LATIN AMERICAN ENTREPRENEURS MANY FIRMS BUT LITTLE INNOVATION

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1 LATIN AMERICAN ENTREPRENEURS MANY FIRMS BUT LITTLE INNOVATION Daniel Lederman, Julián Messina Samuel Pienknagura, Jamele Rigolini Chief Economist Office for Latin America and the Caribbean World Bank

Honduras Ecuador Colombia Paraguay Peru Employment by firm size and formality status, circa 2010 0

2 More than half of Latin American income-earners are employed in small firms, most of which are informal Uruguay Chile Argentina Costa Rica Mexico Brazil LAC Dominican Rep. Honduras Ecuador Colombia Paraguay Peru Employment by firm size and formality status, circa Informal (5 employees or less) Formal (5 employees or less) Informal (> 5 employees) Formal (> 5 employees) 2

3 This has understandably led to a policy focus on supporting small firms growth and formalization Uruguay Chile Argentina Costa Rica Mexico Brazil LAC Dominican Rep. Honduras Ecuador Colombia Paraguay Peru 3

4 Yet, contrary to popular belief, small firms are also common in the formal sector Size Distribution of Formal Firms, 2011 India LAC5 Other LAC Caribbean China High Income EAP4 ECA employees 1 to 5 employees 6 to 50 employees 50+ employees 4

5 Change in the share of formal employees (in p.p.) and the increase in formal jobs is associated with the expansion of large firms (not the formalization of small ones) Formal Workers and Growth of Large firms, Peru Argentina Brazil Paraguay Costa Rica Chile El Salvador Bolivia Mexico Change in the share of employees working in large firms (>20 employees, in p.p.) Source: Lederman, Maloney, and Messina (2013).

6 Shift focus from small/low-growth to high-end/highgrowth entrepreneurs that generate good jobs Uruguay Chile Argentina Costa Rica Mexico Brazil LAC Dominican Rep. Honduras Ecuador Colombia Paraguay Peru 6

7 What we mean by high-end entrepreneurs We follow Schumpeter (1911): The introduction of a new good or a new quality good, the introduction of a new method of production, the opening of a new market, the conquest of a new source of supply of raw materials or half-manufactured goods, the carrying out of the new organization of any industry. 7

What we mean by high-end entrepreneurs Edge of Medium and Larger over Small Firms in LAC, 2010 Labor productivity Exporter Exports share Invested R&D Patent abroad Patent, trademark, or copyright New

8 What we mean by high-end entrepreneurs Edge of Medium and Larger over Small Firms in LAC, 2010 Labor productivity Exporter Exports share Invested R&D Patent abroad Patent, trademark, or copyright New or significantly improved process Patent in country New products introduced Medium firms Large firms 95% confidence interval Tech. from a foreign-owned company Cooperates on innovation Marginal effect (%) In LAC, large firms pay, on average, 60 percent higher wages than small firms 8

9 Message 1. Numerous small firms reflect a deeper problem: large firms do not generate enough good jobs LAC East Asian MICs 23 Eastern Europe High Income Size at birth 9

10 Message 1. Numerous small firms reflect a deeper problem: large firms do not generate enough good jobs LAC 110 After East Asian MICs Eastern Europe years 220 High Income

11 Non-ag Employer (%) The problem is not in the number of enterprises LAC is indeed a region of employers Non Agricultural Employer vs. GDP per capita (ppp), ln(gdp ppp per capita) 11

12 The problem is not in the number of enterprises LAC is indeed a region of employers Share of Employers LAC Hungary 4 Poland 1 Portugal 4 12

13 Non-ag Wage and Salaried (%) but they do not generate enough good jobs Non Agricultural Wage and Salaried vs. GDP per capita (ppp), ln(gdp ppp per capita) 13

14 but they do not generate enough good jobs Non Agricultural Wage and Salaried vs. GDP per capita (ppp), 2010 Share of Employees LAC-4 55 Hungary 84 Poland 73 Portugal 81 14

15 Growth rates Message 2. Age matters much more than size for job creation by firms Employment growth in Colombia, Continuers (abstracting from entry/exit) Small Medium Large 0 to 4 years 5 to 9 years 10 to 14 years 15+ years All 15 hence, a need to rebalance SME programs towards younger firms with potential

16 Message 3. Formal firms have an innovation deficit: Low product innovation Percentage of Firms that Developed or Introduced a New Product, % 80% 60% 40% 20% 0% 16

17 Percentage of GDP low R&D investment (mostly public) R&D by Region, Business Enterprise Government Higher Education Private Non-Profit Abroad Other LAC Eastern Europe LAC-5 China High Income 17

18 Average Management Score subpar management practices Management Scores Across Countries, circa 2010 (manufacturing firms with employees) Four Management Categories: Operation Management Performance Monitoring Target Management Talent Management

19 Patents per 1 million people and uninspiring patent production Number of Patents per 1 Million People (Average number of patents granted between )

20 Chile El Salvador Costa Rica Colombia Bulgaria Mexico Guatemala Macedonia Peru Ecuador Jordan Morocco Mauritius South Africa Dom. Republic Mali Senegal Nicaragua Bangladesh Kenya Burkina Faso Tanzania Pakistan Cameroon Iran Cambodia Malawi Niger Uganda Relative entry rates Message 4. Even our superstars innovate little: Low entry into export markets... Conditional relative entry rates to export markets, Not due to specialization in extractive industries: the result compares entry rates in similar sectors

21 R&D Expenditure per US$1000 of Revenue Multilatinas perform better than other local firms but are much less innovative than MNCs from other EMs R&D by Multinationals Across Regions, Multilatinas have worse management practices than Multinationals from other middle income regions Multilatinas are less integrated to global value chains than those in comparable countries 0 High Income China East Asian MICs Eastern Europe LAC-5 India 21

22 In percent and although foreign MNCs bring benefits to LAC, they are less innovative than those in East Asia Percent of Foreign MNCs Introducing a New Product, circa Caribbean Other LAC LAC-5 East Asian MICs Eastern Europe High-Income 22

23 Summing up: Some encouraging trends and policy developments in LAC Trends LAC s a region of entrepreneurs The emergence of Multilatinas Dynamic trade integration Policies Effective export and investment promotion agencies The emergence of empowered competition agencies Awareness and policy experimentation (Star-up Chile, policy evaluation through randomized experiments) 23

24 ..but there are challenges: the innovation gap goes beyond individuals, must be the enabling environment It cannot just be individual entrepreneurs: even foreign MNCs that are innovative elsewhere are less so in LAC While the reasons for the innovation deficit vary from country to country, three fundamental areas stand out for LAC as a whole 1. Low competition, especially in non-tradable sectors 2. Insufficient innovation-friendly human capital low educational achievement, low number of engineers, etc. 3. Innovation-unfriendly features of the contractual environment especially as regards intellectual property rights This is aggravated by LAC s deficit in terms of infrastructure and logistics 24

25 Some specific bright spots in LAC (not discussed in the report) Mexico Autopart global value chain Costa Rica Export promotion Colombia Fashion industry Brazil High-tech agriculture Chile Upscale wine production Argentina Science and technology Uruguay Dairy and meat industry 25

26 Thank you The full report is available at:

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