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Are Foreign and Public Capital Productive in the Mexican Case? A Panel Unit Root and Panel Cointegration Analysis

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Abstract

Using panel data, this paper tests whether foreign, public, and private capital have a positive and significant effect on aggregate output and labor productivity for Mexico during the 1960–2001 period. The richer information set made possible by the sectorial data enables this study to utilize the methodologically sound “group-mean” fully modified ordinary least squares procedure developed by Pedroni to generate consistent estimates of the relevant panel variables in the cointegrated production (labor productivity) function. The results suggest that, in the long run, changes in the stocks of public and private capital and the economically active population have a positive and economically significant effect on output (and labor productivity) in all sectors. By contrast, changes in the stocks of foreign capital have a mixed effect, with a negative and statistically significant effect on output (and labor productivity) in the services sector; a positive and economically significant impact on output (labor productivity) in the industrial sector, and a positive but insignificant effect on output (labor productivity) in the primary sector. The period is also broken down into two sub-periods: 1960–1981 (state-led industrialization) and 1982–2001 (“neoliberal” model). The estimate for the public infrastructure capital variable clearly shows that it had a positive and relatively important economic effect during the earlier state-led import substitution industrialization (ISI) period, whereas the private capital variable remains positive and significant in both periods. The foreign capital variable has a positive and highly significant effect during the ISI period, but, turns unexpectedly negative and economically significant in the so-called neoliberal period.

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Notes

  1. For example, private investment as a proportion of GDP stood at 16.3 percent in 1993, and after the “peso crisis” of 1994–1995, fell sharply to 12.4 percent in 1995. It then rose to 18.3 percent in 1997 following the country's recovery (fueled by rapid growth in the US), only to fall again to 15.9 percent in 2001, as a result of the downturn in the US economy. Based on author's calculations and investment data in Everhart and Sumlinski [2001], Table C1, p. 58.

  2. [See INEGI 1999; IFC 2001].

  3. This paper ignores the impact of public (foreign) investment spending on the relative prices that private firms face for key inputs and services. If increases in public (foreign) investment on economic and social infrastructure reduce the relative price of energy, transportation, and human capital to firms in the private sector, it will, ceteris paribus, reduce their prime costs, raise profit margins, and spur further investment and output.

  4. The widespread practice of awarding concessions to private firms in countries such as Chile and Mexico may obviate the need for the public sector to supply these public goods directly. However, Prager [1992] notes that relatively little attention has been given to the monitoring or supervision costs of outsourcing public works projects. If these costs are substantial, then the bias in favor of privatizing these types of expenditures is removed.

  5. There may be institutional and/or legal reasons for this cross partial to be positive. During the ISI period (1946–1981), for example, foreign investors were allowed to invest in Mexico only if they did so with a domestic partner(s), often including state-owned enterprises. Thus, the cross partial may be positive as a result of an institutional/legal requirement in the form of a joint venture. For further details, see Ramirez [1989], Looney [1985], and Lustig [2001].

  6. The complementarity hypothesis has been criticized because there are indirect negative effects that arise from the financing of infrastructure expenditures with government bonds, the printing of currency, higher current and future taxes, and increased foreign borrowing in structurally weak banking and financial sectors. Thus, the positive effects from public investment spending may be offset by the combined crowding-out effects arising from both the financing and promotion of these types of expenditures [see Devarajan and Heng-fu 1994; Green and Villanueva 1991].

  7. Population data have been used as a proxy for the labor force in a number of studies, but this imposes the unrealistic assumption of a constant labor force participation rate, thus generating relationships that are misspecified and subject to significant measurement error.

  8. The initial stocks of private, foreign, and public capital were constructed on the basis of the methodology first developed by Harberger [reported in Hoffman 2000, pp. 276–77]. To ensure the robustness of the results, other estimates of the rate of depreciation were used (2.5 and 7 percent), as well as different estimates of the initial capital stock (summing over 5 years), but the results were not altered significantly.

  9. Pedroni [1999a] shows that the “within-dimension statistics are constructed by summing both the numerator and the denominator terms [of the panel cointegration statistics] over the N dimension [cross-sections] separately, whereas the between-dimension statistics [referred to as group cointegration statistics] are constructed by first dividing the numerator by the denominator prior to summing over the N dimension” [p. 6]. Pedroni notes that because the between-dimension statistics do not presume a common first-order autoregressive parameter, they add “an additional source of potential heterogeneity across individual members of the panel” (ibid.).

  10. One of the attractive features of Pedroni's tests is that “ … they allow the cointegrating vector to differ across members under the alternative hypothesis” [p. 4]. Thus, if homogeneity is incorrectly imposed, “the null of no cointegration may not be rejected despite the fact the variables are actually cointegrated” (ibid.).

  11. Pedroni [1999b] shows that the bias of the group mean FMOLS estimator is very small. In general, provided that T exceeds N, the small sample properties of both the estimator and the associated t-statistic are extremely well behaved. For a concrete application of this recently developed methodology to a test of the Purchasing Power Parity Hypothesis, see Pedroni [2001, pp. 727–31]; see also an interesting study by Dreger and Hans-Eggert [2004, pp. 1–17], who use this methodology to test whether health care expenditures are a luxury good in OECD countries.

  12. The negative estimate for the foreign capital variable might be due to a high degree of collinearity with the private and public capital variables, so the model was re-estimated without these variables. However, this did not alter the qualitative results in any significant manner.

  13. Pedroni [2001] observes that, despite their widespread use in panel estimation, common time dummies cannot account for other forms of dependency, such as those that arise from “ … dynamic feedback effects that exist between variables of different [cross sections] … ” [p. 730]. He proposes using a GLS-type approach to account for these (non-contemporaneous) effects that is beyond the scope of this paper. For further detail, see Pedroni [1999b, pp. 28–29].

  14. The simultaneous inclusion of both common time dummies and the D1 and D2 dummy variables in equations (2) and (3) is redundant because it generates 0 for all entries and a non-invertible matrix.

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Acknowledgements

I thank the editor, Joyce P. Jacobsen and two anonymous referees for their useful comments on an earlier draft. Any remaining errors are my responsibility.

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  1. Department of Economics, Trinity College, 300 Summit street, Harford, 06106, CT, USA

    Miguel D Ramirez

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Ramirez, M. Are Foreign and Public Capital Productive in the Mexican Case? A Panel Unit Root and Panel Cointegration Analysis. Eastern Econ J 36, 70–87 (2010). https://doi.org/10.1057/eej.2008.55

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