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MONITORING AND TARGET SETTING Productive capacity building in most vulnerable countries by OHRLLS I-Introduction Pervasive poverty, high dependence on ODA but also often smallness, remoteness and landlockness are some common denominators in most vulnerable countries. More importantly, what sets these countries apart from other developing countries is their very limited capacity to address these multifaceted challenges. Most of these countries have witnessed a significant improvement in their growth performance during much of the last decade, except during the economic and financial crisis of late 2000s. Yet such an achievement has been either uneven or unsustained and-in most cases—has not translated into commensurate structural transformation, employment creation, and human and social development. Growth has been driven mostly by natural resource extraction sectors – sometimes one sectorwith limited positive externalities on other sectors, and these sectors have been subject to high volatility caused in large part by significant commodity price fluctuations. By contrast, manufacturing has accounted for a negligible share of the growth revival and total output in these countries. Very limited structural changes have therefore occurred, except in cases of transitions from one primary activity into another--namely from low-productivity and self-subsistence agriculture to capitalintensive mining and oil sectors1. Scant structural transformation has also manifested itself through many aspects. Total factor productivity and labour productivity have continued to be low, mirroring weak human and physical capital stocks and the use of rudimentary technology to produce goods and services. Private sector also remains at embryonic stage with a large number of informal economic activities. Further, institutions and rules to promote productive sectors are few. As a result these countries have displayed limited ability to produce efficiently and to compete globally; in short, weak productive capacities. Sustaining high-level growth and addressing the missing link between growth and development could not be achieved without productive capacity development. Such a task constitutes a multidimensional endeavour, requiring not only investments in health, education and other MDG-related interventions but also expansion of production and export supply capacities, including physical infrastructure development, greater access to finance, improved trade facilitation and other private sector development enablers. II-Why is productive capacity building important in most vulnerable countries? 1 One of the exceptions is Bangladesh and Cambodia which have diversified into the manufacturing, particularly in the shipping, pharmaceutical and garment industries, thanks to a number of government supportive measures. Even for them, overdependence on one or very few sectors has resulted to some vulnerability. 1 Success stories across developing countries suggest that the development of productive capacities holds much promise for addressing shortcomings associated with recent growth and development paths in vulnerable countries, as well as for reducing their deeply entrenched weaknesses. Indeed, countries that have been successful are those that have generated enough wealth and decent employment through structural transformation rather than merely focusing on poverty reduction and other human and social outcomes, which can not be sustained without the former. Productive capacity development can help, among other things, to: i) diversity production and export bases, thereby reducing vulnerability to external shocks, ii) benefit more from greater integration into the global economy, iii) sustain progress in human and social development, and iv) adapt and build resilience to climate change and other exogenous shocks. Vulnerable countries differ from one another in regard to productive capacity building challenges and needs. There is, therefore, no single strategy to achieve such an endeavour and countries have to identify their own priorities out of a “menu” of options. This implies the development of country-specific targets, grounded in broader/global/group-specific and aspirational goals on productive capacity development. The overall goal could—for instance—be one of building a critical mass of viable and competitive productivity in relevant sectors2 (See Annex on the goals, targets and indicators for productive capacity building). III-Principles and modalities of target setting for productive capacity building Three guiding principles should inform the content of country-specific targets. First is the conceptual definition of productive capacity. The targets should map both the outcomes/outputs as well as inputs of productive capacity building. Outputs/outcomes help assess results while inputs are important in gauging the process, in particular efforts and resources that are being deployed towards achieving these results. Second, any target-setting should reflect country experiences so as not to set countries up for failure. Third, there must be ways to identify indicators--be they qualitative or quantitative--that provide relevant and clear measures of the targets of interest. These indicators should be anchored in international standards, recommendations and best practices. Also, whenever possible, some of these indicators, in particularly the quantitative ones, should be disaggregated by gender, income, geographical location, socio-cultural or ethnic background, and age group. This desegregation is essential in identifying and analysing intra- disparities concealed by national averages. 3.1 Outcomes/Outputs-related targets Potential results, sought through productive capacity building efforts, may be broad and sectoral in nature. Broad outcomes/outputs may include, but not exclusively, strong and sustainable economic growth, economic diversification—in particular through a growing range of higher value-added goods and services—and increased 2 This formulation is partly derived from the Istanbul Programme of Action 2 labour productivity, which should lead to more decent jobs. In this respect, special attention should be given to youth and female employment. The growth experience of most vulnerable countries, expect that of the last decade, has been a sober one. The majority of these countries has witnessed slow economic expansion and remains highly susceptible to external shocks. The challenge has, therefore, been to secure and sustain high –level growth. Besides the slow pace at which their economies have advanced, these countries also witnessed severe growth instability. Such instability has been persistent, despite recent rise in the rates of economic growth across the most vulnerable countries. Growth instability has contributed to a lingering doubt and a perceived risk regarding this group of countries, and lowering their expected returns on investment. As a result, private investment, productivity and job creation, and, more broadly, social development have turned modest. The second challenge is to sustain strong economic growth over time. Strong and sustainable growth should be an important dimension of productive capacity. Very few vulnerable countries have branched out into manufacturing. By contrast, many continue to rely heavily on natural resource extraction sectors for livelihood, exports, and employment. Some of these sectors, agriculture in particular, have displayed very marginal productivity growth and weak linkages with other sectors. Others continue to depend on mining sector, which often has limited forward and backward linkages with other sectors, therefore failing to generate spillover effects in the form of value-addition, job-creation and deepening of technological know-how. The composition of exports of vulnerable countries also reflects the structure of their production bases. Exports are concentrated in a very limited number of primary commodities with little value addition. This not only makes exports earnings volatile, it also explains the fact they account for a very small share of the world trade. The sum of the above is that economic diversification is key for accelerated and sustained growth in the most vulnerable countries. Economic diversification represents another important aspect of productive capacity building. The pace and sustainability, as well as the nature of growth, determine how successful these countries are in generating sufficient and decent employment opportunities for all, including youth and women. Generating enough productive and decent jobs for a growing labour force requires that agricultural sector undergoes significant productivity growth and non-agricultural sectors absorb a growing share of labour force. The other output/outcome-related dimensions of productive capacity building are therefore labour productivity and decent jobs. In addition, there is also sectoral dimension to productive capacity development. Such a sectoral focus may be considered an effective route toward achieving broader objectives, such as of those of structural changes and strong and sustainable growth. Sectors that may receive greater attention in productive capacity development include agriculture, food production in particular, manufacturing, and services, including tourism. Country-specific growth targets could be set for some of these sectors. 3.2 Inputs-related targets Essential inputs to productive capacity development are the set of factors or conditions that are conducive to an enabling environment for private sector 3 development. They encompass improvement and expansion of physical infrastructure --transport, information and communication technology (ICT), energy and water-greater access to finance and technology, and human resource development (education, training and skills development). Inadequate physical infrastructure severely hampers growth and development in the most vulnerable countries. Many of these countries lack transport services that provide adequate and affordable connectivity within their borders and with their neighbouring countries. Transport needs are particularly acute in landlocked developing countries and small island developing countries, which face high transaction costs in regard to transportation, because of their geographical location. In addition, large infrastructure needs of vulnerable countries are in the energy, ICT and water sectors. Closing the infrastructure gap in all these sectors will help reduce production and trade costs, improve competitiveness and boost growth in these countries. Building new infrastructure as well as rehabilitating and maintaining the existing one require considerable financial resources beyond those that are available in vulnerable countries. ODA and innovative forms of financing for infrastructure development are important in this regard. Issues of finance also encompass access of the private sector, in particular, small and medium-sized firms- as well as households to financial services. Another important dimension of productive capacity building-viewed from the input angle--relates to technological acquisition and innovation, which are transmitted not only through trade and FDI but also through bold domestic and international measures that encourage research and development as well transfer of technology. Technology and innovation impact labour productivity positively and therefore growth and development. The quality of education, training and skill development also affect labour productivity. Further, it also determines the extent to which countries reap the benefits of FDI, including potential employment, technology and know-how spillovers. Productive capacity development covers issues of governance, in particular aspects that pertain to institutional, policy and regulatory frameworks, business regulations and ways in which these rules are enforced. Small and medium enterprises are important engines of growth, and they provide sustenance to many households in vulnerable countries. It is important to leverage on their critical role in the society by addressing the bottlenecks that prevent most of these relatively low-capital, familyowned and family-run businesses from attaining their full potential. The development of fully-functioning and competitive markets-- locally, nationally and regionally-within which these firms operate can enhance their operations, foster efficiency, create economies of scale, and thus leading to higher profits. Access to markets in vulnerable and least developing countries is equally important to farmers, who are mostly smallholder peasants. The preservation of natural capital is the other important enabler for sustainable productive capacity building. Natural capital comprises resources such as land, rivers, forests, and the air, all constituting a lifeline for all countries but whose contribution is 4 not accounted for. Inadequate investment, management and maintenance of this capital cause unsuitable growth and development in the long-run. Again the right mix of these above inputs will differ across countries, and the targets should reflect this. 5 Annex: Synopsis table of possible goal/targets/indicators for productive capacity building GOAL TARGETS CANDIDATE INDICATORS Areas Covered by the targets • • Strong and sustainable economic growth Economic Diversification and Structural Transformation • • • Production Base • • • • • • • • Trade Inputs (Production Factors and Enabling Factors for Private Sector Development) Building a critical mass of viable and competitive productivity in relevant sectors Nature of the targets Increased labour productivity • • • Increased decent employment Expansion of physical infrastructure, including improved quality and reduced costs • • • • • Transport • • • ICT • Energy • • • Water 6 Per capita GDP Growth Coefficient of variation of Per capita GDP Growth Wealth Estimates Change in Value added share of non-extractive sector in total GDP (%) Change in share of manufacturing (%GDP) Change in share of agriculture (% GDP) Change in Herfindhal-Herschman production index Change in Herfindhal-Herschman export index Change in Trade to GDP ratio Change in Exports to Imports ratio Changes in terms of trade Labour productivity per hour Labour productivity per person employed Total Factor Productivity Growth Unemployment rate Youth unemployment rate Roads, total network (km) Rail lines (total route-km) Roads, paved % (% of total roads) Air transport, passengers carried Container port traffic,(TEU:20 foot equivalent units) Mobile cellular subscriptions per 100 population Internet users per 100 population Electricity production (Kwh) per capita Share of electricity generated through renewable sources Access to Electricity (% of population) Electric power transmission and distribution losses (% of output) Proportion of population using an improved drinking water source • • • • • • Greater access to finance/capital Greater access to technology • • Credit to private sector as a percentage of M2 Gross capital Formation (% GDP) Real interest rate (%) Savings to GDP ratio ODA as a percentage of GDP FDI as a percentage of GDP Researchers per million inhabitants R&D expenditure Human resource development • Adult literacy rate (%of total population) • Average number of years of schooling of active population Gross enrolment in secondary education (%) Secondary completion rate (or some other indicator of quality of education Percentage enrolment in technical and vocational programmes at secondary level (%) Time required to start a business (days) Ease of doing business Index • Education • • Training and Skills Development • Governance • Doing Business • • Natural capital • • 7 Adjusted Net Savings Depletion of minerals, timber and fisheries CO2 emissions Number of threatened species