Technology-Skill Complementarity and International TFP Differences

What determines whether a country is better at using some technologies than others? A widely held view is that a country’s ability to absorb and implement technologies is tied to its human capital. In this paper, we construct a novel specification of technology that incorporates this idea. Countries are comprised of a range of industries with heterogeneous productivities. In high human capital countries, productivity is maximized for industries with the most sophisticated technologies, while in low human capital countries, productivity is maximized for industries with less sophisticated technologies. A key result is that both aggregate total factor productivity and the industrial structure of an economy are driven by inter-industry variations in productivity which in turn is a function of human capital. We embed this specification within a standard production function framework and undertake a development accounting exercise. Our results indicate that almost half of the variation in aggregate TFP differences can be explained by the distribution of inter-industry TFP.