Measuring Progress in the Spanish Economy: Growth and Productivity Trends

Measuring Progress in the Spanish Economy: a World KLEMS - Ivie Approach Francisco P rez University of Valencia & Ivie Madrid May 24th, 2016

Growth, accumulation and productivity in Spain During the last decades Spanish growth has been intense, but the evolution of its productivity has been negative Figure 1. Contributions to GDP growth. 1995-2012 (percentage) 4 3 2 1 0 -1 France Germany Italy Spain UK US Net Capital Capital quality Hours worked Labour quality TFP GDP Source: AMECO, BBVA-Foundation-Ivie, EU KLEMS, TCB and own elaboration. 2

Labour productivity in Spain The evolution of productivity per hour in Spain has been moderate during decades when compared with that of most developed areas. Figure 2. GDP, GDP per capita and labour productivity. Growth rate. Spain, 1995-2015 (percentage) 6 4 2 0 -2 -4 -6 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 GDP GDP per capita Labour productivity Source: AMECO, World Bank, EU KLEMS, TCB and own elaboration. 3

Labour productivity in Spain Labour productivity and the difficulty of creating new jobs have contributed to Spain s stagnant convergence with advanced economies Figure 3. GDP per capita and labour productivity. Convergence, 1960-2015 (US=100) b) Labour productivity a) GDP per capita 100 100 90 90 80 80 70 70 60 60 50 50 40 40 30 30 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Spain EU15 Spain EU15 Source: AMECO, World Bank, EU KLEMS, TCB and own elaboration. 4

Capital deepening The investment effort of the Spanish economy has been strong, increasing capital endowments per worker Figure 4. Investment effort (GFCF/GDP) and convergence in net capital per person employed a) GFCF/GDP. Spain, 1960-2015 (percentage) b) Net capital per employed person, Spain and EU15, 1970-2014 (US=100) 40 140 120 35 100 30 80 25 60 20 40 15 20 10 0 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Spain UE15 Source: BBVA-Foundation-Ivie, INE and own elaboration. Source: AMECO, BBVA-Foundation-Ivie, EU KLEMS, TCB and own elaboration. 5

Improving human capital Improvements in educational levels have been substantial, but labour productivity stagnated from 1985 until the arrival of the crisis. Figure 5. Employment and labour productivity. Spain, 1980-2015 a) Employed population by educational attainment b) Labour productivity (1980=100) 100 200 90 180 80 160 70 60 140 50 120 40 30 100 20 80 10 0 60 1980 1985 1990 1995 2000 2005 2010 2015 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Labour productivity (Y/Hours worked) Until lower secondary education Non university terciary education Upper secondary education University education Labour productivity (Y/Labour services) Source: INE and own elaboration Source: AMECO, BBVA Foundation-Ivie, EU KLEMS, TCB, World Bank and own elaboration. 6

Looking into the capital productivity in Spain The fall in capital productivity starts earlier and becomes more intense than in other economies when the productive capital measurement is considered Figure 6. Capital productivity b) Capital productivity. Growth rates. International comparison, 1995-2012 (percentage) 1.0 a) Capital productivity. Spain, 1980-2014 (1980=100) 140 0.5 120 0.0 100 -0.5 80 -1.0 -1.5 60 -2.0 40 -2.5 France Germany Italy Spain UK US 20 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Y/Net capital Y/Capital services Capital productivity (Y/Net capital) Capital productivity (Y/Capital services) Source: AMECO, BBVA Foundation-Ivie, EU KLEMS, TCB, World Bank and own elaboration. 7

TFP growth in Spain: two estimates Growth rates of TFP are close to zero when quality improvements of factors are not accounted for, and negative when these are considered Figure 7. TFP. Growth rate. Spain, 1980-2014 (percentage) 5 4 3 2 1 0 -1 -2 -3 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 TFP (Inputs: Net capital and hours worked) TFP (Inputs: Capital services and labour services) Source: AMECO, BBVA Foundation-Ivie, EU KLEMS, TCB, World Bank and own elaboration. 8

Inputs contributions and TFP growth: international perspective Improvements in the quality of labour and capital services increase the contributions of factors but, despite these changes, many countries present significant TFP growth rates in recent decades. Figure 8. Contributions to GDP, 1985-2012 (percentage) a) Inputs contribution 7 b) Growth rate of TFP 3 CHN 6 Inputs (labour services and capital services) MYS 2 5 IND IDN KOR IRL 1 4 THA PAK AUS IRN PHL MEX ESP 3 CAN 0 BEL NLD USA ARG GBR 2 JPN FRA DNK FIN AUT -1 1 DEU ITA Finland Japan India Ireland South Korea Portugal Germany United Kingdom Sweden China Italy Mexico Argentina United States France Australia Spain 0 0 1 2 3 4 5 6 7 Inputs (hours worked and net capital) Note: for Argentina the period is 1985-2010 Source: AMECO, APO, BBVA Foundation-Ivie, EU KLEMS, TCB, Jorgenson and Vu (2016), OECD, World Bank and own elaboration. 9

Crisis, overcapacity and TFP divergence The low level of activity has caused significant excess capacity in many economies. However, in Spain this problem exists in the recent real estate boom years and TFP has been diverging with developed economies since 1995 Figure 9. TFP: Growth rate and levels. International comparison b) TFP. Levels, 1960-2015 (US=100) a) TFP. Growth rate, 2007-2012 (percentage) 2 100 90 1 80 0 70 60 -1 50 -2 Finland Japan India Ireland Germany South Korea Portugal China Italy United Kingdom Sweden Mexico Argentina United States France Australia Spain 40 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Spain EU15 Note: for Argentina the period is 2007-2010 Source: AMECO, APO, BBVA Foundation-Ivie, EU KLEMS, TCB, Jorgenson and Vu (2016), OECD, World Bank and own elaboration. 10

TFP vs Labour and Capital Productivity TFP can be expressed as the product of labour and capital productivity raised to the power of their respective shares: A = (Y/L) (Y/K) Thus, the evolution of TFP depends on the evolution of labour and capital productivity, weighted by their shares: lnAt= 0.5 ( t+ t-1) ln(Yt/Lt)+0.5 ( t+ t-1) ln(Yt/Kt) If capital productivity is relatively constant, TFP follows a path that is mainly determined by labour productivity If labour productivity is relatively constant, TFP follows a path that is mainly determined by capital productivity Ceteris paribus, higher labour productivity contributes to higher TFP growth. But, given the moderate labour productivity growth, lower capital productivity results in an even lower TFP growth 11

A permanent excess of capacity in Spain? Capital productivity always contributes negatively to the evolution of TFP and the evolution of TFP in the 21st century is increasingly associated with capital productivity trajectory Figure 10. TFP growth rates: contributions of capital productivity and labour productivity, 1980-2014 (percentage) a) US b) Spain 5 5 4 4 3 3 2 2 1 1 0 0 -1 -1 -2 -2 -3 -3 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 Y/Net capital Y/hours worked TFP Y/Capital services Y/Labour services TFP Source: AMECO, APO, EU KLEMS, TCB, Jorgenson and Vu (2016), OECD, World Bank and own elaboration. 12

Which are the drivers of TFP: Labour productivity or Capital productivity? Compared with the US, the negative differential that the Spanish TFP showed in the past was due to labour productivity differences. However, from the beginning of the 21st century onwards the negative differential in capital productivity has increasingly become more important Figure 11. TFP growth rates: contributions of capital productivity and labour productivity, 1980-2014 (percentage) b) Differences between Spain and US (Spain-US in %) a) Spain 5 5 4 4 3 3 2 2 1 1 0 0 -1 -1 -2 -2 -3 -3 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 Y/Capital services Y/Labour services TFP Y/Capital services Y/Labour services TFP Source: AMECO, APO, EU KLEMS, TCB, Jorgenson and Vu (2016), OECD, World Bank and own elaboration. 13

Which are the drivers of TFP: Labour productivity or Capital productivity? Compared with the US, the negative differential that the Spanish TFP showed in the past was due to labour productivity differences. However, from the beginning of the 21st century onwards the negative differential in capital productivity has increasingly become more important Table 1. TFP growth rates: contributions of capital productivity and labour productivity, 1980-2014 (percentage) 1980-2014 1980-2000 2000-2014 TFP -0.17 0.14 -0.60 Spain Y/Capital services -0.69 -0.50 -0.97 Y/Labour services 0.53 0.64 0.36 TFP 0.53 0.48 0.60 US Y/Capital services -0.37 -0.47 -0.23 Y/Labour services 0.90 0.95 0.83 TFP -0.70 -0.34 -1.21 Spain-US Y/Capital services -0.32 -0.03 -0.74 Y/Labour services -0.37 -0.31 -0.47 Source: AMECO, APO, EU KLEMS, TCB, Jorgenson and Vu (2016), OECD, World Bank and own elaboration. 14

Why does capital productivity step back?: Hypothesis H.1: Real estate investment (including residential) crowds-out investment in other assets Does it block the pace of capital accumulation in machinery and equipment? H.2: Unproductive overinvestment in non-residential real estate assets Is accumulation guided by profitability in the short-term and credit facilities, and not by productivity? H.3: Insufficient investment in intangible assets Are they essential to value other factors? H.4: Business sector structure in the economy Low weight of large companies + weaknesses of micro enterprises? 15

H.1:Crowding out of machinery and equipment investment? The accumulation rate of the most productive capital has been more intense than that of real estate assets, residential and non-residential Figure 12. Capital stock by assets. Spain, 1965-2013 (1965=100) b) Productive capital by assets a) Net capital by assets 1400 1400 1200 1200 1000 1000 800 800 600 600 400 400 200 200 0 0 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 Residential Non-residential structures Transport equipment Machinery, equipment and other assets Residential Non-residential structures Transport equipment Machinery, equipment and other assets Source: BBVA Foundation-Ivie. 16

H.2: Unproductive investments during the boom? The high capital gains of non-residential real estate assets in the last boom resulted in negative costs of using warehouses, offices and premises: these investments can be profitable in short term, but unproductive Figure 13. User cost of capital and its components. Spain (percentage) a) Private non-residential real estate capital, Spain, 1995-2013 b) Total economy, international comparison, 1990-2014 20 20 18 15 16 10 14 12 5 10 0 8 -5 6 -10 4 2 -15 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 0 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 User cost Nominal interest rate Spain USA Germany France Depreciation rate Capital gains Note: Non-residential real estate capital includes land. Source: Bank of Spain, BBVA Foundation-Ivie, ECB, INE and own elaboration. Source: EU KLEMS and own elaboration 17

Evidence for the existence of unproductive investments TFP worsening in sectors more concentrated in real estate assets: it is more likely that their investments have been guided by short-term profitability rather than long-term productivity Figure 14. Harberger diagram of market economy TFP growth in Spain, 2000-2007 and 2007-2011 (percentage) b) 2000-2007 c) 2007-2011 1.2 1.2 Hotels and restaurants Information and communication Mining and quarrying; electricity, gas and water supply Agriculture&fishing Mining and quarrying; electricity, gas and water Basic metals and fabricated metal products Information and communication 1.0 1.0 Trade Transportation and storage Arts, entertainment, recreation and other service activities Professional, scientific, technical, administration and support service activities 0.8 Contribution to TFP growth 0.8 Food products, beverages and tobacco Financial and insurance activities Food products, beverages and tobacco Construction Trade Contribution to TFP growth Transportation and storage Machinery and equipment 0.6 0.6 Other manufacturing. Manufacture of transport equipment Arts, entertainment, recreation and other service activities Construction Financial and insurance activities 0.4 0.4 0.2 Hotels and restaurants 0.2 Machinery and equipment Other manufacturing Manufacture of transport equipment 0.0 0.0 Professional, scientific, technical, administration and support service activities -0.2 -0.2 0 25 50 75 100 0 25 50 75 100 GVA share GVA share Source: BBVA Foundation-Ivie, INE and own elaboration. 18

H.3: Weak investment in intangible assets? Intangible capital acts as a catalyst of potential productivity gains, but the weight of intangible investment in Spain is still low Figure 15. Intangible assets in the market sector. International comparison, 1995-2010 (percentage of GVA) a) Tangible and intangible GFCF over GVA b) Intangible capital stock over GVA by asset 35 45 40 30 11.9 35 10.7 25 12.3 15.7 30 12.1 10.0 6.7 11.1 6.5 11.6 9.8 20 25 12.6 9.5 14.2 20 15 22.9 8.0 25.8 19.8 15 7.2 17.0 21.4 10 16.8 18.4 17.2 17.0 15.4 10 14.5 14.2 12.9 10.4 7.7 10.2 5 5 6.5 6.0 5.7 4.2 3.8 3.3 2.9 2.8 0 0 Nordic countries France United Kingdom EU15 Italy USA Spain Germany USA Nordic countries United Kingdom France Germany EU15 Italy Spain Software and databases Innovative property Economic competencies Tangible assets Intangible assets Notes: EU15 does not include Greece, Luxembourg and Portugal in panel b). Nordic countries: Sweden, Finland and Denmark. Source: INTAN-Invest, BBVA Foundation-Ivie, INE and own elaboration. . 19

H.4: Many inefficient firms? The negative productivity trend reflects that capital and labour are used by unproductive firms: the business sector structure favours the misallocation of capitals Figure 16. Employment and labour productivity by business size class. International comparison, 2015 (percentage) a) Employment by business size class (percentage) b) Labour productivity by business size class (euros per person employed) 100 90,000 90 80,000 80 70,000 70 60,000 60 50,000 50 40,000 40 30,000 30 20,000 20 10,000 10 0 0 Spain EU28 France Germany United Kingdom Micro (0-9 emp.) Small Medium-size (50-249 emp.) Large (10-49 emp.) (250+ emp.) Micro (0-9 empl.) Small (10-49 empl.) Medium-size (50-249 empl.) Large (250+ empl.) Spain EU28 Germany France Italy United Kingdom Note: Data refers to the market sector, without Agriculture and Financial sector. Source: European Commission (2015). . 20

Future Challenges Improvements in TFP depend on the ability of capital and labour to generate more value per unit used of equal quality factor The productivity of human capital must be driven in two ways: To improve educational skills to make education more effective: Reducing school failure and improving educational performance. Investing more in life-long learning: because the government spends little on unemployed skills upgrading and companies on training employees (especially small ones, which are the majority). To improve the use of human capital and to take advantage of it in enterprises, an issue which is conditioned by the size of the company, occupations and specialization. Improving the productivity of capital: the big challenge is to reduce the consequences of misallocation of investment: Changing business sector structure, composed of very inefficient units: it is necessary to increase the size of firms and improve the quality of management, boosting its professionalization. Reorienting the financial system practices, particularly of banks, looking to the productivity of investment projects and the long term instead of the real estate collateral and the short term. Changing the institutional framework to promote competition and combat crony capitalism. 21

Measuring Progress in the Spanish Economy: a World KLEMS - Ivie Approach Francisco P rez University of Valencia & Ivie Madrid May 24th, 2016