1 Giuseppe Iarossi, World Bank Federica Saliola, World Bank and University of Rome III Giovanni Tanzillo, World Bank Armeni a Lake Sevan Business Climate, Productivity, and Competitivene ss in Armenia, 2002-2005
Mar 27, 2015
1
Giuseppe Iarossi, World Bank
Federica Saliola, World Bank and University of Rome III
Giovanni Tanzillo, World Bank
Armenia
LakeSevan
BusinessClimate,
Productivity, and
Competitiveness in Armenia,2002-2005
2
Investment climate
“location-specific factors shaping the opportunities and incentives for firms to invest productively, create jobs, and expand”
World Development Report 2005
3
Business Climate Index (BCI)
1. Combines 93 variables (macro and micro)
2. Geometric Aggregation Method
4
Variables in the BCI
4 categories, 2 dimensions
MACROCost (6) Quality (17)
INPUTS Cost (10) Quality (14)
INFRASTRUCTURECost (4) Quality (5)
INSTITUTIONSCost (10) Quality (27)
5
First step in the BCI construction
Inflation variabilityExchange rate variabilityReal interest rate
variabilityCapital flowsMacro instabilityCorruption indexProcedures to start
a businessCost to start a businessMinimum capital to start
a businessCredit information indexPrivate bureau coverageProcedures to enforce
contractsTime to enforce contractsCost to enforce contracts
Factor1Factor2Factor3Factor4
(Factor1) (Factor2) (Factor3) (Factor4) = MacroQI
VARIABLESFACTORANALYSIS AGGREGATION INDEX
W1 W2 W3 W4
6
Second and third steps in the BCI construction
MacroCIMacroQI
InfraCIInfraQI
InputCIInputQI
InstitutionsCIInstitutionsQI
Factor1Factor2
Factor1Factor2
Factor1Factor2
Factor1Factor2
VARIABLESFACTORANALYSIS AGGREGATION INDEX
(Factor1) (Factor2)W1 W2
(Factor1) (Factor2)W1 W2
(Factor1) (Factor2)W1 W2
(Factor1) (Factor2)W1 W2
Macro Index
InfrastructureIndex
Input Index
InstitutionsIndex
Factor1
Factor2
Factor3
F1W F2W F3W BCIBusinessClimateIndex
FACTORANALYSIS AGGREGATION INDEX
7
Characteristic: Geometric aggregation method
Feature: Rewards more countries that improve the dimension where they perform the worst
tfpm
wwww
xINSTITindeexINFRASTindINPUTindexMACROindexBCI )()()()(
8
Sample composition of
micro data
Country 2002 2005
1Albania 170 2042Armenia 171 3513Azerbaijan 170 3504Belarus 250 3255Bosnia-Herz. 182 2006Bulgaria 250 3007Croatia 187 2368Czech Rep. 268 3439Estonia 170 219
10Macedonia 170 20011Georgia 174 20012Hungary 250 61013Kazakhstan 250 58514Kyrgyzstan 173 20215Latvia 176 20516Lithuania 200 20517Moldova 174 35018 Poland 500 97519Romania 255 60020Russia 506 60121Slovakia 170 22022Slovenia 188 22323Turkey 514 55724Ukraine 463 594
9
Business Climate Index and GDP growth in ECA, 2002-05
BCI index 2002
Kyrgyzstan
Russia
Kazakhstan
Armenia
GeorgiaEstonia
LithuaniaLatvia
Moldova
Bulgaria
Romania
Slovakia
Czech Rep.
Hungary
BelarusUkraine
PolandSlovenia
BiH
Turkey Croatia
Albania
0
2
4
6
8
10
2 3 4 5
GDP growth (average 2002-04)
10
Business Climate Index and total factor productivity in Armenia, 2002-05
-2
-1
0
1
2
15 16 17
TF
P -
200
5
BCI - 2002
18
11
II
IV
Better BusinessClimate
BC
I 20
05
BCI 2002
Change in business climate 2002-05
I
Kyrgyzstan
RussiaKazakhstan
Estonia
LithuaniaLatvia
Moldova
BulgariaRomania
Slovakia
CzechRep.
Hungary
Belarus
Ukraine
Poland
SloveniaBiH
Croatia
Albania
FYROM
Azerbaijan
Armenia
Georgia
Turkey
Improving Good
Bad Deteriorating
12
BCI Index and ranking of ECA countries, 2002-05
Country Rank 2005Turkey 1Azerbaijan 2Poland 3Albania 4Estonia 5Kyrgyzstan 6Croatia 7BiH 8Slovenia 9Lithuania 10Slovakia 11Latvia 12Hungary 13Bulgaria 14Georgia 15Romania 16FYROM 17Ukraine 18Moldova 19Russia 20Kazakhstan 21Belarus 22Czech Rep. 23Armenia 24
Country Rank 2002FYROM 1Azerbaijan 2Albania 3Georgia 4Poland 5Kyrgyzstan 6Russia 7Kazakhstan 8Armenia 9Lithuania 10Turkey 11Slovenia 12Latvia 13Romania 14Estonia 15Belarus 16BiH 17Bulgaria 18Croatia 19Slovakia 20Hungary 21Ukraine 22Moldova 23Czech Rep. 24
13
Change in ranking 2002-05
-20
-15
-10
-5
0
5
10
15
Armenia
Georgia
Turkey
Azerbaijan
14
Components of BCI, 2002-05
0
0.5
1
Macro index
Infrastructure index
Inputs index
Institutions index
2002
2005
15
Kyrgyzstan
Russia
Azerbaijan
KazakhstanArmenia
Georgia
Estonia
LithuaniaLatvia
MoldovaBulgaria
Romania
Slovakia
Czech Rep.Hungary
BelarusUkraine
Poland
SloveniaBiH
Turkey
Croatia
Albania
FYROM
Inp
uts
in
dex
200
5
Inputs index 2002
Inputs Market Index,
2002-05
16
Kyrgyzstan
Russia
Azerbaijan
Kazakhstan
Armenia
GeorgiaEstonia LithuaniaLatvia
Moldova
Bulgaria
RomaniaSlovakia
CzechHungary
BelarusUkraine
Poland
Slovenia
BiH
Turkey
Croatia
Albania
FYROMInst
itu
tio
ns
Ind
ex 2
005
Institutions Index 2002
InstitutionsIndex,
2002-05
17
Dimensions of institutions and inputs indices in Armenia, 2002-05
0
0.5
1
Quality Costs Quality CostsINSTITUTIONS INDICES INPUTS INDICES
2002
2005
18
First step in the BCI construction
Factor1Factor2Factor3Factor4
(Factor1) (Factor2) (Factor3) (Factor4) = InputsQI
VARIABLESFACTORANALYSIS AGGREGATION INDEX
W1 W2 W3 W4
Excess laborCost of financeProximity to raw
materialsAccess to foreign inputsAccess to foreign
customersTechnologyEducation of workforceAccess to financeTrade creditAvailability of skilled
workersAvailability of managersInformality of supplier
networkLoan duration
19
Principle component factors in the Inputs Quality Index
0.1
0.2
0.3
0.4
0.5
-0.6 -0.4 -0.2 0 0.2
Factor 1
Factor 2
Factor 4
Factor 3
Change 2002-05
Wei
ght
20
Main variables underlying Factors 1 and 3 of the Inputs Quality Index
-1
-0.8
-0.6
-0.4
-0.2
0.2
0.4
0.6
0.8
1
-0.6 -0.4 -0.2 0 0.2
Percentage change in variable, 2002-05
Load
Availability of managers
Availabilityof skilledworkers
Cost of finance
Access to finance
ptimloa
pavapro Suppliers network
21
Principle component factors in the Institutions Quality Index
0.1
0.2
0.3
0.4
-0.1 0 0.1 0.2 0.3 0.4 0.5
Factor 1
Factor 2
Factor 4Factor 5
Change 2002-05
Wei
ght
22
Main variables underlying Factors 1 and 2 of the Institutions Quality Index
0.2
0.4
0.6
0.8
1.0
-1 0 1 2 3 4 5
Percentage change in variable, 2002-05
Load
Politicalinfluence
23
Main variables underlying Factors 1 and 2 of the Institutions Cost Index
0.2
0.4
0.6
0.8
1.0
-0.3 -0.2 -0.1 0 0.1 0.2 0.3
Percentage change in variable, 2002-05
Load
Corruption
MafiaFunctioning of the judiciary Crime
Regulationuncertainty
Red tape
24
Principle component factors in the Institutions Cost Index
0.1
0.2
0.3
0.4
0.5
-0.2 -0.1 0 0.1 0.2 0.3
Change 2002-05
Wei
ght
Factor 1
Factor 2
Factor 3 Factor 4
25
Main variables underlying Factors 1 and 2 of the Institutions Cost Index
-1
0
1
-4 -3 -2 -1 0 1 2 3 4
Bribes ongovernmentcontracts
BribesProtectionpayments
Excesslabor
Percentage change in variable, 2002-05
Load
26
Conclusions
• Institutions: both perceptions and costs have contributed to the deterioration of the business climate in Armenia in the last three years– More specifically, political influence,
corruption, security, red tape, judicial inefficiency
– To a lesser extent, also access and cost of credit
27
Armenia’s perception of investment climate constraints
0 20 40 60 80Crime, theft,disorder
ElectricityLabor regulations
Skills of available workersTelecommunications
TransportLegal system/conflict resolution
Access to landLicensing and operating permits
Economic & regulatory policy uncertaintyCorruption
Customs and trade regulationsAnti-competitive/informal practices
Access to financeCost of finance
Tax ratesMacroeconomic instability
Tax administration
Percentage of firms rating each constraint a major obstacle Source: BEEPS 2005
28
Tax rates
30%
40%
50%
Armenia Azerbaijan Georgia Turkey
Source: Doing Business
Percent of tax on gross profit
29
Tax administration: number of tax payments and
time to comply with tax requirements
0
10
20
30
40
50
60
Armenia Azerbaijan Georgia Turkey0
200
400
600
800
1000
1200PaymentsTime to comply
Num
ber
Hours
Source: Doing Business
30
Tax collection
Source: Davoodi and Grigorian (2005)
Armenia CIS Lower middle-income countries
10%
18%Tax revenues as a share of GDP
12%
14%
16%
31
Linear model between tax evasion and number of inspections
eInspectionsiEvasioni 10
32
Probability of perceiving corruption as a constraint
Number of inspections by tax officials
0
60%
80%
100%
Probability
10 20
33
Linear model between tax evasion and number of inspections
eInspectionsiEvasioni 10
InspectionsGifttaxInspectionsEvasioni *100
1/ InspectionEvasion
uGifttax 101
34
Impact of corruption on tax evasion
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
Inspections
Inspections+ bribes
Rate of tax evasion
35
Cost of finance: Real interest rate in Armenia
Source: IMF, International Financial Statistics
0%
10%
20%
30%
2000 2001 2002 2003 2004
36
Armenia Azerbaijan Georgia Turkey
Nominal interest rate on firm loans
0
5
10
15
20
25
Source: BEEPS 2005
37
Access to finance:Share of firms with access
to bank financing
without access
with access
Short term financingwith
access
without access
Long term financing
Source: BEEPS 2005
38
Amount of collateral on loans
0%
50%
100%
150%
200%
Source: BEEPS 2005
Armenia Azerbaijan Georgia Turkey
39
Legal Rights Index
0
2
4
6
8
Armenia Azerbaijan Georgia Turkey
Source: Doing Business
40
Credit provided by the banking sector
0
20
40
60
80
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
Armenia
ECA countries
Low & middle income countries
Percent of GDP
41
Conclusions
• Access to finance, red tape, and corruption are the 3 most important investment climate constraints for firms in Armenia
42
Escribano-augmented Cobb-Douglas production function
i
n
nnnieikili DEscrKLVA
1
10 lnlnln
iiii FCICTFP 210
43
Firm productivity
-20%
-10%
0
10%
Corruption Bank loan Finance index
Impact on firm productivity
Red tape
44
Priority of reforms
0
4
8
12
16
0 10 20 30 40 50 60
Share of TFP
Marginal impact on firm productivity
Corruption
Finance Red tape
45
Armenia’s productivity gap with selected countries, 2005
Georgia
Turkey
Kazakhstan
Kyrgyzstan
Tajikistan
Uzbekistan
Moldova
Estonia Latvia Lithuania
-100%
-50%
0%
50%
100%
150%
200%
46
Estimating the productivity gap
CountryDICCountryDICTFP iiii 3210
47
Impact of Investment Climate variables on Armenia’s
competitiveness compared to TurkeyTFP TFP TFP (1) (2) (3)
Armenia (dummy) -0.698 -0.795 -0.622 (1.70)* (1.09) (2.29)**
Red tape -0.005 (0.06) Armenia*Red tape 0.030
(0.40) Loan -0.760 (1.05)
Armenia*loan 0.394 (0.51)
Corruption -0.097 (0.94)
Armenia*Corrupt 0.047 (0.44)
48
Incremental impact on Armenia’s productivity, over Turkey’s
0%
2%
4%
6%
Banks,short term
Banks,long term
Trade credit,short term
Trade credit,long term
0.0
1.7%
5.3%
4.4%
49
Conclusions
• Political influence in economic activity is the main factor driving the deterioration of the business climate in Armenia in the last 3 years.
• Red tape, access to finance and corruption are the major business obstacles to private sector development in Armenia.
• Red tape is the top Investment Climate constraint affecting firm performance in Armenia.
• Better access to long term finance, both in terms of bank lending and trade credit, would help bridge the 40% productivity gap with Turkey.