Trade liberalisation, infrastructure and firm performance: Evidence from Ethiopia

This project seeks to analyse the role of improvements in infrastructure on the transmission of trade liberalisation effects to domestic firms.  While the literature has highlighted trade liberalisation and infrastructure development as effective strategies for economic growth and development, not much is known about the complementarity between the two in generating growth and economic dynamism.

Researchers plan to explore this for Ethiopia. The country embarked on extensive trade reforms during the 1990s by progressively reducing tariff and non-tariff barriers and has recently undertaken an ambitious plan of infrastructure development via the Road Sector Development Programme, aimed at improving connectivity throughout the country.

The researchers' idea is that trade liberalisation brought about by the reduction in import tariffs has two effects:

1. It introduces competition in the product market by lowering the price of imports. Evidence suggests that such competition can induce firms to move closer to the technological frontier.
2. It lowers intermediate input prices and allows domestic firms to access a wider variety of more sophisticated intermediate inputs and capital goods from abroad at lower cost. This can boost firm productivity, increase the likelihood of exporting, and expand the range of products firms are able to offer. This has implications for the growth of high-wage, formal sector jobs touting higher security and safety.

However, high in-country transport costs resulting from weak road infrastructure can hamper the transmission of tariff reductions to domestic prices. While a fall in the import tariff on a product may be associated with an almost equivalent decline in its domestic price near areas well-connected to the port or major market, this decline might be mitigated in more remote areas. Since trade effects operate via the domestic price, firms and consumers in remote regions might be differentially affected.  This also exacerbates concerns of regional disparities -- an important component of economic inequality.

• To investigate this issue, researchers plan to exploit detailed census data on Ethiopian manufacturing firms and combine this information with data gathered from the Ethiopian Road Authority on the quality and intensity of use of roads connecting firms across regions to main markets and trade hubs (Addis Ababa and the port of Djibouti, for instance), allowing researchers to tease out the interaction effect between trade liberalisation and road infrastructure development.
• In view of recent evidence that shows that investments in infrastructure development yield high dividends in terms of macroeconomic growth (World Bank, 2015) and the performance of domestic firms (Shiferaw et al., 2015), this project aims to contribute to this existing knowledge by providing new evidence to inform policymakers.
• The study will also highlight that local conditions can determine the extent to which gains from trade liberalisation are uniformly distributed.
• Finally, the project will evaluate whether and how different Ethiopian government interventions in recent years can complement each other in launching the country on a path to sustainable and balanced economic growth.