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International Competitiveness and Comparative
Advantage: A Survey and a Proposal for
Measurement
Eckhard Siggel
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International Competitiveness and Comparative Advantage: A Survey and a
Proposal for Measurement
by Eckhard Siggel, Department of Economics, Concordia University, Montreal
1455 de Maisonneuve Blvd., Montreal, Quebec, Canada, H3G 1M8
Tel: (514) 848 2424 ext. 3914, e-mail: [email protected]
Abstract
The concept of competitiveness, or competitive advantage, has been given numerous
interpretations and tends to be ambiguous. Comparative advantage, although rigorously
defined in the Ricardian trade model, is also subject to different interpretations when
extended beyond the classical trade theory and, particularly, with respect to its
measurement. The present paper first reviews the literature that deals with definitions and
measurements of these concepts, distinguishing their main characteristics, such as macro
vs. micro, static vs. dynamic, positive vs. normative, ex-ante vs. ex-post, as well as the
different uses made of the proposed measures. Second, the paper proposes an integrated
approach, in which it is demonstrated how competitiveness and comparative advantage
are best related to each other and how they differ. The proposed measurement serves the
purpose of quantifying the different sources of competitiveness. It is shown how it can be
applied to guide policy makers in their evaluation of trade and industrial policies. The
latter aspect is illustrated by reference to several applied studies using the method of
analysis in the context of policy reforms in India, Mali, Kenya and Uganda.
Key words: Competitiveness, Comparative advantage, Price distortions, Policy analysis.
JEL classification: F10, F13, F14
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The author wishes to acknowledge the many fertile discussions of the subject with John Cockburn, as
well as the useful comments by two anonymous referees of this journal.
Introduction
Although the principle of comparative advantage is one of the oldest and most
important concepts in economics, there is some disagreement in the literature about its
precise meaning, scope and measurement. The concept of competitiveness or competitive
advantage is even more ambiguous, as it has found a wide range of interpretations. The
objectives of this paper are to survey the literature, to identify some contradictions and to
suggest an approach that avoids such contradictions. This approach is a method of
analysis that integrates both concepts and links them to each other. It is an analysis of the
sources of competitiveness, which measures competitiveness by using three variants of a
unit cost indicator. They are measures of competitiveness in the domestic market,
international competitiveness and comparative advantage, respectively.
Following a short enunciation of some diverging views of comparative advantage
in the first section, the literature survey of section 2 focuses on a limited set of concepts
of competitiveness. It attempts to demonstrate that the concept of competitiveness has a
legitimate place in the trade literature, although many economists seem to avoid it. The
third and fourth sections propose a general measure of comparative and competitive cost
advantage that is valid for multiple goods and multiple factors of production. In section 3
the measure is derived from the Ricardian principle of comparative advantage based on
one factor and two products. This leads first to the domestic resource cost criterion and
finally to a total unit cost criterion. In section 4 the unit cost criterion is further developed
as a method of analysis of the sources of competitiveness. One of the merits of this unit
cost criterion is that, by replacing the equilibrium prices by observable market prices
(including distortions) in costs and revenues, the comparative advantage criterion
becomes one of competitive advantage. Section 5 presents a short summary of three
applied studies of manufacturing in Mali, India and Kenya using the proposed method.
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Diverging views of comparative advantage
The principle of comparative advantage is historically tied to the framework of the
Ricardian trade model. In that framework the principle is unambiguous as long as only
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two products are involved. The extension to n products was first demonstrated by
Dornbusch, Fischer and Samuelson (1977) and is now standard in most of our textbooks.
One crucial aspect of measurement in the context of n goods is not always emphasized,
however. It is the necessity to use equilibrium prices in the measurement of costs. If
markets are not in equilibrium, wage hikes or currency appreciation could, at least
temporarily, eliminate the ability to export any or all goods. This shows that cost
comparisons based on market prices cannot be the basis of comparative advantage. It
leads to the important distinction between the concepts of comparative and competitive
advantage. When costs are measured in terms of (possibly distorted) market prices, we
deal with competitive advantage, which is the same as cost competitiveness. The same
measurement becomes one of comparative advantage when equilibrium prices are used.
It is common in the empirical trade literature to measure comparative advantage
by help of the Balassa (1965) index of ‘revealed comparative advantage’ (RCA). This
measure reflects the success in exporting of countries relative to a world-wide norm.
Exports can result from subsidies or other incentives provided, for instance by exchange
rate misalignment. Such incentives can explain competitiveness, but not comparative
advantage. Therefore, the RCA index measures competitiveness rather than comparative
advantage.
The trade literature has also assigned an unduly limited interpretation to
comparative advantage. The principle is usually explained in terms of the Ricardian
model of two goods, one factor of production and two countries. Some attention has been
given to its extension to more than two goods, as mentioned above. The extension to
more factors of production, including intermediate inputs has been somewhat neglected.
It is true that a large body of literature has dealt with the determinants of trade
using different trade theory models. With respect to the generality of the principle of
comparative advantage, two positions can be identified in the literature. The first is that
comparative advantage is limited to Ricardian and Hecksher-Ohlin-type trade and does
not apply to other forms of trade, such as intra-industry trade. This opinion is expressed
in most of our current textbooks and seems to be the dominant one. The second is a more
general interpretation of the principle. It suggests that a producer has comparative
advantage if his/her production costs in terms of equilibrium factor prices are lower than
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those of an international competitor, irrespective of what the sources of the cost
advantage are. The source of that advantage can be the abundance (cheapness) of either
primary or intermediate inputs (extended Heckscher-Ohlin), or the use of different
technology (Ricardo), or the production at larger scale (Krugman), or any combination of
the former sources, such as in the product cycle model (Vernon). The point is that once
we move from the two-good to the n-goods world, the measurement of comparative
advantage requires the use of monetary costs at equilibrium prices. The principle remains
then valid for any number of goods and factors, as well as for any kind of trade.
The former and narrower interpretation is based on the assumption that costs are
always defined by production functions and factor prices, in other words as potential and
not actual costs. This approach reflects an ex-ante view, which is useful for modeling and
predicting. It is less useful for the analysis of past performance. In our view, comparative
advantage should not be interpreted exclusively as an ex-ante concept. Intra-industry
trade can be explained by economies of scale combined with monopolistic competition
based on product differentiation, as in the Krugman model. It results from the fact that
producers in different countries, while using the same production function, compete
against the producers of similar (differentiated) products at a level of costs that is lowered
by large scale production. This in turn is the consequence of supplying a larger than the
domestic market. Since the attainment of large scale is essential, they maximize profits
by concentrating production of certain brands in one location and by exporting.
One example of the wider definition of comparative advantage is the product
cycle theory developed by Vernon (1966 and 1979). This model attributes comparative
advantage in the production of new products to sources that may change over the life
cycle of the products. In the early stages of the cycle comparative advantage is based on
the first-come advantage of the country in which the product was developed. The cost
advantage shifts to lower cost countries, where their advantage is likely to come from
Heckscher-Ohlin type factor abundance. In further stages scale economies and learning
effects may become the source of comparative advantage. This model has been
associated with dynamic comparative advantage (cf. Appleyard and Field, 2001), but it is
debatable whether changes of its source and the development of comparative advantage
over time deserve the attribute of dynamic. What matter in the present discussion is that
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economies of scale can be and have been considered a source of comparative advantage.
Indeed, that source of comparative advantage is not necessarily different from that of
Ricardian comparative advantage. Ricardian comparative advantage leaves it open
whether it results from greater skills, more capital or other factors. Large-scale
production usually also requires a different technique than small-scale production. It is
unrealistic to separate technology from scale.
Krugman & Obstfeld in their celebrated textbook (2000) restrict comparative
advantage to the factor proportions interpretation, and do not apply it to the general case,
in which it is based on costs. They argue, for instance, that “intra-industry trade
(manufactures for manufactures) does not reflect comparative advantage” (p.137). In our
view, any trade that results in welfare gains needs to be based on comparative advantage,
irrespective of the nature of its sources. The sources may be Ricardian productivity
differences (or different technologies), or they may be differences in factor endowments
that are reflected by factor cost differentials. But they may also include differences in the
scale of production, for firms that share the same cost function. Denying this kind of
trade comparative advantage is contrary to its very principle and reduces the power of the
concept. Admittedly, its measurement is more difficult the wider its application, and it
necessitates the consideration of costs. But that is also the case for Ricardian comparative
advantage, when moving from the two-good to the multiple-good model.
It is true that in classical and neo-classical trade theory comparative advantage is
established by cost comparison under autarchy and under trade, whereas in intra-industry
trade the cost advantage is captured when markets have been joined and firms have
relocated their plants. But this difference does not justify denying comparative advantage
to this modern form of trade. Only the sources of comparative advantage are different,
just as different as the sources of Ricardian and Heckscher-Ohlin trade.
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Concepts of competitiveness
A large number of concepts of competitiveness has been proposed in the economic and
business literature. This owes to the fact that competitiveness, unlike comparative
advantage, has not been defined rigorously in the early economic literature. Thus, over
time and after many attempts of definition, it has become a somewhat ambiguous
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concept.2 Some authors use the term synonymously or in a similar way as comparative
advantage, others view it as an economy-wide characteristic. In the present survey we
contrast first microeconomic with economy-wide (macroeconomic) interpretations. This
distinction is the most fundamental one because the simple extension of micro concepts
to the macro level poses problems, as is obvious in the case of comparative advantage.
Then we discuss the number and kind of dimensions that the various concepts of
competitiveness integrate and measure. A further distinguishing characteristic is the basis
for comparison, which ranges from a single firm or industry to groups of countries or the
rest of the world. Bilateral and multi-lateral comparisons always require data from one or
more foreign countries, whereas unilateral concepts are based on the data of a single
country. Further distinguishing attributes discussed are the static or dynamic nature,
positive vs. normative, deterministic vs. stochastic, as well as ex-post vs. ex-ante
characteristics.
It would lie beyond the scope of this survey to analyse the theoretical foundations
of each of the concepts, but the perspective taken here is the one of market-oriented
economic systems and it emphasizes cost and price competitiveness. It does not cover the
whole range of concepts, including those that focus on technological indicators. For such
a survey the reader may be referred to the recent survey by Cantwell (2005). The policy
perspectives underlying many of the surveyed concepts are addressed in section 2.7 on
objectives of competitiveness measurement.
2.1
Macro versus micro-economic concepts
The most controversial kind of competitiveness indicator is the macroeconomic one,
although it may be the most popular one. The microeconomic concepts, on the other
hand, which apply to single producers or industries3, are less controversial despite the
variety of indicators within this group. Although in recent years the public discourse has
focused more on the macro concept, it is less well established in economic theory than
the micro concept. Countries may compete for market share or for foreign investment,
2
Spence, for instance, recognizes the concept’s complexity and refrains from adopting an exact definition;
and so do various other contributors in (Spence & Hazard, 1988).
3
More precisely, the industry level can be referred to as the meso-economic level of analysis, but for
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but the attributes of stability, good government and profitable investment opportunities,
are better summarized as a favorable business climate than competitiveness, in our view.
The perhaps best known version of the macro concept is the World Competitiveness
Index computed and published yearly by the World Economic Forum and Institute of
Management Development (WEF/IMD, annual since 1995). The index is the basis for an
international ranking of countries in terms of their business climate. It is a composite of a
large number of attributes condensed into a single index. It may serve a useful purpose to
international investors, but its theoretical base and, especially, its aggregation method are
problematic.
A second interpretation of macroeconomic competitiveness that is more in line
with the original meaning of the term is an aggregate of the microeconomic concept. In
this view an economy is deemed to be competitive if it harbors a large number of
internationally competitive enterprises and industries. In other words, it must perform
strongly in exports. This idea underlies the concept used by Dollar and Wolff (1993)4,
who propose to measure it in terms of productivity, both labour and total factor
productivity. Similar approaches are the concepts proposed by Hatsopoulos, Krugman
and Summers (1988) and by Markusen (1992).
A third approach, equally at the macro level, is that of the real exchange rate
(RER), as well as the real effective exchange rate (REER), proposed and used by authors
within the IMF (Lipschitz, McDonald, 1991; Marsh, Tokarick, 1994). Since the RER
implicitly compares the nominal exchange rate with the purchasing power parity rate, it
measures the degree of currency misalignment based on the purchasing power parity
assumption. Under-valuation enhances and overvaluation reduces the international
competitiveness of domestic producers. This indicator is clearly macroeconomic, but it
has also been used as a micro-level concept, by using the price indices of single
industries rather than economy-wide price indices (cf. Helleiner, 1991). At the macro
level it is essentially a monetary indicator, capturing the distortion of the currency value,
simplicity we consider the meso-economic level as part of the micro level.
4
They define: “A competitive nation is one that can succeed in international trade via high technology
and productivity, with accompanying high income and wages”, (Dollar, Wolff, 1993, p.3).
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rather than factors of real competitiveness, although those are not unrelated to the
currency misalignment.
It is interesting to note that one of the strongest condemnations of the concept of
competitiveness has come from Krugman, who likened it to a “dangerous obsession”
(Krugman, 1994) and the debate over it “a matter of time-honored fallacies about
international trade being dressed up in new and pretentious rhetoric” (Krugman, 1996).
But Krugman has also used the concept, as we saw in the earlier reference, in an
economy-wide sense as well as in the industry-specific sense (cf. Krugman, Hatsopoulos,
1987).
Microeconomic concepts and indicators of competitiveness have a more solid
theoretical base because they focus on the essential characteristics of producers in
competition for market share and profits or the ability to export. This ability can be
measured by the size or increase of market share (e.g. Mandeng, 1991), by export
performance (e.g. Balassa, 1965), by price ratios (e.g. Durand, Giorno,1987), cost
competitiveness (e.g. Turner, Gollup, 1997; Siggel, Cockburn, 1995), or by more
complex and multi-dimensional indicators (e.g. Porter, 1990; Buckley et al.,1992; Oral,
1993). These indicators differ from each other in terms of various characteristics,
especially in terms of the number of dimensions they focus on.
2.2
One- versus multi-dimensional concepts
The number of dimensions included in the measurement of competitiveness is a
reflection of the complexity of the concept, but it is also a source of ambiguity. In one of
the earlier ground-laying conferences on International Productivity and Competitiveness,
Hickman recognized that even among the authors of this conference the concept had a
variety of dimensions (Hickman, 1992, p. 6)5. He referred to price competitiveness as the
most pervasive concept, but focused on the unit labour cost criterion. Since unit labour
cost equals the product of the wage rate, labour productivity and the exchange rate (in
international comparisons) one may debate whether this makes it a more-than-onedimensional indicator. Here we classify it as one-dimensional concept because it focuses
5
The conference took place in October 1988 in Palo Alto, California.
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on the dimension of the real cost of labour, irrespective of how that can be further broken
down. Turner and Gollub (1997) and Golub (2000) have also proposed and used this
indicator for the measurement of competitiveness at the industry level.
An example of a two-dimensional concept is the indicator proposed by
Hatsopoulos, Krugman and Summers (1990), which postulates that competitiveness of
economies translates into trade balance with rising living standard or real income. The
authors argue that export success can always be achieved at the cost of diminished real
income, which is then not a reflection of competitiveness. Only if export success occurs
with a constant level of welfare can an economy be said to be competitive. A similar
concept was proposed by Markusen (1992) and applied by the U.S. Presidential
Commission of Competitiveness.
The real exchange rate, as well as the real effective exchange rate can be seen as
uni-dimensional indicators because they measure the degree of misalignment of the
currency. Such misalignment enhances or reduces international competitiveness. RERbased indicators have been proposed by several authors, and with various nuances. The
macroeconomic version compares the purchasing power parity (PPP) value with the
going exchange rate. If the former exceeds the latter, the currency is undervalued, which
contributes to competitiveness. For this conclusion to hold it is necessary, however, that
the PPP value be based on price indices of a comparable basket of goods or price indices
representing all goods and services, such as the CPI. The RER transforms into a
microeconomic indicator of price competitiveness, when the price indices used refer to
single products or industries.
Various microeconomic studies of single-industry competitiveness use as
indicator the relative industry price (relative to one or more foreign competitors), with the
exchange rate translating it into the same currency. This kind of indicator has been
proposed by Durand and Giorno (1987) and Helleiner (1991), and is used extensively by
the OECD-Economics and Statistics Department. Formally it resembles the real exchange
rate, except that the prices relate to one industry only, instead of reflecting the general
price level. This is an important difference because the RER and REER as macro
indicators make a statement about the currency value, whereas as micro indicator they
9
measure the price competitiveness of a country in a particular industry. In that sense this
micro-type indicator is a one-dimensional one.
The same type of indicator was also used, under the name of purchasing power
parity (PPP), by Jorgenson and Kuroda (1995)6 in a study for Industry Canada
(Jorgenson, Lee, 2000). The term PPP may not be ideally chosen, because it has a very
specific meaning with respect to the currency and requires the use of general price
indices, as in international comparisons of GDP (cf. Kravis, Heston, Summers, 1978).
Multi-dimensional indicators are the most popular in the business economics
literature. Among the micro-economic indicators measuring more than one dimension,
the perhaps best known one is the concept of Porter (1990), but Buckley et al. (1992) and
Oral (1993) are also interesting attempts to capture more than one dimension of the
concept. According to Porter there are four main determinants of competitiveness of
enterprises: their strategy, structure and rivalry, the demand conditions they face, the
factor supply conditions they encounter, and the conditions of related industries. In fact,
it is a multitude of factors that influence the competitiveness of producers, but Porter
models them by classifying them under these four facets of a diamond. These facets can
be viewed as dimensions along which competitiveness can be measured. Porter’s concept
has attracted very wide interest in the business and political communities, perhaps
because of its comprehensive nature.
2.3
Bases of comparison
The notion of competitiveness always involves comparisons between producers or
industries in different countries. The choice of a foreign competitor is important not only
for the numerical outcome, but also for the meaning of the concept. While the Ricardian
comparative advantage criterion is most meaningful when applied to a specific foreign
country, it is also valid for comparisons with the rest of the world. However, cost and
productivity data, as well as transport costs are rarely available for groups of countries. It
is possible to replace the foreign cost data by the free-trade prices of imports at the point
6
The authors attribute their method of analysis to Jorgenson and Nishimizu (1978).
10
of entry, i.e. border prices. This procedure assumes that imports will normally come from
the lowest bidder, so that the import price is a reflection of best practice. While this
approach sets a high standard for competitiveness, the inclusion of transport costs to the
point of entry does the opposite, it lowers the standard. A price comparison between the
output price of a domestic producer and the free-trade price of a close substitute can then
be taken as an indicator of competitiveness vis-à-vis a group of countries in a market
close to the home country. In other words, it is a multilateral indicator of price
competitiveness. Both, the Domestic Resource Cost (DRC) ratio and the full unit cost
ratios proposed later in this paper are using this approach. It permits the analyst to draw
conclusions about competitiveness without using data from other than one particular
country. However, this does not exclude the possibility of using the same indicator in
bilateral comparisons. For that reason, the characteristic of laterality is not included in the
table 1, which surveys the concepts according their characteristics.
A more precise multilateral indicator takes the different exchange rate valuations
of the main trading partners of a country into account. The indicator proposed by
Helleiner (1991) serves this purpose as it equals the weighted average of the real
exchange rates vis-à-vis several foreign competitor countries, where the weights are the
market shares of these foreign competitors in the specific product market. The indicator
therefore amounts to a product-specific real effective exchange rate (REER). While the
RER is a bilateral indicator, the REER is multilateral as it considers all important trading
partners of a country.
2.4
Static vs. dynamic concepts
One of the major limitations of the principle of comparative advantage, both for
explaining and predicting trade patterns, is its static nature. Since comparative advantage
tends to change over time, the prediction of future trade patterns would require
knowledge of how comparative advantage itself changes over time. This is possible by
help of knowing the sources or determinants of trade, which is the substance of much of
trade theory and policy. Firms or industries that acquire a new and promising technology
can be said to enjoy dynamic comparative advantage as they are likely to gain market
share. Similar considerations apply to competitiveness. If it is measured by market share
11
for instance, the change in market share can be taken as a dynamic indicator of
competitiveness. It is a more pertinent measure of competitive strength than the market
share itself.
At the micro level Krugman & Hatsopoulos (1987) have used market share as
indicator of U.S. competitiveness in manufacturing. Competitive advantage may then be
reflected by increased market share. They observed that the international market share of
U.S. manufacturing declined in the early 1980s, which they analysed as the reflection of
declining competitiveness.
The concepts proposed by Porter (1990) and Buckley, Cass and Prescott (1992)
include both static and dynamic aspects. The latter integrates three characteristics of
firms or industries, their competitive performance, competitive potential and their process
of management. It is multi-dimensional and dynamic in that it focuses on the potential of
firms to adjust to exogenous changes and to achieve comparative advantage in the future.
At the macro level, the indicators proposed by Hatsopoulos, Krugman, Summers
(1988) and Markusen (1992) are dynamic in that they measure changes in welfare over
time. The real exchange rate (RER) index also conveys a message concerning changes
over time. On the other hand, it can be used to measure the degree of currency
misalignment at one moment in time. Depending on how, precisely, it is used, it can have
a static or dynamic interpretation.
Other concepts in the dynamic category are those proposed by Aiginger (1998)
and Pitelis (2003). Both refer to entire economies and are based on subjective criteria,
such as “factor incomes in line with the aspiration level seen as satisfactory by the
people” (Aiginger, 1998, p. 164) or “the improvement of a subjectively defined welfare
indicator for a country” (Pitelis, 2003, p. 210). Obviously, these concepts are problematic
with regard to measurement and international comparison.
2.5
Deterministic vs. stochastic and ex-post vs. ex-ante concepts
Most concepts proposed in the literature are deterministic in the sense that they measure
costs, prices, market shares etc, which are observed and reflect actual performance. A
few concepts, however, focus on notions of welfare or potential performance that are not
12
directly observable. They depend on a number of other variables, which are deemed to
determine competitiveness according to models of a stochastic nature. These variables
are then either chosen as proxies, or they serve as data in statistical analysis of the
unobservable indicators. Such concepts add an element of uncertainty about the relevance
and statistical significance of the proposed model. Closely related to this distinction is the
one between ex-post and ex-ante. Ex-post concepts tend to be deterministic, whereas exante concepts tend to be stochastic in nature.
An example of a macro-economic, stochastic and ex-ante type indicator of
competitiveness is the one proposed by Fagerberg (1988). This author attempts to explain
the market share of a country in world markets by three variables: technical
competitiveness reflected by R&D expenditure and patent applications, price
competitiveness as reflected by the terms of trade and unit labour cost, and the output
capacity. All variables are expressed in terms of growth rates, which makes the indicator
also a dynamic one.
Among the micro-economic concepts, one that is typically stochastic in nature is
the criterion proposed by Swann and Taghavi (1992). The authors infer competitiveness
by comparing the expected price of products, based on quality attributes, with the actual
price, where the expected price is regressed on the measured quality attributes. If the
expected price exceeds the actual one, this is considered as evidence of competitive
advantage.
While ex-post concepts reflect the outcome of competition, ex-ante concepts measure the
readiness for competition or potential competitiveness. For instance large or growing
market share is the outcome of successful competition and therefore ex-post
competitiveness. An example of such measures focusing on market share is the revealed
comparative advantage (RCA) measure proposed by Balassa (1965). According to this
indicator, a country has comparative advantage in a particular product if its exports of the
product, relative to world exports of the product, are larger than the country’s market
share in total exports. Such a larger than proportional market share can, however, result
from subsidies or other price distortions instead of high productivity. For that reason the
RCA criterion measures competitiveness rather than comparative advantage.
13
The indicators of cost and price competitiveness, as well as various composite
indicators based on potential (e.g. Porter, 1990; Buckley et al., 1992; and Oral , 1993),
are ex-ante in the sense that they demonstrate a capacity to compete. Ex-post indicators
have the advantage that they prove de facto the point of successful competition, but
rarely reveal the sources of competitiveness. Ex-ante indicators, on the other hand, tend
to show the main sources of the advantage, although the advantage may not yet be
realized.
2.6
Positive vs. normative concepts
Closely related to the distinction of deterministic and stochastic concepts is the one
between positive and normative concepts. Positive concepts measure what is and
normative ones measure what should be. While positive concepts are based on observable
reality and do not involve value judgements, normative concepts do. For a firm or
industry, strong export performance is de facto evidence of international competitiveness.
For a whole economy, strong export performance is not per se evidence of
competitiveness because it may be achieved at a cost of income loss.
Normative concepts are more frequent in the macro context. A good example is
the concept proposed by Markusen (1992) and also attributed to the U.S. Presidential
Commission on Industrial Competitiveness. Marcusen defines: "A country is competitive
if it maintains a growth rate of real income equal to that of its trading partners in an
environment of free and (long run) balanced trade". This criterion is normative in the
same sense as most welfare indicators are.
2.7
Different objectives pursued in measuring competitiveness
The wide variety of concepts in the economic and business literature can to some extent
be explained by the purpose for which specific indicators have been designed. The
measurement of competitiveness differs, depending on whether it is undertaken for the
purpose of policy analysis within a specific country, or whether it is used for
international comparisons of the business environment. An example of the latter kind is
the World Competitiveness Index (WEF/IMD), which is used to rank countries according
to a number of conditions that are known to be favorable for business development. Such
14
a ranking can guide international investors in their choice of investment locations, as well
as banks in their evaluation of country-specific risks. It can also inform policy makers
about the weaknesses and strengths of specific country environments.
The main users of competitiveness indicators are government departments
designing industrial policies, negotiating trade agreements or writing development plans.
Private sector agents like banks and industrial corporations also gain from the analysis, as
do the semi-private institutions like chambers of commerce, trade unions and business
associations.
The methods of economic policy analysis used by government departments and
research organizations are of a wide variety. In recent years computable general
equilibrium (CGE) models have gained prominence for this purpose, but they are costly,
due to their complexity. The literature relevant to this wider purpose is not surveyed here,
but Francois and Reinert (1997) provide such a survey, as far as trade policy analysis is
concerned. CGE models may not be sufficiently detailed, given their comprehensive
nature, and they may not be fully reliable, due to the many simplifying assumptions on
which they rely. Competitive and comparative advantage indicators are more manageable
and less costly, while permitting the analyst to monitor the impact of policy changes on
the competitive environment, the cost structure of industries and the resulting market
structure. The concepts and measurements of competitiveness discussed here serve a
similar purpose as the CGE modeling approach, but avoid the numerous assumptions
about the behavior of economic agents required by CGE models.
Industrial policies and strategies can benefit societies if they induce comparative
advantage and reduce obstacles to competitiveness. The pursuit of industrial policies in
the context of globalization and trade openness is based on the assumptions that
comparative advantage changes with the structural transformations of economies, and
that it can be developed or enhanced, especially through human resource development.
Table 1: Concepts and indicators of competitiveness and their characteristics
Proposing author
Concept characteristics
Measurement criterion or
or organization
(1) (2) (3) (4) (5) Indicator
Macro concepts
Lipschitz/McDonald (1991),
u
s/d det p
ea real exchange rate, real
Marsh, Tokarick (1994), IMF
effective exch.rate
15
Hatsopoulos, Krugman, Summers
(1988)
Markusen (1992),
Dollar/Wolff (1993)
Fagerberg (1988)
Sharpe (1986)
WEF/IMD (annual since 1995)
Aiginger (1998), Pitelis (2003)
Micro concepts
Balassa (1965)
Bruno (1965)
Buckley et al. (1992)
Durand/Giorno (1987), OECD
Helleiner (1989)
Hickman (1992)
Jorgenson, Kuroda (1992)
Krugman, Hatsopoulos (1987)
Mandeng (1991)
Oral (1993)
Porter (1990)
Siggel/Cockburn (1995)
Swann/Taghavi (1992)
Turner/Gollub (1997)
two
s/d
det
n
ea
two
s/d
det
n
ea
two
m
u
m
m
s
d
s
s/d
d
det
sto
det
det
det
p
n
p
p
n
ea
ea
ep
ea
ea
trade balance with rising real
income
real income growth with free
balanced trade
productivity
market share increase
market share
world compet. index
n.a.
u
u
m
u
two
u
u
u
u
m
m
u
m
u
s
s
d
s
d
s
s
s/d
s/d
s
s/d
s
s
s
det
det
det
det
det
det
det
det
det
det
det
det
sto
det
p
p
n
p
p
p
p
p
p
p
p
p
p
p
ep
ea
ea
ea
ea
ea
ea
ep
ep
ea
ea
ea
ea
ea
revealed comp.advantage
domestic resource cost
composite, multi-variable
price competitiveness
real effective exch. rate
unit labour cost
price competitiveness
market share, change
market share, change
indust. mastery, unit cost
composite, multi-variable
full unit cost
price/product attribute
relative unit labour cost
Concept characteristics: (1) dimensions of concept: u = uni, two, m=multi-dimensional
(2) s = static or d = dynamic nature of concept (3) det = deterministic, sto = stochastic nature of concept
(4) p = positive, n = normative nature of concept (5) ep = ex-post or ea = ex-ante nature of concept
For instance, an industry may have potential comparative advantage, which is
presently not realized because of either skill shortages or infrastructure deficiencies
making the industry non-competitive. Industrial policies would then remove such
obstacles to competitiveness. An important task in this respect is to identify the sources
of comparative advantage and to enhance those activities exhibiting such potential.
Clearly, the prediction of future or potential comparative advantage is difficult, because
all measurements are based on past performance. Indicators that are of the ex-ante type,
although based on measurements of the past, can serve this task. For instance, an
indicator that measures the speed of technical change can be used to predict potential
comparative advantage.
The concepts of competitive and comparative advantage discussed here and their
main characteristics are shown in the following table for the purpose of comparison. The
table also includes the unit cost concept proposed and derived in the remainder of this
16
paper, which integrates the concepts of comparative advantage and competitiveness. The
table provides an impression of the great variety of concepts proposed in the literature
and makes an attempt of classifying them according to their main characteristics.
3
The measurement of comparative advantage
In the earlier discussion of conflicting views it was argued that the most popular method
of measuring comparative advantage, the one of "revealed" comparative advantage
(Balassa, 1965), does not really measure comparative advantage in a rigorous sense.
Instead, it is really a measure of competitive advantage, as it reflects export performance,
which can result from either real factors or from price distortions and subsidies. The only
well-known measure that qualifies as a true measure of comparative advantage is the
Domestic Resource Cost (DRC) criterion proposed first by Bruno (1965), discussed by
Balassa and Schydlowsky (1968), Bruno (1972), Krueger (72), Srinivasan and Bhagwati
(1978) and applied by many others. The next section shows how it is derived from
Ricardian comparative advantage, and the section 3.2 extends the DRC criterion to full
unit costs.
3.1
From Ricardian comparative advantage to the DRC criterion
In order to extend the Ricardian concept of comparative advantage to its general
meaning, there are two obstacles to overcome: first, the extension from two products to n
products and, second, the extension to more factors of production from the one-factor
Ricardian context.
The first of these generalizations was proposed by Dornbusch, Fischer and
Samuelson in a seminal paper (Dornbusch, Fischer, Samuelson, 1977). This paper
demonstrates that comparative advantage of an industry exists if its labour cost is inferior
to the labour cost of the same industry in the foreign country:
(1)
a w < a* w*
where a and a* are the domestic and foreign unit labour coefficients, and w and w* are
the domestic and foreign equilibrium wages, respectively. It is important to note that this
17
condition is one of absolute advantage as long as the wage rates are not equilibrium rates.
The same condition can be written as
(2)
w/w* < a*/a,
which means that the relative equilibrium wage must be lower than the domestic labour
productivity relative to that of the foreign country. This comparison between the relative
wage and the relative productivity can then be used to extend the principle to n products,
simply by ranking all industries according to their relative productivities and by using the
relative wage as the dividing line between comparative advantage and disadvantage:
(3)
ai/a*i > w/w* > aj/a*j
where i represents all products with comparative advantage and j those with
disadvantage.
The second step of generalization concerns the extension to other factors of
production. It follows from the first step by extension of logic. If simple comparison of
labour cost is sufficient for comparative advantage, as long as only labour costs matter
and equilibrium wages are used, then the same must be true for costs including that of
other factors. The DRC criterion makes this assumption by comparing the cost of labour
and capital based on their shadow prices with the corresponding cost of the foreign
competitor:
(4)
a ws + k rs < a* ws* + k* rs*,
where k and k* are the capital coefficients and rs and rs* are the domestic and foreign
shadow interest rates, and ws and ws* are the domestic and foreign shadow wage rates.
In fact, the DRC criterion goes even one step further since it replaces the foreign
factor cost by domestic value added at free-trade prices. The idea of this substitution is
that unless one wants to measure comparative advantage vis-à-vis a particular country,
the foreign competitor represents the rest of the world and under competitive trade
conditions its cost is then equal to the free-trade price of comparable imports. Therefore
the DRC criterion of comparative advantage takes on the following form:
(5)
(a ws + k rs)/VAw < 1,
where VAw is the free-trade value added, which is assumed to equal its shadow value7.
7
This assumption may not hold if the currency is misaligned. In this case the value must be adjusted.
18
3.2
From DRC to total unit costs
Although the DRC is an acceptable indicator of comparative advantage, it falls short of a
perfect measure in two respects. First, intermediate inputs, both tradable and non-tradable
ones, may also contribute to comparative advantage. A full-cost-based indicator should
be superior to a value-added-based one. One could argue, of course, that tradable inputs
are always available at international prices and should not be a source of comparative
advantage. However, domestic resource abundance and transport costs may be
responsible for import prices to be higher than domestic prices of tradable inputs, thus
making them a potential source of comparative advantage. This is even more obvious in
case of non-traded inputs. It has also been argued that intermediate inputs can be taken
into account in the DRC method by breaking them down into labour and capital
contributions using input-output tables. This, however, would make the DRC
inappropriate as a cost-benefit indicator at a given stage of transformation (industry).
Second, we know that protection leads to inefficient use of resources, including
intermediate inputs. Therefore, the value-added computed by eliminating all price
distortions is still efficiency-distorted, so that DRC gives a biased message about
comparative advantage. An unbiased measure of comparative advantage compares the
total domestic cost expressed in terms of shadow prices with the shadow price of output,
where the latter is usually taken as the free-trade price of comparable imports. It needs to
be adjusted, however, if the exchange rate is misaligned. The resulting criterion of
comparative advantage is then that total domestic costs per unit of a product (in shadow
prices, TCs) must be inferior to its shadow price:
(6)
TCs/Ps < 1,
where Ps is the international or free-trade price corrected for misalignment of the relevant
exchange rate. The division of total costs by the shadow price, or the shadow value of
output (VOs), to allow for heterogeneous output, is called here the unit cost ratio at
shadow prices (UCs). The corresponding criterion of comparative advantage can then be
written as:
(7)
UCs = TCs/VOs < 1
19
Our use of the term unit cost is a particular one, since it is not understood as costs per
physical unit of output. The costs per unit of output are rarely comparable among various
competitors, due to the usual differences in product mix and quality. The unit cost ratio
(UC) overcomes this problem by assuming that such quality differences are reflected by
the prices.
4
Measurement of competitiveness and its sources
The unit cost ratio thus derived from Ricardian comparative advantage, by extending it to
multiple goods and factors of production including intermediate inputs, is now easily
adjusted to become an indicator of competitiveness. When the equilibrium or shadow
prices of both costs and output values are replaced by market prices, we obtain a criterion
of domestic competitiveness:
(7)
UCd = TCd/VOd < 1
Total costs in domestic prices (TCd) are the ones reported by firms and include various
price distortions. The distortions may also include quantity distortions that can be
attributed to external factors. For instance, excess costs in energy, transport and
communications inputs may be due to failure of public utilities to provide these services
at normal costs. Since the analysis of these distortions is somewhat more difficult, we
shall get back to this problem at a later stage (section 2.14). The output value (VOd), also
includes the distortions of nominal protection and the exchange rate misalignment.
UCd is essentially a measure of profitability behind protective barriers to trade. It
is, however, not equal to the actual profit margin, because the total cost (TCd) includes
the opportunity cost of capital at its going market interest rate. When UCd equals one,
this means that the market price covers all costs at market prices, including the
opportunity cost of own capital. When UCd is inferior to one, the firm realizes excess
profits beyond the market interest rate. These profits can reflect either high productivity
of the factors of production or particularly low equilibrium prices of these factors, or
price distortions, and all of these are sources of competitive advantage.
In addition to domestic competitiveness (profitability) and comparative
advantage, there is also the notion of international or export competitiveness. A firm is
export competitive if its total cost in market prices is inferior to the international free20
trade price of output. The corresponding unit cost ratio and criterion of export
competitiveness is then
(8)
UCx = TCd/VOw < 1,
where international output value differs from its shadow value only in terms of the
exchange rate misalignment.
The analysis according to the sources of competitiveness proceeds then in the
following accounting framework. First, total costs in shadow prices consist of four
components, tradable inputs (VITs), non-tradable inputs (VINs), labour cost (LCs) and
capital cost (KCs). when each of them is divided by the total value of output, the sum of
these components is then equal to UCs. Next, all price and non-price distortions on the
cost side, all divided by VOs, are added in order to sum up to UCx. Finally, adding the
output distortion to UCx leads to UCd, the indicator of domestic competitiveness.
(9)
VITs/VOs
+VINs/VOs
+LCs/VOs
+KCs/VOs
__________
=TCs/VOs=UCs
+dpe
+dpj
+dpje
+dw
+dpk
+dr
+ds
___________
=TCd/VOx=UCx
+dpp
___________
=TCd/VOd=UCd
(Shadow unit cost of tradable inputs)
(Shadow unit cost of non-tradable inputs)
(Shadow unit cost of labour inputs)
(Shadow unit cost of capital inputs)
(Total unit cost at shadow prices)
(Exchange rate distortion of output)
(Tradable input price distortion)
(Exchange rate distortion of tradable inputs)
(Wage rate distortion)
(Capital goods price distortion)
(Interest rate distortion)
(Direct subsidy, negative)
(Total cost per unit of output at internat. Prices)
(Output price distortion)
(Total unit cost at domestic prices)
In other words, total unit cost in shadow prices (indicator of comparative advantage) plus all
cost distortions adds up to unit cost per output value at free-trade prices (indicator of export
competitiveness), plus the output price distortion adds up to unit cost in domestic prices
(indicator of domestic competitiveness). This accounting framework can be used to identify,
with some limitations, the sources of competitiveness. Since the distortions are individually
21
expressed as proportions of the output value, the highest proportions indicate the strongest
influence on unit costs.
One of the limitations of this analysis is that for the primary factors of production this
accounting procedure cannot be used to measure the relative importance of these factors as
sources of comparative advantage. This is because the use of different techniques of
production implies the possibility of substitution between the factors. This handicap can be
overcome by a stochastic approach discussed later. The method, however, permits to assess
the importance of various distortions relative to the shadow value of output. The
measurement of distortions deserves, therefore, special attention.
4.1
The measurement of distortions
The distortions that are important in the context of analysing international competitiveness
are generally price distortions that are caused by various policies. Subsidies are treated here
as price distortions. Price margins stemming from monopoly power are unlikely to be
substantial in trade regimes regulated only by the tariff. At the output level we discuss only
traded goods, because non-traded outputs are usually assumed to be distortion-free. At the
input level, we distinguish traded goods, non-traded goods and services, labour and capital,
as seen in the decomposition. Price distortions can be estimated for traded goods and primary
factors of production, following the principles of social cost-benefit analysis and shadow
pricing. For non-traded intermediate inputs, such as electricity, water and communications,
however, it is difficult to distinguish between price distortions and quantity distortions,
because shadow prices are not easily available for them. In their cases, other methods of
estimation are applied and these may contain quality and quantity aspects.
4.11
Output price distortions
The most important distortion affecting the unit cost ratio UCd is normally the tariff. The
difference between the domestic (ex-factory) price and the border (free-trade) price of
comparable imports is known as the nominal rate of protection (NRP). In order to capture
this distortion adequately one needs to compare the domestic and border prices. In praxis,
this is a very difficult exercise and requires the assistance of the producing firms, which
22
know best the product mix and the quality characteristics of the products. The tariff can be
used as NRP only in the absence of quantitative restrictions, exemptions and smuggeling.
4.12
Tradable input price distortions
Since the number of material inputs is usually large, it is impossible to deflate them,
one by one, for distortions caused by tariffs and quantitative restrictions. One way of dealing
with the problem is to identify the main imported materials and to estimate their average
NRP by using price comparisons or the collection rate. Applying the average of input NRP
to the total value of tradable inputs means assuming that the prices of locally bought tradable
inputs include distortions that are similar to those of actually imported inputs. For some
inputs, particularly agricultural inputs, this assumption may not hold. If natural resources are
purchased at prices that are lower than international ones then they may be regarded as a
source of comparative advantage. In other words, their price differential from international
prices is not treated as a distortion.
4.13
Exchange rate misalignment
Currency misalignment is easy to detect, but difficult to measure, in regimes of fixed
exchange rates. It is even more difficult to argue and measure misalignment when the
exchange rate is flexible and market-determined. It is known, nevertheless, that central banks
can influence the exchange rate by various kinds of intervention that are sometimes referred
to as “leaning towards a higher or lower rate”, depending on the nature of interventions.
The effect of over-valuation on unit cost ratios is twofold. On the output side, it
raises the shadow value of output above its value at international free-trade prices, and
thereby lowers the unit cost ratio UCs. In other words, if the penalty of over-valuation did
not exist, comparative advantage would be enhanced. On the input side, the opposite effect
occurs for tradable inputs.
4.14
Non-traded inputs
For non-traded inputs (electricity, water, local transport, communications, subcontracts for
repair and other services) it is often assumed that these costs are undistorted. In reality,
however, these costs can be distorted and impose heavy penalties on producers. It is more
23
difficult, however to separate the distortions from the undistorted costs, because of the nonexistence of international prices. The distortions may also be either at the price level or at the
level of quantities consumed. A frequently observed example of the latter kind of distortion
are extra costs due to frequent electricity blackouts, or the excessive cost of telephone lines
because of their failure to function. The estimation of such distortions may involve ad-hoc
approaches and assumptions about “normal” cost levels that are not well established in the
literature. It can be, nevertheless, important to include such estimates, especially in order to
measure the full extent of policy-induced incentives or disincentives.
4.15
Labour cost distortions
Wages and salaries are in some methods of competitiveness analysis the principal
component (cf. the method of relative unit labour cost, e.g. Turner, Gollub, 1997). In our
experience with cost structures in low-income countries, their share in total cost of
manufacturing industries is often as low as 15 percent. For skilled occupations it is usual to
make the simplifying assumption that the paid remuneration reflects the social opportunity
cost of these services. For unskilled labour, on the other hand, it is usual to estimate shadow
wages and to treat the difference as cost distortion. In addition to, or instead of, the more
complex methods of shadow wage determination, one can resort to a simplified estimation
based on comparisons with informal sector wages or the marginal product of agriculture,
which may be regarded as proxies of the social opportunity cost of unskilled labour.
4.16
Capital cost distortion
The cost of capital includes three components, the financial cost of borrowed capital, the
opportunity cost of own capital, and depreciation of the total capital stock. The financial
social opportunity cost of capital is taken to equal the shadow interest rate applied to the total
value of fixed and non-fixed assets at purchase prices. The shadow interest rate can be
computed in various ways. First, assuming that capital is internationally mobile, it is
obtained by adding an inflation differential to the international rate (LIBOR). Second, based
on the international interest parity condition, one can add to the LIBOR the expected rate of
currency depreciation.
24
In contrast, the market opportunity cost of own capital is the market interest rate. The
difference between these two interest rates constitutes the main capital cost distortion. The
annual depreciation, as reported by the firms, can be treated as undistorted for simplicity. A
further source of distortion is due to the payment of import duties on imported capital goods,
but since the age structure of the capital stock is not easily available, the estimation of this
distortion can be very difficult.
4.2
The sources of competitiveness and comparative advantage
In the framework outlined above it is clear that comparative advantage, as identified by
the shadow unit cost criterion, is the main source of competitiveness. We propose to call
it real competitiveness as opposed to the “nominal” nature of the components
representing price distortions. While the relative importance of price distortions can be
measured as their share in total unit cost, this is not possible for the factor components of
the shadow unit cost. To analyse the relative importance of tradable inputs, non-tradable
inputs, labour and capital as sources of comparative advantage it is necessary to adopt a
different approach. The reason for this is the existence of substitution possibilities
between these four kinds of costs. A low labour cost component alone cannot signal
competitiveness because it may result from high capital intensity or high intermediate
input intensity. Therefore, while we can decompose the shadow unit cost into its four
components, we cannot rank the four factors in terms of their relative importance for
competitiveness, unless we have numerous cost observations of a single industry, which
would enable us to compute cost functions.
In the absence of such data, i.e. when the costs of an industry or firm are available
from a single observation, one can nevertheless pool the data from various industries and
examine whether there is a significant tendency for any factor to induce lower or higher
unit costs, whenever it is used intensively.
For this purpose we plot the unit cost of each factor (for instance unit capital cost,
KCs/VOs) over the total unit cost ratio (UCs) on the horizontal axis, as shown for capital
in figure 1. If the linear trend line of the unit capital cost has a negative intercept, i.e. if
the line KCs/VOs = a + b UCs cuts the average line KCs/VOs = β UCs from below, one
25
can infer that unit costs tend to be high in industries that are particularly capital-intensive.
This means that there is a tendency for high unit costs to be related to high capital costs.
Figure 1: Determining the sources of comparative advantage
KCs/VOs = a + b UCs
KCs/VOs = β UCs
KCs/VOs
average
KCs/VOs
average UCs
UCs= TCs/VOs
If the observations, which represent either firms within an industry or different industries
within the manufacturing sector, are contained within the marked area of plots in figure
1, and if the trend line is statistically significant, then we conclude in the case shown by
figure 1 that capital cost tends to be associated with comparative disadvantage. In this
case one or more of the other factors’ trend lines should have a positive intercept,
signaling the respective factor to be a source of comparative advantage.
If the same kind of statistical analysis is done for unit costs at market prices, it
shows the tendency of any one factor to be a source of competitiveness or the lack of it.
Such an analysis is less meaningful because it does not reveal whether this tendency is
caused by factor price distortions or by the resource allocation decision of the firms. In
the case based on shadow unit costs (the case depicted above) we would interpret the
observation of capital being associated with high unit costs as evidence of inappropriate
technology choice. The industry or sector would then gain comparative advantage by
using either more labour-intensive techniques or more intermediate inputs, depending on
the significance and slopes of the other trend lines.
26
5
Application of the method in four empirical studies
The method of analysis outlined above has been applied in four case studies of the
manufacturing sectors in Mali and Cote d'Ivoire (Cockburn et al. 1999), in India (Siggel,
2001), in Kenya (Siggel, Ikiara, Nganda, 2002) and in Uganda (Siggel, Ssemogerere,
2004). It is also being applied by economists in Vietnam, Iran and South Africa. In this
section we provide only a short summary of the conclusions in three of our studies in
order to demonstrate what kind of conclusions can be obtained.
5.1
Mali
In this study the enterprises of the (very small) manufacturing sector of Mali were
compared with firms of the corresponding industries in Cote d'Ivoire, in order to assess
the competitive position of Mali vis-à-vis her neighbour country, which also harbours its
access route to the seaport of Abijan. The Malian manufacturers were found to be
generally competitive on the protected Malian market, but not on the Ivorian export
market. This reflects a lack of comparative advantage coupled with protectionist trade
policies in both countries. Thus, Mali's manufacturers face a serious challenge on their
local market under further trade liberalization and regional integration. However, the cost
reductions required of Malian manufacturers in order to compete locally were only in the
order of only 10-20% in most cases. Furthermore, the textile industry shows some
potential to become a competitive exporter.
Mali's comparative advantage was found to lie in labour-intensive and inputintensive activities, owing mainly to the lower cost of labour and despite lower labour
productivity. Capital costs appeared to be higher in Mali, due to lower rates of capacity
utilization and smaller scale. Mali’s structure of protection appeared to result in a
moderate net cost increase of roughly 8% of production value. This harms potential
exporters, and in the context of regional integration also harms the suppliers of the
domestic market. Policy recommendations arising from this analysis include first and
foremost the lowering of tariffs on intermediate inputs. Financial liberalization and
deepening would also help to lower market interest rates and thus allow Malian firms to
turn to more stable, long-term sources of financing. Furthermore, investment in national
27
and regional transport infrastructure were found to require special attention to offset the
negative effects of Mali' landlocked status.
5.2
India
The study of manufacturing in India was undertaken with the objective to examine
whether the beginning trade and industrial reforms of the 1980s had resulted in changes
in India's international competitiveness. Therefore, data of 1980/81 were compared with
those of 1987/88 and 1991/92. The study was handicapped, however, by the
unavailability of protection data in the first and last periods. Therefore, conclusions
concerning the whole time period could only be drawn at the level of domestic
competitiveness, i.e. behind tariff and non-tariff walls. The full results on export
competitiveness and comparative advantage could only be obtained for the year 1987/88.
Another difference from the African studies is that for India published data of the annual
manufacturing survey were used, which means that the data were more comprehensive in
terms of coverage, but less rich in terms of variables and qualitative inputs from
interviews.
The study revealed that the manufacturing sector remained still very strongly
distorted, as India's liberalization was only beginning and the more important policy
changes occurred only in the early 1990s. Besides high tariffs and remaining non-tariff
barriers, the exchange rate was strongly over-valued by about 60%, which imposed a
great hurdle to international competitiveness. The study led to recommendations of
further policy reforms, including currency realignment, trade liberalization, fiscal and
financial reforms, most of which have been implemented since then. The impact of these
reforms are being analysed in a present follow-up study.
5.3
Kenya
In the study of Kenya, recently collected data were used together with data from the mid1980s, in many cases from the same firms. This permitted to examine how Kenya's policy
reforms of the late 1980s and early 1990s had affected the country’s manufacturing
sector. Interestingly, the sector seems to have gained somewhat in comparative
advantage, but lost in terms of competitiveness. This unexpected result is explained by
28
the fact that several major distortions act as obstacles to competitiveness, in particular the
very substantial interest rate distortion, caused to a large extent by government policy.
Other distortions that affect the manufacturers of Kenya are the high cost of transport,
communication and energy, all due to a deteriorating infrastructure of this country.
Therefore, the policies of trade and foreign exchange liberalization, although still
incomplete, have shown some positive effects in terms of movement towards
comparative advantage, but cannot lead to the expected benefits as long as domestic
distortions are on the rise.
6
Conclusion
In the survey of the literature it was demonstrated that the most consistent interpretation
of the concept of competitiveness is the microeconomic notion of cost competitiveness. It
is related to comparative advantage, but differs from it in that it includes in its sources the
various price distortions in output value and costs, whereas comparative advantage is
based on real factors only. It was demonstrated that the separation of price distortions
from the real sources of competitiveness by using shadow prices leads to a framework, in
which comparative advantage and competitiveness are clearly defined, closely related but
non-identical concepts. The paper has also provided some limited evidence of how this
framework can be applied in the analysis of policy reforms in order to show whether such
reforms have contributed to an improvement of the resource allocation.
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