Effect of Infrastructure on Economic growth in Pakistan: Time series evidence

First Author Saiyed Muhammad Fauzan Ali MBA candidate, Iqra University Karachi, Pakistan Email: saiyedfauzan@live.com Second Author AyazAslamRattani MBA candidate, Iqra University Karachi, Pakistan Email: ayaz.rattani@iunc.edu.pk

Abstract This study investigates the effect of infrastructure on Economic growth in Pakistan by using annual time series data from the period 1990 to 2009. Least squared method is used to estimate the results of the impact of infrastructure growth on GDP. The variables transport and gas are considered and results show that transport and gas both have significant effect on Economic growth of Pakistan. It is suggested that policy makers should be focused on improving transport and gas consumption in order to enhance the economic growth of Pakistan. Key Word: Infrastructure, Gas Consumption, Transport, Economic Growth

1. INTRODUCTION There is a link between infrastructure and the economic development outcome; infrastructure affects the lives of every individual in the world, poor infrastructure causes bottleneck in the growth of an economy. In Pakistan infrastructure is poor as compared to the international standards, the improvement of infrastructure is highly important for sustaining economic growth. Pakistan has lost about 4 to 6 percent of its GDP due to insufficiency; logistical bottlenecks have resulted into a 30 percent increase in the cost of production, whereas Pakistan is facing tough competition from countries like China and India in the export market. Pakistan requires investment of around 7-9 percent of its GDP for the improvement of infrastructure. According to a report published by State Bank of Pakistan, in 2010 Pakistans target for infrastructure growth has been around $25.5 billion that is 15 percent of its GDP and according to the medium term development framework (MTDF) Public sectors investment in the infrastructure sector from 2005-10 has been around $16 billion. This funding gap between the investment required and the total investment by the public sector is expected to be filled by the private sector. However, private sectors are concentrated on financing in the telecommunication and financial sectors, they should be encouraged to finance in other infrastructure sectors as well.

Numerous studies on infrastructure have been made and empirical analyses have focused on the industrial countries due to limitation of data. All of these studies found infrastructure to be an effective factor in the economic development of a country. People living in the developing countries are aware of how poor infrastructure affects the many aspects of daily

life. The World Bank investment climate assessment indicates that between 20 percent in East Asia and 55 percent in the Middle East view the shortcomings in electricity, telecommunication and transport to be a major bottleneck in doing business. If we apply this to the samples by Guatemala, Honduras and Nicaragua (Escribano and Guasch, 2006), they discovered that one percent increase in the average duration of power outage results into a decrease in productivity by 0.02 to 0.1 percent, while access to internet increases productivity by 11 to 15 percent. This shows that infrastructure quality matter for firms productivity and growth, and the output and productivity differences that we observe in different countries could be due to different endowments of such capital. This paper examines the impact of infrastructure quality on economic growth of Pakistan The rest of the paper is ordered as follow: Literature review has been discussed in chapter 2, methodology is presented in chapter 3, results and estimation are presented in chapter 4, and the final chapter presents conclusion and policy recommendation.

2. Review of Literature

a) Theoretical Background Most of the literature on economic growth measures the impact of infrastructure through the standard production function; an increase in the infrastructure capital would have a direct increasing effect on the productivity of the other factors. However, various studies point out a number of weaknesses in the methodology and estimation of these approaches on measuring the impact of infrastructure capital on economic growth. We provide a brief synopsis of the theoretical considerations that might explain the links between transportation infrastructure improvements, gas consumption and the economic growth.

The two most cited explanations relating transport improvement to economic growth in the literature has been that proximity to transportation networks have a moderate positive causal effect on per capita GDP levels across sectors. However the above only impacts on productivity of per capita GDP level and not per capita GDP growth. They filter down to enhanced productivity and economic growth through the following channels namely, reorganization and rationalization of production, better productivity and higher level of private (inwards and foreign direct) investment, wider markets, increased specialization and economies of scale, and also effects on labor market supply , labor costs and labor productivity.

b) Empirical Studies Most of the empirical studies suggest that improvement in infrastructure enhances economic growth and an improved infrastructure has a positive effect on GDP. This section discusses below review of some selected cross country studies. Banerjee, Duflo, and Qian(2012) examine the relationship between transportation infrastructures on economic growth by using basic empirical strategy, but substantially less data. Transportation infrastructures and economic growth are considered. Simple theoretical framework technique has been used. Results show that proximity to transportation networks have a moderate positive causal effect on per capita GDP levels across sectors, but no effect on per capita GDP growth. It is suggested that factor mobility playing an important role in determining the economic benefits of infrastructure development. Jan, Chani, Pervaiz and Chaudhary (2012) have examined that there is a relationship between physical infrastructure and economic development of Pakistan and infrastructure growth causes a positive impact on the economic development of the country by using data from 1973 to 2008. Various infrastructure variables have been used i.e. transportation

infrastructure, energy infrastructure and telecommunication infrastructure. Johansen co integration Technique has been applied to confirm the existence of co-integration among the variables of our interest. Results show that co-integration exists among the variables of economic development, employed labor force, gross private fixed capital formation and physical infrastructure and the variables of employed labor force; gross private fixed capital formation and physical infrastructure have statistically significant and positive effect on economic development of Pakistan. It is suggested that physical infrastructure is an important determinant of economic growth of Pakistan, A 1% increase in infrastructure facilities increases the aggregate GDP level of GDP by 47%. Thus Pakistan should work on its physical infrastructure and infrastructure facilities in order to increase the economic development growth. Seetharam and Varadharajan (2008) examine the relationship between infrastructure and economic growth by using time series data from 1980 to 2001. Telephone penetration and economic growth are considered. Causal method and systems methods technology have been used. Results show positive impacts of mobile and landline phones on national output, when effects of capital and labor are controlled. It is suggested that economic growth is largely possible only by decreasing the digital divide, and endowing residents of developing countries through information regarding prices, job opportunities, and markets. This is not a substitute for actual economic growth, and also may not offset negative economic effects caused by overarching exogenous shocks, but a good enabler for economic growth to drop down, once it occurs. Boopen (2006) examines the relationship between infrastructure and economic growth by using time series data from 1980 to 2000. Transport capital development and economic growth are considered. Cross section and panel data analysis techniques have been used. Results show that transport capital contributes to the economic progress; it is

furtherrevealedthat the productivity of transport capital stock is greater as compared to that of overall capital.It is suggested the government would be better off in taking advantage of World Banks and other international institutions infrastructural and developmental loans instead of capital expenditure cuts from the budget.

Canning and Pedroni (1999) examine the relationship between infrastructure and economic growth by using time series data from 1952 to 1992. Telephones, paved roads and economic growth are considered. Simple tests (panel co integration test, panel unit root test, Granger Causality test) techniques have been used. Results show that telephones and paved roads impact on the average growth maximizing level, but are under supplied in some countries and over supplied in others. It is suggested that the finding of optimality, even if just on average, is more surprising. Charlot and Schmitt (1999) examine the relationship between infrastructure and economic growth by using time series data from 1982 to 1993. Public infrastructure and regional growth are considered. Endogenous growth models and Cobb-Douglas function techniques have been used. Results show a positive impact of public capital on regional growth, even if we take into account of data-related effects and of possible simultaneity in determining regional output and regional public capital.It is suggested that many explanatory factors for the regional production level are missing from the relation tested. There is cause to investigate these factors and in particular the impact of interregional mobility of inputs and agglomeration economies. Evans and Rauch (1999) examine the relationship between infrastructure and economic growth by using time series data from 1970 to 1980. GDP and human capital are considered. Weberianness scale technique has been used. Results show that "Weberian" characteristics significantly improve forecasts for economic growth, even when we control for initial levels

of GDP per capita and human capital. It is suggested that policy makers should be more attentive to building better bureaucracies and social scientists should make more researches on variations in how state bureaucracies are planned.

Tanzi and Davoodi (1997) examine the relationship between Infrastructure and economic growth by using time series data from 1980 to 1995. Public Investment, Public Infrastructure, Corruption and Growth are considered. Empirical analysis technique has been used. Results show that corruption increases public investment while reducing its productivity. It is suggested that economists should be more reserved in their praise of high public sector investment on public Infrastructure, especially in countries with high corruption.

3. Methodology According to our empirical studies, the equation for economic growth (GDP) is expressed as a function of Infrastructure [transport (TR) and gas (G)]. We have used the following equation to examine the results of our study.

In the above equation, TR represents the variable transport and G represents the variable Gas. All of the data used in our study from 1990 to 2009 is taken from various economic surveys, World Bank and state bank of Pakistan.

4. Results and estimation To determine the long run relationship among the considered variables, Least Squared method technique was applied. Results of the test are given in Table I.

Table I Variable C Log(TR) G Adjusted R-squared F-statistic Prob.(F-statistic) Coefficient

8.869186 1.267289 6.55E-07

t-Statistic
1.197856 2.046064 1.916958 0.694 22.54574 0.000017

Prob.
0.2474 0.0565 0.0722

We have applied log on independent variable transport and dependent variable GDP. The above table shows that C which is constant has a value of 8.869186. Our results indicate that both transport and gas have a positive significant effect on the economic growth of Pakistan; however Transport has a strong effect as compared to Gas consumption. If transport increases by 1 percent GDP will increase by 1.26% and if Gas consumption increases by 1 unit then GDP will increase by 0.000000655%. The Prob. value of TR is 0.0565 which is less than 0.1 which means that transport has a positive significant impact on economic growth. The prob. value of G is 0.0722 which is also less than 0.1 which means that Gas also has a positive significant effect on GDP. Adjusted R-squared shows that if there is a variation in independent variables, there will be 69.4% change in dependent variable.F-statistics value is 22.54;Prob.

(F-statistics) value is 0.000017 which is less than 0.1 which clearly shows that there is a combine significant impact of independent variables on dependent variable (GDP). 5. Conclusion and recommendation A large amount of literature has widely discussed the relationship between Infrastructure and economic growth. Our study empirically examines the effect of infrastructure on economic growth of Pakistan and for that we have considered the two variables transport and gas. We have used annual time series data from 1990 to 2009 and results indicate that both the variables have a positive significant effect on the economic growth of Pakistan; according to the coefficients Transport has a relatively stronger impact on GDP than Gas consumption while both the variables are good predictors of GDP growth. In the light of the findings, it is suggested that Pakistan policy makers should be more focused on improving physical infrastructure and gas consumption in order to enhance economic growth, Natural resources should be utilized and public investment should be made on transport infrastructure. It is also recommended that further research should be done comparing various components of physical infrastructure and energy with GDP growth in order to have a better insight on the effect of infrastructure over GDP growth and to enhance the economic growth of Pakistan.

REFERENCES Banerjee, A.Duflo, E. and Qian, N. (2012), On the road: access to Transportation Infrastructure and Economic Growth in China, Working Paper No. 17897. Boopen, S. (2006), Transport Infrastructure and Economic Growth: Evidence from Africa Using Dynamic Panel Estimates, The Empirical Economics Letters, 5(1): ISSN 1681 8997. Canning, D. and Pedroni, P. (1999), Infrastructure and Long Run Economic Growth, Discussion Paper 57. Charlot, S. and Schmitt, B. (1999), Public Infrastructure and Economic Growth in Frances Regions, Paper (# 129) for ERSA 39th Congress, Dublin, Ireland, 23-27. Evans, P. and Rauch, J. (1999), Bureaucracy and Growth: A Cross-National Analysis of the Effects of "Weberian" State Structures on Economic Growth, American Sociological review: vol. 64, No. 5. Jan, S. Chani, M. Pervaiz, Z. and Chaudhary, A. (2012), Physical Infrastructure and Economic Development in Pakistan, Middle-East Journal of Scientific Research11 (2):216 220. Seetharam, S. and Varadharajan, S. (2008), Telecommunications Infrastructure and Economic Growth: Evidence from Developing Countries, Vol.7-2 (2007). Tanzi, V. and Davoodi, H. (1997), Corruption, Public Investment, and Growth, IMF Working paper 99/85.