Competing or Collaborating Siblings? An Investigation of the Relationship between Industrial and Trade Policies

This dissertation investigates the relationship between industrial and trade policies and their impact on firm-level incentives to become more productive. In Chapter two we use a two-sector growth model and show that the impact of a rise in competition in the intermediate goods sector (that invests in quality-enhancing technology) is sensitive to market structure in the final goods sector. We find that more competition in the intermediate goods sector (due to industrial policy reform) can lead to rising investment in technology and hence rising productivity. Further we find that industries that face more competition domestically can perform better in the face of foreign competition. That is, there may be strategic complementarities between industrial deregulation and trade reform. We also find that a rise in competition in the final goods sector can affect investment incentives in the intermediate goods sector and hence affect productivity. This study highlights the importance of market structure assumptions in growth models. The third chapter tests predictions from chapter two using two unique data sets. We use the industrial licensing regime in India (operating from the 1950s onwards) and its gradual relaxation during the 1980s and 1990s to test whether industrial de-regulation that leads to more competition domestically, affects firm-level productivity. To our knowledge, ours is the only detailed data set on Indian industrial policy. Our firm-level data for the period 1980-94 is a census of firms in India and has been rarely used in literature. We also use the interesting chronology of reforms in India (industrial de-regulation in the 1980s and trade reforms in 1991) to test whether industries that faced more competition domestically tend to perform better when facing foreign competition. Our identification strategy uses an important institutional feature of Indian policy. Firms with assets below a certain defined rupee threshold were exempt from licensing requirements. This institutional feature provides us within-industry variation that allows us to identify the interaction between de-licensing and exemption status. We find that industrial de-regulation during the 1980s led to a significant rise in firm productivity. Further preliminary results suggest that there exists a strategic complementarity relationship between industrial and trade policies--industries and firms that were de-licensed tend to perform better vis productivity after trade liberalization. Our results are robust to the inclusion of a wide variety of firm and industry fixed effects and controls for policies other than de-licensing that may affect productivity. This chapter contributes to the literature by being the only detailed empirical analysis of the industrial licensing regime in India, especially the de-licensing that took place during the 1980s and by providing evidence of the crucial link between trade and industrial de-regulation.