CEPR Discussion Paper No.3851 - 'Regulation and Investment'
Authors: Alberto F Alesina (Harvard University and CEPR), Silvia Ardagna (Wellesley College), Giorgio Nicoletti (OECD) and Fabio Schiantarelli (Boston College)
March 2003
In the past decade the rate of GDP growth has been remarkably different among OECD countries. One of the most striking and often cited comparisons is the one of the US with a 4.3% average GDP growth in the second half of the 1990s and large European economies (Germany, Italy and France) with 2% average growth. One commonly held explanation of these differences is that stricter regulation of markets has prevented faster growth in many European countries, in particular during periods of rapid innovation such as the 1990s. Is there any truth in this?
CEPR Discussion Paper No. 3851, suggests ‘yes’: various measures of product market regulation are negatively related to investment, which is, of course an important engine of growth. Using newly assembled data on regulation in several sectors of many OECD countries, the authors of this Paper provide substantial and robust evidence that various measures of regulation in the product market, concerning in particular entry barriers, are negatively related to investment. The policy implication of our analysis is clear: regulatory reforms, especially those that liberalize entry, are very likely to spur investment.
In the last decade or so, most OECD countries have experienced some form of regulatory reforms (or deregulation) implying programmes of privatization and greater freedom to enter markets. However, the timing, extent, nature and starting points have varied across countries. The United States, for instance started deregulation in the seventies. In 1977, 17 per cent of the US GNP was by produced fully regulated industries, and by 1988 this total had been cut to 6.6 per cent of GNP. Britain and New Zealand have also been early reformers, while Italy and France have been laggards. The authors of this Discussion Paper look at the diverse histories of OECD countries to study the effects of regulatory reforms in sectors that were traditionally most heavily sheltered from competition and have witnessed, at different times and to different degrees, some form of deregulation and privatization in a number of countries. Specifically, they look at the effects of regulation on investment in the transport (airlines, road freight and railways), communication (telecommunications and postal) and utilities (electricity and gas) sectors. They measure regulation with different time varying indicators that capture entry barriers and the extent of public ownership, among other things.
Much of the existing literature on the effects of regulation in OECD countries is concerned with the labour market. This study is the first to use broad time varying measures of product measures of product market regulation and look at the relationship between regulatory reforms and investment in a panel context. Alesina, Ardagna, Nicoletti and Schiantarelli find that regulatory reforms have had a significant impact on capital accumulation in the transport, communication, and utilities industries. In particular, liberalization of entry in potentially competitive markets seems to have had the largest and most significant impact on private investment. The effect of privatization is less clear-cut. On the one hand privatization may lead to more profit opportunities for private firms; on the other hand public enterprises may overinvest if they pursue political objectives and/or if managers are not constrained by the discipline imposed by capital markets. They also find that small changes in a heavy regulated environment are not likely to produce much of an effect.
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