 57.2 0.1913312 Wood Containers 1OOX 89.4 0.2403319 Wood, Cork n.e.s. 83X

U32 WOOD FURNITURE3320 Wood Furniture 1661 26.8 9.026

- S8 -

TABLE 2.20 (eoat.): Internal And External Competitloe By Manufaeturing Subsector

4pPRODUCTION HERFIDAHL

SECTOR COVERAGE CR4 INDEX

341 PULP, PAPER 67X 57.8 0.1158411 Pulp, Poprboard 47X 6.7 0.1403412 Paper Container 101X 40.4 *.061U419 Paper Prod n.*.e. 641 59.1 *.111

342 PRINTINGU420 Printing 77X 45.2 6.063

351 INDUSTRIAL 04EMICALS 46X 57.4 0.1833511 Ind Chlemicals 21X 43.5 0.0633512 Fortil/Poeticldoe 48X 64.6 0.1713513 Synthetic Prod 6ax

852 DRUCS, COSMETICS o6x 46.5 0.1203521 Points, Varnishes 100X 78.0 0.2863622 Drugs, Medicines 87x 22.7 o.o323523 Coe_wtics 101X 63.2 0.1623526 Chemicals, n.o.s. 72.3 0.261

358 PETROLEUM REFINING8530 Petrol Rofin-rloe 69x 99.6 0.521

354 PETROLEUM PRODUCTS3640 Potrol/Coal Prod Sex 78.6 0.232

355 RUBBER PRODUCTS 67x 66.6 0.2743651 Tire, Tubo Ind sex 94.4 o.a908659 Rubber Prd n.o.o. 931 69.0 0.216

36e PLASTIC PRODUCTS3640 Plastic Prd n.-.n. 96x

381 POTTERY, CERAMICS3810 Pottery, Cornmics 66X 71.9 0.160

362 GLASS PRODUCTS 94.4 0.2663620 Clans Prod 78x 96.0 0.2363621 Close Prod, n.o.n. 34.6 0.547

869 NONMETAL PRODUCTS, N.E.S. 87x 46.0 0.0753691 Struct Clay 771 43.2 0.0693692 Cement, Lim 89x 63.1 0.0973699 Non-esti n.e.n. 87x 38.7 0.065

371 IRON, STEEL, BASIC METALS3710 Iron Steel Basic s5x 61.7 0.126

372 NON-FERROUS METALS 98.4 0.3U43720 Non-forr Mtl 39x 92.8 0.3643722 Non-f-rr Mtl, n.e.n. 96.7 0.J87

331 FABRICATED METAL PRODUCTS 91x 46.0 0.1043611 Cutlery,Toole 79x 56.2 0.1463812 Mtl Furn/Fix 100X 1.7 0.0363613 Structrl Mtls 10O 43.9 0.1103619 Fab Moti n.o.o. 9ex

- 59 -

TABLE 220 (coat.): Internal And External Competition By Manufacturin, Sueector

RPRODUCTION NERFINDAHL

SECTOR COVERAGE CR4 INDwX

361 NONELECTRICAL MACHINERY 76S 41.9 g.OC8621 Engines, Turb 38S3822 Agri Machinery 64X 37.1 .gJt3828 LtI/Wood Machinery C4X 65.6 8.1833324 Ind Machinery 57X 37.3 S.06U325 Office Machinery 42X3829 Machinery n.e.4 731

386 ELECTRICAL MACHINERY 71X 55.7 J.1283331 Elec Ind Machinery 72X1 1.5 1.1378832 Radio, Telecom 77X 5C.8 0.043633 Elec Appliances 63X 87.6 0.3523839 Elec Mach n-.s.. 64X 58.1 0.087

364 TRANSPORT EQUIPMENT 91X 73.3 0.1763841 Ship Building 1i1 92.9 0.3e33842 Railway Equip 32X3843 Motor Vohicle. 93% 70.2 O.1553844 Motorcycle. 1001 77.7 0.208-845 Aircraft Manuf 54X 95.C 0.3193849 Trnsprt Eq n..o. 1OO1

385 SCIENTIFIC EQUIPMENT 47X3651 Scientif Equip 481 72.4 0.2658d62 Photo/Optical Equip 3418858 Watches, Clockn 64X

396 OTHER MANUFACTURING 9653901 Jewelry lOX 92.5 *.3843902 Musical Instrumnts 38x3903 Sporting Goods sex3960 Other Manuf n.e... 93x

TOTAL 84X

Sources: o Colombl: Coi_ercial Policy Survey', Report No. 7610-CO,December 15, 1989; Aranc-l de Aduanas, July 1969; andMisas (1988).

4R production coverage for oach 4-digit subscctor Is definedas tho proportion of tariff positions in that subsector thatare either prohibited or subjoct to prior licenso.

Note: 3-digit QW Production Coverage values calculated from asweighted averages of 4-digit values, using 1985 production weights.

3-Digit CR4 and Nerfindshl values calculatedas weighted averages of 4-digit values, using 1984 productionw*ighte.

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TAILE 2.21: Industries Ranked By Internal And External Competition

INTERNAL COMPETITION

LOW ----------------------------------------- H

A O C D

i 3*91 Jewelry *S1 311 Dat.Iled SpIrit. 1 3412 Paper ContaIner | 1249 Footwear iI 3134 Soft Drinks 3215 Cord and Rope 2132 Wine Indubtrie 3213 UKntting MilleI S44 Motorcycle. I3523 Cm_tle U813 Structrl W l 3122 Anlmel Food I

L I 1 3841 Ship Bulding I 3114 Fish Canning I 117 Bakery Product. U12 WtI Furn/Fix0 I 3149 Tobacco A118 Sugar Retining I U239 Wood Furniture I

E w 13232 Furs, Dyeing I I IX 11133 Walt everae I I I IT I 13312 Wood Contsiners I I IE l I I I I

A l I I I I I

L i j 3219 Toxtilee n-e. i 3U43 Motor Vehilel i 3212 Textile I 3233 Lether Prod iI 2 1 3551 Tire, Tuve Ind I 3521 Paints, Varnieheel U692 Cement, Lime 3211 Spinnin ,Woaving I

C I I 3640 Petrol/Coal Prod I 3113 Frt/Vog Canning 8119 Confectionery 1 3116 Grdin Mill ProdO I I 3311 Sawmill. I 3116 Vog/Anmi Oil. 1 322t Wearing Apparel I

P I I I I I I

El I I I IT I I 3833 Elec Appliances I 3559 Rubber Prd n.e.s.1 3811 Cutl-ry,Toeelc 3121 Food Prot n.s II 3 3129 clase Prod 3616 Pottery, Ceraeical 3691 Struct Clay I111 Meat Preparation IT I I I 3419 Paper Prod n-e l 3429 Printing I 3112 Dairy Product. II I I I 3716 Iron Steel Basic 1 3832 Radio, Telco_ I 3699 Non-eoti nes. I0 1 I I I I I

H I 3845 Aircraft Manuf I 3512 Fortil/Peeticideal 3611 Ind Chemicals I 3522 Drugs, Medicine* II 3729 Non-ftrr Mtl I 3411 Pulp, Paperboard I 3839 Elec Moch n.e.e. I 322 Agri Machinery IG 4 I 353C Petrol Refinerleal 3681 Scientif Equ'p I 3631 Elec Ind Machinerl 3624 Ind Machinery IH 3231 Tannolees i 323 Uti/Wood Machinerl i i

Not..: Excluded Sectors:3214 Carpet., Rugs 3513 Synthetic Prod 3619 Fob Motl n.e.c. 3452 Photo/Optical Eq3216 Cotton Textile. 352S Chemicale n.e.e. 3621 Engines, Trub 3453 Watche, Clock.3217 Wool Textile. 3529 Chemicals n-wo. 3825 Office Machinery 3392 Musical Instr3218 Synthetic Textile. 3C5 Plastic Prod 3629 Machinery n.e.a. 393 Sporting Goods3221 Apparel, n.e.s. 3621 Clsee Product. 3842 Railway Equip 3399 Other Manuf n.e.3319 Wood, Cork n.e.a. 3722 Non-ftrr Htle n.s. 3849 Transport Eq n.e.

Internal Competition Categories:A . Top 251 of induatrieo with hlghest CR4'e (let quartile).. Next 253 of industries Ir CR4 value. (2nd quartile).C . Next 26T of Industries In CR4 value. (3rd quartile).D . Lowet 256 of Industries with lowest CR4'. (4th quartile).

External Cometwtion Catogries:1 Top 25X of industrie_ with higheet QR Coverage (1et quartile).2 . Next 261 of industrie In QR covrage (2nd quartilo).3. Next 25X of industries In QR covorage (3rd quartile).4 . Lowest 25X of Industries with lowoot QR coveragi (4"h quartile).

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FIGURE 2.1: OR COVERAGE & CONCENTRATIONOF PRODUCTION

Cm PftdstUa Comfp1 F . **. ..- . I *

OA .... :

0.OF

0.2

0 0.1 0.2 0.3 0.4 0. o 0.7 0.5 0.9 ¶CR4

2.4 Trade Policy. Industrial Structure, and Performance

2.4.1 Total Factor Productivity Growth and the Degree of Internal andExternal Competition

91. The subsectoral estimates of total factor productivity growthpresented in the first chapter of this report (contained in Roberts (1989) andupdated by Roberts in March 1990) were used to examine the relationshipbetween productivity growth and che degree of internal and externalcompetitive pressure faced by an industry. The degree of external competitionwas measured by the import penetration ratio, i.e.. the value of competingimports of a given 3-digit industry as a share of total sales (domestic andexport) of the industry. The hypothesis is that increased import competition,reflected in higher rates of import penetration, are associated with higherrates of productivity growth. This could occur as the result of pressure onexisting firms to use resources more efficiently, thereby reduclng slack.Alternatively, import competition could lead to higher TFP growth via a changein the mix of domestic producers, as small, high-cost producers exit, allowlnglarger producers to fully exploit the economies of scale associated withincreased specialization.

92. The degree of internal competition was measured by the industry'sherfindAhl indez. The hypothesis is that plants in an industry vith largedispersion in plant sizes, and thus a large value of the Herfindahl lndex, mayface less competitive pressure from their intra-industry rivals. Theseindustries, which include larger plants with higher levels of efficiency canearn economic rents and are under less pressure to take advantage of allpossible efficiency gains. Thus, these industries would have lower rates ofproductivity growth.

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93. A detailed report of the regression analysis is contained in Annex 1.Over the 1977-87 period, the coefficient on the Herfindahl indez was negativeand significant. This indicates that, both across industries in a givenyears, and over time in a given industry, higher levels of domestic marketconcentration are associated vith lower rates of productivity growth. Outputgrowth has a positive and significant effect of productivity growth,consistent with the achiev em nt of scale economies.

94. Over the sawe period, the coefficient on the growth in importpenetration was positive but not significantly different from zero. Incontrast, for the earlier subperiod 1977-83 the relationship betweenproductivity growth and import competition was positive and significant. Inother words, for 1977-83, higher import penetration is associated with higherrates of productivity growth, both across industries at a point in time, andover time in a given industry. The efficiency-improving effects of importcompetition seem to have been greater, however, during the period before the1984-86 adjustment program.

95. The addition of an interaction variable allows the growth in importpenetration on productivity growth to vary with the concentration of theindustry. For both 1977-83 and 1977-87, the coefficient on the growth inimport penetration became insignificant, while the coefficient on theinteraction term was positive and significant. Together, these resultsindicate that increased import competition is associated with higherproductivity growth in more highly concentrated industries. Again, thisrelationship holds both across industries in a given year, as well as overtime in a given industry.

96. A disaggregation of output growth into the growth in sales to thedomestic market versus the growth in exports, reveals that only growth inproduction for the domestic market is systematically correlated withproductivity growth. The growth of exports has a positive but statisticallyinsignificant relationship to productivity growth. This is consistent withthe findings of several studies that the growth in domestic demand has beenthe major source of manufacturing growth throughout the 19709 and 1980g. Inaddition, the correlation between import penetration and productivity growthis still positive in the more highly concentrated industries, but thestatistical significance of this relationship declines.

2.4.2 Price Cost Mariins and the Degree of Internal and External Competition

97. A similar analysis was undertaken to determine the effect of internaland external competitive pressure on price-cost margins across industries(Roberts, 1989). The price-cost margin is a widely-used msasure of thedeviation between output price and average variable cost. In the absence ofdata on product price and unit costs, a proxy variable can be constructed bysubtracting the total expenditure on variable inputs (assumed to be labor andmaterials) from total revenue, and then expressing this difference as aproportion of total revenue. This is equivalent to plant profits pluspayments to fixed factors (capital) as a proportion of total revenue. As a

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result, each plant's price-cost margin varies with the plant's capitalintensity, as well as vith the level of profit earned by the plant, whichdepends on demand conditions, plant efficiency, and output market competition.

98. Price-cost margins were computed at the three-digit industrialclassification level for the yeb:z 1977-85. As would be expected, there is adecline in the price-cost margin in most industries during the 1981-83recessiunary period (Table 2.22). After 1983, price-cost margins in mostindustries begin to recover. There are significant differences which persistover time in price-cost margins acrums industries. In 1985, the industrieswith the highest price-cost margins (over 20X) included the tobacco industry,beverages, some non-metallic mineral products, scientific equipment, and othermanufacturing. Those with the lowest margins (below 1OZ) were leatherproducts and transport equipment.

TABLE 2.22: Price-Cost Margins By Manufacturing Subsector

INDUSTRY 1977 1961 19S6

311 Food Products 0.155 0.172 0.210312 Food Prdts, nee.n 0.192 0.2W0 0.170313 Beverages 0.487 0.440 0.381814 Tobacco 06.45 0.207 0.344321 Texti le0 6.310 0.236 0.243322 Apparel 0.249 0.177 0.144323 Leathor Products 0.206 0.264 0.080324 Footwear 0.230 0.197 0.142381 Wood Products 0.364 6.301 0.244332 Wood Furniture 0.227 0.1'1 0.128341 Pulp, Paper 0.361 0.188 0.182342 Printing 0.316 0.279 0.241361 Indust laB Chemicals 0.242 0.206 0.189852 Drugs, Cosntics 0.341 0.297 0.240354 Petroleus Prdts, Rofin 0.623 6.219 0.230386 Rubber Products 0.295 6.2065 0.238368 Plastic Products 0.274 0.163 0.145361 Pottery, Coramices 0.231 0.216 0.269Je2 Class Products 0.266 0.282 0.307369 Nonmtl Products n.e.c. 0.263 0.244 6.310371 Iron Steel Basic Ltls 0.236 0.186 0.173372 Non-ferrous Metals 0.235 0.282 0.231361 Fabricated Motal Prdts 0.348 6.196 0.175382 Nonolectric Machinery 0.268 0.131 0.174363 Electrlcal Machinery 0.80a 0.263 0.212384 Transport Equipmnt 0.220 0.142 0.073385 Scientific Equip ent 0.262 0.311 0.337396 Other Manufacturing 0.6.6 0.325 0.109

Source: Roberta (1989).

99. The effects of internal and external competition on price-costmargins over the 1977-85 period were analyzed in a regression of the industryprice-cost margin on the Herfindahl index (as noted above, a measure ofinternal competitive pressure), the import penetration ratio, and the capital-

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output ratio (to control for the capital intensity of the industry). Theregression results indicate that price-cost margins rise with an increase inthe Herfindahl index. That is, on average across industries during the sametime period and over time in a given industry, hgher price-cost margins areassociated with higher levels of output market concentration.

100. The results show that an increase in import competition is associatedwith a statistically significant decline in the price-cost margin. Thissuggests that imports do have a price-discipline effect on domestic producers.Further analysis using an interaction variable indicates that while theincrease in import penetration acts to reduce margins a,ross all industries,the largest reduction occurs in the highly-concentrated industries. In otherwords, not surprisingly, imports a*e only likely to have an effect on averageindustry profits if some or all of the firms in the industry are earning abovenormal returns. The negative association found between imports and price-cost margins in Colombia is similar to studies of other countries that findthat import penetration tends to be negatively correlated with theprofitability of domestic sellers, especially when domestic concentration ishigh.17

101. An analysis of price-cost margins at the plant level was done todetermine whether the variation in the performance of plants results fromindustry-level differences in the extent of competition, or from plant-leveldifferences in efficiency. The results show that price-cost margins rise withan increase in plant size, but at a diminishing rate. This is consistent withefficiency differences across producers which diminish as the plants increasein size. Plants in industries with high import penetration ratios have lowerprice-cost margins, and the addition of an interaction variable indicatec thatimport penetration has a larger (negative) effect on the margins of relativelylarge plants. Overall, margins are higher for large plants in an industry andimports act to reduce margins, particularly for the larger plants. Thissuggests that import competition has its most substantial effect on the rentsbeing earned by the largest plants in the domestic industry.

102. Rather than simply increasing the level of market competition andlowerii.g the margins of all firms within an industry, imports have adifferential effect on the margins of large and small plants. This suggeststhat differences in plant efficiency exist and that import penetration mayreduce the level of rents being earned by the larger producers.

2.4.3 Conclusions

103. The analysis of this section shows a clear relationship betweenindustrial performance and internal and external competition in themanufacturing sector. The welfare losses of the Imperfectly competitivedomestic market structure, reflected in higher price-cost margins, arereinforced by the lack of competition from imports. In this sense the currenttrade regime, which grants nearly complete protection from imports to domestic

17e.g., Schmalensee (1989).

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producers, protects the ability of oligopolistic firms to earn excess profits.The price discipline effects of higher rates of import penetration are greaterin more concentrated industries where the ability to earn excess profits ishigher, and the effects are greater for larger plants.

104. Both internal and external competition are also related to dynamicefficiency. Higher rates of total factor productivity growth are observed inindustries with a more competitive domestic market structure. Higher rates ofproductivity growth are also associated with increased import penetration.This could be occurring as the result of pressure on existing producers to useresources more efficiently, or due to changes in the mix of domestic producersas higher-cost producers are forced to exit. The effects of increased importcompetition on productivity change are found to be greater in industriescharacterized by limited domestic competition, implying that the efficiencybenefits of trade liberalization would be higher in concentrated industries.

105. Nevertheless, some caution is warranted in interpreting theproductivity and regression estimates of this section. First, as is the casein any estimation of total factor productivity growth, the estimates are quitesensitive to the price deflators used to convert nominal values of productionand inputs to real values. In the current example, the key variable is thematerials price deflator, since materials account for a large share of thevalue of inputs in many industries. Second, recall that the positiveassociation between import penetration and and TFP growth, interpreted to bethe result of competitive pressure from imports of close substitutes, wasfound at the three-digit industrial classification level. At this relativelyhigh level of aggregation, the positive statistical relationship may bepicking up the effects on industrial efficiency of changes over time in therestrictiveness of policies toward imported inputs and/or the relativescarcity or abundance of foreign exchange. A suggested refinement of theanalysis woald be to use more disaggregated industrial data (e.g.,observations at the four-digit industrial classification level).

2.5 wax Policy and Industrial Incentives

106. The exIz:lng system of corporate income tax in Colombia is governedby the recent tax reform legislation (Law 75 of 1986). The main objectives ofthis reform were to achieve equity, neutrality, and administrative efficiency.The objective of neutrality referred to both neutrality across forms ofbusiness organization as well as across different economic sectors. Inaddition, the tax reform sought to achieve neutrality in incenitives withrespect to firms' choice of financing (see Chapter 4 of this report).

107. With respect to neutrality, Law 75 of 1986 unified the corporateincome tax at 30X, reforming the previous system in which tax rates differedaccording to the form of business organization. It also eliminated themajority of special exemptins and deductions that differed across sectors.However, preferential treatment was maintained for certain activities andtaxpayers. With respect to sectoral differences, the principal cases of non-neutrality are:

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o the forestry sector, which receives incentives, such as the possibilityof counting up to SO1 of income as non-taxable and deductingexpenditures on investments in reforestation;

o the publishing industry, with complete exemption from incom tax andpartial eszmption of property taxt

o the Merchant Marine, with total exemption from income tax;

o air and sea transport, receiving exemption from tax on income earnedabroad;

o the petroleum industry, vith deductions of up to 5O0 of profit forexhaustion of reserves; and

o certain agricultural activities with long investment payback periods(e.g., palm, rubber, olives, etc.), which may deduct annual investmentsfrom taxable income.

108. In general, and in contrast to the situation of the 19609, theincentives created by the current tax regime can be said to be basicallyneutral across industrial activities. Rey de Marulanda (1988) found that thetax incentives given to the publishing industry and the Merchant Marine (whichare considered to be services rather than industrial activities) have asignificant impact on profitability. The incentives granted to the publishingindustry have been justified by the Government as compensation for incentivesgranted by other Latin American countries and the high degree of ext rnalcompetition in the industry. The maritime industry also receives incentivesin other countries, although the degree of international competition is lower.In the forestry industry, tax incentives have had little impact.

109. In general terms, regional and municipal taxes on industry andcommerce are relatively low, and sectoral differences are relativelyunimportant. Sales taxes are set at 10? except for automobiles (20Z) and someluxury goods (35X). Sales taxes are exempted for agricultural goods, food,minerals, petroleum and some petroleum products, pharmaceutical products,newsprint, books, some packaging materials, and agricultural machinery. Otherdepartmental and municipal taxes include those on alcoholic beverages andtobacco, and gasoline.

110. In summary, overall the tax regime governing income, sales, andconsumption taxes in Colombia can be considered to be relatively neutral inits effect on incentives across industrial subsectors. Thus the hypothesisthat the tax regime significantly affects inter-industry resource allocationis not supported. This contrasts with the situation of import tariffs, whichshow su3stantial variation across industrial activities, altering relativeprices and thereby affecting resource allocation.

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2.6 Leuislation Governina Non-Competitive Behavior

111. This section describeu existing legi Lation governing non-competitive practices, both in domestic comerce ano international trade.18

Among these ore general lavs prohibiting unfair trade practices, and morespecific regulations governing international transactions.

112. Law 55 of 1959. The stated objective of this regulation is toprohiblt or control all types of practices, procedures, or system. that tendto limit free competition or tc set or maintain unequal prices, contrary tothe intereost of consumers and the producers of raw materials. Exceptionswould be allowed when such practices have the objective of defending thestability of a sector basic to the production of goods or services of generalinterest to the economy. These sectors (defined in a 1962 decree) includefood, clothing, sanitation, housing, fuel, transport, electricity, water andgas pipelines, banking, insurance, education, and industries related to steelproduction.

113. Those practices that are considered illegal are a'1 practices madecontrary to good commercial faith and the honorable and normal development ofeconomic activities. Also prohibited are prartices defined as illegal ininternational treaties and conventions. Among the latter are (a) measures orsystems directed at obtaining a division of clientele, through non-normalactivities and legal application of t>s laws of supply and demand and (b)measures or systems directed at creating a general disorganization of markets.The legislation gives the Government the right to intervene to set prices andmonitor the activities of the firm.

114. Commercial Code. The Commercial Code basically adds little to Law55, p.ohibiting the practices that are illegal under Law 55 and adding to thelist of illegal practices any other similar procedure similar to thosepreviously noted, carried out by a competitor to the detriment of others, whencontrary to commercial custom.

115. Tariff valuation. Decree 2011 of 1973 establishes the conditions fordetermining the value of imports for tariff purposes. The decree states thatthe import price must be the result of a transaction effected under conditionsof free competition, and does not include payments unrelated to thetransaction. Import prices lower than the "competitive price, may berevalued.

116. Control of under- or over-valuation of imports and exports. Decree691 of 1967 gives INCOMEX the r- ponsibility of monitoring import and exportprices to prevent under- or ovez-invoicing, pursued for objectives of capitalflight, tax evasion, dumping, or illegal collection of export incentives.Although this mechanism could be important to prevent dumping, in practice the

18This section is based on an unpublished paper by Jorge Ospina Sardi andLino Jaramillo Giraldo, as slnnarized in Rey de Harulanda (1988).

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ability of INCONEX to monitor the prices of an enormous quantity of imports isquite limited.

117. Norms under the Andean Pact and ALADI. The Cartagena Agreementprohibits practices that distort competition in the subregion, such asdumping, improper price manipulation, or operations intended to disrupt thenormal supply of raw materials. Member countries can appeal to the Junta delAcuerdo de Cartagena to allow it to take measures to prevent or correct forthese practices (e.g., anti-dumping duties). In addition, the CartagenaAgreement contains a safeguard clause allowing temporary measures to preventdamage arising from an expansion of imports.

116. Effectiveness of letislation tovernina anti-competitive behavior.The effectiveness of Law 55 has been very limited. Though this legislationprohibits mergers and acquisitions of competing firms or purchasers andsuppliers (that is, horizontal or vertical integration) without priorGovernment approval, it does not regulate this integration ins .deconglomerates or holding companies. In addition, the institutionalresponsibilities for application of the law are unclear, and the institutionalcapacity to do so is limited. Theoretically, the Superintendency of Industryand Trade is in charge of administering the law, but it does not have aspecialized division for this purpose. The Superintendency mainly acts uponrequests of interested parties, which occasionally happens in cases of unfairtrade practices but rarely in cases of anti-competitive mergers andacquisitions. The failure to effectively use Law 55 suggests the need forrevisions to regulate the formation and consolidation of conglomerates andillegal practices in monopolistic and oligopolistic markets, as well as theneed for improvemonts in the institutional capacity to administer the law.

119. The majority of the instruments designed to regulate intern&tionaltrading practices have little capacity for control or sanction against thequantity of heterogeneous products and prices they are supposed to regulate.Given the impossibility of the task, the responsible agencies concentratetheir efforts on imports and exports with the largest volume or which seemmost prone to under- and over-invoicing. A better mechanism might be thecreation of tribunals to rule on complaints of unfair import competition,according to specified tests. The current instruments could concentrate onthe exchange control, tariff evasion, and over-valuation of exports.

2.7 Conclusions and Policy Recommendations

120. This chapter examined the degree of both internal and externalcompetitive pressure on Colombian industry, and their relation to industrialperformance. In general, the degree of competition or contestability faced byColombian firms from other domestic firms and from imports, as well as fromfirms competing for export markets, is found to be limited. The empiricalanalysis of this chapter suggests that the lack of internal and externalcompetition have been factors causing the industrial sector's disappointingproductivity growth and lack of international competitiveness.

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121. Recent Bank sector work has shown that while the trade policy reformsundertaken in the 1984-86 adjustment program eliminated a number of importrestrictions, the reform program did not fundamentally alter the structure oftrade policy and its inward orientation. Since imports are restricted via theinstrument of prior licenses for the majority of domestically-produced goods,with little or no regard to price or quality differences, most industries facelittle external competitive pressure. The anti-export bias of the traderegime continues to result in a low export orientation of industry and a lackof export diversification, further limiting competitive behavior between firmsin export markets.

122. As in many developing countries, the small size of the Colombisnmarket combined with economies of scale in production encourages oligopoli_ticmarket structures and limited internal competitive pressure. Theconcentration of production in the industrial sector appears to have increasedin the last twenty years, particularly in intermediate and capital goodsindustries. The historic tendency toward concentration of ownership andcontrol via horizontal and vertical integration haa become much more prevalentin recent years, implying more limited internal competition and moresignificant barriers to entry than are suggested by traditional measures ofdomestic concentration.

123. Empirical analysis using both plant-level and industry-level datasupports the hypothesis that the lack of both internal and externalcompetition have negative effects on industrial performance. More highlyconcentrated industries are statistically associated with higher price-costmargins and lower total factor productivity growth. Imports appear to exertcompetitive 'discipline' on producers of domestic substitutes: higher levelsof import penetration are associated with lower price-cost margins and higherrates of productivity growth. Import discipline seems to have a greaterefficiency-improving effect in more concentrated industries -- i.e., thosethat face little competition in the domestic market.

124. The relationship between competition and industrial performanceclearly points to the need for aggressive pro-competition policies, bothinternal and external. With respect to trade policy, a pro-competition stancerequires a fundamental shift from past attempts to protect infant industriesform import competition that relied on the hope that the provision of a wide'margin of inefficiency" would give firms the ability to mature and becomemore competitive. It must be recognized that while this import-protectionstrategy was useful during the initial stages of industrialization inColombia, it has become counterproductive. The trade regime now protects theposition of inefficient incumbents, perpetuating their infancy. Trade policymust now focus on giving firms the incentive to become more efficient, byexposing them to the forces of international competition.

125. To bring international price pressure to bear on domestic industry,trade policy reform should begin by changing the main instrument of protectionfrom quantitative restrictions (import licenses) to tariffs and the exchangerate. To achieve greater neutrality across industrial activities, the level

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and dispersion of protection must be reduced. Greater reliance Deeds to beplaced on the ezchange rate as the main instrument of export promotion,accompanied by reductions in fiscal incentives and subsidized credit forexports.

126. The Government's recently announced trade reform program sugSests apromising new commitment to increase external competition and to graduallyreduce the anti-export bias inherent in the current trade regim. The programwould begin by replacing quantitative restrictions by equivalent tariffs,followed by a reduction in the level and dispersion of protection. Therewould be an increase in the role of fiscal, monetary, and exchange ratepolicies to achieve external balance. The program would also includeinstitutional reforms to encourage exports and discourage unfair tradepractices.

127. The design of pro-competition policies on the domestic front, both asa complement to trade reform and as a means of improving performance inindustries where a concentrated market structure is the main cause ofinefficiency, is more complex. In many industries the main cause of domesticconcentration is the existence of natural barriers to entry such as economiesof scale combined with a smill nationai or regional market. The briefanalysis ia this chapter of tax incentives granted to the industrial sectorindicates that, in contrast to many other developing countries whereiyidustrial incent:ves bias resource allocation among industrial activities andact as barriers to entry, the incentive regime in Colombia following the 1986tax reform is basically neutral across sectors, with a few exceptions. Asdiscussed in Chapter 4, the main focus of policies to increase domesticcompetition should be the financial sector -- credit terms and allocation, andthe development of capital mar!;ets. In addition, legislation controllingmarket structure, non-competitive business practices, and financialtransactions among firms in conglomerates will need to be stren8thened andenforced.

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CHAPTER 3: RESOURCE MObILITY

3.1 Introduction

124. This chapter focuses on the mobility of non-financial resources inthe industrial sector, and the extent to vhich certain structural and policyfactors act as barriers to resource mobility. After an analysis of patternsof entry and exit of firms in the manufacturing sector, the chapter focuses onprice controls and labor legislation, vith some reference to legislationgoverning asset restructuring and receivership (the Concordato).

3.2 Patterns of Plant Entry. Exit, and Growth

3.2.1 Entry and Exit

125. Patterns of entry and exit of plants in the manufacturing sector wereanalyzed using a panel data set of between approximately 6200 and 7000 plantsper year from the DANE manufacturing survey for the years 1977 through 1985.1In addition to providing information on the numDer and size of entering andexiting plants, the analysis addresses the question of what happened to plantsfollowing entry. For example, did new plants expand following entry andeventually become substantial producers? If so, how long did that processtake? In this case, production and employment in the manufacturing sectorwould have tended to turn over as .iew plants entered and grew and older plantscontracted and closed. Alternatively, new plants may have tended to failquickly following entry, such that production and employment were coacentratedin an older group of larger, stable plants with entry and exit largelyconfined to a fringe group of smaller producers. This information givesinsight into the mobility of resources in the industrial sector.

126. Table 3.1 shows rates of entry and exit of plants in themanufacturing sector, the market share of new entrants, and the market shareof exiting plants in the year before their exit.2 The aggregate entry rate

lRoberts (1989).

2The entry rate in a given year is the number of entering plants in agiven year (t) as a proportion of the number of plants in operation in year(t-l). The exit rate in year (t) is the number of exiting plants in year (t)as a proportion of the pool of possible exiting plants, i.e., the total numberof plants in year (t-l). The entry rate for 1982-83 is calculated as thenumber of new plants present in 1983 divided by the number of plants with 10or more employees in 1982. This changes is necessazy because the 1983manufacturing survey does not include plants with less than 10 employees andthus it is not possible to measure the number of entrants in this size class.The exit variable is not calculated for 1982-83 because of the change insurvey coverage. Plants which were ir. operation in both years but that hadfewer than 10 employees in 1983 would not be covered in that year. These

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for new plants varies from a low of 8.7Z of the total number of plants peryear to a high of 14.91 over the 1977-85 period, vith an average of 12.2Z.The entry measures indicate a fairly large number of small entering plants ineach years the entrants, on average, are about 391 the size of the averageincumbent. Similar conclusions apply to exiting plants. The exit rate variesfrom 8.31 of all plants to 12.9Z, with an average of 11.1Z. Exiting plantstend to be smller than survivors, again about 39X of the average size ofsurvivors.

127. For comparison, a similar study for Chile covering 1979-85 showsthat, as in Colombia, both entering and exiting plants tend to be smaller thantheir incumbant counterparts.3 The main difference between patterns of plantentry and exit in Chile and Colombia is that the entry rate in Colombia ismuch higher (at about 121 per year) than it i3 in Chile (about 42 per year).

128. Further analysis of entry and exit rates by 3-digit industrialsubsector (Table 3.2) ,eveals a large and positive correlation between entryand exit rates across industries. In other words, industries with higher thanavert entry rates tend to have higher than average exit rates. Thissuggests that one can view industries as either high turnover-industrias(i.e., simultaneously high entry and exit), or low turnover-industries. Theseresults for Colombia are like to those found for the U.S. in a similar study.4

Industries with relatively high entry anl exit rates include several non-durable consumer goods industries such as apparel, leather products, footwear,wood products, and furniture; those with relatively low entry and exit ratesinclude some highly coicentrated industries such as beverages and petroleumproducts; drugs and cosmetics, not highly concentrated but dominated byforeign direct investment; and some interkaediate and capital goods industriessuch as paper

129. Abain looking across 3-digit industrial subsectors, the rate of entryof new plants varies according to the size class of plants. The entry rate islower in larger plant size quartiles. In other words, not surprisingly,within an industry there is more entry of small plants than large. Relativeto the larger, older plants in an industry, the smaller, younger plants havehigher exit rates. Though the higher survival rate of older, more establishedplants is to be expected. the results indicate that, for each age group, exitrates are lower for larger plants, This is consistent with the hypothesisthat larger incumbent firms enjoy some advantages that are less available tosmaller incumbents and potential new entrants, such as an experienced workforce, better management, better access to credit and imported inputs, andGovernment efforts to support large firms in financial difficulty.

plants would be incorrectly classified as exits.

3Tyliout (1989).

4Dunne, Roberts, and Samuelson, (1989).

73

TAKE *.1 Etry *ed Exit of Maauw.teurIP4 Pleant

1977-7 197M-7 197_0 19641 1991-42 1962-U 196-44 194-U

Entry Rate (ER) 9.16 0.126 6.141 0 .G7 1.124 6.119 *.122 0.149

Enbramts OutputShorse (MO) 9*041 6.*91 C.0; *. 9.64 9.057 6.6*029 *.614

Etrantos Relativo1as, (ENS) 6.295 *.770 *.6 0.542 6.51S 6.294 6.216 0.245

Ex It Not. XR) 9.116 6.106 *.129 9.096 9Cet 0.120 0.126

Exlttr's OutputShere (XS") 0.06 0.069 0.089 09.96 0.68 6.626 .0."

Exiter's RelativeS1.a (XRS) 6.280 6.536 6.664 .640 0.410 6.20 8.271

Source: Roberta (1969).

Note:ER(t) * NE(t)/NT(t-1)

XR(t-1) * NY(t-1)/iT(t-1)

ESH(t) * QE(t)/QT(t)

XSH(t-1) * QX(t-1)/QT(t-1)

QE(t)/NE(t)ERS(t) * __

(QT(t) - QE(t))/(NT(t) - NE(t))

QX(t-l)/NX(t-1)XRS(t-1) -

(QT(t-1) - QX(t-1))/(NT(t-l) - NX(t-M)

Where:NE(t) * number of plants that enter the mnufacturing sector between years t-I and t.NT(t) a total number of plants In operation In year t. This Includes plants that

enter between years t-I and t.NX(t-1) a number of plants that exit between years t-1 dnd t.QE(t) * total output of plants that enter between y nea t-1 and t.QT(t) * total output of *11 plants in year t.QX(t-1) a total yeor t-1 output of pianto that exit between y re at- and t.

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TABUE 8.2: Entry and Exit Rtates by Msnuf..tUri.g Subseeter

AVERAGE AMNL ENR RATES (R) AVEtAGE USUAL EXIT RATES (X)

DUSTRY 19"7-1111 1_1-19112 1968-1996 1977-1901 166-10 19 8-195

811 Fed Pre dwe *.19 0.6"9 4.104 6.118 .11 0.118812 Food Prdt,e, n.e... 6.6n $.in 0.em 0.674 6.a" 6.ata18 lvrages 6.067 0.049 .044 6.6t4 #.On 6.on814 Tebae 6.0116 .m es st.22s 0.146 0.129a21 rT xti I.e .186 0.004 6.126 6.128 6.112 1.117822 Apparel 0.262 6.165 6.181 *.1W 0.194 0.146828 Leather Products 6.170 #.n90 6.262 6.187 *.1J 0.129824 Footwer 6.16 6.212 9.19C 6.146 9.1# 6.1U6$81 Weoe Preoduct 6.116 *.161 6.165 0.18$ 0.115 *.196882 Wood Furniture 9.1U6 0,lC1 9.174 9.169 *.30 6.196841 Pulp, Paper 6.1i 0.f62 6.094 *.691 G.629 6.676*42 Printing 0.114 6.069 0.148 0.166 9.664 9.1U6851 Industrial Chemicals 6.166 t.697 6.1I5 *.606 6.669 0.t72862 Drugs, Cosmetics c.n * .as .d06l 0.t74 6.665 6.678854 Petrolsum Prdta, Refin *.182 0.t65 6.02 .0m .t122t t.675855 Rubber Product. t .16i 6.114 t .069 t t75 6.m 6.125866 Plastic Products 0.167 t.117 6.261 6.126 .6612 t.14t861 Pottery, Ceramics 0.184 6.668 6.128 6.184 *.141 6.1in862 Glass Product. 6.661 t.117 6.126 6.1i6 6.127 6.666869 Nonstl Producte n.e. - .112 t09C t.116 6.116 6."4 t.126871 Iron Steel Basic tlts 6.117 6.691 6.154 6.116 6.116 8.697872 Non-ferrous MsaIns *. 61 t0.89 6.098 t.679 t.667 6.128$81 Fabricated Metal Prdt. 8.127 6.666 6.111 6.118 6.698 0.14882 Nonelectrc Machinery 6.167 t.641 *.1U8 0.077 **.74 *.mfU6S Electrical Machinery 6.69 0.647 6.166 6.664 *.66 6.69864 Transport Equipmnt t.12t t.106 0.116 6.119 *.696 .162865 Scientific Equipmnt 6.165 t.649 6.187 6.124 t.t66 6.111

806 Other Manufacturing 0.124 t.061 0.142 6.187 .t9J 9.1228

Average 0.129 6.998 0.126 a.1'8 t.601 6.114

Source: Roberts (1989).Not.: ER(t) a NE(t)/NT(t-1)

XR(t-1) a NX(t-1)/NT(t-1)wre: NE(t) a number of plants that enter the mnufacturing aector between years t-1 and t.

NTQ#) a total numbr of plant. In operation In year t. This Includ_ plant. thatenter between years t-1 and t.

NX(t-1) * number of plant. that exit between years t-1 and t.

3.2.2 Patterns of Growth

130. Post-entry patterns of growth can be seen by measuring the outputshare of each year's entry cohort (the group of plants that enter in the sameyear) in the years following entry. Following these entry cohorts over timereveals that, for virtually all observations, the market share of an enteringcohort declines systematically in each year following entry (Table 3.3). Onaverage, the market share of an entering cohort is 4.92 in the first year ofoperation, 4.1S in the second year, 3.92 in the third year, and 3.3? in thefourth year. In general, the average size of each cohort's surviving plants,relative to the average size of all plants, increases as the cohort ages. Forexample, the plants that entered in 1978 produced about 412 of the output of

- 75 -

the average plant in 1978, but those that survived prodaced at an output levelof 601 of the average by 1985. It thus appears that the decline in mrketshare of entering firms 1 caused by a decline in the number of plants in thecohort due to ezit. As each cohort ages, it numbers shrink but its survivorsbecom mnore heavily concentrated in the upper end of ths manufacturing sizedistribution.

TAILE 3.: Share f Manufacturing OWtput, Averse Plant Size, and SurvivalRates of Entry Cohort.

1977 1076 1979 19 1961 1962 19J6 1994 19U

SHARE OF MANUFACTURING OUTPUT

1977 plant. 1.40 6.965 6.072 6.876 0.832 9.796 6.776 0.749 9.7211978 entrants 6.645 6.9 6.625 6.26 6.t24 0.J22 6.92 9.921979 entrants 4.t9 6.646 0.642 4.t41 9.t44 6.634 9.9W196 entrant. e.O 0.649 9.064 6.64S 6.648 0.9421981 entrant. 6.t6 O.6tS .646 9.647 6.6941062 entrants 6.046 0.644 .64 6.U371963 entrant. *.837 0.637 6.9 41964 entrant. 0.929 96.261965 entrants 0.641

AVERACE SIZE OF SURVIVING FIRMS RELATIVE TO AVERAGE SIZE OF ALL MAMIFACTURDNG PLANTS

1977 plant. 1.666 1.672 1.097 1.241 1.276 1.364 1.452 1.549 1.6611973 entrant. 9.413 0.362 0.379 0.429 6.4S0 0.492 6.83C 1.6621979 entrant. 0.799 6.52C 0633 6.613 6.653 0.716 a.786196 entrant. 8.401 8.413 8.471 *636 0.592 6.6871961 entrant. 6.565 0.664 *.701 6.863 U .9911962 entrants 6.341 0.420 0.454 O.561963 entrant. 6.320 O.396 6.4281964 entrant. 9.237 98.221965 entrant. 9.275

YEAR-TO-YEAR COHORT SURVIVAL RATES

1977 plaont 1.66 *.864 0.991 0.03 6.S922 .091 6.991 6.9261979 entrant. 1.666 9.772 6.634 6.9S6 6.961 C .62 99.t961979 entrant. 1. 66 75 .6 *O 79 9 .671 6.914199 entrant. 1.6901 0.643 6.892 6.u7 4.6619S1 entrant. 1.1 114 96 .4 9n1062 entron 1 *.89 *.641963 entrant. 1.in 6.9M7 9.J711964 entrants 1.66 6.6661996 entrant. 1.

Source: Roberts (1999).

Notes: The 1977 cohort is not a true entry cohort, but rather Ineluda all plant Inoperation In 1977.The yearly survival rate for oach cohort is defined as the proportion of plontproent In year t that survive until year t+1. Survival rat.. or. net reprtedfor 1963 because of the ckhne In covorage of the mnufacturing survey to excludeplant. with fewer than 10 employees.

- 76 -

131. The degree of import competition faced by an industry might beexpected to have an influence on rates of plant entry and exit, vith higherimport penetration resulting in lower rates of entry and higher rates of exitfor domestic producors. However, import penetration did not seem to affectentry and exit rates (independent of the import penetration's effect on outputgrowth) for the aggregate manufacturing sector over the period studied.5

There is some evidence that import penetra.ion had a minor effect on largerand younger plants: higher rates of import penetration were associated withhigher exit rates. Neither did the degree of internal competition, measuredby a concentration variable, vary with rates of entry and exit.

3.2.3 Conclusions

132. To sumiarize this analysis of patterns of plant entry and exit showsthat (i) entry and exit rates in Colombia do not seem particularly small,being similar to those found in the U.S.. suggesting that barriers to entryand exit of firms in general are not strong; (ii) not surprisingly, newentrants tend to be small -- about two-fifths the size of established plants;(iii) failing plants also tend to be smaller than surviving plants, and withinage groups, larger plants are more likely to survive. This could be theresult of higher efficiency of the larger plants, or to advantages of largerplants such as access to credit, import licenses, etc.; (iv) the market shareof an entry cohort declines over time due to the exit of smaller firms in thecohort; the surviving plants grow in size; and (v) higher rates of externalcompetition, measured by import penetration, do not seem to be associated withhigher plant failure rates.

3.3 Price Controls

3.3.1 Coverage. Administration, and Methodologv

133. Price controls on selected industrial and agricultural products andsome services have been in place since the 1940s. Until 1976, the hationalProduction and Prices Superintendency administered price controls. In 1976,this responsibility was assigned to a number of different ministries and otherGovernment institutions. These include:

o the Ministry of Agriculture, for agricultural products and inputs;

o the Ministry of Health, for drugs and pharmaceutical input- (these willpass to the Ministry of Economic Development in 1989);

5Determined by regressing the entry rate in industry i in year t onoutput growth (to control for industry demand), the Herfindahl index, importpenetration, and the capital-output ratio (as a proxy for the importance offixed production costs); and regressing the exit rate separately on these sameindependent variables.

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o the Ministry of Mines and Energy, for petroleum, coal, and theirderivatives;

o the Ministry of Zducation, for textbooks and other teaching materials;

o the Ministry of Public Works, for land transport tariffs;

o the Civil Aeronautics Department, for air transport tariffs;

O the National Tourim Corporation, for hotels, restaurants, and othertourist facilities;

o the National Board for Public Service Tariffs, for water, electricity,sewerage and waste collection, telephone, telegraph, and postalservices;

o the Ministry of Economic Development, for industrial products andservices not administered by other agencies.

134. The number of industrial products that are subject to price controlshas been reduced substantially. Products previously controlled that have beenliberalized since 1976 include detergents and soaps, light bulbs, taxis andother automobiles, tin and glass packaging materials, and garments.Currently, the main industrial products that are subject to price co-trolsadministered by the Ministry of Economic Development are commercial transportvehicles (buses, trucks, and campers), tires produced for commercialtransport; inputs for the tire industry, including caprolactam, nylor. cord,lamp black, cement and cement products, beer and soft drinks, and iadustrialazmonnia. Those administered by the Ministry of Agriculture includefertilizers and pesticides; those by the Ministry of Education includetextbooks and notebooks; and those by the Ministry of Health include drugs andpharmaceutical products.

135. Historically, prices have been regulated in various ways (Table 3.4!:

o "monitored freedom' (libertad vigilada): Firms announced to theGovernment their intention to raise prices. If not denied within threemonths, the modification could be made.

o 'freedom with maximum increase' (libertad con tone de aumento)t pricesvere allowed to increase freely up to a maximum increase of 18-222annually (divided into two semi-annual adjustments), limits which werebased on the average rates of inflation and devaluation of the mid-1980s.

o direct control with adjustment: for tires and their inputs, cement andcement products, and beverages, prices were adjusted by the Ministry ofEconomic Development using explicit price adjustment formulas during the1986-1988 period.

- 78 -

The adoption of the direct control with adjustment methodology in 1984-85 was the result of an effort of the Government and the National IndustrialAssociation (ANDI) to agree on clear rules for adjusting price controls,balancing the producers' needs to pass on input price increases with theinterests of consumers. The exact methodology varied by product, but it wasbased on movement of macroeconomic variables (the rates of inflation anddevaluation), as well as the cost of inputs (domestic and imported rawmaterials, energy, electricity, etc., weighted by input shares). For example,the adjustawnt formula for non-alcoholic beverages increased the product pricewith increases in sugar and bottling prices (by their cost share factors 152and 81 respectively), other material inputs (by the increase in the consumerprice index and their respective cost shares), labor costs (according to theinflation rate and their cost share of 332), and the price of fuel (accordingto the wholesale price index and its cost share).

136. Currently, the Ministry of Economic Development applies an automaticadjustment system in which the firms use agreed upon adjustment formulas ofthe type previously employed under the 'direct control with adjustment'methodology, notifying the Ministry of their actions. The adjustment formulasare agreed upon by the industry and the Ministry, and they include some pricecorrections to compensate for previous lags in adjustment. In addition, theautomatic adjustment formulas attempt to pass on the effects of productivitygains to the consumer, by limiting to 952 the proportion of input priceincreases that may be passed along to the consumer. Price adjustments areallowed no more frequently than every six months. There is a statedpossibility for annual adjustments in the cost structure coefficients. Thismethodol .3y represents an advanicement compared to the previous system, but itcaptures very few of the factors which would determine price in a market. Theformulas include only supply-side factors, ignoring changes in demand or inthe structure of markets.

_ 79 -

TAKLE 8.4: Evolution ot the Price Control System

P.OUcT is i9u4 19o w 1907 iNS

S r NNW dttord K !; IC rIt I r, | AuIeool |Fromes molt I Freed. Ctr with Ilaximum Adjue.wW

IInereoO

DI Dr t Control IAdjustmentI I ~ I o

~ ~ ---!- -- ! ----- 1--- --- -- -1-------- -1- -- -- ---------@Soft Drlinks Monitored I DIr et Fro II Auto t'c

Fr edom Control I with Maxim-um I Adj utmnt IIncrease I I I

I i j Direct Control i I iI I I Adjustment I | |

M thodology I I

II I I I I ICement | Monitored I Direct I Fredom I Automatie I

Freedom I Control I with Maximum I Adjustmnt I II I I Increase I (August)

| Direct Control I III| I Adjustment I I I I

j Methodology I 1 1 1

Asbostos- I Monitored I Direct Freedom I Automatic I 1 1Cement I Freedoom Control I with Maximum I Adjustment I I

I I I Increase (August) I I I

i i i Direct :ontrol | I I iAdjustmentMethodology

Tires for I Direct …… Fredos I Automatic IPublic Transp. Control owith Maximum I Adjustment I IAnd Cargo a In s I I I

Direct Control i I I II Adjustment I I I I

I ibMthodology I … lIIII I I

Woven Fabrics I Direct I I Freedom I Automatic 1of Man-ad I Control I I with Maximum I I Adjustment IFibers I I Increos l I

I I i I II I I Direct Control lj ||I Adjustment l

Methodology

- 80 -

TA>IE 8.4 (sent.)t Evolutionef te Pru). Coetrel Systm

puC? 1_16 1914 IU111166 191 1o6

TomMimimmtI T lWbI Fre"I AI Ilecolor) Free" cSiree w* IFe Maxlei_Xl~~ I I j IT

DI rect Cotrol

AdJu_nCarbon, mel Monitored Frd I m AutomaticCarbon Slack IFreedom Iwith Maximumi I Adj ustaset

I I ~~~~I I"lc Is 1I

I ~ ~ DIr"t I IM

| | | Dl~~1 Orect C.ntr.l I

Iu for --- 1 ---- Ii " Aut Ie -Indus. Use Coto Adj utn

I I I orC r l I I I I

I I I t I. I I !Sourz~~ Ry I IbuIre (1 9)

Aut.mblie ---- I -M-oniltored --- I -- Di7r-ct IFreedom of I Freedom of I Freedom of I Automatic IFreedoim Control uPriee for Prices for I Pricee for Adjustmnt I

137 Table 3 Sgivesinformationon Particular Taxis ofBasic Modelsti forI I I ~~~~~~~AutomobilIes I Commerciall

products topricecon l WI th the Vehicles aeIcept beverages *nd cere the B.inexception of c r f

I I I besio~~~~modols e

to I, indicating *concentDireat Control I t tcord ndcaprolactam,theisfor onefrmel t tI I ~~~VehiclesII

I I I ~~~~~Taxis, andIIII I I ~~~~~Basic ModelsII

Source: Rey de Marulanda (1969).

3.3.2 Characteristics of Industries Subiect to Price Controls

137. Table 3.5 gives information on the market structure of industrialproducts subject to price control by the Ministry of gconomic Development, asweil as the degree of protection granted to these products by tariff. andquantitative import restrictions. in all industries subject to price controlsexcept beverages and cement, the Biin indez of concentration ranges from 921to 1001, indicating a highly concentrated market structure. In the nitrogenfertilizer industry, there are only two firms; in the tire input industries ofnylon cord and caprolactam, there is only one firm. And though theconcentration ratios for the beer, soft drinks, i:nd cement industries arelover, t'he regional nature of their markets and the grouping of i-ndividual

- SI -

lime lto cogl0cirates (the Santo Dnlpgo group for beer, Coca-Cola and theArdil Lulls Group for non-alcoholic beverages, and the Argos and DiLmategroups for cement) sugget that these industries should also be consideredoli 1 opolistic.

TARE S.5: Chera-terietice of Industries, &ujoct to Price Contrl.

mSIm ClO.1WATMIN FATION oFrF or FI ar mVAl SlX CCOy MMA1 ATIl3S alm n m1En1 TIW M TIW m

SJr0 N'dretely Seat, DionimmD 100l 100 Ibtional Aog the hiea .01 U.0 halterd P.we Cencentretd hyenia Highly If Ir_ir 0 legt)

01 igely syrvsmi CAsCentrete mundfa.fgtrisgAguei ll i1 gsopoly

"altenia. lAside. Total agiteEzOthers 1l proefit I .m

Soft Dridt J.75 Lightly CA Cole are Higoly Apprmitely Ce" Cole areu" 55.0 .led df _Cemcetretd" Controls SOS Concentrad 80 Forelip Areg the p _Hige Ob 01eSteoligopoly of brket Oligopoly capwItel Prits

Toe leSer:Ardile L.le 45 Ntionel DDl Pritu/Sele:

Group Cmtrole Capital40 of Obr t. Ca Cole Aeea/ePoftimeely the B5 Set oSso Cmnpenie Prefiteble ./o,*-IJ~ ~ ~ ~ ~~~~~~~cop S;I ow

Nitrog,_ F ortill. ,1.011 Highly Highly iml_ tely I-re An" 0.15 40.0 Fre 0 ZegeitCmnceetrltedw t t cIntee anal %%eS 1et SW 1_:

Oigsoly Oligopoly Captel Proitble AnoIes Su

CJpitloAndeen Country lepht.ee it;tltaltin.tieae 1k

Fire TveteIl Seatl:?.gsU Pr,fite/lIeloo 0.1is -4S0 Realter-ed AmOs. &

Naionael Peutof Amoium Ntscalcium bIn ea.oel= itrtJe e

_______ ~ ~ ~ ~ ~ ~ ~ vl| ____ *

TAK& 8.5 (coat.): OCherterietice of Irduetrlee Subject te PMae Controls

rber Tire. 91.11 Highly LA Cor_oracle2 Highly Approule.t Prefliable -. .tr Pgo_ "a Ftrate Pimenlera da Concentrated m atsi.. "Imill $mpara .t

Oligopoly Ve IIo has tbhe Oligoply CaIt Tetel Seeciw: Aviation 4161.ie.Control of' 2 88 Foein amPuofite/Salae

Af the a Cepiel T* National Predestine

of leAgbomAlee

CemAet 46.18 Lightly Argu Group Highly App iaetely Aro. r&,tup .

Conceatratadl Coatmiol 68 of Concentrated 98otionel Profitabllr Company 1 1opert1ololy i=y Production H ligopoly Caita _ 0_ Pre_lt_ sa_ _

Ar____ro_ Rag ior.___ Total Se__e_clad:s merhet net Ineluding

companie. Inwerelane Seaport

Three comaie.,aith different I.ldn

etocit ounerahip nelo.lep:- --- - ---- - ---- - ------- - - -- --- 0.618 Pro ite/lIale.

Abebetoe-Ceeat 92.46 Highly The 8 Principal Highly Approaleetely terait Cooadleasi 40.0. 64.6 "miter"d Preade.:Concentrated! compani"e are of Concentrated 11011 Fgorign AW,telege ebom.eC.eat

Oligopoly the fternit group Oligopoly' capital 100 I re. ,I= Wi.e8so Ibtienel counwtry 008 a 4.6 "mitered Prooes:

.eegionel CapitalTueIbrkets a-1111 Profte/Sale. 00.86 6486111 Nwervil Progeda:

100.865 Higl Oinly One Firo Highy 88 NationalConcentratesd IConcentrated Capital

O igcopoly IOligopoly 411 VeonezulanI ~~~~~~~~~Cap itol

TAKE 3.5 (cont.): Oaa;rct.ritim a ot I rita Ubject t Prig C41trol

Cabon/Carm Olkt |100.05 Hilhly lg| Cnieinttel *i i Claasifi ed | . s. I l|

_ _ liopoly O_i_opoly C__ _t_l Large_t Firm_ la_______ _

m $VIC" MAN o 0.0 Highly only Or* Fine Highly 51i National Higly Profitablez .W1.05 ?i d Proud.".'owerawe cancentrated Capital

Ohigmowly Oligopoly WI.N Prsfitalgeles i

405 ~~~~5 bCapital El Finest. tas

Autoambil, Saute, 100.05 Hishly Highly 545 Forei GP 1900-U: coelboests 151 -3S .i0dPreeCM,tated Cocecntrated Capitol "Wi CA idmsed(pg 3j

01 I gopry 01 igepoly lees..W~as" ranked 2g1 adWa.

In, Cmm rcil KnUobtVehicles one Pr =1Isal Firesa

fi r. alone 110.05 3.3 birgdFa.c,st,-.la ONg?0: CON-beresoCWZW"Of the Wrkt High ls Profitable

",shad gmb inno" l Fre 80.0 .

Soree: b Prulanda (1).

- 85 -

138. While the concentrated market structure of industries subject toprice controls s4ggests that price regulation is being used as an anti-monopoly policy, it should be noted that price controls are not used in allconcentrated industries. Whereas about 602 of menufacturing production issold in markets oategorized as highly or moderately eoncentrated,1 only ismall proportion are subject to price controls. Siallarly, price controlsarguably might be a mechanism of limiting the anti-competitive effects ofpotentially infinite protection granted by quantitati7e restrictions onimports. While it is true that products with price controls are generallygranted high protection via import licenses, this prot..tion is granted toalmost all goods that are domestically produced. Neither does theparticipation of foreign direct investment appear to explain the existence ofprice controls.

139. A logical criterion for selecting products for price controls mightbe their import-nce, directly or indirectly, in the basket of consumer goodspurchased by low- or moderate-income households. Beer, non-alcoholicbeverages, and vehicles represent 0.72, 1.O, and 1.92, respectively, of thecomposition of the basket of consumer goods used to calculate the conbumerprice index. Tires are an input for the commercial transport industry, whichrepresents another 3.5Z. Fertilizers and pesticides are inputs for foodproducts, which account for another 12.42. However, there is a large group ofproducts with a direct and substantial contribution to this basket, that havenot been subject to price controls: e.g., furniture (1.82), appliances(2.02), cleaning supplies (2.82), and apparel and shoes (9.22).

140. In sum, it is difficult to identify market characteristics of goodssubject to price controls that are different from products not subject toprice regulation. Neither do price controls seem to be used as a mechanism ofprcdiding basic necessities to iower income segments of the population, sincethey cover only a few items, and not necessarily the most important items, inthe consumer market basket.

3.3.3 The Effects of Price Controls

141. Table 3.6 shows the variation in prices for goods controlled by theMinistry of Economic Development during the last four years compared to thechange in the consumer price index. In 1985, the rate of increase incontrolled prices, 18.82 for all regulated products, was below the inflationrate (22.52) and substantially below the rate of devaluation (51.2Z). In theremaining three years, the rate af increase in regulated prices was generallyabove both inflation and devaluation. In 1986 and 1987, this partly reflectsthe efforts of the Ministry to compensate producers for previous lags inadjusting to cost increases created by the dev_luation of the peso in 1985.Looking over a to ger period, 1970-88, certain products such as non-alcoholicbeverages and cement have generally received price increases above the rate ofincrease of the wholesale price index, whereas the prices of others (beer, busand truck tires, and cement products) have increased at rates below the WPI(Table 3.7). While it is difficult to estimate what prices would have been in

1Misas (1988).

- 86 -

the absence of controls, the differenaes in prlce incroases across controlledproducts -- seme above inflation and s_ below -- su"st that price controlsmay have discouraged i,vastment and ected as a deterrent in at least omelndustrie. In others, where price controls my not have been a bindingconstraint on price increases, the obvious question is why such controls werethoupght to be necessary.

TAKES.: ALans*I Varlabljee la Prl.e Controlsby Uoaeturiag IW try

PUSIUCT 1956 19" 167S 15

Bear 13.53 27.67n 42 663 29 .left DrJIA 16.6X 26.SJX 44.183 26.513Cement 16.3X 21.481 2.77X *2.79SAsb..toe-Cemst 18.81 21.13X 21.5X 29.92XTir o:

Large Trucks 13.63 27.31X 81.853 83.163Sm l Trucks 18.3x 26.990 81.113 "8.3Van. 15.-x 26.663 27.877 J2.J95

Man Mad Fibers (Wov*n) 18.6X 21.76X 41.24X 22.94XColorlng Matter 18.33 26.73 U4.1131 28.753rbon. lncl. Carbon Black 18.M3 25.94X U3.74X 27.681

Amonium for Ind. Use 21.80X 28.63X 25.83SVehicloe:

B-60 42.661 24.42X 86.62XCHR-59 76.721 54.823 48.613C-70-149 89.43X 23.23X 38.53XC-70-160 38.53x 23.28x 38.94XC-U6 7l.863X 3.713 85.14X

Campro Trooper 14.58X

Inflotion 22.48X 26.90X 24.423 26.123Devalustirn Poso/1 51.20X 27.13 26.41X 27.36X

Source: Roy d Maryland. (1909).

TAKE 8.7: rJ,du of Pvie.e. f IMajor _ob-setew

u~r 1970 1971 1972 197 1974 1971 1 70 197 1 179 I" 10 1661 1M 1JM 1"4 IM too 13

Pi Im ty 1ser 100 114 I9 I" 10 70 272 847 72 604 0 770 912 1,090 1.M 1.46 1-.3 6,3W 11

let Drink. 100 117 10 178 gm 19 89 a" m 8011 1.010 1.1 1.111 1.607 21115 1,7W 8.66 4.80 *8JU

aweical P.rtiiis.r 100 111 110 10 811 400 406 601 0 16 a1 n 1.0 1.00 1.005 1.914 *.3w 1.6 *.3W S.3W

l_pectled;e forV.e.i.o Use 100 1 111 18 D01 170 26 44 00 444 GM 747 918 1.11, 1.00 1.M6 ,z1.1 6,66 6.M

Ti roe for Baes. enTrucks 100 1 122 IZ 10 1 MO 36 21 017 412 4" 012 76 1 9u S.3f I.M 1.50 1.74

Tire. for Auteubile 100 10 119 140 198 12 299 3W 427 84 701 l 4 1.0 1.,411 .l 2. ,. 4.3 5.11111

Portlan Ceemt 100 118 in 1s 10" W SW 406 87 76 1.006 1.441 1.41 11 l. 1,676 1.804 .6 4,JU *.,

Awboetee-Cwemt, Obes 100 111 1U 149 211 178 8 41 M 661 796 1.06 1.70 1.041 1, 10 * i _ ,.11 ,146 61

Aesto-Cet Tlie 100 110 10 147 M 0 877 414 a" * 011 1.004 1.9, 1,40J 1.671 1.011 *.84 *1. 8.3L

Aetembi Ise 100 94 97 107 181 176 M 290 M 410 499 891 76 696 1,10 1.iW 1.iL9 8.39

Trucks &nd Vos- 100 101 1S1 186 140 11 814 M 48i7 106 07 U4 1.141 1.l, 1.040 1.411 8,11,1 4.0 .644

Tetel bad. 100 112 In 19 M0 t 84 448 66? 074 667 1.,O 1.8,0 1 _ 1.679 I.06 2., .5i i 4.1W 4

Ernk.nelle i is 10 DO 24 lt 81 16 87 so 48 4, a 70 Ui l10 1" Sy 3

EbAge _. la- Ide l 10 106 1 iU 141 1 i 19 212 =1 Zl nl 476 011 917 1.176 1.41 1.3

d.:e Dl do ihruu,d (193).

142. The effects of price controls on investment and growth of the!udustry are difficult to quantify, and have probably varied across theindustries controlled. lowever, firms in many of the industries subject toprice controls have maintained healthy profits. Recently publ.shedinformation on the profitabllity of the 100 largest firms over 1985-87suggsts that those that produce goods subject to price controls have had verygood or at least satisfactory levels of prof't (Table 3.8). For ez*mple,Bavaria (beer production) enjoyed a level of profits that was among thehighest in the industrial sector (second hihest in 1986 and s*w nth highestin 1987). Coca-Cola (soft drinks) with profits of 45.5Z of sales in 1987,occupied 14th place in 1986 ant 191.h place in 1987. Eteruit (asbestos-cement) had a profit rate of about 242 in 1986-87. The growth rates ofproduction of four-digit industrial subsectors that include products subjectto price controls, with the exception of rubber tires and non-alcoholicbeverages, have been above that of the manufacturing sector as a i'hole.

TABL£E 3.: Profits of Major Firms, 1965-1907

NET PtOFITS PROFITS/SAIE1965 19 1987 to9 19i# 19W7

SEUBaveai 8642 4382 58a 6.9% 1.01 5.8C.rvunion 765 11 1489 11.31 11.9X 12.61Agul1s 1e5 1375 2716 1:.41 13.3X 12.21

Ranking within the 25 most profitable companies:Bavaria 2 7Aguila 24

SOFT DRINKSTotal Industry 241 8a6 1426 3.21 7.91 19.S1Coca-Cola 1471 2446 3444 39.91 46,11 45.51Postobon 347 560 9.61 2.91

Ranking within the 26 most profitablo compnies:Coca-Co I 14 19

NITROGEN FERTILIZERSMonomeos 12iU 2U43 4029 6.31 10.45 19.61Abocol 186 36 323 2.7X 4.4X 3.9X

Ranking within the 26 most profitable compani-e:Monomerou * 14

RUNSE TIRESGoodyear 8U 763 S65 9.6X 6.9X 5.8XIcol lnt.o 64 675 1458 7.6X ND 1.3aUniroyal SW 426 1286 4.7X $.6x 19.51

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TAKE 3.6 (coot.): PrOtIe ot? Major PfIr, 1965-1967

NuET PITS POITS/ALEs19 196 1907 199 X9" 1907

MAN MDE FIBErS (WOVEN)Enko de Colmbia on 134" 48 6.96 11.1X 16.23

Ranking within the 26 meet pf t.eblo e_pnle 17T& De Colmble 17 is

CARBON, CARN BLACKCoempenIo In C rbon meetor not among top 191 ftIr_ of thecountry

CEMENTinversione. Sa_er -1292 -2829 417 -26.2X -4J.93 -7.23Aeorn10 Paz del Rieo -70 1653 446t -3.9X 4.2X 12.95Cemntos Argos 1338 1F86 24'9 14.9X 14.33 16.9XCemntom Caribe 689 701 11.3 14.31 12.7w 14.3XComento. Diaante -75 -387 412 -9.9X -8.9X 4.2XCumentos Del VaIll 473 969 1595 13.7X 19.4X 17.1XCemento. Rio Claro 7 -179 3.43 -9.6XCement.s Boyaca *1 92 S.6X 3.33Toleomento 8 112 5.43 4.43Cementos el Cairo 539 648 18.2X 14.2X

ASBESTOS-CEMENT PRODUCTSEternit Colombiana 891 1209 1926 26.9X 23.2X 26.33

AUTOMOBILESColmotores -5968 -3493 2348 -37.63 -9.7X 4.2XCCA -1771 -7164 143 -9.7X -34.2X 1.3XSofasa 377 1348 496 1.53 3.9X '.1X

Ranhkng within the 25 most profitable companieo:So*aea 25Colvaotoree 24

Source: Roy de Maruland (1969).

3.3.4 Conclusions

143. The criteria for choosing which products would be subject .o pricecontrols, as well as for choosing which would cease to be regulated, have notbeen clear. The products covered by price controls are not all importantbasic consumer necessities, and many consumer necessities are not subject to

price regulation. On average, the rate of price increase for controlled itemshas been at least as high as inflation. While the industries subject to pricecontrols are monopolistic or highly oligopolistic, not all industries with aconcentrated market structure are so regulated. While industries under pricecontrols are protected from external competition by quantitative importrestrictions, so are many others. Thus, if the objective of price controls isto limit the ability of oligopolistic firms to earn excess profits (allowed bythe low degree of internal and external competition), at the minimum the

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policy is not being applied widely. A more effective and widely appliedpolicy to limit the price effects of concentrated market structures would be apro-competition policy, including both trade policies to increase ezternalcompetitive pressure and industrial policies to reduce barriers eo entry andgrowth.

3.4 Labor Legislation. Labor Costs. and Labor Mobilitv

3.4.1 Introduction

144. This section considers the significance of distortions inmanufacturing labor markets created by private sector labor regulations.First, it focuses on trends in non-vage benefits and their effect on totallabor costs. Second, the section examines the impact of labor legislation onlabor mobility, flexibility, and the gap between formal and informal labormarkets. The analysis is taken from Wogart (1985) and the Hision de Emlleoreport (Ocampo and Ramirez, 1987) with some material updated by la-irez (1988)and Lopez (1989D, and international comparisons from Riveros (1989).

145. The stated objective of labor legislation is to 'achieve justice inthe relations between owners and workers, in a spirit of economic cooperationand social equilibrium", and, recognizing the weak position of labor againstthe owners of capital, to protect for workers a minimum of rights andguarantees. Current labor legislation contains regi-lation of labor contractsfor individuals (regulations governing capacity, consent, form, duration,revision, suspension, and tormination); guarantees of the right of associationand collective action; regulations and guarantees governing grievance andother procedures; and special legislation governing labor rights andregulations in the public sector.

146. Colombian labor legislation has not undergone any major changes inthe last five years, and with the exception of some modifications introducedwith the Estado de Sitlo of 1965, there has not been a significantreorientation of labor laws since the 1940s. There have, however, been somemodifications that have widened the coverage or form of application of certainlabor laws.

3.4.2 Non-Wage Benefits

147. Description. The Colombian labor force receives a wide range ofstatutory non-wage benefits (NWBs). Firma aith total assets of more thanCol$200,000 are required by law to pay the following allowancess

(a) Cesantias (severance payments), equal to one month's salary per year ofservice to be payable when employment is terminated (including forreasons of retirement or voluntary resignation). Firms are required toset up a reserve fund to cover future payments. For entitlementsarising after 1962 (the majority of firms' obligations), the cesantia isretroactive: the Lase for the calculated payment is the salary of thelast month before termination (provided it had remained constant for the

- 91 -

last throe months). As of 1975, interest (121 annually) suet be paid onthe workers' balance in the fund. In addition, eployees may makepartial withdrawals of thelr accusulat.d cesmnt±a balance* for certainpurposes (e.g., housing).

(b) Social security, including sickness and maternlty benefits (financed bymonthly payroll taxes of 2.332 paid by the employee and 4.61 by theemployer); occupational disease and work accident allowances (1.02 ofthe monthly payroll paid by the omployer); and old age, disability, anddeath benefits (1.5S from employees and 4.51 from employers).

(c) Compensation for unjustified dismisals these benefita include (a) anindemnification ranging from 45 to 615 days of salary, depending uponthe years of service, for dismissal without just cause; and (b) theright to be reinstated (accion de reintearo), or alternatively, to claiman extra pension payment (the uension-sancion), for employees with morethan ten years of service who have been dismissed unjustly.

(d) Annual leave: the equivalent of fifteen days' work per year.

(e) Wage premia (prima de servicios): a t'irteenth month's salary, with onehalf paid in June and the other half irn December.

(f) Family allowance: four percent of the payrcll, paid by the employer.

(g) Contributions to the National Training Institute (SENA)t two percent ofthe payroll, paid by the employer.

(h) Contributions to the National Family Welfare Institute (ICBF): twopercent of the payroll, paid by the employer.

(i) Cortributiorns to the family medicine program.

148. In addition to statutory NWBs. many firms -- particularly largerfirms in which the labor force is unionized -- pay NWBe in addition to thoserequired by labor legislation. There are a great number of these eztra-legalbenefits, covering everything from eyeglasses to school materials, which areprovided mainly by larger firms with unionized labor. The most common aredeath benefits (paid by 891 of respondents in a sample of medium- and large-scale firms), educational assistance (paid by 87'), bonuses for vacations,Christmas, and seniority (88, 891, and 782 respectively), maternity benefits(862), and eyeglasses (892). Taken together, the list of statutory and extra-legal benefits is extensive (Table 3.9).

... ~ ~~~~~40O. _wM " .

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Teb. St show"o. ed bare-Laepl Use-%oe I.ftwts

A. CS_Peine1*e #ec dey Vecte"esob wffbed Seapeo

S. i* er b1_ _ pemeeSiek *esve

DI e~I,old ago. deethFoal v wl*F41 IF ef"1Extra-lega pquse for roetirement,h eith, .

C. Cml_qmtary Payments Seperation bmf it. sW lbeoru

Bei. fot r eme, advor rell i

Trar portto S dWork-required clothing d shoBurial oxponosHouslng fundsPayment. for educatlon, _urrigoe, te.

0. Coste of hirinsg Trial perlodstraining, and discharge SENA

Tralnin coatInden I Ile tion- nsion-ronclonAccion de olTnTsro

Source: Table 1 in J.A. Ocampo, 'EI Regimen Preetacional del Sector Privadow,In Ocampo and Ramirog (ode.) (197).

149. Trends in non-wvoe benefits. NUBs have increased significantly inthe post-World War II period, both in real terms and as a proportion of totalremuneration to labor. Table 3.10 shows the evolution of statutory benefits,measured as a proportion of the basic salary. Relative to basic vages,statutory NWBs more than doubled between 1950 and 1987, from 272 to 592.Statutory and extra-legal benefits together amounted to 1192 of wages in 19G6,up from 422 in 1970 (Table 3.11).

150. Looked at another way, as a proportion of total remuneration, NWBsincreased their participation substantially (Table 3.11). In 1970, statutoryand estra-legal NWBs accounted for 292 of total remuneration for skilledworkers and 302 for unskilled labor; by 1986, they accounted far 60-662.

_ 93 .

VAm.E 8.16. 8Stbete' Nsa-e Seaft.(as S of Slalee)

1066 165 1958 US? i16

Aamal Leave 5.6 5.0 1.6 6. I. .

se Prema (Prima de seviels) 3.8 6.8 6.8 6.8 I.S 6.8

Seatts te Payroll uss 4.3 6.o 1.5 15.8 16.6 22.111_ (loo-m r -ulat sad Uteraity 4.5 4.5 4.5 4.5 4.5 4.5Work-11l10I II s sNW Me_ter 1.6 1.6 1.8DistbitIIy, Old A*, D0ab S.6 4.5 4.5F_mily Al lweae 4.0 4.0 4.0 4.0 4.6SIA 1.6 2.0 2.6 2.6 2.0

ICe. 2.0 2.0Fam ly Mdiel" 8.6

Subtotel 17.6 22.8 28.6 23.6 82.1 85.4

Seprartion Psyasat (Casantia) Nad laOerst 9.. 9.5 12.5 12.5 28.8 28.8

TOTAL 26.3 82.8 lS.8 41.1 55.4 U.7

Sourcet W°grt (1965) and Rmirse (lMS).

TABLE 8.11: Wag and Non-w"g Payment to Labor, It 'J-1906

1970 1975 1966 1961 In2 10 1964 1908 1906

Salaries/Total R1ansrstoalSkIlled Workers 70.7 65.5 59.7 5.8 65. 7 U5.4 55.8 t5.1 54.2UnskiII ed Workers 69.9 6.t 6*6.7 59.9 5 67 55.8 MS6 55.9 54.9

Non-Wage Betite/SolarlisSk Illed Workers 6.41 0.58 0.67 6.72 .90 6.W6 6.61 6.64 169.-0Unskilled Workers 6.48 6.U 5 .65 0.67 6.76 6.78 0.79 0.32 119.5UTotal 0.42 r.52 .66 6.69 0.78 0.79 6.06 6.83 116.76

Source: Rml rez (1966).

151. The insreose in MeN was the result of:

o an increase in the social security and other government pregrrmsfinanced by payroll tazes. These contxibvtions mounted to 4.52 ofsalaries in 1950, 15.3Z in 1967, 18.8S in 1980, and 22.1S in 1987,altnough not all workers are covered by these proarams (Table 3.10).

- 94 -

a the effect of inflation on the retroactivity of severance payments(cesantiasl: the cost of severance payrnts and interest, as aproportion of salaries, almot doubled from 12.52 in 1967 to 23.32 in1980, stabilizing at that level in the 19800.

o an increase in extra-legal benefits negotiated in collective agreements.

o an increase in layoffs during the recession of the early 1980w, whichincreased weparation payments.

152. The reasons for the increase in NWBs have differed for sall- andmedinm-scale firms (SMEs) versus large firas. For the Skis, the widenedcoverage of statutory beneflts has been the decisive factor. In largerenterprises, the main explanation has been the tendency of unions to demandincreases in extra-legal benefits in collective bargaining agreements.

153. Though the years are not strictly comparable, a comparison of Tables3.10 and 3.11 shows that, overall, a large part of the increase in total NWBshas been the result of increases in extra-legal benefits. In the late 1960s,most of the total of NWBs (about 42Z of salaries) was the result of statutorybenefits (about 412 of salaries). Though both statutory and extra-legalbenefits increased over the 197US and 1980., in 1986-87 statutory benefits(59Z of salaries in 1987) accounted for about a lower portion of NWBs (832 ofsalaries in 1985 and 1192 in 1986).

154. Of statutory NWBs, the cesantia contributes the most to labor costs.Firms are obliged to calculate annually the total sum of cesantias that theywould have to pay their workers, based on present wages (i.e., the scheme isfully retroactive), and incorporate them into their balance sheets asliabil:ties to labor. In addition, they must pay an annual interest rate of122 on the consolidated cesantias since 1975. Theoretically, firms can usethese iunds as working capital or invest them elsewhere at a substantiallyhigher return. If no partial withdrawals are made by employees, the yieldwhich the funds must generate in order to cover the coats of retroactivity isnot greatly different from current market interest rates (though this requiredyield rises with the employees' niunber of years of serv_.ce).

155. When partial withdrawals are made, however, the yield which thefirm's remaining cesantia reserves must generate in order to cover the costsof retroactivity are substantially larger, increasing rapidly with the numberof years of service and the frequency of part'al withdrawals. When partialwithdrawals are made, the firm is obliged to assume the full costs ofretroactivity, putting aside monthly reserves substantially greater than one-twelfth of current salaries. The problem with the present system ofregulations governing cesantias is not retroactivity itself, but rather theretroactivity on partial withdrawals. These excess costs could be eliminatedalmost entirely by changing the system used to enter these withdrawals on thebooks. If the withdrawals were entered in real te,ms or in terms of years ofbenefits to which the worker is entitled, the costs of the cesantia systemwould be approximately equivalent to the one month's salary per yearestablished by law (Wogart 1985, Annex 1).

-~~~~~~~~~~~~ 95 -

156. A recent study cparing waps ud Mfs a.ros a group of d10lopiugmd industrialilsed countries (Riveros 1989) highlights the sipificasce ofDMs b' Colbia. The ratio of MIl to wages is genrr-.ly higher In Latis

A_rican countries tha In Africa or Asia (Table 3.12). Of the 21 deelopingcountries In the sample, Including six Latin Amrican countries, the MI ratioIn 1985 me highest In Colombia. ten MISs were measured as a proportion ofo1ly pet capita Income (a proxy for the shadow price of labor, In order to

m_asure the degree of distortion of labor legislatLon relative to the leel ofeammic 4.velopmst of the cou_try), Colombia fall, to fifth plaoe, behindIndia, Zimbabwe, Crece, and Morocco, although Colombia still lead, the otherLatin American countries. This cotrasts with the situation in 1965, thefirst year included in the analysis, when Mils as a proportion of income wererelatively low in Colombia compared to other countrioe in the sample.

TABLE 5.12: Non-wage Co.te:I,tornational Comparleons

19#S 1979 197T ism 1C

LATIN AMERICA (1) (2) (1) (2) (1) (2) (., (2) (1) (2)Arel no 0.8 (9.46) 9.8U (0.52) 0.55 (9.66) 0.4' (1.60 9.4 grox; I 0 $4 (0e) 0.94 (9.U3) 0.l ( 4. 8 0 0.a .4Colemble *.1 (.1:*4 (9.24) *.CS .91 GM2.eJl Chil- I.86 (9.89 0.48 (9.49) .51 (9.42) *.26 * *.mexlee 0.87 (6.75C 9.87 (9.67) .n9 (.71) 9.41 (..4Pop" 9.24 (9.57) 9.24 (9.56) 8.24 (9.87) 9.25 (9.2)1

APR!CAKenya .A. 9.18 (9.9) B.18 (9.71) 9.1a (9.02) 0. @Nwocc B.G. 9.14 (9.64) 9.19 (9.92) 4.19 (9.).1Malawi n.*. 0.14 (0.91) 0.14 (9.66) 9.15 (9.94) *. *Nigeria n.99 (9.81) 9.19 (9.20) 9.10 (9.14) 0.19 .1) .1Tanzania 9.10 (0.63) 0.19 (S.68) 9.19 (9.66) 9.12 9 .56) 4@|t ;44Indbl 0.09 (9.22) *.22 (1.24) 9.29 (1.24) 8. ( ) 0.Zimbabwe 9.15 (9.73) 9.15 (9.69) S.15 (9.67) *.1 (0.98) *.U .

3OUT ASIAW ADIndio 9.22 (4.9S) *.22 O -so) 0.24 (1.24) 4.2J1 (1.1 ) 42 (.lPakIStan 9.15 (9.39) 9.1S (0.98) 0.15 (9.41) 9.15 (i.J9 9 .15 PS 4%Sri Lonks 9.25 (9.71) 9.25 (9.62) 9.25 (9.58) 0.25 (9.84) 9.8 (9.86

EAST ASIAM"n KeI 9.11 (9.99) 0.11 (W.S9W 9.15 ((.19) 9.25 (9.1) 9.2 (LKorea 0.29 (0.24) *.20 (a .2C) *.0 .2 0.20 ( .211*. . E

Slngpre 4.11 U-.14) 0.14 (6.99) *.2 re .14 O.2 re .12) *.J9 I.EUNEGreece G." (S.5a) *.59 (0.49W) 0. l.1 .Portuogl 9.13 (9.21) 9.21 (9.24) 9.24 504 ' e.2 r *.0Froe 9 .76 (.77) 9.61 (R.n 9."Austria 0.79 (.66) 0.74 (9.) 0.9.Ormany S." (0.74) 9.60 .(6..:: ..7Sp in *. u (8.6) 6.48 (0.07) 8.4 "J

Sweden 0.45 (9.56) 8.e2 if.71 *.sT United Xlngdo *-23 (O.Ul) G.JWf G ."l *.$J p

USA 9.82 (9.48) .85 (9.44) 9.87 (.44)Canoda .25 (9.81) 8.25 (9.88) 9.2 (.I)Japan 9.14 (0.18) 9.16 (. 16) 9.17 (9.1

Notes: Non-WagO costs aro exprsed as a proportion of labor oarnings. _etween iroei-097 WF¾7 T ;y VWyear euivalent ornetary value ot Non-Wage-Coat of lobor and the hourly per capita I .

Source: Riveroe (1999).

M

_ 97 -

157. Mm-wv-e benflts and total labor costs. The fact that Was InColombia have increased relative to sgps and that the M ratio is high InColombia relative to other developing countries does not ecoesatrily man thatthe total remuneration of labor is above its opportunity cost (or shadowprice), bidicating a distortion Iu labor markets. It is possible that Milshve merely substituted for wge benefits. In that caso, distortions createdby VWl legislation would be limlted to effects of the latter on labor turnoverand mobility.

156. There is saw evidence to support the arguent that ms have beenabsorbed In large part by workers ln the form of a decrease Lu wages.Although Mils have increased significantly over time, total reomuneration hasgrown at a lover rate (though the trends in real remuneration *re sensitive tothe deflator chosen), and less than the growth in labor productivity.

TAKLE 8.18: Rel Renumeration in Manufactering, 197 -19s

1976 1976 1 1961 112 1906 1904 1965 1908

Us Ing OP DeflItar:Skilled Workers 116.2 95.5 106.9 111.8 118.9 129.4 117.8 114.9 192.7Unskilled Workers 90.7 64.9 166.6 11o.5 117.6 125.6 126.1 125.9 111.1Total 97.8 68.1 191. 111.4 .17.2 121.9 124.8 124.8 111.0

Using CP Defltor Without Coffee:Sk3iled Workers 118.6 96.1 186.8 163.5 197.2 112.2 112.2 112. 1609.0UnskIlled Workers 91.7 S6.4 111.6 102.5 110.7 115.8 129.6 128.2 119.5Tote1 96.8 98.6 16.0 198.6 110.8 215.5 116.9 121.7 116.7

Using CPI:Skilled Workers 102.2 69.6 166.1 164.4 169.1 113.3 121.1 113.9 129.'UnskilIled Workers 90.1 81.4 106.6 160.9 116.7 116.2 120.8 126.4 128.2Total 90.4 68.5 16t.9 193.5 111.2 117.4 127.2 126.5 126.6

Source: Rmlres (10).

159. The behavior of rual wages in the industrial sector during 1970-86 isshown in Table 3.14. Real wages across all types of industrial workers weareabout 131 lower in 1986 than in 1970 and were at approximately the level sf1980, when deflated by the GDP deflator including coffee prices. When ccffeeprices are excluded from the calculation, real wages show more stability,though in 1986 were still below their 1970 levels. The trend in real wagessince 1980 was about the same for the agricultural sector, while public sectorworkers fared somewhat better. Variations in real wages during the 1970-86period show an inverse relationship with the rate of inflation. That 4s, thevariation in nominal wages has beer less than the variation in the generalprice level, with real wages tending to rise during periods of increaslnginflation and to fall during periods of decelerating inflation.

J 4.A J48, A S a to

im u.

al . 7 dl here187.7 134.6 166.0 IM1O. 31.32 U.? 1604 161.6 16.1Wadi 1,11 hebso U1.6 0114 W.0.5 6 30.11104 114.1 1U56 U15. MA.&Tout 118.8 66.6 16.6 211.4 16.5 314.6 114.0 114.0 16.1

Vs II le b4w1 184.6 15.4 161.0 M1.6* 11.0 34. 16.6 161.0 16.7umesIIi srbrs 1N.$ U. 16. 1.6 111.5 13.0 113.6 118.1 136.1Total *1. U.5 16.0 13.6 1in.# '.2 13. 112.1 W3.$

Leetcijt ue 1in.9 ".$ 16.6 1.6 so.1 1.4 16.5Pub IIs 8..kr 166.0 166.6 1388 118.6 116.4 136.1 197.2Ulsiam Usr Wag. 161.6 166.1 194. 132.4 115.9 118.4 1;3.4Intormal Seor 16.6 12.4 116.2 119.5 197.0 a.a. a.&.

Souns: Remlrez (1M), Country Economic 1e1oren&dm (Roet No. 7026-CO, Augst 2t, 169),Tab Is IV. 7.

160. Though real remuneration in Colombia has not grown as fast as NWBs, acomparison of total labor costs in Colombia witn the above mentioned sample of21 developing countries shows that Colombia was an exception to the long termdecline in real labor costs in Latin America, Africa, aid South Asia, boti inU.S. dollar and domestic currency terms. Some East Asiain countries -- Korea,Singapore, and Hong Kong -- also experienced increases in real labor costs,but with higher rates of productivity growth than Colombia. Table 3.15includes trends in the real U.S. doll.ar hourly cost of labor for Colombia andfive other Latin American countrtes. The fact that real labor costs increasedsince 1980 in Colombia while they fell in other Latin American countriesindicates a decline in competitiveness of Colombian labor.2 Similarly, theratic of total hourly labor costs to per capita production (i.e., labor share)in manufacturing shows a declining trend in most countries in the sample, withthe only clear exceptions being Cclornbia in the 1980'm and Greece (Table3.16).

2The data in Table 3.15 end in 1984. Real wages subsequently declined withthe devaluation of the peso in 1984-86, lncreasing the internationalcompetitiveness of Colombian labor.

TABLE 3.15 : Real Hourly Cost of Labor:Intornatioaal c_maria..

(Ind.X 1999 a I")

1966 197 1975 1976 1977 1976 1979 199i 1991 1in2 1968 1964 15

Argntia 96.3 106.1 159.9 73.9 69.0 64.9 99.2 16.9 72.5 $6.7 1.8 l .t 9*9.BrazI1 61.4 91.3 96.1 191.7 116.6 122.9 117.4 109.0 196.1 120.2 *.4 71.8 76.4Ch I 94.3 116.9 46.8 61.2 34.2 94.3 190.9 109. 158.2 129.1 79.7 W.6 46.6Colombla 99.5 76.6 69.9 6.9 72n. 2. 92.1 16.6 17.7 113.3 123.* 129.8 *1.Sar c 3.4 C2.4 69.7 75.6 35.9 97.6 198.1 1n.9 69.9 99.2 99.4 99.9 09.4Hbng Kong 47.7 61.9 77.4 34.6 94.4 109.4 99.9 16.9 94.1 99.3 s9.8 91.9 19.9Indi a 196.9 94.7 94.6 97.3 98.7 193.4 191.5 196.9 36.9 79.9 79.7 75.3 79.6Kenya 79.3 116.9 11.3 92.0 96.9 191.2 99.2 196.9 3.6 75.4 *1.1, *.4 *.6Korea 29.4 47.6 51.3 64.9 6.9 101.7 119.3 1i96. 96.2 196.5 115.4 19.9 111.9

l imi 66.6 110.1 92 4 35.6 6s.3 96.6 94.9 160.0 98.1 111.1 79.1 1.S N/AMexico 69.2 89.9 109.5 119.9 67.4 67.2 69.5 190.9 112.9 75.3 51.8 57.7 C9.CMorocco N/A 199.2 197.0 19e.6 164.3 116.6 112.4 109.9 79.9 78.8 ".9 54.9 54.6Nlgarit 40.4 46.2 56.2 53.4 69.9 59.1 79.8 109.9 96.1 99.2 87.2 99.6 39.1Pak Istan 118.6 139.7 91.9 96.5 114.8 132.0 122.2 109.0 97.1 112.6 07.6 190.4 1UN.$Peru 140.3 146.1 136.3 163.0 125.4 35.3 77.0 1i00 199.4 109.7 79.9 86.1 80.9Portugal 37.6 54.4 117.9 113.4 199.2 191.6 93 1 19. 99.7 32.9 e1.8 9.6 63.4Singapore 74.1 68.6 94.8 90.6 90.6 92.0 99.7 19.9 199.9 117.1 199.5 141.2 144.4Sri Lanka 268.9 299.S 155.8 127.7 137.9 156.9 119.7 109.9 32.4 92.9 96.7 1901. 1".6Tanzania N/A 116.1 122.2 199.3 109. 199.4 196.6 19.9 1J2.9 9.8 99.0 78.6 74.0Zambil 69.1 97.1 102.6 125.7 97.6 11.8 107.6 1i6.9 9.6 38.1 67.4 55.1 49.3Zimbabw 79.4 79.3 97.5 96.5 98.1 92.7 99.6 9.O 109.5 11610.9 91.4 V1.4 M.$USA N/A N/A 90.4 19431.6 1969 197.9 104.6 1".9 1J9.9 191.3 19.1 119.2 114.7

Source: Rivroe (1969).

- 100 -

TARAI 5.16 Labor 111areeo is"aeeteUrIn:Zatomtieal Cpet_rlon

Lo aM am iArgetina 6.51 6.00 0.46 6.26BragI1 6.21 6.17 6.26 0.24Colembia S.1i 6.16 .1' 6.20Chit 1 .19 6.12 * 6.17"alto 6.51 6.37 n.id .27Peru 6.23 6.15 i.16 6.15

Average 6.28 0.25 6.24 6.22Stndard Deviation 6.1i 0.15 6.19 i6."

Kenya 6.51 O.44 *1 6.48 0.47Morocco 0.47 8.54 0.46 O.57Mlawi 6.87 S." 0.84 6.55Nigeri 0.19 0.11 *.11 0.10Tanzanil 0.46 6.53 *1 0.42 0.46 *2Zam1ia 6.26 6.24 6.25 6.26Z mbabwe 6.47 0.43 *.5U 0.37

Average *.53 6.89 6.36 6.29Standard Deviation S.15 0.16 *.14 O.16

India 9.63 0.76 S.39 O.UPakistan 6.19 6.24 0.1: 0.14Sri Lanka 6.40 G.3 8.U 6.23

Average 6.41 6.42 6.43 6.33Standard Devlation 6.22 6.24 O." 0.21

Hong Kong 6.44 6.42 0.46 6.57Korea 0.20 6.17 0.22 6.22Singaporpe .24 0.22 0.19 0.23

Average 6.29 0.C7 6.27 0.27Standard Deviation 6.15 0.13 6.11 6.6

Greece 6.34 0.41 6.4 0.568Portugal 6.37 6.67 6.52 6.46

Average S." 6.54 9.56 6.52Standard Deviation 0.02 6.16 G." 3.63

Austria 6.64 6.77 4.31 0.75Germny 6.68 6.67 6.70 6.66Spaln 6.61 6.63 6.57 0.49Sweden 6.74 6.66 6.72 6.63United Kingdom 6.63 6.62 6.61 0.61USA .65 0.51 6.51 0.47Cunada 6.60 0.56 6.55 a.68Japan *.34 0.43 *.# 6.35

Average 6.59 6.61 lU.10 0.55Standard Devitlion S.11 6.16 6.14 6.12

Notes: *1 Data on mnufacturing production correpond to 1976.*2 Data on mnufacturing production correepond to 1964.

Source: Rivoroo (1969).

- 101 -

161. Mon-waz benefits by size of firm. With respect to the applicationof NWB regulations, three types of firms can be distinguisha:s those that donot recogpize the minimum wages and benefits prescribed by law (i.e., thosefirms in the informal sector or below the minimum size for application of thelawv); those firms that grant labor the benefits required by law but no more;and those firms that tend to pay labor more than the required minimu salariesand benefits.

162. Many of the larger industrial firmts and multinationals fall into thethird category. A more disaggregated analysis of labor costs by size of firmshows that the burden of NWBs as a proportion of base salaries has beengreater for larger firms. Between 190 and 1986, NWBs rose 192 for firms with10-49 emloyees, 222 for firms with 50-99 employees, 26Z for firms with 100-199 employees, and 32Z for firms with more than 200 employees. In 1986, NWBswere 1.5 times base salaries for firms with 10-49 employees, and 2.0 timesbase salaries for the lArgest firms (those with more than 200 employees).

163. The number of firms below the minimum size for application of laborlaws (defined in nominal terms) has fallen due to inflationx fewer firms nowfall below the Col$200,000 total asset cutoff. This means that it is smallerfirms who have suffered the greatest increase in labor costs, due to theeffects of new legislation and of inflation in widening the coverage of laborlaws. This has eliminated an advantage previously enjoyed by smaller arsdinformal sector firms that were not subject to labor regulations. For thisreason the Chenery report recommended special consideration for micro-enterprises in Colombian labor legislation.3

3.4.4 Labor Leaislation and Labor Mobility

164. Labor turnover. The turnover of labor in manufacturing, measured asentrants plus exits as a proportion of total employment, was about 20Z duringthe 19808, rising somewhat between 1984 and 1987 with an increase in the entryrate from 7Z to 11.9Z and a smaller reduction in the exit rate from 12.5? to9.61 (Table 3.17). About one-third of labor turnover is estimated to be theresult of new entrants to and final exits from the overall labor force. Theremainder is explained by variation in overall employment in manufacturing(which has been small during the 1980s), voluntary decisions of labor, andinvoluntary separations.

3Carlos Venete de Roux, "Legislacion laboral y generacion de empleol, inOcampo and Ramirez (1987).

- 102 -

TAIS t.17: Labor Tusowee Note, 1U4-1947(Vemufacturla Aver"e)

1904 1" 1to" 1067

latry u ate 7.1 6.7 10.3 11.9

Exit Rate 12.5 190 39.8 9.6

Turmover Rate 19.5 19.0 e1.1 321.

Wet.t Turn"ve Rat. a Entry Rate + Exit R*b..SOureet: Reales (106).

165. Some elements of Colombian labor legislation are designed to offerworkers protection from or compensation for unjustified dismissal. Thw laborcode prohibits collective layoffs of workers without the permission of theMinistry of Labor. If the employment impact of such a dismissal would belarge, or if the firm is ir Concordato status, this permission is frequentlydenied. There is a requirement that firms pay indemnification for dismissalvithout just cause, regardless of the number of years of experience of theworker. Two other protections are given to workers with more than ten yearsof experience who are unjustifiably dismissed: the pension-sancion (anadditional pension) and the accion de reinteRro (giving the worker the rightto be reinstated and to receive wages lost during the period of dismissal).

166. Penalties imposed on firms for unjustified dismissal may hbve theeffect of increasing employment stability for some workers. However, thefact that penalties for unjustified dismissal rise after the employees' tenthyear discourages firms from keeping employees more than ten years. This isreinforced by increases in cesantia costs after the tenth year.Representatives of large enterprises have long argued that these requirementsare detrimental to the stability of employment, encouraging tne use of shortterm contracts, premature dismissal, and exchange arrangements with othersimilar firms. This seems to have been the trend for the last few years, asemployees are dismissed before they accuniulate too many years in the companyand become too expensive to lay off.

167. In addition, there are many practical strategies adopted by firms toreduce employment without the categorization of 'unjust dismissal.' Theseinclude negotiating individual separation packages or early retirementpackages with particular workers, the closure of sections or departments ofthe firm, or the failure to replace retirements. In addition, firms have anincentive to contract labor from temporary manpower agencies, other thirdparties, or informal labor markets (paras. 168-70). The difficulty ofdismissing labor also creates incentives for firms to use more capital-intensive methods of production, and may lead to premature closure of firms infinancial difficulty. The effect of legislation to protect workers from

- 103 _

unjustified dismissal may be to roduce the supply of the career-typo positionsthey are designed to protect. To the extent that layoffs of more experiencedvorkers are encouraged, the regulations reduce the continuity of the workforce and lead to higLer costs of recurrent training and retraining of labor.The current regulations only protect a subset of workers, those dismissed*without just cause@, not those dismissed due to general economic conditions,bankruptcy of the firm, etc. Finally, the benefits of the regime areindependent of the employment status of the worker after disaissal.

165. Informal and temoorarT labor. The actual application of laborlegislation is relatively low, due to evasion of required payments by firms,to the use of temporary labor contracts, and to the importance of independent,or informal, labor. Social security benefits, for example, have beenestimated to cover only about 301 of the employed population and 502 ofworkers .eceiving wages. Another study estimated that full statutory non-wage benefits covered only 28-292 of the employed population; of thosecovered, about 802 worked in the public sector and only 202 in the privatesector. Thus, the full range of statutory benefits reaches only a privilegedfew employees.

169. There is disagreement as to the size of the informal labor market.According to the Chenery report, the size of the urban informal sector,defined as the urban self-employed, fell during the 1970s, from 38.62 of theurban labor force ir 1970 to 28.8Z in 1980. It then grew during the recessionof the earl), 19809, to 31.4? in 1984. According to the DANE Encuebta deHoRares, informal labor as a proportion of the employed population is abouts52 (fable 3.18). Anecdotal evidence suggests that informal employment hasfallen again with the economic recovery, and that the formal/informal salarydifferential has narrowed.

170. Many firms routinely hire workers on temporary contracts in order toavoid the legal commitments to employees after their 60-day probationaryperiod. In some branches, such as capital goods, the use of labor rentalagencies has become widespread, with firms hiring even skilled personnel onlytemporarily when a specific task has to be done. The proportion of the laborforce employed on temporary contracts increased during the mid-1980s, fallingagain in 1987-88 to about 152 (Table 3.18).

_ 104 -

TAUSU a S.1 lSfroal and T*porary Labor, 1964-19

1964 1966 196 1967 196

lafe rnl Labor Fore.:

Total Labor Foreo 8196241 849763 369671Swtorml 1796447 196142 2184164(3 of total) 54. 7S 54.M2 54.U1

T _orary Labor FPrce:

Total Labor FPro 3616617 381946 3609746 414664 4389661Informl 65666 9 Ott8 72U14 591156 961545(S of total) 15.36X 17.491 16.75X 14.261 15.25

Not: Differences 1n labor force totals du* to difforent definitiols.Source a Ramirez (1966).

3.4.4 Conclusions

171. The form of labor remuneration has shifted toward NWBs, partly

explained by the requirements of labor legislation but also significantlyexplained by increases in extra-legal NWBs negotiated between firms and labor.Total remuneration has not grown as fast as NWBs and has not grown faster on

average than labor productivity, indicating some substitution of NWBs for

wages. On the other hand, labor costs in Colombia have failed to follow the

declining trend vis-a-vis industrialized countries that has been observed in

many other developing countries with similar rates of labor productivity

growth. This suggests the benefits of reform of NWB legislation, specificallychanges in the retroactivity of partial withdrawals of cesantias.

172. The size of the informal sector, the tendency to use temporary labor,

and the low seniority and high turnover of the labor force are not causedsolely by labor regulations. The large informal market also reflectsstructural characteristics of the economy, and its growth in the early 1980swas partly due to the economic recession. lhe growth of temporary employment

may also reflect uncertainty on the part of firms with respect to economicrecovery. The low seniority of the work force reflects not only theincentives created by labor legislation but also both the instability indemand faced especially by smaller firms and the relative youth of both the

labor force and firms.

173. Nevertheless, labor legislation has contributed to the fragmentation

of labor markets and the development of career type employment as well as to

capital-intensive industrial development. It will also create a barrier to

speedy re-deployment of labor as part of the supply response to policies to

increase internal and external competition. The focus of reforms in laborlegislation should be the cesantia system (particularly retroactivity) and on

- 105 -

regulations governing unjustified dismissal -- the Dension-sancion and accionde reiateo_ systems. Both of these fringe benefits should be replaced bymore efficient systems. In the case of the accion de reintearo, the system ofindemity should be converted into an unemployment insurance system. A morecomplete pension system, which does not suffer from inflationary erosion,should substitute for the Dension-sancion schem.

3.5 The Concordato as a Barrier to Exit

174. The 1971 Commercial Code establishes a receivership process (theConcordato) to give firms and their creditorn an opportunity to reestablishthe firm's long-term viability, prior to filing for bankruptcy. In times ofactual or anticipated financial difficulty, many firms resort to thsConcordato to limit creditor access to the capital of the firm, rather than toall assets of the owners of the firm. Under the Concordato, the firm'sobligations to pay its creditors may be suspended from sit months to six yearswhile the qualification of creditors and other legal steps are taken.

175. The problems associated with the Concordato legislation in placeuntil December 1988 had to do mainly with the slowness of reaching agreementbetween the firm and its creditors. The process emphasized the legalcomponent of obtaining a Concordato rather thdn stimulating constructivesolutions to operating problems of the firm, and led to solutions which merelylowered interest charges and/or extended loan maturities, placing the burdenof adjustment on the financial system. Delays were known to reach five to tenyears, with substantial losses to creditors. In the last decade, there havebeen several large firms that remained in Concordato status without bankrupcyor successful restructuring: Compania Colombiana Automotriz, Kapitol,Manhatan, Fabricato, Forjas de Colombia, Favidrio, Tejidos Unica, Pepalfa,Inversiones Samper, and Papelcol.

176. The Concordato process has thus been a means of prolonged shelter forfirms which were not economically viable and would otherwise exit the market.Where these firms operated in oligopolistic markets and controlled inputmarkets, the Concordato has also been a barrier to the entry of new, moreefficient firms. In addition, the Concordato legislation did not givecreditors the ability to motivate firms to restructure, leaving creditors withlittle choice but to reschedule or write off debts.

177. In early 1989, of 199 firms under Concordato protection, 105 wereindustrial firms, up from 69 industrial firms in Concordato in March 1987.The largest numbers of firms in Concordato were in the textiles and garments,paper and printing, and transport equipment industries.

178. A reform of Concordato legislation, passed by Congress in December1988 and made effective in May 1989, imposed strict deadlines for each of themajor steps of the Concordato process. Violations of the timetable generallypermit the Superintendencia de Sociedades to intervene to resolve the problem,A provisional creditor committee is to be established in each case to workthrough the process. For the first time, its powers include the ability to

- 106 -

nominate a co-administrator of the firm and to place an embargo on fizedassets.

179. Nevertheless, it remains to be seen how successful the modificationswill be in fundamentally altering the incentive for firm to resort toConcordato, and in protecting the interests of creditors. More fundamentally,Concordato legislation still does not pressure firms to undertake real (asopposed to financial) restructuring to improve their profitability andcompetitiveness in the long run, thus improving economic efficiency.

3.6 Conclusions and Policy Recommendatione

180. This chapter has attempted to provide evidence on resource mobilityand on certain policies which may affect resource mobility. A detailedanalysis of the entry and exit of manufacturing plants showed that, onaverage, entry and exit rates in Colombia are not particularly small.Somewhat surprisingly, the data do not indicate significant barriers to entry,at least for small plants (not surprisingly, the majority of new entrants).The fact that exiting plants also tend to be small and that larger plants havehigher survival rates could be due to their greater efficiency, but otherevidence suggestp that it is at least partly due to certain policy-relatedadvantages received by larger firms (e.g., better access to credit -- asubject covered in the next chapter -- better access to import licenses.etc.), and to barriers to exit that are st.onger for larger firms (theConcordato, informal Government efforts to support failing firms, etc.). Ageneral conclusion of the chapter is that barriers to entry into theindustrial sector appear to be less important than barriers to growth and toexit.

181. Theoretically, price controls can limit resource mobility bydiscouraging entry in controlled industries. In fact, there is no generalevidence to indicate that price controls have reduced profitability inindustries that are subject to them, though they may have in individual cases.However, the function of she current system of price controls ii unclear.There is no apparent relation between the coverage of price controls andcertain characteristics of industries or products chosen for control thatwould seem logical given the objectives of the system -- e.g., the importanceof the product as a consumer necessity, or the degree of internal competitionin the industry. In fact, price controls can have an anti-competitive effectby fostering collusivr' pricing. If the purpose of price controls is toprovide basic necessi.ties to the poor, this can be better handled by socialprograms under the general budget. If an objective is to limit the ability ofimperfectly competitive firms to earn excess profits, policies to increaseinternal and external competition will be superior.

182. Lauor regulations governing non-wage benefits have contributed, alongwith the : c,reased importance of extra-legal benefits in larger firms, to thesteadily increasing importance of NWBs in Colombia, both in absolute terms andas a proportion of total labor remuneration. Though total remuneration hasnot increased as much as NWBs, indicating some substitution of wages for non-wage compensation, real labor costs in Colombia did not, through the mid-

- 107 -

1980s., follow the declining trend obserred in many other developing countries.This may put Colombia at a disadvantage compared to many of its current andpotential competitors 'n export markets.

183. By raising the cost to firms of unjustified labor dismissal, laborregulations may red4ce labor turnover for saw types of workers. However, thehigher costs of separation payments and increases in cesantis contributionspast tho tenth year of employment contribute to excess labor turnover and lowrates of retention beyond the tenth year. The application of laborregulations is limited, evidenced by the large informal labor market and thecommon use of temporary contracts. This suggests that the main objectives oflabor legislation -- to guarantee a minimum of rights for workers and ensurestability of employment -- are not being achieved.

184. Labor legislation has not undergone any significant changes in the1980s, and as such, most of the recommendations made in the Chenery reportremain relevant. Reforms should focus on the removal of the retroactivity ofpartial withdrawals of cesantias, and replacement of the pension-sancion andaccion de reintenro benefits with more efficient unemployment insurance andpension systems.

- 108 -

CHAPSTE 4' TIn FINANCIAL SECTOR AND INDUSTLIALSTRUCTUR AND PERPORMANZC

4.1 Introductius

185. The objective of this chapter is to identify financial sectorconditions and policies that have an impact on structure, conduct, andperformance in the industrial sector. The chapter focuses on those financialissues that relate to industrial sector development in particular, rather thananalyzing the overall situation of the financial sector.

4.2 Characteristics of Credit Markets

4.2.1 Directed and Non-Directed Credit

186. Credit outstanding to the industrial sector from coamercial banks andcorporaciones financieras (CFs) amounted to Col$1048 billion in May 1988, andrepresented 442 of total credit provided by these institutions to all sectors(Table 4.1). The largest share of industrial credit (78?) went to theconstruction sector, with 21? to manufacturing and less than 1? to the miningsector.

Table 4.1: Credit by Economic Sector, 19U4-1911(Coll ml Il lIon)

1964 1965 lo" 1967 16 (May)

Agriculturo 135569 2822045 12761 888414 486822

Industry 441145 575216 719734 921946 1647673Mining 7421 i1le6 e927 9467 1118Manufacturing 9U314 128916 159882 217367 213911Construction 385219 441192 U58475 696612 016654

Services 1/ 861122 462677 610284 36848 983684

TOTAL 991586 12593 1682779 217448 2894534

1/ Include government, com_mrce, transportation, lasling and other sctors.

Source: Banco de la Ropublica and IBRD *etimate.

187. Since the 1940s, the public sector has provided medium- and long-term credit at less-than-market interest rates to finance priority activities.including industrial and agricultural development, urban infrastructure, and

- 109 -

exports. Most of this credit is channelled through the Banco de la Republic&(nR) directly to final borrowers or indirectly by redLscounting throughcc eercial banks and CFs. Historically, directed credit has been fundedthrough forced investments substituting for reserve requirements, imposed onfinancial institutions by BRI placement of BR paper in the market; foreigncredit; or outright expansion of the monetary base. However, in recent yearsthe system has been funded without direct recourse to money creation.Directed credit for industry includes:

(i) Development credit (credito de fomento) offered by BR asrediscount lines to financial intermediaries (mainly CUs).For industriil activities, these lines include the FondoFinanciero Industrial (FFI), the Fondo para InversionesPrivadas (FIP), and the Fondo de Capitalizacion Empresarial(FCE). PIP is used by larger industrial firms, while FFI isdesigned for small and medium scale enterprises and ischannelled mainly through a specialized public intermediary,the Corporacton Financiera Popular (CFP).

(ii) External credit lines supported principally by World Bank andIDB loans. These lines, intended to finance imported capitalgoods, are administered by the BR and channelled mainlythrough CFs.

(iii) The Expo-t Promotion Fund (Fondo de Promocion deExportasciones, or PROEXPO). PROEXPO offers seven (previously,33) lines of credit financing feasibility studies, investment,working capital, fixed investment, technical assistance forquality control, promotion of exports, and post-shipmentfinancing. PROEXPO credit is funded by an earmarked tax onimports.

(iv) Credit provided by the Industrial Development Institute(Instituto de Fomento Industrial, or IFI). IFI providescredit as well as equity participation to private andparastatal enterprises. The main source of funds for domesticcredit through IFI has been the reserves of the SocialSe-urity Institute. IFI, acting as a CF, also intermediatesBR development credit and PROEXPO credit.

(v) Special BR rediscount lines, generally small in volume,designed to help particular subsectors (e.g., textiles, basicmetals).

188. Table 4.2 presents data on end-year directed credit to industry,defined as BR industrial development credit (the FFI, FIP, and FCE lines) BRexternal credit lines, PROEXPO credit, and IFI credit. (Note that creditfigures for IFI include some double counting since IFI also intermediates BRdevelopment credit). At the end of 1988, industrial directed creditoutstanding amounted to Col$314.7 billicn. Of this, 552 was PROEXPO credit,followed in importance by BR external lines (18Z), BR development credit lines(13X), and IFI credit (132).

189. The volume of BR development credit increased from Col$20.4 billionin 1984 to Col$41.6 billion in 1988. In real terms, howqver, the volum ofdevelopment credit has declined each year since 1984. It should be noted thatBR development credit to the agricultural sector dominates credit to industry:in 1988, credit outstanding of the Agricultural Finance Fund (Fondo deFinancianiento Agropecuario, or FFAP) was Col$216.9 billion, more than fivetimes the volume of BR deve'opment credit to industry.

190. At the end of 1988, PROEXPO credit outstanding was Col$174.6 billion,up fro ColS106.7 billion in 1987. External credit lines amounted to Col$os.2billion in 1988. Credit granted by IFI, both to firms in which IFI owns equityas well as to others, was about Col$11 billion during 1984-86 before jumpingto Col$28.7 billion in 1987 and Col$40.2 billion in 1988.

191. Directed credit to industry represents a significant proportion ofall lending to this sector. As a share of total credit provided to themanufacturing and mining sectors by commercial banks and CF. 1985-87, directedcredit accounted for 85? (Table 4.3). The increase in the importance ofdirected credit between 1984 and 1986 was mainly due to increases in thevolume of PROEXPO investment credit. BR developLent credit 'as declined inimportance since 1984, to about 15? of manufacturing and mining credit.

Table 4.2: Dirocted Credit to Industry, 1984-80(Coll million)

194 19865 196 107 1968

Total Directed Credit na. 106298 132127 211602 814672

SR Development Credit 20656 21114 24729 31709 416831FF1 8667 6809 7968 6712 12860FIP 7616 7t81 6164 9U84 14066FCE 8972 5424 697 1t428 14726

Proexpo Inv*etment Credit 51171 5421 67472 196725 174634

BR External l'noe ns. 211U6 29069 44372 5C169

IFP Credit 13823 7697 11067 26696 40248

n.*. a not aval lable

Sources: Banco de la Republlea, IFI, and Villts (1998), and Hoiee (1990).

_ 1.11 -

Table 4.Os ar. ot Dresed Cr edtl, 190-447(As 1sf tstl muFaetWING e edit)

am turn am a

Tahatr meat a . l 109.$ 7 .4 10.1

U "W. Credt 10.3 15.0 14.0 14.0PPI 0.1 6.1 4.7 4.0fDI 7.4 5.5 4.0 4.4MCI 3.7 4.0 5.2 0.2

Pr,expa IvesatmaA Credlt Ul. 42.1 4 .6 1W.0

IN Ext.ral lis a m.. 15.0 1M.* MA.4

Ifi Credit 18.0 5.7 0.0 11.2

atire: sBoo" de Is Republica, Villst. (194), H4om" (1930), and urn *atim_to .

192. Directed credit interest rates have been increased in recentyears, and some are now positive in real teius. In addition, rates onmost lines have been made variable, by linking them to the DTF rate.Current interest rates and maturities of BR industrial developmentcredit lines are shown in Table 4.4.

- 112 -

Tebl 4.4: 0 Industrlal Doeleopmt Credit Tom, 1M

Iterest ResIcount tate edisee 1Credit UinsPrejeat lesteeo et s Pr l

Fondo Financeor. Industriel (FPT) 1/

Ordlnary LineLarge eitl- 2/ DTF*2.0 DTP-2.s DTF-S.U 9*XBorder citie DTf-1.5 DTF-7.g DTF-7.5 m9Ret of the coutry DTF .gC DTF-4.5 DTF-S.C on

Capital Goods LineCountry as a whole DTF+2. D DTP-2.5 DfF-.5 CCX

Fondo de Inverslonmo Privadl (FIP) 4/

Line of credit to fire with total assets lossthen S7amt mllions as of Dec. 1907.Large cities 2/ D. -".9 DTf-9.5 DTF-1.C 7CXBorder cities DTF+P. DTf-4.5 DTF-5.5 751Rest of the country DTF*2.5 DTF-1.C DTF-2.8 751

Line of credit to firm with total *ssets morethan 57M8a *liIone as of Dec. 1987.Larg cities 1/ DTF*4.0 DTF#1.C DTfP4.S 7CXBorder cities DTF#3. DTF-J.S DPTF-16 75CRest of tte country DTF+4.0 DTF+1.S DTFP.5 75X

Fond. d Capitalizscion EbMreosrll (FCE1 4/

Line of credit to open *tock corporationsFor acquisition of stocks DTF*1.5 DTF-2.5 DTF-S5 ax1For acquisition of bonds convortible Intostocks DTF+&.6 DTF+1P. DTF 74X

Line of credit to other pertnershipsFor acquisition of stocks DTF*2.9 DTF-2.4 DTF-S.* 751For acquisition of bonds convrtible i;tostocks DTF+6.5 DTF+P.. DTF P71

Line of credit to limited liability coepanl- DTF*2.5 DTF-1.5 DTF-2.E 751

1/ Res. 25/47.2/ Bogota, Medellin, Call A zones of lnfluonce.5/ Reo. 25/a7.4/ Res. 24/37.

Source: Banco de Is Republicc.

193. The difference between the cost of funds and lending rates hasnarrowed during the 1980s, particularly for the FFI line, mainly due toincreases in the average return on mandatory investments. Table 4.5 shows thecost of FFI, FIP, and FCE funds (i.e., the rate paid by BR to financialinstitutions on mandatory investments funding these development credit lines)

-11)-

and the corresponding lending rates to final borrowers (note that theintermdiation margin for onlending institutions is not included in the cost).In Novembor 1988, the difference had narrowed to less than one-half of onepercent for all three lines.

Table 4.5: 9 Imduetelal Deloms_t Credlt: Roeure Cost a" Lening Rbe.

19" 1963 1965 16 17 1#6 (Nov.)

Cost 10.9 21.3 22.6 22.1 13.4 14.7Le&id) g Rat 23.9 2J.. 23.7 21.7 22. 24.4Difterenc. -7.0 -2.3 1.7 6.4 1.4 9.3

FZFCast 23.5 21.7 25.1 24.5 26.9 26.9L"ding Rate 25.9 20.4 22.7 21.1 24.1 26.3Difference -2.4 3.3 2.4 8.4 2.0 9.9

fCECost 21.6 15.3 *9. 28.3 25.@Lendiln Rate 25.9 6 21.1 24.0 25.4DIfference -4.8 ,.7 -2.3 -9.7 6.4

Note: Cost is rate paid by OR to financial lnteroediaries on sourcs of funds,plus BR admlnistrativo cost. Lnding rate Is rate on nw loans to final borrowers.

Source: BR, OEl Credito de Fooento y la Rance Central.Rvilsta, Banco de la Ropublica (Separate), Nov. 1960.

194. The interest rate subsidy received by final users of the directedcredit is given by the difference between the interest rate charged to finalborrowers, and market lending rates for credit carrying similar terms.1 Table4.6 shows average nominal interest rates on the FIP, FFI, and FCE lin?soffered by BR, IPI and PROEXPO credit, compared to average rates forcommercial credit. The weighted average interest rate subsidy received byfinal borrowers was relatively stable at 13-141 per year during 1981-85. Thissubsidy narrowed to about 8Z during 1986-87, mainly due to a decline in rateson comercial credit from 36-37Z during 1981-85 to about 33.51 during 1986-87. In addition, rates on some BR development credit lines increased in 1987when they were linked with the DTF rate, and rates on PROEXPO credit increasedabout three percentage points in 1986.

lThe subsidy calculations use market interest rates since these representthe next best alternative to firms demanding credit. It should be noted that,in the absence of directed credit subsidies and the associated tax onfinancial intermediation from forced investments with below-market yields,market interest rateq would be lower.

114 .

-Tabl 4.01: :O.eret btee SIe'eePed GaW "N e4r*ee Ceedo, 166147(N/p.)

UKa SW am am0 am SW uinM~~~~~~~~ FM*" credit_

FZP 36.1 N.s 31.8 11.8 30.8 308 86.8WI n.6 31.6 36.0 6 3.6 33.6 Is.6 n7.0PCs 3.# is.6 1.7 tl.? 3n.0W bn.ueI I 1_ MA.4 26.4 36.4 81.1 $6.1 306 20.2IFI "6.6 91.1 3.- 36.6 3.9 3.# 36.6PRO" 3.s e. 26.6 a.. w n.6 3.

sC,,oia Ce'.dlt 87.4 M.3 866 6.6 6.6 8.4 8.7

Wtd. Avg. litle,tg Subsldi 6.6 14.6 18.1 18.I 13.6 18.4 6.7

a/ btmt.d fe.' 1907.

source: VilIe, (1065)

4.2.2 Intermediation Margins

195. Financial intermediation margins in Colombia are high byinternational standards. The margin between deposit and (non-directed)lending rates averaged 7.5S in 1988 and 10.02 in 1989, compared to margins of5.22 in Costa Rica, 4.52 in Chile, and 3.0 in the United States. Thesemargins are an important factor contributing to high real interest rates,which have averaged 10-152 in recent years. The main factors explainingintermediation margins are the elevated operating costs of financialinstitutions; high levels of non-productive assets (about 352 of the total),continuing from the financial crisis of the early 19805: the burden of reserverequirements and mandatory investments; and fixed margins on directed credit.

196. Operating costs of financial institutions in Colombia are relativelyhigh by international standards. Coamercial banks have operating costs equalto 4.81 of assets; CFP and Companias de Financiaeiento Comercial (CFCs) aresomewhat more efficient, with operating costs of 3-41 of assets, andCorporaciones de Ahorro y Vivienda (CAVIs) have operating costs below 32.2 Bycomparison, in countries with relatively well-developed financial systems,operating costs of comnercial banks are generally 2.0-2.52 of assets; incountries in similar stages of development as Colombia, the range is 3.0-

2 U111e (19fa).

- 115 -

5.0Z.3 Cosmercial bankis vith forelgn equity participation do not appear tohave significantly lower operating costs then domestic banks, in spite oftheir presutd access to modern bankLng technology.

197. These high operating costs are partly the result of the olLgopolisticstructure of the financial sector. Three coaeercial banks (excluding CajaAgraria) account for 361 of the deposits and 392 of the assets of the bankingsector. Eleven CAVIs account for another 232 of the financial market, andtheir segpnt of the market is dominated by two institutions. The market forlong-term credit is dominated by six CFP that intermediate BR developmentcredit lines. One of the six (CFP) dominates this market, having almostdouble the assets and profits of the next largest CF. The lack of competitivepressure implied by this concentrated domestic market structure has beenreinforced by barriers to entry of foreign investment in the financial sector.Finally, the state is an importart agent in financial markets: publicfinarcial institutions account for 592 of the total assets of the financialsector.

198. The high intermediation margins collected on credit operations arealso partly the result of high reserve requirements, and the requirement thatfinancial intermediaries place a portion of their liabilities in low-yieldingassets as forced investment and as an investment component of reserverequirements (Inversiones Sustitutivas del Encaje, or ISEs). These fundseither go directly to a priority borrower or are used by the BR to rediscountloans to priority sectors. In 1988, reserve requirements amounted to 13.22 ofdeposits for the financial system as a whole, and mandatory investments(forced investments and ISEs) amounted to an additional 12.82 of deposits.

199. Real returns on mandatory investments have increased in recent years.from -8.71 in 1979-83 to -4.5Z in 1984-88. Nevertheless, the returns onmandatory investments remain substantially below their opportunity cost. InMay 1988, the average yield on mandatory investments was 16.5Z p.a. forcommercial banks (11.32 for forced investments and 20.62 for ISEs), 19.62 forCAVIs, and 25.52 for CF. and CFCs, and averaged 17.52 across all financialinstitutions. By comparison, the average market lending rate in May 1988 wasabout 502.

200. The value of interest foregone by financial institutions as a resultof the system of mandatory investments has been estimated at over Col 100billion per year, amounting to about 1.52 of financial system *ssets.4 BR hasestimated that foregone interest on mandatory investments was 2.72 of theportfolio of the financial system in 1988. Most of this cost was borne bycommercial banks, whose foregone interest in 1988 amounted to 5.12 of theirportfolio. Since financial institutions are taxed by the system of mandatoryinvestments, they must compensate the foregone earnings with larger margins intheir unregulated credit operations. The burden of mandatory investmentsexplains about half of the intermediation margin on non-directed credit, and

3Musalem (1987).

lOns (1988b).

- 116 -

represents a transfer of incom from users of non-directed credit to users ofdirected credit.5

201. Given that intermediation margins for development credlt are fixed bythe Monetary Board at comparatively low levels, financial intermediaries tendto lend this type of credit to their less risky clients, concentrating higher-risk borrowers in the unregulated credit market. This is reflected inrelatively high margins for non-directed credit operations, as well as havingimplications for the allocation of development credit across firms andindustries (paras. 216-218).

4.2.3 Haturity Structure

202. As in most countries in Latin Amarica, the Colombian financial systemhas a heavy emphasis on the short-term end of the market. Over 1970-86, theaverage maturity of the banking system's loan portfolio was 4.2 years whenhousing sector loans were included, and 2.1 years wner thes' loans wereexcluded. The proportion of shcrt-term loans (i.e., vh%ive ,ith maturity ofone year or less) in the commercial baiks' portfo4; ad relativelyconstant at 70S of total loans. Long tarm finar i.ng by CFs :ias decreasedsubstantially, from 481 of total loans in 1976 to 52 in 1985. Long termcredit to the industrial sec-or comes almost exclusively from BR developmentcredit lines, intermediated by a small number of banks and CPs. Attewpts atissuing long-term bonds on the part of public sector institutions havedemonstrated the high premium that they involve, and explains the tendency tomake placements in short-term asset markets, even when the funds are used tofinance long-term loans or investments.

203. In other Latin American countries, this concentration in short-termfinancial instruments can be explained at least partly by high and variablerates of inflation. In Colombia, where rates of inflation have been low andstable relative to those of the rest of Latin America, this explanation isinsufficient. The source of the problem is more likely to be generaluncertainty associated with securitv conditions and a historic focus on short-term macroeconomic policy, and a lack of innovation of longer-term instrtrentsin an imperfectly competitive environment.

4.3 The Financial Behavior of Industrial Firms

4.3.1 DescriDtion of the Data

204. This section first examines the financial behavior of industrialfirms -- their choices of sources and instruments of financing -- that isbased on the incentives created or reinforced by the financial policies andmarket conditions described above. The analysis is based on data on thesources and uses of funds, and balance sheets and income statements, fromthree different sources. Aggregate data on the sources and uses of funds forthe private corporate sector (including industrial and non-industrial firms)for 1976-84 was taken from Acosta (1986); sources and uses of funds, balance

5MAntes Negret and Carrasquilla (1986).

-U7-

sheets, and income statemonts were collected for a sample of 94 manufacturingcorporations for 1971-85 by Villate (1988)1 and balance shoets and incostateamts were gathered for a stratified (by two-digit subsoctor) sample of300 manufacturing corporations for 1983-85 by Sass and Llorento (1989). Dataon the sources and uses of funds from Acosta and Villatc are given below InTables 47 and 4.8l f4sancial ratios calculated by Villate and 8ass/Llorentefrom balance shoots and income stateents appear in Tables 4.9 and 4.10.

Table 41: .eess md Uses of sof Pu,.o. scpeuWees(me 3 of to" I)

17e-51 11U_

Internal 27 88External 73 lo 1ST :67- EAqUlty (16) 22m (26) (SOX)- Borrowing 257) (41) (OM

Tot I Sources 1i 1i

Use

Physical Inveetent 42 so- Plant, Equipment & Inventories (41) (49)- Other Non-Financial Use (1) (1)

Financial Investment 54 41- Loans (83) (26)- Accounts ReceIvabl- (9) (6)- Cash and Deposits (4) (6)- Equity Invostment (a) (4)

Tot l Use ISO ISO

Statistical Errors 4 9

Note: Data are tor the aggreat private corporate sector.Source: Acosta (1956).

Table 4.S: Sourso and Us of Fund of Manufa.tarlin Fims(so U of total)

Lre La"1971-73 1374-71 nMl- 1M4-6

trn"al so 44 # #

IErnal 61 U 62 14Eqity (1) (6) (14) (1)

- Sorrouln (54) (51) (41) (1X)

Total Source sn 15 1

Physical Invetment U U 42 se(Plant, Equip.& Inv".)

Financial Investmnt U 47 o U- Loans (24) (24 (43) 14- Accounts Rcolvablo (26) (28) (1i) U

Tota I Us" 1i 156 16 1in

Note: Dat are fsrom a saplo of 94 anufacturIng flras.Source: VIlIlate (1986), froe Superintondencia do Soclsdadss.

- 119 -

Table 4.9: Fileimlal lndleetere, 1971-U

1971-73 1974-79 kl 02-0 19 4-J

Total LlebiltiXee/Ttakl Aasese 491 7 r9L 71S

FPimalel Ieveebmant/Pl*at ,Eip., lvee. 1i33 90 134X 2 03

NMw Lomas/Pleat, Equlp. Ive. 4911 UX 733 473

DVI dWAee/Oper. P It Depree. 433 U1s 43X 453

Plant, Equip., Inven./Operating Proflt 971 so1 21X l6x

New Leng Term Debt/NM TO" a Debt 39X sox 623 l6x

New Debt/New Capital+ Retained Earning 2.9 3 1 n.e. n.e.

Internal Oeeoretlon/Plant, Eqlip., Invn. 1.4 1.4 9.5 12.3

n.e.n not applicableNote: Data are froe a eample of 94 manufacturing firme.Source: Villnto (1906), from Superintendoncia do Soci-eddee.

Table 4.10: Financial Indkiote, 1 M

TOTAL AM oW TOTAL PDCAL

RwOm/ LIABIL/ o 0 C rfFF TSI ImT E/ SETL ON 9o5 i am 6W 34CW6

am" (COL 00) No. FE" ASBES LA. RATIO RATIO SALES ASSES ASSES 11 ullJ _ WiT

S1 Food. Saw. Tab 0 -4100.000 40 6.005 70.3SS 8.83 8.21 8.185 15."l5 S.74t 18.9"8 1." 0.7

800,000 - 2,000.000 19 67.025 74.15 1.47 0.94 3.7n krl.34 7.202 O. 1.O0 0.6

> 2.00i000 is 1.m *1.I 1.S o.e1 8.lo x 52.973 C.mS .om I." 0.84

81 ThaSil. Clothing 0 -600,00 24 69.111 e0.ee 8.26 2.72 -4.91 8.6VA -0.1to 19.SU 0.77 0.00

1.00O - 2,00O,0O0 12 7S.1 6S 6.24S l.S0 1.1S -14.9n 9.881 0.34S C.M o.n 0.1

) 2,000.000 4 79.01 30.763 1.74 1.09 -2.= 13.79 .-o.m 0.s 0.99 o.n

34 P.P, Prinming 0 -80000 17 65.74S 73.1S1 1.14 1.12 -0.63 14.S 3.95 12.411 1.4 1.14

800.000 - 2,000.000 7 69.381 go.Ws8 1.1s 0.78 l.S71 22.99l 10.81% 8.0n 1.11 0.611

> 2,000,000 59.035 S 0.913 2.06 1.70 12.773 21.8015 11.40 24.46 0." 2.10

36 a_m.cls, Pa- ri 0 4r00.o100 44 101.041 75.03 4.13 8.61 2.901 7.88 .- 70s io.m 1.17 0.01

80O.000 - 2.000.000 1i "0.04" 7. 2.81 1.61 7.56 17.785 7.08 3.111 1.05 0.45

> 2.000.000 5 41.f3 64.281 2.27 1.60 9.m73 21.413 12.4111F M. 1.11 0.1n

as #_-aI Prda 0 - 800.000 11 a.as111 6.406 2aa.0r 2a.07 1.1m 15.2S 6.713 18.06 0.63 0.11

800.000 - 2.000,000 10 66.146 57.98n 1.79 0.88 7.891 11.37 7.M 62.05 1.051 o.81

> 2.000.000 4 64.00 47.84 1.09 0.24 6.405 13.PS s5.2m1 12.87 0.49 0.89

37 bale Plaal 0 - 300.000 7 60.405 78.205 0.34 1.06 -1.615 3.223 -9.09 41.111 0.79 0.14

300.000 - 2,000.000 5 78.481 69.71 1.38 0.86 -5.07S 15.013 0.073 -12.on7 0.9 0.41

> 2.000.000 2 71.635 49.011 1.09 0.06 -10.261 7.93 -1.781 -7.5 0.91 8.01

S Tvanggmt 0 - 500.000 26 64.313 75.311 21.64 21.20 S. 6n 13.163 4.96 11.6111 0.94 0.84

O0,O0O - 2.000.000 is 73.18n 07.88 1.22 0.73 -10.6 $.6 -5.863 11.1 O.ca o.7

, 2.000.000 a 91.70 61.499 0.76 0.42 -14.88 1.eo -1:1.45 44.48 0.09 1.18

Wr1L 0 - 00,000 176 70.576 72.66 46.82 46.26 0. 16 10.911 -l.O.C 111.31 1.63 0.40

800,000 - 2.000.000 as 69.143 69.681 1.89 0.07 -.0.7111 18.03 3.699 9.80 1.11 O.89

> 2.000,000 sp 80.411 s.273 1.11 0.a 1.6 11.273 8.611 -2.04 O.9 1.17

"_j De" are from * _1am-l of SDO seufcturine fir_. Tha proportion of firm in asch tboodigit aubactor evuala U-at "ubacbr's skr. of t ta1

prO*tiLri.gWI a Eariieep fo Interest an Ta1)s.

laura: Sa.u/LI.ran4. (10109).

IJ_e,4jf: Financial Indicars, 1*4

TUTML AU OWeT P DWOm.

RANE Or/ LIAIL/ COW 1JIOc PROFITS/ DIT/ 6R31 Oh 1 5 1ON ITIOL lC

Jm t t (COL 6g00) NO. iDM ASS6EM LIM. RATIO RATIM S ASMS 8631 1l amz

S1 read, Uv, Tab 0 - 50.000 48 60.723 61.701 6.69 6.00 .OSS 16.711 5.M71 62.87 1.76 0.U

800.000 - 2.000,000 la 62.761 74.011 1.96 1.1I U.9 22.59 5.65 10.171 1.97 0.06

) 2,000,000 19 W2.6A Wla 1.59 1.01 S.U 20.005 7.36 O.0 1.40 O.n

a Tat lele, Clothing 0 - 50.000 19 69.56 76.70S a.2 3.09 -2.633 28.065 .401 7.4m 0.61 0.05

u00*000 - 2,00000oo 16 74.741 62.471 1.60 O." 6 .so 12.8 2.7611 5.66 0." 0.n?

> 2,000m000 a n.1ss 48.311 1.7 1.19 1.771 19.903 1.80 2.041 0. 0.51

34 Paper. Printing 0 - a80,000 16 s.4m 69."51 1.62 1.20 0.653 14.303 4.751 12.=1 1.64 0.61

600,000 - 2.000.000 * 71.90 74.653 1 42 1.06 *.3 22.113 9.7 89.146 1.51 3.19

> 2,000,000 a 61.911 A6.KI 1.72 1.35 11.592 19.263 10.1l3 20.46 0.04 0.47

86 atceule, Petrl 0 - 80.O00 89 127.261 74.495 3.r.t .27 2.84 14.623 -11.02 37.65 1.51 0.87

800,000 - 2.000.000 17 WO. 74.65 1.75 1.07 5.361 17.063 a.2 141.13 1.11 0.6

> 2.000,000 * 56. "3 77.39 1.92 1.29 9.701 24.4S 19.211 2.46 1.45 0.16

3 N1n-matl PrdA 0 - 00.000 10 72.411 75.9 209.65 209.56 -2.93 -5.793 -.1.60 9.473 0.91 0.11

500.000 - 2,000,.00 11 65.6 W6.0MS .64 0.64 6.s01 17.063 7.201 22.80 1. 1 0.W6

> 2,000.000 4 8I9.6 46.371 1.01 0.71 9.295 1.780 4.643 112M. 0.64 0.47

W7 S.ele Nat- 0 - O,000 7 130.60 77.963 0.76 0.47 -11.371 2.59 -1.r6.61 10.46 0." 01.

60.000 - 2.000.00 4 81.79 ?7?.63 1.24 0.6 -1&.043 17?66 -2.tM 92. *. 0.47

> 2,000t00 8 69.411 a9.366 1.16 0.SO -0.7S 19.161 8.693 .6 0 1 O."

n Transprt 0 - o0,o000 21 64.1SS 76.763 1.75 1.23 2.97 14.1S 5.7 U-2. 1.19 0."

000,000 - 2,000,000 17 75.6n 62.793 1.65 0.92 -1U.123 13.171 4.010 15.1U6 1.02 o.J

> 2,000,000 a 61.201 6o.64 1.00 0.59 3.64 7.603 -4.97 138.961 1.94 0.16

TOI3 0 - 800,000, 17 8a.97s 76.90n 82.66 82.18 -0.61 11.811 -4.23 2M.761 1.21 0.42

WO.000 - 2.000,000 91 71.141 71.701 1.69 0.6 -4.95 17.46 4.10 21.601 1.23 0.6

> 2,000o000 49 66. 61.910 1.45 0.94. 4.61 16.92 4.*75 42.481 1.04 0."

Notes: Date are frem a sIrl of 600 inAufturin_ iin. The prpowtion of firma in _ea tao-digit eubeecr equl. that ea0e.ctor'e elme. of total

,rodustlm.

MM a Sbarina Sfolateree en Teses.

S.rce: 1_aeaLlenta (1969).

Tilg 4.lOe: fUIDCIAL DIDICATWW, 1OU

TUrAL A1111 rLM FDCL

RMO/ LA./ Oat.4 WUIOt PROFITS/ MIT/ E1k ON 4 UrL _B MIM. 0

11TR (L WOOm INO. FP ASES LIM. RATIO RATIO SALIS ASST ASSS sum flfl WIT

31 Peem. lw. rob 0 - s1 ,000 40 62.861 6.331 58.3 5.1* -187.713 7.33 -16.611 20.3u 1." 0.06

100.0O0 - 2.000.m0 19 00.90 76.e. 1 1.48 0.84 0.311 5.7n1 3.442 1.111 A." 0.01

> 2.0ceo000 26 62.06 0.171 I.64 1.06 9.211 21.513 IC.S1 11.111 1.40 0.00

aQ Textles. C.thl.el 0 - Soo.000 17 72.JS eM 3.90 8.10 -4.8 6.006 -0.201 14.73 0.6 0.01

M0O0.= - 1,o000.00 to 76.041 e.69e 1.40 0.6 1.41 11.8g1 1.78 8.44 0.66 0.01

> 2.000.000 7 76.061 43.96 2.(A 1.80 8.6 14.841 2.U1.11 8.90 0.31 O.O0

84 raw. Printlag 0 - oo0.000 14 ".016 76.071 1.l4 1.10 1.221 1O.321 2.111 -ft.Un 1.517 0.06

mm0,000 - g,1o.000 a 73.10 71.301 1.06 0.68 4.695 21.9 66M 24.6M 1.27 0.30> 2,000.000 7 63.97en 0.406 1.47 1.01 9.011 19.84 9.0" M.M 1.00 0.00

36 " oWmla. Petrel 0 - 100.000 3J1 1.71 82.116 1.74 1.26 4.00 19.146 -. 2I 11.6 1.0. 0.06S0oo000 - 2,000.000 21 0.673 77.091 1.89 1.02 7.011 17.1s1 6.11 -67.111 1.13 0.06

2.000.000 12 7o.6 60.295 1.1 0.96 8.906 21.82 9.69 11.16 1.1* 0.0

36 060-111aI PrdI. 0 - 300,0o0 10 400.6s W. 4 10.92 10.70 7.441 -119.4 -12.7% 46.1is 0.61 0.00 Io,.Otl - 2.000,000 10 6.21 89.061 1-70 0.97 6.1 18.355 7.271 0.7 1.13 O.M 2.000,000 a 61.8M 47.106 1.28 0.e0 0.06 12.111 8.8111 4.1a 0.86 0.00

7 Sals Metals 0 - Soo.000 7 6.6M 79.606 1.04 0.71 -16".911 10.48 -4.44 14.9 0.95 0.06

o00m00 - 2.000.000 4 92.34s 72.611 1.24 0.76 .8.006 19.44 -1.6 16.46 0.96 0.00

> 2.OO.D0 3 72.681 64.761 1.06 0.41 8.641 17.41 5.496 18.20 0.ff 0.00

3 Tramopert 0 - 800.00 1i 82.986 73.541 1.37 1.2S 4.071 11.976 3.706 61.61 L.14 0.04

Soo.OD - 2.000m0. 21 80.151 63.461 1.83 0.91 -4.496 16.046 1.6s 24.4.811 O.9 0.00

> 2.000.000 7 86.101 89.86 0.96 0.69 -4.916 17.776 -4.6- -42.846 j.6 0.00

TOTAL 0 - w.OO, 184 132.716 76.30 8.84 8.87 -2u.56 -7.726 -211.11 3.716 1.12 0.00

aoo.000 - 2.00.00 99 74.53 71.876 i.43 0.69 1.8 17.24% 3.M -1.m 1.13 0.06

) 2.0.000 64 70.43 4.681 1.42 0.67 4.2M 18.39 5.2119 C. 1.0 0.06

"bte: St. ore free aeoplI of 80 idAufact.ring firm. Te propoerties of fir. in each boedigit saubuctev ela that sbaeecter'- ar. of totwl

predu"etli.MT * =brnina Ser. Interest aW Taes.

mwr.: Sallrloren_t (16).

- 123 -

4.3.2 Debt versus Equity Financing

205. The tax regime in place until 1986 and the availability of directedcredit at below-market interest rates have biased incentives toward debt asopposed to equity financing by industrial firms. Tablo 4.11 shows real after-tax costs of financing from equity, directed credit, commercial credit, andbonds for selected years. On average for the years shown in the table, theafter-tax cost of equity (dividends) was greater than the after-tax cost ofdirected credit, though less than the after-tax cost of commercial credit fromcommercial banks and CFs. In certain years, the cost of dividends was greaterthan both directed and commercial credit.6

These relative prices show a clear incentive for firms to use directed creditrather than equity financing, though there is not always an advantage ofcommercial credit over equity financing. However, an important factorincreasing the preference for debt over equity financing is the :iwillingnessof firms in oligopolistic markets to relinquish ownership control.

206. From the point of view of investors, the real after-tax returns onalternative investments shown in Table 4.11 indicate an incentive toward bankdeposits, CDTs, and bonds as opposed to shares in corporations in all yearsexcept 1987. Excluding 1987, the average after-tax return on stock (dividendsand capital gains) was -14Z, compared to about -2.51 for CDT., 0.62 for UPACaccounts, and -2.4Z for BR paper. The year 1987 was an exception, whenreturns on dividends and capital gains far exceeded the return on investmentin debt, primarily due to revaluations. Even with this recent turnaround, itmay take a peri-d of consiatently higher performance for significant amountsof private investment to switch to equity markets.

6Since the cost of equity should also include valuation changes, the costof individual shares may be hither or lower than the cost of divid(ads.Historically, however, it has been lower because the real price of stock hasdeclined.

Table 4.11i Owl (b-Poet) Aftew Tom Ceet sad Yields

Yield 12 Ftel

*ividseds A Capital6.).. -18.43 -109.5 -16.83 -15.5s 75.73 S. 85 ".5

Siidead - 8.Jl8 - 8.8 - 4.411 - 2 1. 19.71 4.13 5.45

Certificates of BeOeitBook* - 5LX. - 9.5% -19.0 5.83 4-.43 -1.63 5.1CF. ° 5.85 - 9.13 - S.2X 5.OX -1.3 -2.21 $.91

Savwin Dopoatt (IRAC) .L.0 - 7. 6 7.5 --4.5 - 4.Gs 5.7X

Central Bools PaperTitueloe Canjeable .531 -11.0 S.1S -4.23 -2.4S 5.93Titul o de Partlelpecloo - 3.2X - .13X -. 9X -2.7X -3.13 1.53

Cost of Finanelng Sour.

Dlvid nds 1.9S J.4X -12.6X 4.53 19.73 1.53 7.73

Commrcial CreditBanks - 1.53 8.1X - 6.X 12.83 4.4X 2.8X 6.3xCF - 69.S 8.73 - 6.2X 12.A 3 .9X 2.SX 6.6

Dirocted CreditFIP - 2.4S -11.3X 5.43 1.53 -1.73 6.2xFFI - 4.7S -18.5X 2.7x -O4.6 -4.1S 61.5rCa 2.73 1.13 1.53 a. eExternal Line 1.6 - *.x 8.*X 4.4X -1.63 4.63

Bomk 6~~~~~~~~~.231 9.OX 2.63 2.631

Source: VI late (1963)

207. The advantage of debt over equity financing is reflected in the highleverage of industrial firms. The ratio of liabilities to assets for thesample of 94 corporations climbed from 492 in 1971-73 to 60S during 1974-79and 71Z during 1984-85 (Table 4.9). New debt of these manufacturing firms wasabout three times the amount of new capital plus retained earnings during1971-79. In addition to increasing indebtedness, there was a decline in theproportion of long-term debts long term debt as a source of funds declined inthe mid-1980s to less than half of its value in the early 1970s.

208. High leverage was found across all two-digit manufacturingsubsectors in 1983-85 (Table 4.10). The mean debt/equity ratio for the sampleof 300 firms was 68S over 1983-85. These high leverage ratios put many firmsat risk of illiquidity or insolvency. In 1983-85, 15 of firms did notproduce sufficient operating income to cover interest charges; 53Z earned from

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one to three tims their interest chargest and only 322 could bo considered tohave a comfortable interest coverage ratio.

209. The highest levels of indebtedness are shown by the textiles,clothing and leather, and basic metals, metal machinery, and transportequipment industries. While there were aignificant differences across two-digit subsectors in the share of short-term debt in total debt, thesedifferences did not seem to be related to the capital intensity of thesubsector. For example, metals, machinery, and transport (a capital-intensivesubsector) had a relatively high ratio of short-term to total debt. Thehigher level of indebtedness of the textile sector is consistent with the poorfinancial and operational performance of that sector during 1983-85. Theindebtedness ratio is not significantly different across firm sizes. but theratio is slightly higher for small-scale firms.

210. More recent studies of the financial structure of firms show thatindebtedness kis been reduced slightly, but still remains very high in leveland short-term in maturity. A study of 94 of the largest private sector firmspublished in the magazine Semana estimated a liabilitiesiassets ratio of !SZ;and a study by the Comision Nacional de Valores estimate a ratio of 64Z for 96firms listed on the stock exchange.

4.3.3 Financial Investments of Industrial Fir'1s

211. Colombian corporations derive a lArge share of their funds fromsources external to the firm. For the corpoLate sector as a whole, externalsources provided 732 of total funds in 1976-81, declining to 67Z in 1982-84.For the sample of 94 manufacturing firms, external sources provided about 60Zof funds through 1983, though this share declined substantially to 14? in1984-85. The main factor explaining the decline ir. external sources was areduction in foreign borrowing, which until the mid-1980s had been a majorsource of external funds.

212. A noticeable feature in the use of furds by the aggr-.ate corporatesector is the high degree of financial investment (including 4uityinvestments and loans to other firms). During 1976-81, financial investmentsaccounted for 54? of total uses of funds (Table 4.7). Of these financialinvestments, the majority (70?) were in the form of loans to other firms; 6?were equity investments in other firms. Finaxcial invebtments declined to 411of total uses of funds in 1982-84, though loans to other 'irms were stillimportant (612 of all financial investments, and 252 of total uses of funds).The sample of manufacturing firms shows a similar pattern: financialinvestments have accounted for about half of total uses during the 19709 andearly 19809.

213. External sources actually exceeded investment in plant, equipment,and inventories by the sample of manufacturing corpor&tions for every ti-meperiod except 1984-85, when foreign borrowing declined. Physical investmentdeclined substantially as a percentage of operating profit, from 97? in 1971-73 to 21? in 1982-83 and only 16? in 1984-85 (Table 4.9). Internal generation

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of funds exceeded physical investment and account receivables by more thantwelve times during 1984-85.

214. Data for 300 manufacturing firms for 1983-85 show that a significantproportion of corporate income was derived from their financial holdings in1983 and 1984. On average during those year small scRle firm received 451of their income (earnings before interest and taxes) from financial sources;a dium-scale firms received 36S from financial sources; and large-scale firms761 (Table 4.10). Thus, during 1983-84, the tendency to receive a largeproportion of earnings from financial sources was most pronounced in largerfims. In 1985, however, the share of income received from financial sourcesdropped sharply for all three groups.7

215. These data are consistent with the hypottesis that industrial firmshave not utilized the revenues generated by their operations, or revenueu fror-external sources, to finance their c-nw expansion. Lathar, they have usadthese sources of funds to acquire existing prodluctive assets, to diversifyinto other financial investments, and especially to lend in the interfirmcredit market (paras. 219-223). This trend is more preva-nt in largerenterprises in at least some of the yeats analyzed.

4.4 Imnlications for Industrial Market Structure and Financial SectorDevelopment

4.4.1 Directed Credit and Industrial Market Structure

216. Given the fixed margins and limited volume of credit forinstitutions channelling directed credit to final beneficiaries (generallyless than 3Z). financial intermediaries have a stror<' preference to lend toless risky clients, and to minimize risk by demanding high colleteral, oftenin excess of the loan amount. Adding to tl % preference of banks for largerborrowers are the economies of scale to be realized with larger loans. Thistendency Is offset somewhat by the existence of the FFI window for SMEs,although within this group the same incentives prevail. The resulting creditallocation is one in which a large share of credit goes to big firms (in 1987,42Z to firms with assets of more than Col$2 billion), a relatively large shareto SMEs (212 to firms with assets of less than Col$100 million), but a smallshare to firms between these size ranges, although they account for a largeshare of production.8 Balance sheet data from 1983-85 sample of manufacturingcorporations indicates a hlgher proportion of long term debt among largerfirms. Short term liabilities represented 602 of overall indebtedness forlarge firms, compared to 702 for medium-scale firms and 74Z for small-scale

7Defitied as follows: small: total assets less than Col$500 million;medium: total assets between Col$500 million and Col$2000 million; large:total assets mo. han Col$2000 million.

sConvereations with BR staff suggest that the concentration of industrialdirected credit among larger firms has been reduced in recent years.

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firms. This is consistent wvith the hypothesis that large firms have betteraccess to long term directed credit, the principal source of long term creditin Colombia.

217. Although the system of directed credit was designed to facilitatethe entry of new firms or the expansion of existing firms, it has also had theeffect of delaying or inhibiting the ezit of problem firms. In addition,since access to directed credit is seen as crucial to the success of newfirms, the criteria for approval of directed credit are key determinants ofthe pattern of industrial development. For example, the criterion ofinsufficient installed capacity in the industry has been an importantrequirement for granting of BR development credit and ZFI credit, making itdifficult for firms to use this credit to increase efficiency in sectors withsufficient capacity.

218. The existence of credit lines at below-market interest ratew alsocreates incentives for firms to control financial institutions in order tosecure subsidized credit. In spite of the recent crisis of the financialsector, demand for permits to establish new financial institutions has beenhigh, possibly because the access to subsidized credit that the ownership offinancial institutions gives to firms is an important source of profitability.Access to directed credit was also a major factor leading to the buildup ofdebt by industrial/financial conglomerates in the 19809. Thus, elimination ofsubsidized directed credit is desirable not only from the standpoint ofefficient resource allocation, but also to reduce the incentive to creaceownership linkages between financial institutions and their borrowers, a majorcause of the recent portfolio problems of the financial sector.

4.4.2 The Interfirm Credit Market

219. Non-financial firms are an important source of short, medium, andlong term credit to the industrial sector. While there exist few directestimates of the size of this market, the financial statements of the BR showthat in 1985, of total long-term liabilities of Col$236 billion of the non-financial corporate sector, 252 (Col$60 billion) were with other non-financialfirms. By comparison, in the same year the long-term liabilities of non-financial corporations with financial institutions were only Col$38 billion,or 15X of the long-term liabilities of the non-financial corporate sector.This suggests that non-financial firms may be a more important source of long-term credit to the industrial sector than are financial intermediaries. Ananalysis of short-term liabilities shows a similar tendency, though not asdramatic. Of total short-term liabilities (Col$687.2 billion), 34? were withnon-financial firms and 27Z with the financial sector. Viewed from the assetside, 87? of the financial assets of non-financial firms were loans to otherfirms, and 161 of these loans were long term.

220. Other estimates of the size of the interfirm credit market have beenobtained by analyzing the sources ard uses of funds of the non-financialcorporate sector. Accozding to Acosta (1986), a significant proportion of thetotal uses of funds (48S in 1976-81, and 35S in 1982-84) were financialoperations, the majority of wbich were loans to other firms. Finally, a 1983

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World Bank report estimated that the irformal market provided 26-412 of totalcredit to the manufacturing sector during 1970-81. The sam study reportedthat interest rates on interfirm credit averaged 592 in 1981, compared to 432for institutional credit.

221. Horaes (1989) identifies how interfirm credit markets are organisedamong groups of similar firms. There is the group of multinational firms,which operates with the support of their horn offices or which reflects theirfinancial transactions. For example, Firm A might lend to Firm B, with thehome office of Firm B providing the guarantee. Another market, between selectdomestic firms, functions with the support of guarantees in the form ofstandby letters of credit with foreign banks or foreign branches of Colombianbanks. A third market operates between certain domestic firms and theirsuppliers, at interest rates comparable or slightly lower than bank credit,backed by the future sale of goods. An example of this market is the creditprovided by supermarkets to suppliers of produce. Finally, there is a looselyorganized market between firms based on personal contacts among managers.

222. Several factors explain the growth of the interfirm credit market.The first is the high intermediation margins (reaching about 10? annually) andresulting high real lending rates for credit in the formal financial system.To the extent that these margins are due to regulatory requirements faced byfinancial institutions that are not faced by informal providers of credit,there is an opportunity for gain for both debtors and creditors in theinterfirm market. Lending firms with excess liquidity can obtain higherafter-tax yields than they would obtain from deposits with financialinstitutions; and borrowing firms obtain credit at less than they would pay inthe formal market. Second, the availability of directed credit at subsidizedrates provides some firms with a source of funds for this type of financialarbitrage, though it apparently is not serving the needs of a large number offirms that go instead to the interfirm market. The existence of the interfirmmarket is also encouraged by the often close business relationships betweenlenders and borrowers. As lending risk can be reduced by better knowledge ofthe client through supplier/buyer relationships or other personal contacts,lenders are willing to accept lower guarantees or guarantees in formsdifferent from real collateral. This informal rating system reduces risk forlenders, and allows access to credit by firms that would have difficultysatisfying the usual guarantee requirements of financial institutions.Finally, borrowing and lending in the interfirm market may allow firms toavoid disclosure to the tax authorities.

223. The existence of a large interfirm credit market obviously createsproblems of regulatory control for the monetary authority. In addition, theexistence of two separate credit markets may have an efficiency cost bypreventing financial institutions from achieving economies of scale. On theother hand, the interfirm market seems to be filling a gap currently presentin financial markets. Within the oligopolistic structure of the financialrector, the interfirm market at least creates competitive pressure onfinancial institutions.

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4.4.3 The Develooment of Securities Markets

224. The creation of the Bogota stock market in 1929 made Colombia aleader in securities markets in Latin America. By the middle of the 1960s,stocks were the principal source of finance for corporations, ownership wasdistributed among 405,000 shareholders, and the Bogota exchange vas the thirdlargest exchange in the West*ra Hemisphere, after tbe U.S. and Canada.9 From1939 to 1970, the most traded instrument on the exchange wvs shares, and in1945 the value of shares traded equalled 2.5Z of GDP.

225. Since 1970, securities markets have declined drastically inimportance. (It is interesting to note that the decline of the stock marketcoincided with the creation of BR development credit lines.) In 1988, thevalue of shares traded was only 0.08S of GDP, or about 3S of its relative sizein 1945. At the end of 1988 there were only 86 companies listed on the Bogotaexchange, less than half the number listed just four years earlier (Table4.12). There is high concentration in a few shares: 22 stocks constitutednearly 90? of market capitalization in 1988. Of the ColS357 million ininstruments traded on the Bolsa de Bogota in 1988, the majority (67Z) wereshort term fixed income securities (e.g., CDTs), followed by U.S. dollaracceptances (18S), long term bonds and certificates (92), tax credits (2.5S),and only 2.42 in shares.

226. Shares of firms listed on the exchanges are concentrated in a fewcontrolling groups; minority shareholders have little impact on the market,and there are few institutional investors to diversify ownership. Anunpublished report by the Comision Nacional de Valores showed that 81? of theshares listed were held by 0.2S of the shareholders; seven economic groupscontrol 302 of the listed companies, holding on average 642 of their shares.

227. Compared to Chile, Venezuela, Argentina, Mexico, and Brazil,Colombia has the smallest securities market as measured by marketcapitalization (although as a proportion of GDP, Argentina's is lower), thevalue traded, and turnover ratios (Table 4.13). Average return, as measuredby the Bogota index, was low (although Venezuela's return was negative), eventhough Colombia had the lowest standard deviation of local index returns amongthese countries. Colombia has the highest concentration of shares among theseLatin American countries as well as among all other developing countries inAsia and Africa which are followed in the IFC's Emerging Markets Data Base.

9160 Anos de Bolsal, Bolsa de Bogota, 198J; cited in Hommes (1989).

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Teble 4.12: Sewerite Markets Indicatore, 1964-1916

1964 19io 196 197 193

NU_III r Lu CO -Nole d Booste in 1UR 00 96 a

AMAK CAPITALIZATION

Cell M IIION 96,317 71,60 196012 8101112 4,744U11 Million 762 416 622 1,255 1,145

TRADING VALUE 1/Cole Million 4,762 4,254 9,521 19,524 16,798USSMmII Ion 47 U 49 0 63Turnover Ratlo 5.5 5.9 5.5 5.9 4.9

LOCAL INDEXBegota General Index (1976.196) 215.9 226.5 468.5 351.8 672.1change In Index (1) -18.4 4.9 14.5 38.7 2.4

EMERGING MAKETS DATA BASENumber of Stocks In END Sample 24 24 24 22 22ENDS Share of Market Cap (X) 52.6 72.2 68.4 94.6 69.9EMDS P/E Ratio 5.8 3.1 0.3 11.6 6.6ENDS P/DY Ratlo 9.7 9.6 1.4 1.6 1.6EMDB Divlvind Yield (X) n/! 16.1 .6 4.9 5.9ENDB Total Returns Index (Dee 64.l196 100.9 s6.6 227.9 409.4 1S9.4Change In EbDB Index (X) n/. -11.5 165.6 99.4 -12.2

Notee: 1/ IncIudee the velue traded at the Soeln In Medelln.n.r. a Not Availablo

Source: Emraina Stock Market Handbook, 19S9, and Emrging Marketu Data Bo".

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Table 4.12t Selected Equity Market Statistics for Latin Amerian Countries(As of Deceber 11, 1066)

Coloembl Chile Ve"euela Argontima Mslco Brazil a/

N, br f 2M 6- 166 2 5Co,aies Listed

Total Mrket 81,145 36,649 61,316 62,625 823,69 332,149Capitalization

Valuo Tradod Su #610 m6l SSS n7,729 617,979(US SUN I__ _ _ _ _ _ _ _ _

Turnover Ratio 4.90 I.6X 19.9X 16.3X 32.0X 19.9X

Locol Index 2.4X 33.3X 1.7X 526X 199.2X 2,556exRoturn

Standard Deviation 6.6X 3.0X 11.4X 26.7X 16.3X 18.7XIndex (6 years)

Change Conoumer 290 11.7X 35.53 620X 61.7X 934XPrice Indx (X)

Average P/E 3.X 4.4X 11.43 11.33X 5.0 7.90'RatioI

Average Dividend 5.9X 9.4X 1.lX 3.63 3.6x 1.5XYiold

Market Capital. 3.aO 33.3X 6.7X 2.5X 16.33 3.4Xas a X of CDP

a) Sao Paulo market

SOURCE: Emerging Stock Markot. Fnctbook, Intornational Finance Corporation, May 1989

228. From the point of view of the suppliers of securities, the mainreasons for the lacir of securities market development are the taz and interestrate policies described above, that have biased relative costs in favor ofdebt (particularly directed credit); and the concentration of ownership in theindustrial sector and the reluctance of owners to share control. Thedisincentive for fims to diversify control in an oligopolistic environment isreinforced by the fear of unfriendly takeovers by holders of large cashbalances acquired illegally. In addition, the disclosure requirements offirms listed on the exchange, which are not required of unlisted firms,discourage firms from using the securities market.

229. From the point of view of investors, the lack of interest insecurities markets can also be explained by both relative prices and issuesrelated to ownership and control in a concentrated market structure. As notedabove, the real after-tax return on stock was negative and less than thereturns on commercial bank deposits, CDTs, and UPAC deposits throughout the1971-86 period. Minority stockholders are said to be reluctant to acquire

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ainority ownership in a market characterized by concentrated ownership.Though the 1986 tax reform increased the relative return on stock byeliminating double taxation of dividends, it is not yet apparent that thiswill be sufficient to attract large numbers of investors to securitiesinvestments as minority shareholders.

4.5 Conclusions and Policy Recomendations

230. The structure of financial markets and the incentive effects offinancial policies affect industrial performance directly, through theirimpact on the availability and cost of financial instruments, and indirectly,through their effects on industrial market structure. In Colombia, financialsector inefficiency and the distortionary effects of some financial policieshave had significant effects on the financial behavior of industrial firms,and have reinforced the concentrated structure of industrial markets.

231. The oligopolistic structure of the financial sector and, untilrecently, regulations restricting cumpetition from foreign-owned banks, reducepressure on financial institutions F,o minimize costs. High operating costs offinancial institutions have been one factor leading to large intermediationmargins. The other major factors, explaining an estimated half ofintermediati on margins, are the high reserve requirements and mandatoryinvestments required of financial institutions. In turn, high intermediationmargins affect industrial performance by increasing the cost of credit,reducing innovation of new financial instruments, ard encouraging anindustrial market structure conducive to interfirm c edit transactions.

232. Until the 1986 reforms, tax policy biased relative costs in favorof debt rather than equity financing by firms, and biased relative returnsagainst equity investments by individuals. Combined with the availability ofcredit at subsidized rates from the directed credit system, it was rationalfor firms to choose a highly-leveraged capital structure. The effects of taxpolicy and subsidized directed credit on relative costs may have also biasedinput choices of firms toward more capital intensity, possibly contributing tothe capital-using pattern of industrial growth noted in the first chapter ofthis Teport.

233. The existence of subsidized directed credit also has perniciouseffects on the structure of both financial and industrial markets. Infinancial markets, though directed credit has been intended to be a partialsolution to the problem of market failure for private long term credit, thefact that directed credit offers a cheaper alternative may have been part ofthe reason that private long-term credit markets failed to develop. Thenotable decline in the importance of securities markets and underdevelopedcapital markets in general has been partly a result of the effects of taxincentives and directed credit on financing choices of firms. Certainly notall of the blame for underdeveloped capital markets can be placed on thesystem of directed credit: firms also choose not to resort to equityfinancing in order to avoid sharing ownership and control in imperfectlycompetitive markets. Finally, subsidized directed credit has provided a

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source of low-cost funds that has encouraged the growth of the interfirmcredit market.

234. The distribution of directed credit reinforces the imperfectlycompetitive stru:ture of industrial markets. Since intermediation margins ondirected credit are fixed, it tends to be allocated to larger and more well-established incumbants (except for the special SME vindow). This works to thedisadvantage of medium-scale firma, those with higher risk (such as new firmsor firms financing non-traditional activities), and those without a closerelationship with a financial institution. For this reason the system ofsubsidized directed credit with fixed intermediation margins can also be seenas a barrier to entry, growth, and change in the industrial sector. Thedesire to obtain subsidized directed credit system also leads firms to formindustrial/financial conglomerates.

235. Recent financial policy reforms have moved in the direction ofsolving some of these problems. The Government has taken steps to strengthenthe condition of financial institutions (though public acquisition of a numberof large financial institutions may have been a step backward from theperspective of financial sector competition). Reserve requirements have beenreduced and the return on mandatory investments increased, and a law has beenpassed to allow greater competition from foreign banks, both of which shouldhave a favorable impact on intermediation margins. The tax reform eliminatedthe bias in favor of debt financing by firms and the double taxation ofdividends for investors, though a significant change in the capital structureof firms or the development of securities markets he yet to occur. Finally,interest rates on most directed credit lines have been made variable and movedcloser to market levels.

236. The analysis in this chapter points to the need to continue toreform financial policies in these directions. Efforts to increasecompetition in finsncial markets should go beyond encouraging entry of foreignbanks, to reducing barriers to entry of new domestic competitors andharmonizing regulatory requirements across different types of financialinstitutions. The subsidy element of directed credit should be reduced, andintermediation margias freed, maintaining volume only as needed for purposesof term transformation to fill the gap of long term credit. The reform ofdirected credit would need to include the elimination of the subsidy elementof PROEXPO financing, in line with a trade policy program that uses theexchange rate as the prinicipal instrument of export promotion. These reformswill allow a reduction in the burden of mandatory investments, the main sourceof funds for directed credit.

237. More aggressive efforts are needed to encourage the development ofcapital markets. Though this is an area which needs further study, policyreforms would likely include more stringent disclosure requirements of allfirms, to reduce the current disincentive to register on the stock exchange;strengthening of minority shareholders' rights, and the introduction of non-voting shares; better supervision and control of securities transactions; andpossibly further tax reforms to encourage mutual funds and institutionalinvestments.

.. S,.n,. . ~~~~~- 134 -

CHAPTER 5: TEE DESIGN AND IMPLEMENTATION OF INDUSTRIALAND TRADE POLICY

5.1 Introduction

236. Previous chapters have linked trade, industrial, finfncial, and laborpolLcies with industrial structure, conduct, and performnce. The report hasattempted to show how these policies have affected industrial performancedirectly as veil as indirectly through their effects on market structure andfirm behavior. This chapter focuses on the institutional framework for tradeand industrial policy, making reco.mmendations to improve the process by whichindustrial sector objectives are formed and policy instruments chosen andimplemented.

5.2 Institutional Framework for Macroeconomic. Trade, and IndustrialPolicy

5.2.1 Macroeconomic Policy

239. The main institutions directing macroeconomic policy in Colombia arethe Ministry of Finance and Public Credit, the Central Bank (Banco de laRepublica, or BR), and the National Planning Department (Departamento Nacionalde Planeacion, or DNP). The Ministry of Finance controls nearly all theinstruments of fiscal policy (tax policy, the treasury, and the nationalbudget), and has ascendency over the Council of Ministers. Since the Councilhas final power of approval over various decisions made by individualministries, it is possible to say that the Ministry of Finance has veto rightin key decisions of the budget and other economic matters. In general, incases of disagreement within the economic team, the President is inclinedtoward the opinion of the Ministry of Finance as being first in theministerial hierarchy.

240. The Ministry of Finance, together with BR, controls the management ofthe Monetary Board, and in addition supervises the Banking Superintendency.The Monetary Board, presided over by the Minister of Finance, not onlycontrols monetary instruments, but also allocates funds to the developmentcredit lines of BR and sets the monthly foreign exchange budget for imports.In addition, the Monetary Board sets policies with respect to reserves andforced investments, regulated interest rates, external credit, Governmentborrowing, open market operations, special lines of credit for both the publicand private sectors, coffee remittance prices, and approval of privatetransactions involving foreign exchange. The advisors of the Monetary Board,using the technical infrastructure of BR, exert significant influence overthese policies.

241. With its select group of economists, BR manages and analyzes the datathat forms the basis for macroeconomic policy. Through its monetary andexchange rate management, its participation in Economic and Social Policy

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Council (CONPES), and its technical support to the Minister of Finance, BR hassignificant influence over macroeconomic policy.

242. The third main institution involved in macroeconomic policymaking isDNP, which is directly under the President of the Republic. DNP isresponsible for planning public investment and public external borrowing, andas such plays a coordinating role vith the other public sector institutions.Its position is reinforced by its management of the National Board of PublicService Tariffs, and the technical secretariat of CONPES. The Osectorallministers (of Economic Development for industry, Agriculture, Health,Education, Mines and Energy, etc.) present their sectoral programs to COUPESthrough DNP. The coordinating role of DNP has led to an institutionalstructure in which each sector is represented as a division of DNP. As is thecase with the Ministry of Finance, DNP sits oa a number of directorates ofvarious public institutions, increasing its coordinating capacity.

243. DNP also is responsible for each government's four-year EconomicPlan. In general, the Economic Plan emphasizes the sectoral orientation ofpublic investment, and establishes a framework for the orientation ofmacroeconomic and sectoral policies. Though the Plan is fairly general inmost of its policy proposals, it is another of the instruments used by DNP toharmonize macroeconomic and sectoral policies.

244. For the last four years, the Economic Plan has been supplemented byannual macroeconomic programs containing more specific fiscal, monetary, andexternal sector targets. Thus far, however, these programs have not coveredspecific industrial policies, nor have they tried to relate sectoralobjectives with short-run macroeconomic policy. Thus, the Government does notcommit to specific industrial policies in the Plan in the same way that itdoes with macroeconomic policy.

245. The three principal institutions responsible for macroeconomic policyalso have sectoral policy functions. For example, the Ministry of Financeleads the technical secretariat for the Tariff Policy Council and the directorof customs. BR a-ministers development credit lines for the industrial sectorand has influence over PROEXPO for export promotion. DNP defines foreigninvestment policy in various areas.

246. The institutional framework for macroeconomic policy has functionedwell in Colombia, especially compared with other Latin American countries.The distribution of responsibilities among the Ministry of Finance, BR, andDNP is balanced, each being relatively strong and autonomous in its respectivearea. Nevertheless, this success in the area of macroeconomic policymakinghas not been well integrated with appropriate and complementary sectoraldevelopment policies. A frequent criticism of industrial and tradepolicymaking in Colombia is that these sectoral policies are determined as a'residual' to macroeconomic policy, rather than being assigned higher priorityto achieve their own sectoral objectives as well as to support macroeconomictargets.

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5.2.2 Trade Policy

247. The three institutions responsible for macroeconomic policy are alsoinvolved in trade policy in four groups: (a) CONPES, which approves thegeneral principles of trade policy; (b) the Monetary Board, which regulate.certain areas essential for external trade (the foreign ezchange budget, therate of devaluation, etc.); (c) the Directive Council of International Trade,presided over by the Minister of Economic Development which establishespolicies for trade administration by the Foreign Trade Institute (INCONEX);*nd (d) the Tariff Policy Council, directed by the Ministry of Finan:e.

248. While CONPES and the Monetary Board are mainly controlled by thethree institutions responsible for macroeconomic policy, the Tariff PolicyCouncil has a wider distribution of power. The Directive Council ofInternational Trade is influenced mainly by INCOMEX and the Minister ofEconomic Development as well as the Minister of Agriculture in relevant areas.The influence of the Ministry of Finance, DNP, and BR in this council ismainly in the area of the general orientation of policies (especially withrespect to import policy: management of import licenses and the allocation ofthe foreign exchange budget). Much depends on the initiative of these threeinstitutions, especially the Ministry of Finance in integrating macroeconomicpolicy with trade policy. If they fail to establish this link, it is notlikely to come from the Ministry of Economic Development, which with INCOMEXis involved in the daily administration of imports and exports.

249. Depending on the degree of clarity of the orientation of tradepolicy, INCOMEX and Ministry of Economic Development can have substantialinfluence over trade flows. Given that levels of protection are determinedmore by the prior license regime than by tariffs, the decisions of INCOMEX areimportant, not only in determining the quantities of imports of each product,but also determining from where these imports come and who receives them.

250. The Ministry of Finance and BR also have influence in PROEXPO,presided over by the Minister of Economic Developmwnt. PROEXPO is a keyagency in trade policy, not only for export credit and technical assistance,but also for setting levels of export tax rebates (CERTs). Both INCOMEX andPROEXPO are under the Ministry of Economic Development, the institutionresponsible for industrial policy.

251. A frequent criticism of trade policy is that export policymaking inparticular is fragmented among many institutions -- the Ministry of EconomicDevelopment, BR, PROEXPO, INCOMEX, the General Department of Tariffs, theMinistry of External Relations, and the Ministry of Agriculture, along withthe Ministry of Finance and DWP, who set the general framework. Theimpression of many is that each institution marches in its own direction, withlittle coordination. This fragmentation occurs at all levels, whereas on theside of import policy, the main gap is the link between import policy andmacroeconomic policy. A second impression is that high-level officials inmany of these institutions are involved in making innumerable dailyoperational decisions, and have little time to spend in developing an overallstrategy and coordinating the strategies of their respective institutions.

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5.2.3 Industrial PolicT

252. The Ministry of Economic Development is in charge of sectoralindustrial policy. In addition, the Ministry of has under its responsibilitymany other functions, including sectoral policies for tourism, internalcosnerce. and housing and urban development. The multiplicity of functions ofthe Ministry stands outs under its control are INCOHEX, PROEXPO, theIndustrial Development Institute (IFI), the Corporacion Financlera Popular(CFP), the Territorial Credit Institute (ICT), the National TourismCorporation, the National Savings Fund (housing for public sector employees),the Corporacion Financiera del Transporte, free trade zones, theSuperintendency of Corporations, the Superintendency of Industry and Trade,and the National Stock Counission.

253. DNP currently has an industrial studies unit that has in the pastprepared subsectoral plans and currently produces industrial policy studies aswell as the industrial policy sections of the Economic Plan. Although DNP hascoordinated with the Ministry of Economic Development in these studies, thetechnical contribution of the Ministry has been limited.

254. Several attempts have been made to turn the Ministry of EconomicDevelopment into an institution more specialized in industrial policy. Whileattempts to create a MITI-style ministry of industry and trade have beenunsuccessful, they recently have led to attempts to improve the efficiency andorganization of the Ministry. A 1988 law restructured the Ministry ofEconomic Development, raising large divisions of the Ministry to the level ofgeneral directorates (industry, industrial technology, foreign trade, domestictrade, tourism, and housing and urban development. The industry directoratecontains subsectora± divisions (e.g., agroindustry, basic chemicals, plastics,etc.). The restructured Ministry also has more responsibility for settingimport policy with INCOMEX.

255. The recent organizational reforms of the Ministry of EconomicDevelopment also attempted to raise the administrative levels of the variousdepartments of the Ministry, that previously were staffed with management atlower rank and remuneration than their counterparts in other ministries. Theheads of directorates now have legal authority to preside over the boards ofdirectors of decentralized agencies under the Ministry, permitting theMinister and Vice Minister to focus on broader policy considerations. At thesame time, the technical units in the directorates were strengthened toimprove the analytical basis for policymaking.

256. While the reorganization of the Ministry of Economic Development is apositive step toward improving the institutional framework for industrialpolicymaking, it does not give the Ministry a fundamentally new role in ,heformation of an industrial strategy with links to macroeconomic policy. Itmay be unadvisable to give a sectoral ministry a direct role in macroeconomicpolicymaking, but the Ministry of Economic Development and DNP should workmore closely together to formulate an industrial strategy integrated withmacroeconomic policy. The coordination of industrial and macroeconomic policy

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should also be reflected in the relationships between the Ministry of ZconomicDevelopment and BR (in the area of industrial financing) and the Ministry ofFinance (in the area of tax policy).

5.2.4 Private Sector Particination in Industrial Policymakina

257. As with other sectors of the economy, the industrial sector has agreat number of associations (aremios) that represent business interests. Thetwo most important multicectoral associations are the National IndustrialAssociation (ANDI) and the Small Industry Association (ACOPI), representingsmall and medium scale industry. ANDI has the largest membership andinfluence of all the associations, and it is the most representativeinterlocutor for the private sector with the Government. There are many otherinfluential associations, such as FEDEMETAL (metals) and ACOPLASTICOS(plastics). ANALDEX represents the interests of exporters.

258. There are various formal channels of communication between theGovernment and industry. The Ministry of Economic Development can createconsultative committees to advise on specific policies and programs. In spiteof the increased use of consultative committees, particularly during the19708, there has also been a lack of continuity, and few are convenedfrequently. The more efficient and frequently used channel of communicationare informal, direct contacts between the business community orrepresentatives of the associations, and the Government -- for example,informal contact between the president of ANDI and the Minister of EconomicDevelopment or the President of the Republic.

259. The activities of the associations and their contact with theGovernment on industrial policy nearly always concentrated on changingprocesses at the end of the decisionmaking process, when the full implicationsof policies for the interests of members become known. There is much lessuseful communication between the Government and the private sector at thebeginning of the decisionmaking process, when input from the private sectorcould be used to improve policy design. This encourages a casuistical processthat can alienate the private sector while at the same time leaving (at theleast) mid-level Government policymakers frustrated with the process. Inaddition, the associations often take on a defensive posture as they attemptto preserve the status quo. While this defensive position is also takenagainst proposed macroeconomic policies that would have a negative short-runimpact on business (e.g., tighter monetary policy, changes in creditallocation, tax policy), it is seen most strongly in the area of trade policy.

260. The nature of the current interaction between tne Government and theprivate sector creates problems for the design of clear rules of the game inindustrial policy. While decrying the lack of a coherent industrial strategy,influential industrialists want to continue the casuistical process thatallows them to receive preferential treatment. In fact, they have not lobbiedfor clear rules of the game that would be applied equally to all producers.The current system favors these established firms, reinforcing their dominantpositions in industrial markets. While not questioning the legitimacy ofassociations that represent group interests, it may be said that the current

* 119 -

institutional framework is not transparent and can operate as a barrier tocopetition, both from existing producers with les political influence, andfrom potential new entrants.

5.3 Conclusions and Reoeomendations

261. The wmaagemnt of macroeconomic policy and the distribution andcoordination of responsibilities mong the three principal public sectorinstitutions in charge -- the Ministry of Financo, D9P, and DR -- havefunctioned well. However, the design and management of industrlal and tradepolicy have been loss successful. On the one hand, a clear industrialstrategy for the mdium and long term has not been articulated since thepostvar strategy of import substitution. On the other, there is a need tointegrate industrial and trade policies with macroeconomic policy.

262. The integration of macroeconomic, trade, and industrial policy callsnot so much for a restructuring of institutions as it does for a redirectionof the policy effort. Decisions on objectives and broad strategies forindustrial development need to be made at the kighest level. Given thecurrent institutional structure, the direction of industrial developmelit,consistent with the general objectives of economic policy, should be decidedby CONPES. The coordination of these objectives and strategies with the dailyadministration of industrial policy requires closer coordination between DNPand the Ministry of Economic Development. For this, the technical capacity ofthe Ministry needs to be strengthened. A reassignment of responsibilities maybe required is in the area of trade policy (particularly export promotion),where the current division of responsibiliLies is fragmente,

263. Communication with private sector representatives needs to beimproved at early stages in the policymaking process, perhaps by resurrectingthe formal channels of participation that have been used before.Discretionary influence of private sector representatives over high-levelpublic officials at later stages in the policymaking process, or in theapplication of policies, must be reduced. A stronger commitment totransparency and general applicability of policies is required, as the currentprocess acts as a barrier to competition by potential new entrants or byindustrialists with less political influence.

313LIOGAPHY

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Berry, Albert (1963). l sa p on Industrialization In Colombia. TSeseCenter for Latin American Studies, Arizona State University.

Carrizoss, Mauricio (1986). Hacia la RecuDeracion del Mercado de CaDitales enColombia. Bogotat Editorial Prosencia.

Chenery, Hollis B. (1986). "Growth and Transformation', in S. Chenery, S.Robinson, and M. Syrquin (ads.), Industrialization and Growth: AComparative Study. London: Oxford University Press.

Cuevas, Homero (1989). lnforme Sobre e1 Sector Industrials Coordinacion dePoliticas.0 Bogota: FONADE.

Dailami, Mansoor (1988). 'Columbia: The Impact of the Tax Reform of 1986 onthe Corporate Cost of Capital." CECFP, September.

Dailami, Mansoor (1989). 'Financial and Fiscal Policy and Private BusinessInvestment in Colombia.' CECFP, February.

Dunne, T., Roberts, M.J., and Samuelson, L. 'Patterns of Firm Entry and Exitof U.S. Manufacturing Firms%, The Rand Journal of Economics, 1989.

Frischtak, Claudio (1989) Competition Policies for IndustrializingCountries.* The World Bank, January 30, 1989.

Garcia-Garcia, Jorge (1987) 'Balance of Payments and Export Performance inColombia in the 1965-85 Period.' Consultant's Report.

Hommes, Rudolf (1986). 'Indicadores del Desempeno Industrial: Elwmentoo paraEstudiar la Organizacion Industrial en Colombia', in Crisis TCapitalizacion de la Industria en Colombia. Bogota: Contro deIsvestigaciones pars e1 Dosarrollo, Universidad Nacional.

Hoomes, Rudolf (1988a). "Una No%a Sobre la Zficiencia del Sector FinancieroColombianol, Estratesia.

Hommes, Rudolf (1988b). 'Cross-Country Comparison of Financial SystemsColombia.' Consultant study for The World Bank August 28, 1988.

Homme, Rudolf (1988c). Industrial Sector Studys Finncial Section.'Consultants' report for the World Bank.

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Hommes, Rudolf (1989). "La Banca de Inversion en Colombia: Antecedentes yPerspectivas.' Bogota: mimeo, March.

Homes, Rudolf (1990). 'Colombia: Forced Investments and Directed CreditSubsidies.* Consultant's Report to the World Bank, May.

Laechler, Ulrich (1987). *The Effects of Industry Concentration on EconomicPerformance in Colombia.' INDSP, The World Bank, May.

Lopez Guerra, Guillermo (1989). 'Regimen Laboral Colombiano que ConllevaLimitaciones al Facil Manejo de la Mano de Obra en la Empresa.'Consultant's Report for the World Bank, August 15.

Meller, Patricio (1978). 'The Pattern of Industrial Concentration in LatinAmerica", The Journal of Industrial Economic. (27:1), September.

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Ospina S., Jorge (1989). 'El Marco Institucional de la Politica IndustrialColombiana.' Bogota: FONADE.

Page, John M., Jr. (1988). 'The Pursuit of Industrial Growth: PolicyInitiatives and Consequences', in D. Lal and M. Scott (eds.), PublicPolicy and Economic Development. Oxford University Press.

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Ramirez, Manuel. (Econometria) (1988). 'Informe Sobre El Sector IndustrialColombiano: Elementos del Mercado Laboral.' Bogota: FORADE.

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Saez, Felipe and Ana Maria Llorente (1989). 'Study of the Financial Structureof the Industrial Sector in Colombia.' Colombia Resident Mission, TheWorld Bank, March.

Suescun, Rodrigo (1987). 'Nueva Evidencia Sobre Economias de Escala en laBanca Colombiana", Ensayos Sobre Politica Economica No. 12, Banco de laRepublica, December.

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Tybout, James R. (1989). wEntry, Exit, Competition, and Productivity in theChilean Industrial Sector.' Draft report for World Bank researchproject 'Industrial Competition, Productive Efficiency, and TheirRelation to Trade Regimes' (RPO 674-46).

Urdinola, Antonio and Edgard Moncayo (1987). 'Estructura y Regulacion de laIndustria Manufacturera en Colombia.' Consultants' study for Tne WorldBank, May.

Villate P., Alberto (1988). 'Aspectos Financieros del Sector IndustrialColombiano.' Bogota: FONADE.

Wogart, Jan Peter (1978). Industrialization in Colombia: Policies, PatternsPerspectives. Tubingen: Mohr.

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VOC:4 car. *Coumtr&7 Zoaolc i1rusa Productivity Growth sad Sustainedlccmmc Deloapst. leport No. 7629-CO, Augut 15, 1989.

World ank. *b. ColembLan financial Sectors Issues and Prospects." LCP12,march 5, 1966.

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Annex 1

Industrial Performnce and Internal/lxternal CompetitionsRegression Results

Chapter 2 of this report presents evidence of the statisticalrelationship between industrial performance and internal and externalcompetition, as contalned in Roberts (1989) and updated by Roberts in March1990. This annex provides more detail on the data, models, and regressionresults behind this analysis.

A. Description of the Data

The data set used for the regressions of industrial performancevariables on internal and external competition and other variables vasconstructed from the DANE Encuesta Manufacturera for the years 1977 through1987. The Encuesta Ma!uuacturera is a cross-sectional survey of industrialestablishments, or plants. For the years 1977 through 1982, the surveyincludes all plants in the manufacturing sector. In 1983 and 1984, plantswith fewer than ten employees are not included in the survey; in the followingyears, a small number of plants with fewer than ten employees are included.

The plant-level observations in the separate yearly surveys were matchedacross years to construct a panel data set of manufacturing plants. Most ofthe regression results described in this Annex were run on an industry-levelpanel data set (in which the plant-level data set was aggregated to the three-digit industrial classification (CIIU) level). Thus the regressioncoefficients represent the change in the dependent variable per unit change ineach independent variable, averaged across time and across industries.

B. Variables

The variables defined below were used in the industry-level regressions(where each observation represents the value of a variable for industry iduring year t). In addition, some variables were constructed for plant-levelregressions (where each observation represents the value of a variable forplant j in industry i during year t). The latter would be represented withsubscripts J, i, and t.

Output (Qit): real production in industry i in year t, measured as nominaloutput deflated by an industry price index Pit for domestic industry output.

Domestic Sales (QDit): real production sold domestically by industry i inyear t.

Export Sales (QXit): real production exported by industry i in year t.

Labor (Lit): number of employees in industry i in year t.

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Capital stock (Kit): real capital stock of industry i in year t, constructedusing the perpetual inventory method. Using capital stock and investment datafor each of four asset classes (buildings and structures, machinery andequipment, transportation equipment, and land), the capital stock of assetclass j at the end of year t for industry i is denoted as K it and isconstructed as

K3it ' IOit + (l-dJ)KJit-l

In this equation IJit is the real flow of new investment of asset type j inindustry i in year t, dJ is a depreciation rate for asset type J, and KRlit-is the previous year capital stock of asset type J in industry i. The(constant) depreciation istes for each type of asset were assumed to be .05for structures, .10 for machinery and equipment, .20 for transportationequipment, and zero for land. The real flow of new investment for each assettype is defined as the sum of purchases of new and used assets and productionof the asset for own use minus sales of assets. It is constructed by summingthe plant-level investment flows over all plants, and deflating by a priceindex for new investment of type j. The latter were constructed as the ratioof the current and constant unit flows of investment for the whole economy forinvestments in wother structures', machinery and equipment, and transportationas published in the Banco de la Republica Revista, and using the GDP deflatorfor land.

The capital stock for each industry in the initial year was constructed bydeflating the 1977 end-of-year book value of each asset type by the value ofthe 1977 asset price index.

Materials (Hit): the value of industry material purchases in industry i foryear t, deflated by an industry-specific material price index.

Total Factor Productivity Growth (/ ln TFPit): The growth rate of totalfactor productivity in industry i between years t-l and t is measured as thegrowth rate of real output minus the share-weighted growth in labor, capital,and materials using the Tornquist index number formula:

L ln TFPit [ ln Qit - ln Qit_l ] - I SL (ln Lit - ln Lit.1)

+ SK (ln Kit - ln Kit-,) + SM (ln Mit - ln Mit_.) I

The share weights SL, SK, and SM are the average expenditure shares of labor,capital, and materials in the value of output in years t-l and t. Laborexpenditure includes both wages and supplemental labor costs. Capitalexpenditure is value added minus labor expenditure. Material expenditure ismeasured as the sum of energy purchased, total value of raw materialsconsumed, and sales tax paid on purchases of raw material. The labor,capital, and material expenditures sum to the value of gross industryproduction. Thus, the average expenditures shares sum to one in each timeperiod.

Price-Cost Margin (PCMit): the deviation between output price and average

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variable cost in industry i in year t. It is constructed by subtracting thetotal expenditure on variable inputs, assumed to be labor and materials, fromtotal revenue and then expressing this difference as a proportion of totalrevenue. This is equivalent to plant profits plus payments to fixed factors(capital) as a proportion of total revenue.

Herfindahl Index (Hit): The Herfindahl index, a measure of the dispersion inplant sizes vithin industry i, is the sum of the squared plant market sharesin industry i:

Hi - ESij2 over j - 1.. n plants in industry i

Larger values of H indicate greater dispersion in plant sizes; H reaches itslowest value when all plants are of the same size. A large variation in plantsize is consistent witn a large difference in production efficiency acrossplants. As a result of their higher efficiency, large plants can earneconomic rents and are under less pressure to take advantage of all possibleefficiency gains. Thus, the Herfindahl index may be used as an alternative toother measures of domestic market concentration such as the four-plantconcentration ratio.

Import Penetration (IMPit): the share of imports in final sales of industry iin year t. It equals the value of competing imports for industry i (at thethree-digit CIIU level) as a share of the total sales of industry i. Totalindustry sales equals the total sales of domestic producers plus the value ofimports.

Capital Intensity (KQit): a measure of the capital intensity of domesticproducers in industry i in year 1. It is constructed as the end-of-yearcapital stock of domestic producers in industry i divided by the real outputof domestic producers. (It is necessary to include KQit as an explanatoryvariable in the price-cost margin regressions because the dependent variableincludes payments to fixed factors.)

Industry Dummy Variables (Di): a set of 27 dummy variables used todistinguish the 28 three-digit industries. When using a panel data set thesedummy variables control for any omitted effects which are industry-specificand do not vary over time. This could include other aspects of the industry's

* technology or demand conditions which are stable over time.

Time Dummy Variables (Dt): a set of ten dummy variables used to distinguishthe eleven different years in the data. These are included to control for anyyear-specific influences, such as macroeconomic factors, which are likely toaffect all industries.

In addition, for the plant-level regressions, the following variable is used:

Output Share (Sjit): the output share of plant j in the total domesticproduction of industry i in year t.

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C. Models

DeDendent Variable In TFPt

Model (1): aln TFPit - f (aln Qit Ailn IMPit Hit Di. Dt )

Total factor productivity growth is a function of output growth (to capturethe effects of economies of scale); changes in the degree of externalcompetition (that would affect efficiency by reducing slack among domesticproducers or by changing the mix of domestic producers via the exit ofinefficient firms); the degree of internal competition (higher values of Hindicate greater dispersion in plant sizes, so that plants may face lesscompetitive pressure from their intra-industry rivals); industry dummies tocontrol for omitted time-invariant industry factors; and year dummies tocontrol for time-specific factors, including changes in cost resulting fromtechnical change.

Model (2): Aln TFPit - f (ATln Qit' Lln IMPit, Hit. Amln Iit*Hit,

Di, Dt )

The second model is the same as the first, with the addition of an interactionvariable: the product of H and alnIMP. This variable allows the effect ofgrowth in import penetration on productivity growth to vary with theconcentration of the industry.

Model (3): aTFPit - f (AlnQDit, lnQXit, AlnIMPit, Hit,

8lnIMPjt*Hit, Di, Dt )

Tha rate of growth of real industry output is disaggregated into the share-weighted growth in real domestic sales (alnQD) and the share-weighted growthin exports (AilnQX), to assess whether productivity growth results from growthin domestic or export markets.

Dependent Variable PCM:

Model (4): PCMit = f ( Hit. IM Pit KQit. Di, Dt )

The basic model relates the profitability of domestic industry with aspects ofthe industry's structure and trade environment. The industry price-costmargin is a function of the degree of internal competition (with thehypothesis that a larger dispersion in plant sizes allows some firms to earnhigher than normal profits); the degree of import competition; the capitalintensity of the industry, included as an explanatory variable because thedependent variable includes payments to fixed factors; and the industry andtime dummies.

Model (5): PCMit - f ( Hit, IMPit, KQit, Hit*IMPit. KQit*IMPit,

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Di, Dt )

The second model adds two interaction variables -- H*IMP and KQ*IMP -- toallow the effect of import penetration on margins to vary across industriesdepending on the industry's Berfindahl index and capital intensity. This canbe used to test the hypothesis that import penetration has a more substantialeffect on industry profits in more concentrated, capital intensive industries.

Model (6): PCMit - f ( Sit IMPit' Qit, Hit*IMPit. MQit*IMPit, Dt )

Model (7): PCMit - f ( Hit. I, it, KQit, Dt )

Models (6) and (7) replicate Models (4) and (5), respectively, except with theindustry dummy variables deleted. These regressions examine the importance ofacross-industry differences in generating the observed relationships.

Model (8): PCMjit _ f ( Sjit. S2jit, IMPit, IMPit*Sjit, Di, Dt )

The last model is run on plant-level rather than industry-level data. Thisallows determination of whether the variation in the performance of plants,measured by the plant's price-cost margin, results from industry-leveldifferences in the extent of competition or from plant-level differences 'nefficiency. Plant profitability is a function of the plant's relative size inthe industrv (measured by the plant's market share and market share squared),the degree of import competition in the industry, and an interaction variable(IMP*S) to determine whether an increase in import penetration has a largereffect on the margins of relatively large plants. The regression is run onthe sample of all plants as well as three subgroups of ownership types --proprietorships, limited partnerships, and cotporations -- to detGrmine ifthere are different effects of import competition according to the ownershipof the plant.

D. Regression Results

The results of the regressions on productivity growth are reported inTable A1.1, those of regressions on industry-level price-cost margins in TableA1.2, and the PCM regressions on plant-level data in Table A1.3. The TFPgrowth regressions cover the years 1977-87, while the PCM regressions coverthe years 1977-85 only.

Productivity growth. The regression results for the analysis ofproductivity growth appear in Table Al.l. The results of Model (1) indicatethat output growth has a positive and significant effect on productivitygrowth, presumably reflecting the achievement of scale economies. Thecoefficient on the Herfindahl index is also negative and statisticallysignificant. This indicates that, both across industries in a given year, andover time in a given industry, higher levels of domestic market concentrationare associated with lower rates of productivity growth.

The coefficient on the growth in import penetration is not significantlydifferent from zero. (In contrast, running the regression on the period 1977-

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83 only resulted in a positive and significant relationship between importcompetition and productivity growth.) In Model (2), which allows for theeffect of growth in import penetration on productivity growth to vary with theconcentration of the industry, the coefficient on the growth in importpenetration remains insignificant, but the coefficient on the interactionvariable is positive and significant. Together, these results indicate thatincreased import penetration is associated with higher productivity growth inmore concentrated industries. Again, this relationship holds both acrossindustries in a given year, as well as over time in a given industry.

The coefficients on the year dummy variables reported for Model (2)indicate that, relative to 1977-78, productivity growth was significantlyhigher in five of the remaining eight years. The coefficients on .he industrydummy variables for Model (2) show that, relative to industry 390(miscellaneous manufacturing), two industries, 342 (printing and publishing)and 356 (plastics), had significantly lower rates of productivity growth.

Model (3) replicates the specification of Model (2) but separates thegrowth in industry production into domestic sales and export sales. Tworesults are of interest. First, growth in sales to the domestic market has apositive and significant effect with productivity growth, but the coefficienton the growth in exports is statisticAlly insignificant. This is consistentwith the belief that growth in domestic demand has been the major source ofmanufacturing growth throughout the 1970s and 1980s. Second, the correlationbetween import penetration and productivity growth is still positive in themore highly concentrated industries, but the statistical significance of thisrelationship declines. This suggests that a more systematic study of therelationship between export and import regimes is needed to determine howrolust these productivity findings are.

Overall, the results in Table Al.1 indicate a positive correlationbetween productivity growth and growth in the domestic market, and a negativeeffect of domestic market concentratior on productivity growth. Growth inimport penetration is positively correlated with productivity growth in highlyconcentrated industries.

Industry-level price-cost margins. The results from estimation of Model(4) are shown in the first column of Table A1.2. Price-cost margins rise withan increase in the Herfindahl index and fall with an increase in the importshare. Capital intensity has no significant effect on the margin. Inparticular, a rise in the share of imports in total sales is associated with astatistically significant decline in the price-cost margin. This isconsistent with an increase in imports resulting in an increase in thecompetitiveness of the domestic industry.

The year effects in Model (4) measure the difference in price-costmargins relative to 1977. They are generally negative and increase inmagnitude over time, reflecting the downward trend in margins over 1977-85.The industry effects measure the difference from industry 390 (miscellaneousmanufacturing). In general they are negative and statistically significant,reflecting the fact that industry 390 has one of the highest price-cost

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margins in the manufacturing sector.

Model (5) generalizes these results slightly to allow the effect of achange in import penetration to vary with the dispersion of plant sizes andcapital intensity of the industry, rather than being constant. Theinteresting fact to notice is that, while an increase in the import share actsto reduce margins across all industries, the largest, and only statisticallysignificant, reduction occurs in the highly concentrated industries. Thecoefficient on H*IMP is negative and statistically significant implying that

A the reduction in margins associated with an increase in the import shareoccurs in the most highly concentrated industries. Again, this is consistentwith an increase in the degree of competition resulting from an increase inimport penetration.

Models (6) and (7) correspond to Models (4) and (5), respectively,except with the industry dumny variables deleted. A comparison between thesepairs of regressions reveals that variables like capital intensity or importpenetration. which differ more significantly across industries than over time,may act as proxies for industry effects in the cross-section regressions. Inparticular, the results for Model (7) indicate no significant effect for IMPor H*IMP but a significant role for capital intensity, as measured by KQ andKQ*IMP. The results show that capital intensity has a significant andpositive effect on margins but the effect is reduced when import penetrationrises. This differs substantially from the finding in Model (5) that capitalintensit. has nc effect on margins but that imports reduce margins in highlyconcentrated industries. The difference appears to arise because the industrydummy variables control for industry-specific differences like capitalintensity. They thus control for a host of factors which are poorlycontrolled for in Models (6) and (7). More subtle effects, such as revealedin Model (5), become visible when the more substantial gross industrydifferences are controlled f.%r with the use of fixed industry effects.

Overall, the results reported in Table A1.2, particularly for Model (5),reveal significant differences in margins which persist across industries.The margins are systematically higher in industries in which the sizedistribution of plants is highly concentrated. However, the margins in thehighly concentrated industries are reduced when import penetration increases.Once industry fixed effects are controlled for there appears to be noadditional effect on margins from variation in capital intensity. Finally,there is a systematic decline in the margins over time. These results areconsistent with the view that imports may introduce additional competitivepressure into an industry and that the largest effect of this pressure appearsin the industries which have the most heterogeneity in plant sizes.

Plant-level price-cost margins. The results from estimation of Model(8) on all manufacturing plants are reported in the first column of TableA1.3. The coefficient on the plant's market share is positive and significantand the coefficient on the squared market share is negative and significant.Together these indicate that price-cost margins rise with an increase in plantsize but at a diminishing rate. This is consistent with efficiencydifferences across producers which diminish as the plants increase in size.

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The coefficient on import penetration is negative indicating plants inindustries with high import penetration rates have lower price-cost margins.Finally, the interaction term DMP*S has a negative and significant coefficientindicating that an increase in import penetration has a larger (negative)effect on the margins of the relatively large plants. Overall, margins arehigher for large plants in an industry, and imports act to reduce margins,particularly for the larger plants. This suggests that import may have theirmost substantial effect on the rents being earned by the largeat plants in thedomestic industry.

The regression results in the first column of Table A1.3 indicate that avery small proportion of the total sample variation in the price-cost marginis explained by this set of explanatory variables. The adjusted R2 for thisregression equation is .017. While regressions estimated on large microdatasets typically have substantial levels of unexplained variation, one reasonfor it in this case is the small set of plant-level explanatory variables.

The second, third, and fourth columns of Table A2 .3 report the separateregression results for each of the three ownership categories of plants. Forall categories, an increase in the plant's market share increases the plant'smargin but at a decreasing rate. The statistical significance of thisrelationship varies across the groups of plants. Both the first- and second-order effects are significant for the limited partnerships, the largest groupof plants. Only the first-order effect is significant for the corporationsand neither effect is significant for the proprietorihips.

An increase in import penetration has a substantially different effecton each of the three types of plants. The margins of plants owned byproprietors are reduced with increased import penetration but the reduction isconcentrated among the smaller plants. The margins of plants owned bypartnerships are also reduced but here the reduction is concentrated among thelarger plants. In the case of corporations, there is no significant effect ofimport penetration on plant margins. This indicates that the earlier findingthat import penetration reduces margins, especially of the lxager plants, onlycharacterizes the limited partnerships. Plants owned by corporations havemargins which are particularly insensitive to import penetration.

Finally, it is interesting to note that the model does the poorest jobof explaining the variation in plant margins for the plants owned bycorporations. In this case very few of the parameters are significant and,unlike the other two categories, there is very little significant variation inmargins across industries. These results suggest that import penetration doesnot affect all plants equally and raises the possibility that changes in themix of producers may be an important outcome of the trade adjustment process.

Overall, the conclusion of the PCM regressions is that importpenetration does have a significant effect on price-cost margins at both theplant and industry level in the Colombian manufacturing sector. In theindustry-level analysis imports reduce margins and reduce them mostsubstantially in industries which are more highly concentrated. In the plant-

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levol analysis there is significant heterogsneity in plant sizes and ownershiptypes. mports act to reduce plant margins particularly for plants owned bylimited partnerships. These plants account for nearly 60 percent of themnufacturing plants in any year. Rather than simply increasing the level ofmarket coetition and lowering the margiLn of all firms in thk industry,Imports have a differential effect on the margins of large and small plants.This sugWte that differences in plant efficiency exist and that importpenetration may reduce the level of rents being earned by the larger producerswithin an ownership category. If efficiency differences across plants areimportant this suggests in turn that estimates of the effects of the tradeenviro Annt on market performance must recognize that trade policies may alterthe mix of producers within an industry.

-153-

Table AI.1

R.r.sele Coofflelent.s DeWedeb V.elusblA ImTFP(.te"dsc'd .r*re to p.etb.s.,s * Impi I*e .tptfIleapt at t&a U.U level)

Vaelebtes Medal N1 Medl (2) Mdel (3)

Ieor.pt .014 (.66) ." (.) .62 (.1)t1a .t(m). Iii (.637).

61p .201 (.937).^ Inml .6 (.66)6101W .91..613) -.- 44 (.27) -. 647 (.a6)H -. 788(213). -. S (.21) . -.591 (. 22).

InWN*H .746 (.10). .710 (.204).

teern 0,n Variables

1976-1979 .026(.622) .626(.622) .6 '.022)1979-1980 .676(.622)o .073(.622*) .675 (.O^S)*1961981 .011(.022) .616(.622) .4 (.628)1961-1982 .636(.022) .O39(.022) .s26 (.623)1982-1983 .646(.022)* .694(.622)* .641 (.022)19068-194 .0652(.022)* .062(.622)* .45 (.022).1904-1906 .060(.022). .U61(.022)s .647 (.622)*1906-1986 -. 019(.022) -. 020(.621) -. 019 (.022)19"-1967 .661(.022)* .662(.621)* .061 (..6.2).

Induetry Dow Variables

311 -.649(.636) -. 645(.037) -.662 (.637)312 -.6s7(.937) -. 0652(.$08) -. 072 (.637)S13 -. s45(.e36) -.641(.0a6) -.661 (.637)314 .O96(.O64) .063(.064) .640 (.O66)321 -. 029 .036) -. 023(.036) -. U44 (.637)322 -.616(.037) -.006(.036) -.026 (.638)323 -. 017(.036) -. 019(.936) -.035 (.687)324 -.641(.e 6) -. 036(.036) -.063 (.637)33. .022(.040) .008(.039) -. 009 (.041)332 -. 026(.637) -. 020(.U6O) -.646 (.037)341 -. 021(.096) -.623(.635) -. 041 (.687)342 -. 072(.036)* -.072(.036)* -.094 (.866)*351 -. 016(.036) -. 016(.036) -.336 (.637)352 -. 062(.037) -. 067(.036) -. 077 (.637)S64 .024(.061) -. 014(.061) -. 061 (.069)S65 .966(.943) .0O7(.642) .626 (.644)3Su -. 090(.038)* -. 686(.036)0 -.164 (.637)*361 .640(.041) .023(.U04) .016 (.643)362 .652(.640) .038(.039) .022 (.641)369 -. 933(.036) -.63i(.036) -.6t3 (.687)371 -. S66(.039) -. 021(.086) -.633 (.641)372 .097(.649)* .669(.048) .064 (."I1)3o1 -._63(.037) -. 061(.036) -. 073 (.636)382 -.019(.036) -. 014(.0635) -.636 (.637)gas -. 060(.0U6) -. U6(.036) -. 662 (.637)364 .018(.038) .007(.637) -. 011 (.687)386 .977(.642) .064(.641) .062 (.69)

A InTFP -. 012 -. 012 -. 012

p2 .0066 .0062 .O66

R2 .a365 .342 .S11

154-

Tablg A1.2

Regreeolon Esti"mte: Deneent VIrl blo PCH(ftowerd *rrere In paronl_ese, oimpilee signlficant at tAe4u.16 leYeI)

aiabl 4 model (5) model CS) Model (7)

Intereopt .42 .911 .J84 NM)* .277 .170 u2 II) it* H ~.l M 1 11*il2)7- Q .94)o4J elw -. 178(.987). -. 1U4(.165) - 66(185). as6 On

KR -. 601(111 ) -. fl(.010) -. O( 1) .126 (.14).HbIWP -. 740(.86) -. 452(.*16)KQ.IMP -. 921(.943) -.1M4(.047)o

Year Dumy Variablo.

1978 _ .0(.510) .211(.11) -. m(J21)1979 .007(.010) .001(.010) -. 002(.021) -. 0oa(.021)198 -. 040(.611)o -. 034(.911)o -. 060(.021)o -. 051(.821).1961 -. 069(.911). -. 952(.111). -. 067(.921)s -. 589(.921).1982 -. 062(.017)o -. 056(.012)o -. 075(.021)s -. 076(.021).1968 -. 082(.012)* -. 074(.013)* -. 086(.022)s -. 090(.021)a1984 -. 779(.611). -. 172(.012)o -. 082(.021)o -. 086(.021)*1985 -. 081(.911)s -. 076(.012)* -. 082(.021)s -. 085(.021,o

Industry Dumnmy Variableo

311 -. 120(.020)* -.116(.626).812 -. 131(.020)s -. 129(.021)o813 .111(.020). .111(.021)*314 -. 089(.028)* -. 106(.027)o821 -. O66(.O2O)a -. 061(.021)*322 -. 119(.020)* -. 109(.021)*Y2a -. v208 (.020) * - .211 (.020) *824 -. 144(.020)* -. 146(.020)*331 -. 094(.021)o -. 1098(.022)*832 -. 148(.021)* -. 144(.021)o341 -. 099(.018)* -. 097(.019)o842 -. 08C(.920)* -. 061(.021)*351 -. 062(.030) -. 048(.031)862 .008(.018) .009(.018)354 -. 286(.029)o -. 317(.032)*356 -. 207(.021). -. 210(.021)*86e -. 125(.021)a -. 118(.021)*8U1 -. 181(.021)* -. 189(.022)e$62 -. 137(.019)o -. 144(.020)o889 -. 041(.024) -. 029(.027)g71 -. 160(.033)a -. 136(.034)*872 -. 164(.4.6)* -. 135(.0650)*881 -. 96(.918). -. 119(.062)*862 .019(.0654) .022(.059)883 -. 0 N (.029) -. 06(.031)384 -. 286(.031)* -. 198(.032)*885 -. 032(.0651) -.:61(.656)

PCM .247 .247 .247 .247

;2 .0144 .0014 .6161 .o611

j2 .820 .822 .227 .253

F-stat 81.56e 29.949 7.706 7.641

- 155 -

Table A1.

Regression Coefficients: Dependent Variable PCM(standard errors in parentheses;* Indicates significant at theatu.S6 level)

Independent Model (6) Model (a): MOdel (8): Model ':Variables All Dlants Proprietorship Partnership Cor____ _n

Intercept .259(.616). .261( .615). .246( .w9)* .314( .115).S 1.697(.MH)* 2.319( 2.612) a.467( .401). 1.453( .653).S2 -2.779(.619). -56.946(66.640) -1S.970(8.022)s -1.909(1.764)IMP -0.144(.070)o -4.266( .470). -. 143( .644). -. 021( .422)IwP*S -1.139(.460)* 16.923( 7.621). -2.441( .934). -1.3065l.411)

YTer Dum_ Variables

1978 -. "3 (. 8) .66l(.667) -. 902(.te6) -. 016(.047)1979 -. 6(.008) .010(.007) .07(.006) -. 093(.047)s19n6 -.S1O(.608)* -. 008(.0W7) -. 615(.665). -. 030(.D48)1961 -. 646(.e08) -. 632(.ff7)* -. 049(.006)* -. 040(.865)1982 -. 067(.bbg)* -. 056(.608). -. 068(.065)* -. 067(.650)1983 -. 076(.008). -. 086(.666). -. 078(.w6s)* -. 076(.048)1984 -. 092(.008). -. 082(.007)* -. 090(.006)* -. 113(.04e)*1986 -. 090(.008). -. 0S1(.068) -.093(.10). -. 098(.046)*

Industry DuiY Variables

311 -.OB ( .113).* - .662( .014).* - .057 ( .8) . - .11T( .1e9)312 -. 067(.017)* -.099(.017)* -. 046(.010)* -. 083(.121)313 .096(.019)* -.008(.038) .012(.015) .098(.116)314 -. 008(.033) -. 056(.023)* - .029 (.042) -. 001(.162)321 -. 048(.016)o -. 099(.616). -.042(.639)* -.050(.115)322 -. 061(.014)* -. 064(.020)* -. 048(.008)o -. 361(.134)823 -.078(.020)* -. 041(.018)* -. 072(.012)* -. 143(.147)324 -. 061(.017)* -. 042(.016)* -. 082(.011)* -. 142(.200)

332 -. 053C.016). -. 0332.017)* -. 099(.010)* -. 116(.178)341 -. 036(.017)* -. 066(.024)* -. 034(.010)s -. 085C.118)342 -. 00(.014) -. 021(.014) .008(.008) -. 064(.120)351 .096(.027)* .112(.037)* .049(.018)* .048(.163)352 .047(.016). -. 004(.017) .042(.009)* .031(.109)364 -. 072(.038). -. 217(.061)* -. 061(.020)o -. 206(.296)356 -. 033(.019) .021(.022) -. 018(.1012) -. 141(.129)356 -. 039(.016)* -. 065(.020)* -. 034(.010)* -. 084(.123)361 -. 079(.027)* -. 078(.022)* -. 068(.018)s -. 142(.169)382 -. 030(.023) -. 038(.027) -. 030(.1014)* -. 064(.140)369 -. 010(.016) -. 034(.016)* -. 003(.009) -. 024(.11S)371 -.018(.029) .048(.030) -.012(.019) -. 109(.170)372 .063(.040) .082(.048) .067(.024)* -. 033(.247)381 -. 036(.014)* -. 648(.014)* -. 032(.008) -. 035(.112)382 .076(.044) .141(.044). .078(.027)* -. 016(.276)383 -. 013(.025) .069(.027)* .027(.016) -. 217(.162)884 .OOB(.024) .034(.026) .018(.016) -. 090(.163)

PCM .173 .170 .184 .220

^d2 .184 .027 .043 .879

R .017 .06B .060 .06w

F-stat 23.161 15.509 47.592 2.195

Sample size 50821 8950 34307 7654

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