Economic Classification Policy Committee

                                    Issues Papers

                                  Issues Paper No. 4
                         Criteria for Determining Industries

                                     October 1993

          Note to reader:  This is the fourth in the series of Economic
          Classification Policy Committee issues papers.  The first two,
          Issues Paper No. 1, "Conceptual Issues," and Issues Paper No. 2,
          "Aggregation Structures and Hierarchies," were published in the
          Federal Register, March 31, 1993, pp. 16990-17004.  Copies are
          available by writing to Brenda M. Erickson, Economic
          Classification Policy Committee, Bureau of Economic Analysis
          (BE-42), U.S. Department of Commerce, Washington, D.C. 20230, or
          by telephone at 
          (202) 606-9615, FAX (202) 606-5311. 

                       Economic Classification Policy Committee
                                  Issues Paper No. 4

                         Criteria for Determining Industries

          Introduction

            Past revisions of the U.S. Standard Industrial Classification
          (SIC) system have employed a set of "guidelines," or "technical
          criteria," for determining when a new 4-digit SIC industry should
          be established, or an existing industry should be discontinued. 
          An appendix, "Economic Significance and Specialization and
          Coverage Ratios:  Historical Notes and Detailed Examples"
          (henceforth, "Appendix") provides more information on these
          technical criteria, as well as information on similar criteria
          that have been employed in Canada.    
            Two criteria have been emphasized in past U.S. SIC revisions: 
          (1) the economic significance of the industry, and (2)
          specialization and coverage ratios.  These two criteria are
          discussed in sections 4.1 and 4.2, below.  Other criteria used in
          previous revisions are summarized in section 4.3.  The final
          section of the paper considers alternative statistical tests for
          distinguishing industries.  These methods might supplement
          criteria used in the past, and would be appropriate for
          conceptually-based classification systems, such as those
          discussed in ECPC Issues Paper No. 1, "Conceptual Issues" [3].

          4.1  Economic Significance

            The U.S. "economic significance" criterion refers to the size
          of a 4-digit industry, relative to the average size of industries
          in its particular SIC Division (Manufacturing, for example, is
          SIC Division D--see 1987 SIC Manual [8], p. 701).      Five size
          variables are incorporated into the economic significance
          measure:  The number of establishments in the industry, the
          industry's number of employees, its payroll, its value added, and
          its value of shipments.  A weighted average of the five size
          variables (with weights 1, 2, 1, 2, and 1, respectively, as
          described in the Appendix) is constructed.  This weighted size
          measure is expressed relative to a similarly-computed measure of
          the average size of existing industries in the pertinent SIC
          Division.  A weighted average of 20 for a manufacturing industry,
          for example, has the interpretation that the industry is 20
          percent of the average size for manufacturing industries, and is
          described as that industry's measure of economic significance. 
                                                  _____________________
          The Appendix presents an example of the calculation of the
          economic significance measure and discusses the rationale for the
          procedure.
            Past practice in the United States has required that an
          emerging industry achieve an economic significance, or
          weighted-size measure, of at least 20 to warrant adoption as a
          4-digit SIC industry.  An existing SIC industry has been retained

          ECPC Issues Paper No. 4                                         2
           

          so long as it achieved a weighted size measure of at least 10. 
          The differential imparts stability to the classification. 
            The Appendix also presents criteria adopted by Statistics
          Canada for determining the economic significance of industries. 
          The Canadian economic significance measure is constructed from
          gross output, which is similar to value of shipments.  In the
          Canadian system, size measures are used as threshold values for
          accepting new industries and for retaining existing industries. 
          A manufacturing industry with over $60 million (Canadian) of
          output, using 1975 data, was considered to be of sufficient
          economic significance to be recognized in the 1980 Canadian SIC. 
          Those below $60 million (Canadian) were reviewed and some were
          recognized if there were analytic reasons for doing so.  For
          example, the industry might be an emerging, new industry expected
          to become significant in the future.  Ratios to divisional
          averages are not computed in Canada.   

          Discussion

            Presumably, some measure of the economic significance of an
          industry will always play a part in economic classification
          systems.  A government program for publishing industry statistics
          can hardly ignore the size of the industry for which data are to
          be collected and published.  It may cost nearly as much, for
          example, for a statistical agency to collect and publish
          statistics for a tiny industry as for a very large one.  ECPC
          Issues Paper No. 3, "Collectibility of Data" [3], discusses the
          costs and burdens that are associated with collecting data.     
            It is not clear, however, that the formula used in past U.S.
          SIC revisions provides an appropriate measure of "economic
          significance."  The variables now incorporated into the U.S.
          economic significance measure (value added, payroll, and so
          forth), the weighting scheme used in averaging the variables, and
          the scoring cutoffs (20 percent and 10 percent) might all be
          questioned.  Should the existing set of industry size variables
          be modified, expanded, or replaced?  On what basis can the
          weights be justified?  Should the same set of size variables be
          used in all sectors of the economy, or are the economic
          significance variables that are appropriate for services
          different from those that are appropriate for goods?
               Another problem arises because, in the U.S. economic
          significance measure, an industry's size is expressed relative to
          the average size for industries within its own SIC Division. 
          This relative size computation creates a bias against forming new
          industries in nonmanufacturing sectors of the economy.  
            To illustrate, average employment in 4-digit SIC manufacturing
          industries in 1990 was just over 40,000; average employment in
          4-digit SIC services industries, on the other hand, was 177,000,
          and in retail trade, over 300,000.  The employment figures
          suggest (in practice, five size variables are used, not just

          ECPC Issues Paper No. 4                                         3
           

          employment) that a new service industry has to be roughly 4 times
          as large as an emerging industry in the manufacturing sector
          before it meets the "20 percent rule" of the economic
          significance test, and a proposed retail trade industry must be 7
          times as large as a proposed new 4-digit manufacturing industry.
            The relative size formulation thus paradoxically facilitates
          the creation of new 4-digit industries in the Manufacturing
          Division, where the SIC system is already highly developed. 
          Conversely, it inhibits their formation in the services and
          distribution sectors where the fastest economic growth is
          occurring.  The economic significance test biases the whole SIC
          system against recognizing new industries outside the traditional
          goods-producing sectors.  This is a major defect in a U.S.
          economy that is increasingly devoting its resources to the
          production of services.      
            The Canadian size criterion, described above, does not contain
          a bias toward establishing new manufacturing industries, since
          the size cut-off rule ($60 million, Canadian) applies across all
          sectors.  One might also define a size rule as some fraction of
          gross domestic product, or total employment.  
            A related issue is whether the economic significance criterion
          should be applied nationally or on some subnational basis.  All
          statistical agencies operate under disclosure restrictions. 
          Publication disclosure rules that are satisfied nationally may be
          violated at subnational levels.  If industry size is to be a
          criterion for a future classification system, should that size
          criterion be imposed so as to assure the availability of regional
          or state industry data?  If so, disclosure rules would require
          that new industries meet a larger national size standard than
          might otherwise be the case.  
            Finally, is the size of an industry an adequate way of
          representing its economic significance?  A small industry may
          have an economic significance out of proportion to its value of
          shipments, employment, payroll, and so forth.  An "objective"
          application of an economic-size criterion might eliminate
          information on a small industry that is important for the
          understanding of productivity, technical change, and U.S.
          international competitiveness.

          The Committee's Position

            If economic significance is a technical criterion for
          establishing 4-digit industries, then it is necessary to
          demonstrate that the present economic significance measure
          results in appropriate industries, or that modifications to it
          create a more nearly appropriate set of industries.  The economic
          significance measure should be evaluated by the concepts that are
          to underlie the classification system, and the results from its
          application should be evaluated according to the intended uses of
          industrial statistics (ECPC Issues Paper No. 1 discusses concepts

          ECPC Issues Paper No. 4                                         4
           

          for industry classification systems).  It is not clear that the
          size measure of economic significance used in the past provides
          an adequate technical criterion for recognizing and delimiting
                      _________
          4-digit industries.  
            If size is strictly a pragmatic consideration, on the other
                                  _________
          hand, as it is in the Canadian SIC, one may not need a complex
          formula.  Industry size would merely place a common-sense limit
          on the amount of industrial data that can be collected and
          published.    

          Request for Comment

            The Committee welcomes comments on all aspects of the existing
          economic significance criterion for defining industries.
               Are the size variables (number of establishments, value of
               shipments, value added, employees, payroll) appropriate, or
               should they be supplemented or replaced by other measures?  
               Should different size variables be used in different sectors
               of the economy?  Should the appropriate size variables for
               services, distributive and network industries, and other
               nongoods producing industries be the same as those
               traditionally used for the manufacturing and other goods
               producing sectors?
               Should weighting of the size variables be dropped or
               modified?  Should the relative size, ratio form calculation
               (expressing the industry's size relative to the average
               industry size in its own SIC Division) be dropped or
               modified?
               Should the historical thresholds (the weighted size measure
               of 20 percent for forming new industries and 10 percent for
               retaining old industries, both measured relative to the size
               of the average 4-digit industry within major divisions) be
               retained, or should some other approach be followed?
               Should the United States adopt a size criterion similar to
               or adapted from the Canadian method?  That is, should
               industry size be a pragmatic, flexible rule for limiting
               collection costs, rather than a major principle employed in
               developing and maintaining the system?  
               Should the classification system place more emphasis on
               reacting quickly to new and emerging industries, and place
               less emphasis on a mechanical size rule, with the inertia
               that it implies for recognizing new and emerging industries? 
               If so, what criterion should be used?  
          Recommendations regarding alternative criteria of economic
          significance that address the concerns with existing practices
          are also sought.

          4.2  Specialization and Coverage Ratios

          ECPC Issues Paper No. 4                                         5
           

            Specialization and coverage ratios, taken together, are the
          second major criterion used in past SIC revisions. 
          Specialization and coverage ratios are descriptive statistics
          that have served in the past as measures of homogeneity in
          industrial classification.  These ratios in the United States are
          calculated only for manufacturing industries, because the
          necessary data have not been available for nonmanufacturing
          sectors.
            The specialization ratio measures the degree to which the
                ____________________
          establishments in a given industry concentrate on the primary
          products that define that industry (the SIC Manual [8] lists each
          4-digit industry's primary products, though these are not always
          complete listings).  The numerator of an industry's
          specialization ratio states the value of shipments of the
          industry's primary products by establishments classified in the
          industry; the denominator states the value of such shipments for
          the industry's primary and secondary products combined.  For
          example, the Steel Works, Blast Furnaces (Including Coke), and
          Rolling Mills industry (SIC 3312) has a specialization ratio of
          98 percent.  This means that for establishments classified in the
          steel works, blast furnaces, and rolling mills industry,
          98 percent of their value of shipments derives from the primary
          products of this industry.  Only 2 percent of this industry's
          shipments consist of secondary products, that is, products that
          are produced by establishments in SIC 3312 but are primary
          products in other 4-digit SIC industries.
            The coverage ratio measures whether the establishments
                ______________
          classified in an industry account for a high proportion of the
          economy's shipments of the primary products on which the industry
          is defined.  The numerator of an industry's coverage ratio states
          the value of shipments for the industry's primary products (same
          as the numerator for the specialization ratio); the denominator
          of the coverage ratio states the total value of shipments of
          those same primary products, wherever those products are made
          within the Manufacturing Division (any production of these
          products outside the Manufacturing Division is not used in the
          calculation).  For example, the coverage ratio for SIC industry
          2515, Mattresses, Foundations, and Convertible Beds, is
          83 percent.  This means that 83 percent of the Manufacturing
          Division's total shipments of the mattress and bedspring products
          that are primary to SIC industry 2515 are actually produced in
          SIC 2515.  The remaining 17 percent of these products are
          produced as secondary products in other manufacturing industries.
            Specialization and coverage ratios are used as measures of the
          appropriateness of an industry definition.  In the United States,
          an industry is recognized only if the specialization ratio is at
          least 80 percent and, in general, the coverage ratio is at least
          70 percent.  However, as explained in the Appendix, the threshold
          value for the coverage ratio differs according to whether the

          ECPC Issues Paper No. 4                                         6
           

          products are made for commercial sale, for consumption within the
          same establishment, or are made from purchased materials.
            In the United States, only the census of manufactures collects
          the extensive product information needed to calculate
          specialization and coverage ratios.  Comparable product or
          services data are not collected in the economic censuses for the
          nonmanufacturing sectors, i.e., only primary product information
          is collected.  For this reason, specialization and coverage
          ratios are available only for manufacturing industries. 
          Moreover, the ratios are calculated only for establishments that
          have payrolls.  In some industries, though probably not many
          manufacturing ones, sales from sole-proprietor, nonemployer firms
          may be substantial.  Finally, miscellaneous receipts derived from
          other than primary or secondary products are not used in the
          calculation of the specialization ratio.
            Canada also calculates specialization and coverage ratios,
          generally using the same methods as the United States.  In some
          instances, however, the Canadians calculate specialization and
          coverage on an "economy-wide" basis, in contrast to the United
          States, where the calculations are made only within the
          Manufacturing Division.  Canada requires that the specialization
          ratio be at least 70 percent, and the coverage ratio be at least
          75 percent for 4-digit industry status.  In addition, the
          Canadians use the coverage ratio at the 3-digit, 2-digit, and
          divisional levels as a rationale for assigning certain activities
          within the classification, e.g., tire retreading is placed in the
          Canadian wholesale trade in tires industry because the latter in
          Canada is the major producer of retreads.

          Discussion

            Specialization and coverage ratios are useful, but have
          limitations.  

            (a) Primary and secondary product definitions

            Ambiguity arises because specialization and coverage ratios
          are each a function of the way the industry's primary products
          are defined.  This matter is somewhat complex and may be
          illustrated with a hypothetical example.
            Suppose that two new industries are being considered, for
          which specialization and coverage ratios are to be computed.  The
          two industries produce six distinct goods and services,
          designated as A, B, C, D, E, and F.  The two industries under
          consideration contain only establishments that produce goods A,
          B, C, and D, but the products E and F are primary to other
          4-digit industries.  Hypothetical data are presented in Table 1.
            In Table 1, products A and B are defined as primary products
          in industry 1.  Establishments in industry 1 also produce as
          secondary products C and E (secondary products are products that

          ECPC Issues Paper No. 4                                         7
           

          are primary to another industry).  Products C and D are primary
          to establishments in industry 2, with products A and F being
          secondary to this industry.  
            The specialization ratio for industry 1, as calculated from
          data in Table 1, is 73, [(A+B)/(total production in industry
          1)=(48+25)/100]; for industry 2, the specialization ratio is 75,
          [(C+D)/(total production in industry 2)= (30+45)/100].  In this
          example, neither set of establishments achieves the required
          specialization ratio (80 or above) for designation as a 4-digit
          industry. 
            The coverage ratios for industries 1 and 2 are 94,
          [(25+48)/(25+48+5)], and 91, [(30+45)/(30+45+7)], respectively. 
          Note that the coverage ratio is high for industry 1 because
          product C does not appear in the denominator of industry 1's
          coverage ratio (product C is defined as a secondary product in
          industry 1).    
            One can increase an industry's specialization ratio by
          redefining its secondary products as primary.  This is depicted
          in Table 2.  The two sets of establishments produce exactly the
          same products as in Table 1.  However, product C, a product that
          is made in both industries, is now designated as primary to both
          industries.  
            Assume that no new establishments are moved into industry 1 as
          the result of the change in industry definition, so the data in
          Table 1 remain unchanged. With product C now being primary to
          industry 1, the 

          ECPC Issues Paper No. 4                                         8
           

               TABLE 1           Primary         Secondary
                             products         products

                                                                  Total
                                                                production
                              A   B   C   D    A   C   E    F

              Industry 1     25  48                7   20          100

              Industry 2             30  45    5           20      100

               TABLE 2
                                 Primary          Secondary
                             products         products
                                                                   Total
                                                                 productio
                              A   B   C   D      A      E    F
                                                                n

              Industry 1     25  48                    20           100
                                     7

              Industry 2                  45     5          20      100
                                     30

          specialization ratio of industry 1 increases to 80, 
          [(25+48+7)/100], because the output of product C is added to the
          numerator of the ratio (the denominator remains unchanged). The
          specialization ratio of industry 2 is unchanged from the first
          example, because product C was already among this industry's
          primary products in Table 1.  
            The same change reduces the coverage ratio for industry 1.  In
          Table 2, industry 1's coverage ratio declines to 70,
          [(25+48+7)/(25+48+7+30+5)].  This change occurs because product C
          is now defined among industry 1's primary products.  Generally,
          the coverage ratio is computed on a wherever made basis, so the
          total output of product C (7 in industry 1 and 30 in industry 2)
          is added to industry 1's denominator.  For industry 2, the
          coverage ratio remains the same, again because product C was
          already included in its list of primary products.   
            In this instance, industry 1 qualifies for 4-digit industry
          status because both specialization and coverage ratios meet the
          minimum values.  Industry 2 still does not qualify as a 4-digit
          industry because its specialization ratio remains below 80.
            If, in a third example, product A is also defined as being
          primary for both industries, the specialization and coverage
          ratios would change for industry 2, analogously to the example
          already given for industry 1.  With this further change in
          definitions, each industry has specialization and coverage ratios

          ECPC Issues Paper No. 4                                         9
           

          that meet or exceed the thresholds, and both qualify for
          designation as a separate 4-digit SIC industry.
            Table 3 presents the specialization and coverage ratios for
          each of the three examples discussed above.  
            Products may be primary to more than one industry in the
          present system for several reasons.  An explicit example in the
          SIC is a product made from produced versus one made from acquired
          (transferred or purchased) inputs, e.g., iron and steel forgings. 
          Forgings are made in integrated steel works (SIC 3312),
          establishments that manufacture pig iron and steel intermediate
          products from raw material inputs.  Integrated steel works can
          produce semi-finished and finished products from those
          intermediate products.  Forgings are also made in forging
          establishments (SIC 3462), establishments that manufacture
          semi-finished and finished iron and steel products only from
          intermediate iron and steel product inputs.  The SIC definition
          of these primary products includes an "industry-of-origin"
          qualifier. 
            In addition, in the SIC identical primary products occur in
          different 4-digit industries implicitly, without an
          "industry-of-origin" qualifier.  This occurs whenever products
          are made in different SIC divisions.  For example, microcomputers
          are produced in establishments in the Manufacturing Division, and
          are also assembled in the Wholesale Trade and in the Retail Trade
          Divisions.  

          ECPC Issues Paper No. 4                                        10
           

              TABLE 3       Example 1     Example 2         Example 3

                            Industry      Industry          Industry

                             1     2      1       2        1         2
                                          1                1         2
                Ratio

            Specializatio   73    75      80      75      80        80
                                          80              80        80
           n
              Coverage      94    91      70      91      70        71
                                          70              70        71

               Status      fail   fai  qualifi   fail   qualifi  qualifie
                                       qualifi          qualifi  qualifie
                           s     ls    es        s     es        s
                                       es              es        s

            Auxiliary establishments are another example where implicit
          reporting of a product as primary to  two or more industries may
          occur.  The data for auxiliary establishments are reported at the
          4-, 3-, or 2-digit level along with the data on the
          establishment, or of the company or enterprise, for which the
          auxiliary performed its support services.  The same type of
          activity can appear in the services division as well, as for
          example, a business services industry.  Each of these three
          examples of a product primary to more than one 4-digit industry,
          poses problems in the calculation and in the interpretation of
          specialization and coverage ratios. 
            In summary, both specialization and coverage ratios depend to
          an extent on the way that primary and secondary products are
          defined.  This dependence on the definition of primary products
          limits the usefulness of specialization and coverage ratios as a
          criterion for defining 4-digit industries.  
            In Canada, the specialization and coverage ratios are only
          viewed as measures of homogeneity that are necessary, but not
          sufficient, for the existence or creation of industries within
          the classification.  They are regarded as useful tools, rather
          than as statistical tests of industry definition.

            (b) Other considerations

            In certain cases in the United States classification system,
          the determination of the coverage ratio's denominator differs
          from the calculations presented in the above tables.
            To take an example that is already familiar from earlier ECPC
          issues papers, the coverage ratio for SIC 2061 (cane sugar
          products made from sugarcane) is 100 percent, because in this
          case the coverage ratio is defined on cane sugar products; only
          SIC 2061 establishments make cane sugar products from 
          sugarcane.  If instead the coverage ratio were defined on sugar
          products, wherever made, without distinguishing the raw material
          or production process used, the coverage ratio for SIC 2061 would

          ECPC Issues Paper No. 4                                        11
           

          be far lower (22 percent), because establishments in SIC 2061
          produce only a fraction of U.S. sugar production.  
            Generally, production outside of the Manufacturing Division is
          not used in the coverage ratio, even when data are available. 
          The bread, cake, and related products industry, SIC 2051, has a
          reported coverage ratio of 99 percent.  Bakery products are also
          made in grocery stores, SIC 5411, and in retail bakeries, SIC
          5461, which are industries in the SIC Retail Trade Division. 
          Inclusion of bakery production now in the Retail Trade Division
          would decrease the coverage ratio of SIC 2051 to 66 percent.  In
          this case, the class of purchaser of the bread is distinguished
          in the computation of the coverage ratio (manufacturing bakeries
          sell to retail stores, rather than to the final consumer).  
            If a demand-based, market-oriented industry classification
          were adopted, then an industry's specialization ratio would
          probably be low, though its coverage ratio could be high.  For
          example, a "food-wrapping" industry might include waxed paper,
          oiled paper, greaseproof wrapping paper, aluminum foil, frozen
          food bags, and glassine bags (all of which are now in different
          4-digit SIC industries).  The specialization ratio would be low
          for the proposed food-wrapping industry because the
          establishments that make food wrappings also make items such as
          plastic films, printing paper, building paper, aluminum sheets
          and coils, trash bags, and grocer's bags, among other products. 
          None of these products would be considered as primary products in
          a food-wrapping industry.  
            These examples suggest that the economic concept embodied in
          the coverage ratio, especially, is not well specified.  In many
          cases, the denominator of the coverage ratio reflects the extent
          of the market.  Iron and steel forgings with similar uses are
          close substitutes whether or not they are made in steel mills
          (SIC 3312) or elsewhere (SIC 3462); the coverage ratio includes
          both sets of products and so is calculated on an
          extent-of-the-market basis.  Yet, cane and beet sugar are also
          good substitutes, and in these cases the coverage ratio does not
          extend to the limits of the market for sugar.  And though a
          retail bakery (SIC 5461) may often produce a different line of
          bakery products from a manufacturing bakery (SIC 2051), in other
          cases it is not clear whether the coverage ratio now computed for
          SIC 2051 is broad enough to capture the extent of the market for
          bakery products. 
            Section 4.4 has a more extended discussion of economic
          concepts in relation to specialization and coverage ratios. 

          4.3  Other Criteria

            Other criteria have been employed in past revisions of the SIC
          system.  These "statistical and administrative criteria" are in
          the SIC Manual ([8], pp. 702-3), and include the following:

          ECPC Issues Paper No. 4                                        12
           

               Most past revisions to the SIC have focused on changes at
               the 4-digit level, and have followed the principle that 
               disruptions to the existing hierarchical, 3- and 2-digit
               industry group configurations be minimized.  "Changes to the
               basic two- or three-digit structure require exceptionally
               strong justification showing that they reflect changes in
               the economy and not simply a different view of what the
               basic structure should be" ([8], p. 700).
                    Though the economy has changed greatly in the past 50
              years, the overall hierarchical structure of the system
              retains essentially the structure that was laid down when the
              SIC was established in the 1930's and 1940's.  Such long-term
              stability in the hierarchical structure has often been
              criticized for ignoring major changes in the production and
              delivery of goods and services.  Those who feel that the
              hierarchical structure should be changed obviously urge
              abandoning the criterion that minimizes hierarchical
              disruptions to it.  The hierarchical structure of
              classifications is the topic of ECPC Issues Paper No. 2,
              "Aggregation Structures and Hierarchies" [3].
               Collectibility is one limitation on past revisions to SIC
               industries.  Proposed changes to the classification are
               inevitably constrained by the availability of data.  If the
               required data cannot be obtained, then the changes cannot be
               implemented.  ECPC Issues Paper No. 3, "Collectibility of
               Data" [3], discusses these constraints on the
               classifications.
               A criterion of historical continuity has served to preserve,
               so far as possible, consistent time series in the 4-digit
               SIC industries.  ECPC Issues Paper No. 5, "The Impact of
               Classification Revisions on Time Series," discusses time
               series continuity.  
               Particular attention was given in the 1987 SIC revision to
               proposals that identified new, emerging, or growing
               industries and to proposals that were likely to increase
               international comparability.  International comparability is
               the subject of ECPC Issues Paper No. 7, "International
               Comparability" (forthcoming). 
               Potential industries were evaluated to assure that the
               classification of individual establishments coded to an
               industry would remain relatively stable over time.  
            The final criterion listed above, the stability requirement,
          is intended to minimize switching of establishments from one
          industry to another when very little change in their basic
          economic activities has occurred.  In practice, the evaluation of
          stability draws upon the experiences of statistical agencies in
          the coding of establishments to industries.     

          Request for Comment

          ECPC Issues Paper No. 4                                        13
           

            The Committee recognizes that comments on the first three of
          the criteria discussed in section 4.3 substantially duplicate
          comments on ECPC Issues Paper Nos. 2 and 5.  Nevertheless, the
          Committee welcomes all comments on previous SIC criteria, and it
          also seeks proposals for new criteria for accepting changes in
          the definition of industries.  Insights are sought regarding
          benefits provided by historical continuity in the SIC hierarchy
          and historical continuity in 4-digit industries versus the costs
          imposed by ignoring changes in the economy over time.  

          4.4  Alternative Criteria for Determining Industries
            
            Classification systems are developed to group "like"
          activities together.  Every classification system needs a rule or
          rules for determining which activities are "like," rules for
          defining homogeneity.  Additionally, the groupings on
          "industries" that result from application of the system's
          homogeneity rules should be capable of evaluation by some
          statistic or statistical test, at least in principle.    

            (a) Homogeneity measures and conceptually-based classification
          systems

            For a conceptually-based system, the definition of homogeneity
          depends on the concept that underlies the classification.  For a
          production-oriented (supply-based) concept, an industry would be
          considered homogeneous if it contains only establishments that
          utilize similar production processes (see the discussion of
          economic concepts for classifications in ECPC Issues Paper No. 1,
          section 1.2).  For a supply-based industry, an appropriate
          statistical test is one that distinguishes whether establishments
          have similar production processes (similar production functions).
            For classifications erected on a market-oriented
          (demand-based) concept, homogeneity requires that the products
          within the grouping compete in the same market, or that the
          products within the grouping be close substitutes or are products
          that are used or distributed together.  For a demand-based
          grouping, appropriate statistical tests are those that
          distinguish the extent of markets, the extent or degree of
          substitution among products, or that distinguish whether products
          belong together in a grouping according to use.

            (b) Conceptually-based systems and specialization and coverage
          ratios

            As noted in section 4.2, in past U.S. SIC revisions,
          specialization and coverage ratios have been used to determine
          homogeneity for 4-digit industrial classifications.  One might
          interpret, in a rough and ready sense at least, specialization
          and coverage ratios within a conceptual rationale.

          ECPC Issues Paper No. 4                                        14
           

            A production-oriented grouping of establishments would
          probably exhibit a high specialization ratio, since similar
          production processes likely produce similar products.  For
          example, SIC 2211, Broadwoven Fabric Mills, Cotton, probably
          represents a grouping of establishments having very similar
          production processes, and this industry has a specialization
          ratio of 87 percent.  
            The coverage ratio for supply-based groupings, however, might
          be low because other production processes could produce products
          that are close substitutes.  For example, the Broadwoven Fabric
          Mills, Manmade Fiber and Silk industry (SIC 2221) produces
          fabrics that are substitutes for cotton fabrics in many uses. 
          Accordingly, the coverage ratio for cotton fabric mills would be
          low if the coverage ratio were defined on the market for fabrics
          (rather than on just cotton fabrics).  
            In contrast, an appropriately defined market-oriented grouping
          of commodities might exhibit a low specialization ratio and a
          high coverage ratio.  A "food wrapping" industry, for example,
          would group producers who do not necessarily specialize in food
          wrappings because their products have other uses.  But the food
          wrapping industry could be defined to have a high coverage ratio. 

            An "ideal industry" is a grouping of establishments and
          products that meets both production and market-oriented concepts. 
          One would expect an ideal industry to have both high
          specialization and high coverage ratios.  Malt Beverages (SIC
          2082) has a coverage ratio of 100 percent and a specialization
          ratio of 99 percent.   
            This rationale for specialization and coverage ratios does not
          explicitly appear in previous SIC revision materials.  The
          rationale suggests that specialization and coverage ratios could
          have value, even in a conceptually-based classification system. 
          It also suggests that when specialization and coverage ratios
          were developed the guidelines the developers were using might
          have connections with the economic framework developed in ECPC
          Issues Paper No. 1.  
            Nevertheless, section 4.2 identified ambiguities in
          specialization and coverage ratios, including their dependence on
          the way an industry's primary and secondary products are defined. 
          They clearly are not adequate, used by themselves, to determine
          conceptually-based economic classifications.  In Statistics
          Canada's usage, specialization and coverage ratios are not used
          to identify the appropriate groupings; they are pragmatic
          measures used to verify industry coding of data, and serve as
          editing devices once a classification is defined and the
          appropriate groupings have been constructed.

          ECPC Issues Paper No. 4                                        15
           

            (c) New statistical methods for economic classifications

            Other statistics, and statistical tests, apply to
          classification systems that are erected on economic concepts. 
          For evaluating supply-based industries, several
          recently-developed statistical techniques appear promising.  
            For an economic classification based on a production-oriented
          concept, the criterion for grouping is similarity of production
          functions among establishments, as noted above and described in
          ECPC Issues Paper No. 1.  Production functions are mathematical
          descriptions of production activities.  In the Cobb-Douglas
          production function, inputs--raw materials, labor, capital
          equipment and buildings, and energy--adapt to changes in the
          relative prices of those inputs in such a way that the
          value-shares of the inputs remain constant (the value-share of
          labor, for example, is the total labor cost divided by the total
          cost of all of the inputs).  Input value-shares can also be
          computed for more detailed definitions of inputs, distinguishing
          different labor categories, types of capital equipment, or forms
          of energy.  Input value-shares can approximate more complex
          production functions, such as the translog (Christensen,
          Jorgenson, and Lau [2]), under some conditions.  
            As Gollop (Williamsburg Conference [5], p. 498) put it: 
          "Assuming producers face identical input prices, differences in
          factor shares among establishments [imply] different production
          functions.  In short, as a first approximation, differences in
          input cost shares among establishments assigned to an industry
          identify the extent of technical heterogeneity within that
          industry."   
            Gollop [4] proposed a diversification index as a statistical
          test of the heterogeneity in a production-based grouping of
          establishments; this test was explored in Gollop and Monahan [6]. 
          Establishment homogeneity, in the Gollop and Monahan sense, is
          based upon the hypothesis that establishments that employ similar
          production processes will exhibit similarities in their mixes of
          inputs.  The test evaluates the value-shares of inputs among
          establishments as the means of determining which establishments
          should be included in a particular industry, and permits
          quantifying the "extent of technical diversity" among those
          establishments ([4], p. 366).  
            The Gollop-Monahan diversification index equals zero if
          input-cost shares are identical among all the establishments. 
          The greater is the heterogeneity among a proposed grouping of
          establishments, the larger is the diversification index, and the
          less appropriate is the proposed industry.  
            The Gollop-Monahan diversification index could also be used in
          another way:  Suppose we identify an industry, such as Farm
          Machinery and Equipment, SIC 3523, that groups establishments
          together because their products serve similar users (in this
          case, farmers).  This is, then, a demand-based industry (see ECPC

          ECPC Issues Paper No. 4                                        16
           

          Issues Paper No. 1).  The diversification index could be used to
          answer the question:  How far is this market-oriented industry
          from meeting the test for a production-oriented, or supply-based,
          industry?  The answer would help to determine when compromises or
          departures from the conceptual framework might be acceptable
          because they are, in a quantifiable sense, "small."    
            Abbott and Andrews [1] and Walter and Rives [9] use somewhat
          different assumptions about production functions to test for
          similarity of production processes among 4-digit industries.  The
          authors assume that a homogeneous good is produced with fixed
          input proportions and evaluate observed differences in input
          proportions over time.  Their test criterion is the presence of
          constant input proportions, rather than constant value-shares of
          inputs, as in the Gollop-Monahan test.  
            A demand-based classification system should employ statistical
          tests of homogeneity that are appropriate for the demand-based
          concept, and of course these statistical tests would differ from
          those used for testing supply-based industries for homogeneity. 
          A demand-based industry can arise in several forms, and each form
          implies a different statistical test.
            The most complex version of demand-based grouping, functional
          aggregation, implies statistical tests for what is known as
          "functional separability" (see Issues Paper No. 1, section 1.2). 
          Separability tests are difficult to carry out and require
          estimating demand functions for large sets of products.  Such
          tests are in principle feasible, however, and might have
          applicability in some sectors of a demand-based system.  
            A second demand-based aggregation rule, grouping of close
          substitutes, requires estimates of substitution elasticities
          among a large set of products.  Statistical data on the degree of
          substitution among commodities, wherever such information exists,
          would be useful in constructing a demand-based system, and might
          provide useful guidance for some sectors of a demand-based
          aggregation system.  
            Finally, ECPC Issues Paper No. 1 notes the application of
          "Hicksian aggregation" principles to a demand-based or
          market-oriented grouping system.  In this case, products included
          in the grouping are taken as homogeneous if their prices move
          together.  Jaditz [7] tests 4-digit SIC industries for Hicksian
          aggregation by examining product price movements, using detailed
          U.S. producer price index (PPI) information, to determine the
          degree of similarity among the price histories of goods.  Jaditz
          finds "less coherence in prices over time" in the 4-digit SIC's
          than would be expected of market aggregates and, also, that
          "classification schemes based on similarities in price histories
          bear little resemblance to the SIC classification scheme"
          ([ibid.], Abstract).  
            With the exception of tests for Hicksian aggregation,
          available demand-based tests are more difficult to apply than

          ECPC Issues Paper No. 4                                        17
           

          supply-based tests such as the Gollop-Monahan diversification
          index.

          The Committee's Position

            The Committee believes that statistical methods for testing
          the homogeneity of economic groupings should be used if a
          conceptually-based approach is adopted for the classification
          system.  However, the statistical methods that have been
          developed cannot be relied on solely at the present time.  
            For one thing, these methods are all relatively new and will
          no doubt receive further technical development.  For another,
          they often have rigorous data requirements.  For example, the
          Gollop-Monahan diversification index requires detailed
          information on production inputs and on establishment
          expenditures for inputs, which is not available for all sectors
          of the economy in the detail required by the test.  For a third
          reason, the tests require relatively intensive work by
          statistical agency personnel, and only a small portion of the
          4-digit industries could be examined statistically in time for
          the 1997 Economic Censuses.  Finally, institutional knowledge
          about industries, about production processes, markets, and so
          forth, will always be important in a classification system,
          because even with statistical tools, institutional knowledge
          about the industries must be applied to guide the statistical
          investigation.
            Thus, the Committee believes that the recently-developed
          statistical methods described in this section should receive
          further development and application to classification purposes.  
          At present, however, they will of necessity supplement, rather
          than replace, more traditional analyses of industries and
          groupings. 

          Request for Comment

            The Committee solicits suggestions that will improve
          statistical tests for classification purposes, or that will
          develop new methods for statistical examination of classification
          issues.  The Committee may consider, if funds are available,
          research proposals for developing such statistical tests. 

          References

            [1] Abbott, Thomas A., and Andrews, Stephen H., The
          Classification of Manufacturing Industries:  An Input-based
          Clustering of Activity, Proceedings, Bureau of the Census 1990
                                  ____________
          Annual Research Conference, Arlington, Virginia:  U.S. Department
          of Commerce, pp. 26-45, March 18-21, 1990. 

          ECPC Issues Paper No. 4                                        18
           

            [2] Christensen, L.R., Jorgenson, D.W., and Lau, L.J.,
          "Transcendental Logarithmic Production Functions," Review of
                                                             _________
          Economics and Statistics, 55:28-45, 1973.
          ________________________
            [3] Economic Classification Policy Committee, Issues Paper No.
          1, "Conceptual Issues," and Issues Paper No. 2, "Aggregation
          Structures and Hierarchies," Federal Register, pp. 16990-17004,
                                       ________________
          March 31, 1993; Issues Paper No. 3, "Collectibility of Data," 6
          pages, May 1993.  Available from Economic Classification Policy
          Committee (BE-42), Bureau of Economic Analysis, U.S. Department
          of Commerce, Washington, D.C. 20230.
            [4] Gollop, Frank M., Evaluating SIC Boundaries and Industry
          Change Over Time:  An Index of Establishment Heterogeneity,
          Proceedings, Second Annual Research Conference, Reston, Virginia: 
          ____________
          Bureau of the Census, U.S. Department of Commerce, pp. 361-78,
          March 23-26, 1986.
            [5]       , Panel Discussion on Alternative Approaches to
          Classifying Economic Activity, Proceedings, International
                                         ___________
          Conference on Classification of Economic Activities,
          Williamsburg, Virginia:  Bureau of the Census, U.S. Department of
          Commerce, pp. 496-501, March 6-8, 1991.  Available from Bureau of
          the Census, Room 2069-3, Washington, D.C. 20233.  
            [6]       , and Monahan, James L., "A Generalized Index of
          Diversification:  Trends in U.S. Manufacturing," Review of
                                                           _________
          Economics and Statistics, 73(2):318-30, May 1991.
          ________________________

              [7] Jaditz, Ted, "Economic Markets and the Standard
          Industrial Classification," Bureau of Labor Statistics Working
          Paper 205, Washington, D.C.:  U.S. Department of Labor, 29 pages,
          13 tables, and 6 figures, March 1993. 
            [8] U.S., Executive Office of the President, Office of
          Management and Budget, Standard Industrial Classification Manual,
                                 __________________________________________
          1987, 705 pages.  (For sale by:  National Technical Information
          ____
          Service, 5285 Port Royal Road, Springfield, Virginia 22161, Order
          no. PB 87-100012.)
            [9] Walter, C.K., and Rives, J.M., "A Discriminant Analysis of
          Industry Classification by Input Mix," Rivista Internazionale di
                                                 _________________________
          Scienze Economiche e Commerciali, 5: 417-30, 1984.
          ________________________________

                       Economic Classification Policy Committee

                                    Issues Papers

                                       APPENDIX
                                  Issues Paper No. 4

                Economic Significance and Specialization and Coverage 
                   Ratios:  Historical Notes and Detailed Examples

                                     October 1993

          Note to reader:  This is the fourth in the series of Economic
          Classification Policy Committee issues papers.  The first two,
          Issues Paper No. 1, "Conceptual Issues," and Issues Paper No. 2,
          "Aggregation Structures and Hierarchies," were published in the
          Federal Register, March 31, 1993, pp. 16990-17004.  Copies are
          available by writing to Brenda M. Erickson, Economic
          Classification Policy Committee, Bureau of Economic Analysis
          (BE-42), U.S. Department of Commerce, Washington, D.C. 20230, or
          by telephone at 
          (202) 606-9615, FAX (202) 606-5311. 

                       Economic Classification Policy Committee

                                       APPENDIX
                                  Issues Paper No. 4

                Economic Significance and Specialization and Coverage 
                   Ratios:  Historical Notes and Detailed Examples
           

          Background

            For the 1957 Standard Industrial Classification (SIC)
          revision, the Bureau of the Budget (predecessor of the Office of
          Management and Budget, or OMB) established the Committee on
          Criteria for Recognizing an Industry to set guidelines for
          establishment of an SIC industry.  The Committee developed a set
          of technical "criteria" for evaluating proposals for new SIC
          industries.  At that time, only two technical criteria were
          promulgated, economic significance, or size of the industry, and
          specialization and coverage ratios.
            According to the 1957 SIC Manual, "To be recognized as an
          industry, each group of establishments must have significance
          from the standpoint of number of production workers, value added
          by manufacture, value of shipments, and number of establishments. 
          Size of an industry is not the sole criterion for its
          recognition.  It is also important that an industry comprise a
          group of establishments of which the output of products or
          processes defining the industry (primary products of the
          industry) account for a relatively high proportion of (a) the
          total shipments or receipts of the industry (specialization
          ratio), and (b) the total output by all industries of the
          products or processes which are primary to the industry (coverage
          ratio)" ([4], p. 431).  The 1972 SIC revision extended the
          economic significance criterion to the nonmanufacturing sectors
          of the economy, and added payroll to the measures of economic
          significance.  
            For the 1987 SIC revision, the guidelines for reviewing
          proposed changes to the SIC were expanded to include the
          following additional elements:
              Maintenance of the existing SIC structure;
              Historical continuity;
              Other statistical considerations; and
              Administrative considerations.
          Nevertheless, the original two criteria--that is, economic
          significance and specialization and coverage ratios--were
          specified as the "major criteria."  These major criteria are
          described in the following sections.   

          Economic Significance

            Economic significance is a measure of the size of an industry
          in relation to the average size of all industries included in its
          SIC division (manufacturing, retail, etc.).  For 1987, the major
          components necessary to derive economic significance were:

          APPENDIX--ECPC Issues Paper No. 4                               2

            (1)     Number of establishments - An establishment is an
                    economic unit, generally at a single physical location
                    (for example, a farm, mine, factory, or store) from
                    which data on employment, payroll, and volume of
                    business can be gathered.
            (2)     Number of employees - Employment includes all full- and
                    part-time employees on the payrolls of the
                    establishments.  
            (3)     Payroll - Payroll includes the gross earnings of the
                    employees of the establishments, excluding nonwage
                    compensation.
            (4)     Value added - Value added, used for manufacturing
                    establishments only, is derived by subtracting the cost
                    of materials, containers, fuel, purchased electricity,
                    and contract work from the value of shipments.  The
                    result of that calculation is adjusted by the addition
                    of the difference between sales value and cost of
                    merchandise sold without further manufacturing,
                    processing, or assembly, plus the net change between
                    the beginning and end-of-year finished goods and
                    work-in-process inventories.
            (5)     Volume of business (value of shipments or receipts) -
                    Volume of business, depending on the division, includes
                    value of shipments or receipts.
            Value added and number of employees were considered the more
          significant and reliable measures of industry importance.  The
          1957 SIC Manual explains:  "Value of shipments includes the value
          created in other industries or other economic divisions such as
          Agriculture, etc., and does not measure value of income produced
          in the specific manufacturing industry.  In some instances, the
          large duplication of value of shipments within an industry makes
          publication of the figure meaningless.  A count of establishments
          in each industry is of limited significance as it treats both
          large and small establishments as of equal importance.  In
          addition, the derivation of an  average  number of establishments
          per industry reflects to a large extent, the very numerous plants
          in a relative few industries" ([4], p. 432).
            To measure economic significance of an industry, each of the
          above five variables is first expressed as a ratio relative to
          the same variable's average value for the SIC Division (mining,
          agriculture, manufacturing, services, etc.) into which the
          industry falls.  To provide an example of the calculations, table
          1 refers to a proposal (in the 1987 SIC revision) for a new
          manufacturing industry consisting of establishments primarily
          engaged in manufacturing potato chips, corn chips, and similar
          snack foods. 
            Based on 1982 Census of Manufactures data, the proposed snack
          food industry's number of establishments--230--was 29 percent of
          the average number of establishments in industries in this
          division (column C of the table).  Similarly, the 26,700
          employees in the snack food industry were 62 percent of average

          APPENDIX--ECPC Issues Paper No. 4                               3

          employment for manufacturing industries, the industry's payroll
          was 52 percent of the average for manufacturing industries, and
          so forth.
            To determine the final economic significance "score" for an
          industry, the separate ratios, as described above, are then
          weighted together using the factors listed in column D of the
          table.  These weights were developed in 1972.  As noted above,
          value added and number of employees were considered better
          measures of size, and they were therefore given double weight
          when calculating the final score.  
            When weights are applied to the five relative size measures
          described above, this results in a "score" for the snack food
          industry of 413 points (the sum of column E in the table).  When
          this total is divided by the sum of the weights (7 from column
          D), it yields a weighted average, or point score, of 59.  By the
          relative size measure, the proposed snack food industry is 59
          percent of the size of the average manufacturing industry.
            In 1957, the Committee on Criteria for Recognizing an Industry
          determined that an existing industry is "considered as sizable if
          it attains a point score of 10 or higher.  The point score for a
          new industry is 20 or higher . . . . The final score is a measure
          in percent of the size of an industry in relation to an  average
          industry " (ibid.).  These scoring cutoffs remain the standard
          used in the 1987 SIC revision.  Thus, the proposed new snack food
          industry was deemed economically significant by the 1957
          criterion.
            The test of economic significance for determining industries
          has provided for gradual changes in the U.S. industrial
          classification structure.  At the same time, it has provided for
          continuity in the system by assigning a lower average score for
          the continuance of an existing industry than that needed for the
          recognition of a new industry.  
            Economic significance, used as a measurement tool, spotlights
          the declining/rising industries in the economy during the review
          and revision process.  It also assures that an industry is well
          established before it is recognized in the SIC, but the concept
          of economic significance can only be used when data are
          available.  For example, information on a potential snack food
          industry was available from the census of manufactures because
          detailed product information was collected for these items.  If
          that detailed product information had not been available, it
          would have been very difficult to determine if the potential
          industry met the criterion of economic significance. 

          Specialization and Coverage Ratios

            The "primary product specialization ratio" and the "coverage
          ratio" serve as the current industrial homogeneity measures. 
          These criteria relate only to manufacturing.  
            The specialization ratio measures the degree to which the
          establishments in a given industry concentrate on activities that

          APPENDIX--ECPC Issues Paper No. 4                               4

          define the industry.  The specialization ratio is calculated by
          dividing the value of the primary product shipments of the
          establishments classified in the industry by the 

          APPENDIX--ECPC Issues Paper No. 4                               5

             Table 1.--Calculations for Evaluating Economic Significance
                                 for SIC Industries

                                                 Relative          Weight
                             Proposed   Average    size              ed
                Factor       industry  industry    (A/B)   Weight  points
                                                 (percent     s     (CxD)
                                                     )

                                (A)       (B)       (C)      (D)     (E)
           Number of
           establishments       230      796        29        1       29

           Number of
           employees             26.7     43.0      62        2      124
           (thousands)

           Payroll
           (million             301.3    584.0      52        1       52
           dollars)

           Value added
           (million             934.5  1,295.0      72        2      144
           dollars)
           Shipments                                                   
           (million           1,929.0  3,006.0      64        1       64
           dollars)

           Sums (where                                        7      413
           relevant)

               413    = 59 percent (Weighted average)
                7    
          value of all shipments (both primary and secondary, but excluding
          miscellaneous receipts) for the same establishments.  A proposed
          new 4-digit SIC industry must have a specialization ratio of 80
          percent.  When an industry has a specialization ratio of 80
          percent, the 80 percent of the shipments of establishments
          classified in that industry consist of products that are primary
          to that industry (primary products), and 20 percent are secondary
          products (products that are primary to some other industry).
            The coverage ratio measures the proportion of products that
          define an industry that originate from the establishments
          classified in that industry.  In the coverage ratio, the
          proportion of products defining the industry shipped by
          establishments classified in  the industry is the numerator;
          total shipments of these products by all manufacturing
          establishments in the economy is the denominator ([3], p. 701-2).
            Required coverage ratios, developed by the 1957 Committee, are
          in table 2.

          APPENDIX--ECPC Issues Paper No. 4                               6

            The following example illustrates the use of specialization
          and coverage ratios.  In 1987, establishments classified in SIC
          3612, Power, Distribution, and Specialty Transformers, shipped
          transformers valued at $3125.0 million.  Total shipments of these
          same establishments (i.e., transformers as well as secondary
          products that also are produced in SIC 3612) amounted to $3289.5
          million.  This means that 95 percent of the shipments of
          establishments in SIC 3612 comprised the primary products
          (transformers) that define the industry and only 5 percent are
          secondary products to SIC 3612.
            The coverage ratio for SIC 3612 was 98 percent.  Shipments of
          transformers by all industries totaled $3188.8 million in 1987,
          of which $3125.0 million were transformers shipped by
          establishments in SIC 3612.  This 98 percent coverage ratio
          indicates that establishments that specialize in transformers and
          are classified in SIC 3612 account for most of the economy's
          production of those products.
            Taken together, coverage and specialization ratios and the
          test of economic significance are the major tools that have been
          used in the United States to determine whether 4-digit industries
          need to be defined, redefined, expanded, contracted, or 
          eliminated.

          APPENDIX--ECPC Issues Paper No. 4                               7

                          Table 2.--Required Coverage Ratios

                                                               Ratio
                          Type of industry                   (percent)

           For commercial sale (for example, industry
           3651, Household Audio and Video Equipment)            70
           For industries having significant interplant
           transfers or consumption for use within the           50
           same establishment (for example, industry
           3321, Gray and Ductile Iron Foundries)

           For industries producing from purchased
           materials which are differentiated by stage           33
           of process (for example, industry 2045,
           Prepared Flour Mixes and Doughs)

          A Comparison Between Guidelines Used for Establishing Industries
          in the U.S. SIC and the Canadian SIC

            In Canada, as in the United States, specialization and
          coverage ratios and a test for economic significance are used as
          guidelines to delineate industries.  There are some differences,
          however, in their applications in the two countries.   In
          Canada's 1980 SIC revision, the economic significance measure
          comprised only gross output, the equivalent of the U.S. value of
          shipments.  Generally, there were different guidelines in Canada
          for existing industries and potential new industries. An existing
          industry with more than $60 million (Canadian) of output, using
          1975 data, was retained.  Those industries below the threshold
          were reviewed and some were recognized if there were analytical
          reasons for doing so.  For example, small but stable existing
          industries might still be retained.  Growing or emerging new
          industries might be recognized if in future they were expected to
          become significant.  The threshold for recognition was based on a
          study of the smaller tail of the distribution of industries
          according to size of gross output.  Table 3, provided by the
          Standards Division of Statistics Canada, presents the Canadian
          economic significance guidelines.
            Canada's calculations of specialization and coverage ratios
          are similar to the U.S. calculations.  An industry in Canada may
          be recognized if the specialization ratio is 70 percent and the
          coverage ratio is 75 percent (compared with 80 percent and 70
          percent, respectively, in the United States).  There are some
          differences in the way in which the ratios are computed.  The
          Concordance Between the Standard Industrial Classifications of
          ______________________________________________________________
          the United States and Canada explains this difference ([2], p.
          _____________________________
          x).  "Some manufacturing activity is performed both by units
          primarily engaged in manufacturing and by units that are

          APPENDIX--ECPC Issues Paper No. 4                               8

          primarily engaged in other activities.  The U.S. calculations
          take account only 
          of production by manufacturing establishments.  For selected
          commodities, the Canadian calculations take account both of total
          production by manufacturing establishments and production as a
          secondary activity by wholesale establishments." 
            In Canada, specialization and coverage ratios are regarded as
          useful tools that are necessary, but not sufficient, for
          retaining or creating new industries.  These measures are
          regarded as pragmatic, descriptive statistics that are based on
          easily available data and are therefore easy to calculate, at
          least for goods.  They serve two purposes:  (1) a necessary
          condition to define industries, and (2) a tool for implementing
          the classification.  The specialization ratio in particular can
          be used to confirm the correct coding of establishments to
          industries.  In Canada, the ratios are used in an automated
          system, to confirm SIC coding of the establishments covered by
          the Annual Surveys of Forestry and Manufactures. 
            In addition to these guidelines used by Statistics Canada to
          determine industries for their 1980 revision, two other criteria
          were employed.  They are historical comparability and usefulness
          to applications of the SIC outside Statistics Canada.

                  Table 3.--Economic Significance Criteria for the 
                              1980 Canadian SIC Revision

                                    Manufacturing

                 Shipments
             $ million Canadian  Existing industries      Proposed new
                  in 1975                                  industries

                   < 40                 Delete
                                                             Reject
                  40 - 60           Look at trend

                   > 60                  Keep                Create

            In the paper, "Criteria Used for the 1980 Revision" ([1], p.
          1), Statistics Canada notes:  "The major factors that determine
          the classification of industries are the analytical requirements
          of users on the one hand and the actual activities of
          establishments on the other . . . . The development of the
          revised SIC is then an iterative process of comparing analytical
          needs to actual industry structure.  Each analytical requirement
          is expressed as a proposed set of new industry classes.  To the
          extent permitted by the data, establishments are classified to
          these new classes and the objective criteria are calculated.  If
          the criteria are not satisfied, the proposal may be abandoned or
          modified and the calculations repeated.  If the criteria are
          eventually satisfied, the proposed structure is assessed against
          other proposals, with which it might conflict."

          APPENDIX--ECPC Issues Paper No. 4                               9

            The U.S. published materials on SIC revision contain no
          comparable explicit statement recognizing analytical requirements
          of users, and instead present the guidelines as if they were
          objective criteria derived from economic structure.  However, in
          practice, the committees who are responsible for revising the
          U.S. SIC codes begin with lists of proposals for new or modified
          SIC industries that come, for the most part, from public
          submissions.

          APPENDIX--ECPC Issues Paper No. 4                              10

          References

            [1] Statistics Canada, Standards Division, "Criteria Used for
          the 1980 Revision," 2 pages, October 1993.
            [2] U.S., Department of Commerce, Bureau of the Census and
          Minister of Industry, Science, and Technology, Statistics Canada,
          A Concordance Between the Standard Industrial Classifications of
          ________________________________________________________________
          the United States and Canada, 1987 United States SIC - 1980
          ___________________________________________________________
          Canadian SIC, 241 pages.  (For sale by:  Superintendent of
          ____________
          Documents, U.S. Government Printing Office, Washington, D.C.
          20401.)
            [3] U.S., Executive Office of the President, Office of
          Management and Budget, Standard Industrial Classification Manual,
                                 __________________________________________
          1987, 705 pages.  (For sale by:  National Technical Information
          ____
          Service, 5285 Port Royal Road, Springfield, Virginia 22161, Order
          no. PB 87-100012.)
            [4] U.S., Executive Office of the President, Bureau of the
          Budget, Standard Industrial Classification Manual, 1957, 444
                  _______________________________________________
          pages.