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David Michael Gould

December 14, 2018 Vienna, Austria

CRITICAL

CONNECTIONS:

Promoting Economic Growth

and Resilience in Europe and Central Asia

For more details, data and the full report, please visit:

http://www.worldbank.org/en/region/eca/publication/critical-connections

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Why this report?

• The Europe and Central Asia (ECA) region has a rich history of regional integration and connectivity to the broader world economy.

• In ECA, regional and global connectivity has been a tremendous “convergence machine.”

• But the global economic crisis and various commodity price shocks, underscored the importance of understanding the benefits and potential risks of increased connectivity.

• Recent political developments (Brexit, elections, etc.) reflect underlying skepticism of the benefits to deepening cooperation, with voters increasingly favoring parties seeking greater national autonomy instead of greater regional and global

integration.

• ----Its key to understand the impact of connectivity

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

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What is unique about this study?

• Connectivity—or “globalization”—and its relationship to economic growth is often viewed in only one dimension (i.e., trade, migration, FDI, etc.)

• But various connections are often complements

• Ideas are transmitted through complementary connections

o Migration, trade, FDI, internet, finance, transport, etc.

• To whom you are connected to might be just as important as the type of connection

• Trade with Germany may be more important than trade with Algeria—not only due to the level of technological potential embodied in exports/imports— but also the connections of your partner’s connections

• Connectivity being “multidimensional” implies that shocks in one dimension (e.g., trade) can have adverse affects in other dimensions (e.g., FDI) as well.

Critical Connections: Promoting Economic Growth and Resilience

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Key findings

• ECA’s various forms of connectivity facilitates the transfers of technology that are critical to growth and shared prosperity. These connections complement each other.

• The depth of overall connections and the geographic composition of the connections both matter and emerge from firm linkages in global value chains as well as foreign ownership and management that generate local spillovers.

• Deep integration of countries into EU has generated important benefits to growth through knowledge transfers. Central Asia, Russia, and Turkey have benefited from regional connections as well, but the depth of connections is less pronounced.

• Increased connectivity can expose ECA countries to external shocks, particularly those emanating from countries at the center of international economic transactions.

• The remedy is not isolation—which sacrifices growth—but broadening the range of connections to reduce those risks and to cope with shocks

Critical Connections: Promoting Economic Growth and Resilience

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What does ECA’s connectivity look like?

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

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Trade has grown within ECA with Germany as the key hub, although China is taking a larger share

The size of each country-node reflects the total volume of trade. Each node has two outgoing links, which point to the country’s two top export partners

Critical Connections: Promoting Economic Growth and Resilience

2000 2014

Source: Authors’ calculations based on UNCTAD data.

ECA countries are shades of blue

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ECA’s inward FDI has grown, but inflows have increased from outside the region

Total FDI stocks (incoming and outgoing) of the country. Each country has two outgoing links that point to the two main FDI destinations for each country

Critical Connections: Promoting Economic Growth and Resilience

2002 2012

Source: Authors’ calculations based on UNCTAD data. ECA

countries are shades of blue

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ECA’s intra-regional migration has increased and is a larger share of global migration

Critical Connections: Promoting Economic Growth and Resilience

Foreign-born individuals in country plus the number of native-born citizens living outside the country. Outgoing links are the largest destinations of each country

2000 2010

Source: Authors’ calculations based on OECD data. ECA

countries shown in shades of blue

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The case of FDI and foreign management

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

How do connections transfer knowledge?

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Process of knowledge transfer through firms

Critical Connections: Promoting Economic Growth and Resilience

How technology flows from global frontier firms (GVC lead firms) to the rest

of the ECA firms

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Greater participation in GVCs is associated with higher export value added

Critical Connections: Promoting Economic Growth and Resilience

Growth in participation in supply chains

(2000-2011) Exports of value added per country

(2000-2011)

-10 0 10 20 30

Change in the ratio of exports over value added (in pct points) TUR

CZE POL BGR DEU SVK ROU SVN RUS HUN

0 5 10 15 20

Average growth per year (in percent) TUR

POL ROU BGR SVK CZE RUS DEU HUN SVN

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Do foreign-owned and managed firms do better than domestic-owned and managed? Are there spillovers?

 Use firm-level data (Orbis) from ECA countries

 There is a wide variation in foreign ownership/management across ECA (UK and Ireland about 30%, Hungary almost zero)

 Foreign connections confer benefits to firms, allowing them to have higher growth in operating revenues, jobs, and average wages

 Foreign ownership is linked to better management practices that can be transmitted from host to home countries

 There are also spillover benefits to local firms

Critical Connections: Promoting Economic Growth and Resilience

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Foreign owned and managed firms perform better than local firms

Critical Connections: Promoting Economic Growth and Resilience

0 5 10 15 20 25 30

Growth in Operating Revenues Growth in Jobs Growth in Average Wages

Locally owned, Foreign-managed Foreign-owned, Locally managed Foreign owned and foreign managed

Source: Based on regression analysis. Growth period 2010-2013.

All of the underlying coefficients are statistically significant.

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The case of ECA Transport Infrastructure

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

How is infrastructure facilitating

connections?

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Transport connectivity (cost and time) between and within ECA countries varies across ECA

Critical Connections: Promoting Economic Growth and Resilience

Passengers

Freight

0 10 20 30 40 50

Average Passenger Cost (€) Russia

Turkey Advanced Europe Central Europe Eastern Europe Central Asia Western Balkans South Caucasus

0 5 10 15 20

Average Travel Time (Hrs.) Russia

Central Asia Turkey Eastern Europe Central Europe South Caucasus Advanced Europe Western Balkans

Cost vs. Travel Time by Region - Domestic Passenger

0 500 1,000 1,500 2,000 Average Container Sending Cost(€) Russia

Central Asia Turkey Advanced Europe Eastern Europe Central Europe South Caucasus Western Balkans

0 .5 1 1.5 2

Average Container Delivery Time (dys) Russia

Western Balkans Turkey South Caucasus Eastern Europe Central Europe Central Asia Advanced Europe

Cost vs. Delivery Time by Region - Container Domestic

0 50 100 150

Average Passenger Cost(€) Russia

Central Asia Turkey Advanced Europe South Caucasus Eastern Europe Central Europe Western Balkans

0 10 20 30 40 50

Average Travel Time (Hrs.) Central Asia

Russia South Caucasus Turkey Eastern Europe Advanced Europe Central Europe Western Balkans

Cost vs. Travel Time by Region - Regional Passenger

0 1,000 2,000 3,000 Average Container Sending Cost(€) Russia

Turkey Central Asia Advanced Europe South Caucasus Eastern Europe Central Europe Western Balkans

0 .5 1 1.5 2 2.5

Average Container Delivery Time (dys) Russia

Central Asia Turkey South Caucasus Advanced Europe Western Balkans Eastern Europe Central Europe

Cost vs. Delivery Time by Region - Container Regional

Time Time

Time Time

Cost

Cost

Cost

Cost

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Cost-driven criticality in network of containers for Europe and Central Asia

Critical Connections: Promoting Economic Growth and Resilience

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What is Multidimensional Connectivity and its impact on growth?

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

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Intuition behind Multidimensional Connectivity

Critical Connections: Promoting Economic Growth and Resilience

Individual network layers are related to each other

Multidimensional Network

(collapsed)

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Empirical Results of Individual Connections on Growth

Critical Connections: Promoting Economic Growth and Resilience

0 0,1 0,2 0,3 0,4 0,5 0,6 0,7

Trade

Connectivity FDI

Connectivity Migration

Connectivity ICT

Connectivity Portfolio

Flows Airline Connectivity Overall growth

*** ***

*

*

0 0,1 0,2 0,3 0,4 0,5 0,6 0,7

Multidimentional Connectivity

***

Note: Significance level: * = 10 percent, ** = 5 percent,

*** = 1 percent

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Multidimensional connectivity varies by ECA-subregion, with the highest connectivity in the western part of the region, and lowest connectivity in the eastern part of the region

Critical Connections: Promoting Economic Growth and Resilience

ECA Sub-regions Multidimensional

connectivity Trade FDI Migration ICT Airline Portfolio

flows Global ranking, from the best to worst in combined connectivity (lower is better)

High connectivity

Western Europe 6 6 6 9 9 15 19

Northern Europe 12 12 17 26 21 23 22

of which Baltics 30 28 36 38 50 28 21

Southern Europe 25 24 26 21 28 23 22

Central Europe 31 27 34 36 41 46 46

Medium Connectivity

Russian Federation 55 53 61 28 63 64 83

Turkey 57 51 67 33 73 79 40

Eastern Europe 62 59 60 81 54 57 76

Low Connectivity

Western Balkans 88 75 97 45 88 86 99

Central Asia 94 99 93 101 101 103 101

South Caucasus 104 104 102 64 104 104 93

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Which countries are most affected by shocks?

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

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Most effected countries are those that derive connectivity via one or a few countries—not necessarily the most connected

Critical Connections: Promoting Economic Growth and Resilience

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Critical Connections: Promoting Economic Growth and Resilience

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Transmission of shocks depends on which type of link is affected

Critical Connections: Promoting Economic Growth and Resilience

Largest origin countries of shocks due to a 10 percent shock in Trade, FDI and Migration

ECA Region

Affected Trade Shock FDI Shock Migration Shock

Central Asia Russia/China Russia/China Russia/Germany

Central Europe Germany/ Netherlands Germany/Austria Germany/Austria Western Balkans Italy/Germany Austria/Hungary Italy/Germany South Caucasus Turkey/United States Russia/Kazakhstan Russia/Ukraine Eastern Europe Russia/Germany Russia/Germany Russia/Poland Russia Germany/United States Germany/Switzerland Germany/Ukraine

Turkey Germany/Italy Belgium/Netherlands Germany/Netherlands

Southern Europe Germany/France Belgium/Netherlands United Kingdom/Poland Northern Europe Germany/Netherlands Belgium/Netherlands Finland/Norway

Western Europe Germany/Netherlands Belgium/Netherlands Italy/United Kingdom

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Relative impact of Brexit (hypothetical) on the UK, EU, and others

(UK decreases all forms of connectivity with EU27 by 10%)

Most Affected (Ranking 1=largest impact)

1. United Kingdom 15. Italy

2. Malta 16. Poland

3. Ireland 17. Germany

4. Cyprus 18. Latvia

5. Netherlands 19. Finland

6. Denmark 20. Hungary

7. Luxemburg 21. Czech Rep.

8. Sweden 22. Senegal

9. France 23. Libya

10. Spain 24. Surinam

11. Norway 25. Slovenia

12. Greece 26. Fiji

13. Portugal 27. Iceland

14. Belgium 28. Austria

Critical Connections: Promoting Economic Growth and Resilience Note: The table ranks countries according to the impact on the countries from Brexit, with a ranking of 1 indicating the greatest impact.

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What is the progress on ECA connectivity policies?

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

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Progress on lowering barriers has stalled

Critical Connections: Promoting Economic Growth and Resilience

FDI restrictiveness index

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Restrictiveness in Telecom and Transport

Critical Connections: Promoting Economic Growth and Resilience

Note: FDIRRI = Foreign Direct Investment Regulatory

Restrictiveness Index

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Technical and sanitary and phytosanitary barriers are increasing

Critical Connections: Promoting Economic Growth and Resilience

Note: SPS = sanitary and phytosanitary; TBT = technical

barriers to trade

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EBRD Infrastructure Indicators

Critical Connections: Promoting Economic Growth and Resilience

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Key messages

 Being well-connected in the global network of countries of is important for long-run inclusive economic growth.

 Because of complementarities in types of connections, a balanced connectivity profile is more important than being well connected in a

single dimension. Deep and comprehensive FTAs, BITs, migration policy, and transport are a way to achieve this.

 Increased connectivity can expose ECA countries to external shocks, particularly those emanating from countries at the center of

international economic transactions.

 The remedy is not isolation—which sacrifices growth—but broadening the range of connections to reduce those risks and to cope with shocks.

Critical Connections: Promoting Economic Growth and Resilience

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Thank you!

CRITICAL CONNECTIONS: PROMOTING ECONOMIC GROWTH AND RESILIENCE IN EUROPE AND CENTRAL ASIA

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