Trade Liberalization and Industrial Productivity: Evidence from Pakistan

This study examines the impact of trade liberalization on industrial productivity for a panel of twenty seven 3-digit manufacturing industries in Pakistan over the period 1980-2006. Following Olley and Pack’s (1996) Control Function Approach (CFA) we deal with the endogeneity arises from unobserved productivity shocks. Using a variant of Cobb-Douglas production function, in the first step we estimate output elasticities. We find positive output elasticities with respect to labor, capital and raw materials for the pre-trade liberalization period (1981-1995) and post-trade liberalization period (1996-2006). For the pre-liberalization, we observed positive output elasticity with respect to energy, while it turns out to be negative in the post-liberalization period; probably due to energy crisis in Pakistan. In the second stage, we estimate total factor productivity (TFP) and examine the impact of trade liberalization on TFP for pre-and post-trade liberalization regimes. The results reveal that trade liberalization proxied by excise duty has positive but negligible impact on TFP in the pre-as well as post-liberalization periods. On the other hand, effective rate of protection exerts large negative impact on TFP in the post-liberalization than the pre-liberalization period.