Getting Out of the Rut

• Author: Danny Leipziger and Roberto Zagha
• Position: Vice President of Poverty Reduction and Economic Policy at the World Bank/Senior Advisor in the same unit

Applying growth diagnostics at the World Bank

Not all distortions are borne equal. Effective growth strategies tackle the one or two most "binding constraint(s)" as they emerge over time. This is the central lesson from the World Bank's review of growth experiences of the 1990s (World Bank, 2005). But applying this lesson is easier said than done. The growth diagnostics framework proposed by Harvard's Ricardo Hausmann, Dani Rodrik, and Andrés Velasco (see "Getting the Diagnosis Right" on page 12) offers an appealing way forward because of its focus on the basic foundations of sustained growth-capital accumulation and entrepreneurship-its intuitive economic logic, and its ability to rank reforms according to their impact on growth. This approach helps differentiate reforms essential for growth from those that are merely desirable because of efficiency gains. The distinction is important because, in addition to growth, governments have many other welfare improving objectives-from protecting the environment to creating a more responsive public administration-all of which are important, but not necessarily related to growth.

To explore the potential of the growth diagnostics framework and clarify its strengths and limitations, Hausmann, Rodrik, and Velasco agreed to work with World Bank economists, with Professor Barry Eichen-green (University of California, Berkeley) serving as an independent check. During 2005, Bank economists applied the method to 12 pilot studies (Armenia, the Baltic countries, Bangladesh, Bolivia, Brazil, Cambodia, Egypt, India, Madagascar, Morocco, Tanzania, and Thailand), subjected the results to review and discussion, and in some cases changed their analysis and policy recommendations as a result. However, the framework was not applied with the same rigor and depth in all the pilot studies. Many unresolved issues remain, and it is, therefore, too early to make a definitive assessment. But we have already learned some preliminary lessons.

First, the identification of binding constraints to growth is "disciplined art" more than science, as Nobel Prize Laureate Mike Spence put it recently. The growth diagnostics approach provides a framework for formulating hypotheses on what may be constraining growth. But it provides neither the hypotheses nor the empirical tools for testing them-both these tasks rely on the creativity of the analyst and his or her ability to formulate...