Why Are Firms in High-income Economies More Productive than in Middle-income Economies? Decomposing the Firm Labor Productivity Gap

Studies have noted that output per worker varies enormously across countries. Using firm-level survey data, the present paper contributes to the related literature by analyzing difference in labor productivity between firms in 22 upper middle-income and 11 high-income countries. Labor productivity in upper-middle-income countries is about 57.5% lower than in high-income countries. The Oaxaca-Blinder decomposition analysis of the productivity gap reveals that the gap is somewhat larger due to differences in the level of contributory factors (endowment effect) than due to differences in the returns to such factors (structural effect). That is, 55.2% of the productivity gap is due to endowment effect and the remaining 44.8% is due to structural effect. The biggest contributors via the endowment effect include tertiary education attainment, law and order, and quality management. Factors that contribute most via the structural effect include secondary education attainment, market size, and law and order. Thus, our results underline the importance of human capital, institutions and market size for the upper middle-income countries aspiring to become high-income countries.