DP6013 Lucas and Anti-Lucas Paradoxes

Author(s): Orsetta Causa , Daniel Cohen , Marcelo Soto

Publication Date: December 2006

Keyword(s): Lucas paradox , Total factor productivity

JEL(s): O11

Programme Areas: International Macroeconomics

Link to this Page: www.cepr.org/pubs/dps/DP6013.asp.asp.asp

The capital-output ratio is more than 40% lower in the poor countries than in the richest ones. Comparing TFP in manufacturing and in the economy at large, we show that the Balassa-Samuelson effect explains the bulk of this scarcity: TFP in manufacturing is indeed about 40% lower than TFP in the aggregate economy. This discrepancy is one for one translated into higher prices of equipment goods, which explains that capital is scarce in volume, but not in value terms. This quantifies our interpretation of the Lucas paradox. When focusing on manufacturing, a tradable sector for which relative prices differences should not be essential, the initial paradox is actually turned into an anti-Lucas paradox: it is in the poorest countries that the capital output ratio is higher.We argue that lack of productive infrastructure is essential in explaining this anti-paradox. We finally examine the role of institutional quality. We show that public capital under provision, as reflected in low levels of infrastructure stock, is the key channel through which poor institutions hamper capital accumulation