metadata: authors: 0: author: Assem Mohammed G Hassan Ahmed,Hoda
1: author: Gatti,Roberta V.
2: author: Lederman,Daniel
count: World
docna: 0: docna: Stages of Diversification Redux
docty: Policy Research Working Paper
abstracts: cdata!: The existing literature on development
            and economic diversification finds an inverted-U function
            between these two variables, whereby economies diversify as
            they grow up to a point, after which they start
            specializing. This paper contributes to this literature by
            investigating the stages of diversification over the course
            of development during the past 57 years. The paper
            emphasizes the trajectories of resource-rich and
            resource-poor countries, an issue that has not been covered
            by the extant literature. In addition, the paper studies the
            stages of diversification across three dimensions, namely
            employment, value-added, and exports. Additionally, it
            examines the relationship for services. Non-parametric
            estimations suggest a U-shaped curve between measures of
            economic concentration and per capita income levels, which
            is in line with existing evidence. However, these patterns
            are mainly driven by between-country rather than
            within-country variation, a finding that had been ignored in
            the existing literature. Diversification patterns also
            differ across resource-rich and resource-poor countries:
            Employment and value added in resource-rich countries are on
            average more concentrated at low levels of development while
            in resource poor countries, they are more concentrated at
            high levels of development. In contrast, at all levels of
            development, exports are more concentrated in resource-rich countries.
display_title: Stages of Diversification Redux
listing_relative_url: /research/2024/02/34264690/stages-diversification-redux
topicv3: Natural Resources m1326446 1979,Trade Competitiveness and Diversification
            m1326471 765,Diversification of Production and Exports
            m1504147 2615
publishtoextweb_dt: 2024-02-22T00:00:00Z
dois: 10.1596/1813-9450-10709
origu: Off of Sr VP Dev Econ/Chief Econ (DECVP)
no_of_pages: 44
author_keys: 0: author_key: 2067175
1: author_key: 321051
2: author_key: 125180
model_extractions: Policy Research Working Paper 10709 Stages of Diversification Redux _Hoda Assem Roberta Gatti Daniel Lederman_ Middle East and North Africa Region Office of the Chief Economist February 2024 A verified reproducibility package for this paper is available at http://reproducibility.worldbank.org, click **here** for direct access.
Policy Research Working Paper 10709

# **Abstract**

The existing literature on development and economic diversification finds an inverted-U function between these two variables, whereby economies diversify as they grow up to a point, after which they start specializing. This paper contributes to this literature by investigating the stages of diversification over the course of development during the past 57 years. The paper emphasizes the trajectories of resource-rich and resource-poor countries, an issue that has not been covered by the extant literature. In addition, the paper studies the stages of diversification across three dimensions, namely employment, value-added, and exports. Additionally, it examines the relationship for services. Non-parametric estimations suggest a U-shaped curve between measures of economic concentration and per capita income levels, which is in line with existing evidence. However, these patterns are mainly driven by between-country rather than within-country variation, a finding that had been ignored in the existing literature. Diversification patterns also differ across resource-rich and resource-poor countries: Employment and value added in resource-rich countries are on average more concentrated at low levels of development while in resource poor countries, they are more concentrated at high levels of development. In contrast, at all levels of development, exports are more concentrated in resource-rich countries.

This paper is a product of the Office of the Chief Economist, Middle East and North Africa Region. It is part of a larger effort by the World Bank to provide open access to its research and make a contribution to development policy discussions around the world. Policy Research Working Papers are also posted on the Web at http://www.worldbank.org/prwp. The authors may be contacted at hassem10@worldbank.org. A verified reproducibility package for this paper is available at http://reproducibility.worldbank.org, click **here** for direct access.

<!-- Start of picture text --> TRANSPARENT<br>ANALYSIS<br>G<br>R E<br>N<br>S<br>I P<br>Y E<br>K A<br>C A<br>R P<br>LI R<br>O E<br>O C<br>W R<br>H<br>S<br>P<br><!-- End of picture text --> _The Policy Research Working Paper Series disseminates the findings of work in progress to encourage the exchange of ideas about development issues. An objective of the series is to get the findings out quickly, even if the presentations are less than fully polished. The papers carry the names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this paper are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent._ Produced by the Research Support Team
<!-- Start of picture text --> Stages of<br><!-- End of picture text --> <!-- Start of picture text --> Diversification<br><!-- End of picture text --> <!-- Start of picture text --> Redux<br><!-- End of picture text -->

# Stages of Diversification Redux

<!-- Start of picture text --> Assem,<br><!-- End of picture text --> <!-- Start of picture text --> Roberta<br><!-- End of picture text --> <!-- Start of picture text --> Gatti and<br><!-- End of picture text --> <!-- Start of picture text --> Lederman!<br><!-- End of picture text --> Hoda Assem, Roberta Gatti and Daniel Lederman!

<!-- Start of picture text --> JEL classification:<br><!-- End of picture text --> <!-- Start of picture text --> F1, F483, O11, O40<br><!-- End of picture text --> JEL classification: F1, F483, O11, O40 Chief Economist Office, Middle East and North Africa region, World Bank. We are grateful to Jean Imbs, Anne-Celia Disdier, and participants to the 2023 annual International Association of Energy Economics conference for useful comments. All errors are our own.

<!-- Start of picture text --> for useful com-<br><!-- End of picture text --> <!-- Start of picture text --> ments. All errors are our own.<br><!-- End of picture text -->
added is U-shaped. More specifically, at low levels of income, economic activity diversifies as countries grow, but then, at around 9,000 (constant 1985$) GDP per capita, economic activity concentrates as countries grow richer. Klinger and Lederman (2004; 2006), Hesse (2008) and Cadot et al. (2011) also find a U-shaped pattern between measures of diversification of exports and income per capita.

<!-- Start of picture text --> pattern between measures of diversifi-<br><!-- End of picture text --> <!-- Start of picture text --> cation of exports and income per capita.<br><!-- End of picture text --> <!-- Start of picture text --> Growth Variability, Development, and Economic Concentration<br><!-- End of picture text --> Figure 1: Growth Variability, Development, and Economic Concentration <!-- Start of picture text --> . .<br>] ]<br>2 | 22 ° E 2 9<br>Bq] 2 a ey | hed<br>:6:<br>E: E 0<br>< ‘e 5 = =<br>a a<br>Oo i] Oo<br>r=] e a r=) o ®<br>a4 fa s<br>= e 8 ic %<br>zB " kn @ : B : @ a<br>z eo ~ * 3 = Oo CO 3 rs8<br>5 ae eG 5 os<br>5 | sgtaaaeh<br>oSee (Soees a}.e or 2 oeCageSs Recmes=? ©<br>o Ss ° * ae &o® ¢ Ss «6<br>=<br>& to) e “8 = S<br>ee<br>6 8 10 12 6 wi a) 4 1<br>‘GDP per capita in 1970, log Gini of exports in 1970<br><!-- End of picture text -->

<!-- Start of picture text --> Source: Authors’ calculations based on data from<br><!-- End of picture text --> <!-- Start of picture text --> Penn World Table and UN COMTRADE.<br><!-- End of picture text --> Source: Authors’ calculations based on data from Penn World Table and UN COMTRADE.

Bringing both sets of literature together, this paper studies the patterns of economic diversification over the past 57 years. The contribution of this paper to the literature is fourfold. First, by taking advantage of longer and expanded data series, this paper updates our understanding of diversification patterns across countries and over time to 151 countries over 57 years. Second, it investigates whether the observed patterns are more likely driven by cross-country characteristics or by within-country trajectories. Third, we expand the study <!-- Start of picture text --> characteristics<br><!-- End of picture text --> <!-- Start of picture text --> or by<br><!-- End of picture text --> <!-- Start of picture text --> trajectories.<br><!-- End of picture text --> <!-- Start of picture text --> we expand the study<br><!-- End of picture text --> 2
<!-- Start of picture text --> for the Gini index at<br><!-- End of picture text --> <!-- Start of picture text --> level<br><!-- End of picture text --> Figure 2: Lowess Curve for the Gini index at 2-digit level <!-- Start of picture text --> Lowess curve for Gini of employment, value added and exports against GDP per capita (PPP) at 2-digit level<br>Employment Value-added Exports<br>] - I<br>||I<br>|| I<br>||I<br>|| |<br>n | mn | n |<br>||I<br>|| I<br>||I<br>|| I<br>oo | = | a<br>_= || _= || _= Il<br>°°°<br>||<br>~;||~,||~‘||<br>|| I<br>||I<br>|| l<br>wo | ‘2 | * |<br>I<br>|| |<br>||I<br>wn |wn | wn l<br>o © 6 cs) oo S © % © Oo<br>SS Ss ssSs FP SsSs SF Ps sss<br>GOP per capita, PPP (constant 19385) GDP per capita, PPP (constant 1935) GDP per capita, PPP (constant 1985)<br><!-- End of picture text -->

Source: Authors’ calculations The Gini index follows a U-shaped pattern: Countries first diversify then they start specializing at around PPP GDP per capita of 20,000 (constant 1985 US dollars). This result is in line with the literature on diversification and economic development (Imbs and Wacziarg, 2003; Klinger and Lederman, 2004 and 2006; and Cadot et al.,2011). Imbs and Wacziarg (2003) find a turning point at PPP GDP per capita 8,675 (constant 1985 US dollars) and they note that their turning point occurs around the level of income for Ireland in 1992. Since we use data on PPP GDP per capita in constant 2017 US$, the value of the turning point in our estimation is not directly comparable. We thus convert PPP GDP per capita (constant 2017 US dollars) into constant 1985 dollars to compare with Imbs and Wacziarg (2003) using the U.S GDP implicit price deflator provided by the U.S Bureau of Economic Analysis who use GDP per capita in constant 1985$. Our turning point corresponds roughly to Ireland’s income level in 2000. Countries to the left of the turning point include Ghana, <!-- Start of picture text --> to Ireland’s income level in 2000.<br><!-- End of picture text --> <!-- Start of picture text --> Countries to the left of the turning point<br><!-- End of picture text --> <!-- Start of picture text --> Ghana,<br><!-- End of picture text --> 12
literature. Countries first diversify then they start specializing at around PPP GDP per capita of 25,000 (constant 1985 US dollars).!° Re-specialization in export services occurs at a higher level of GDP per capita compared with merchandise exports. However, the data is classified into only 13 sectors which is more aggregated than the other datasets used.

<!-- Start of picture text --> classified into only<br><!-- End of picture text --> <!-- Start of picture text --> sectors which is<br><!-- End of picture text --> <!-- Start of picture text --> aggregated<br><!-- End of picture text --> <!-- Start of picture text --> the other datasets used.<br><!-- End of picture text --> Figure 3: Lowess Curve for the Gini index for services exports <!-- Start of picture text --> Services Exports<br>+ ;<br>©, ||<br>|<br>|<br>|<br>nN2||<br>|<br>|<br>|<br>|<br>Za |<br>Chee<br>|<br>|<br>|<br>|<br>R. |<br>|<br>|<br>©]<br>S<br>010000 20000 30000 40000 50000<br>GDP per capita, PPP (constant 1985)<br><!-- End of picture text -->

Source: Authors’ calculations <!-- Start of picture text --> Within Re-<br><!-- End of picture text -->

- 4.2 Breaking-Down Sources of Variation for Pooled, Between and Within Relationships Using Employment, Value-Added and Exports

<!-- Start of picture text --> lationships Using Employment,<br><!-- End of picture text --> <!-- Start of picture text --> Exports<br><!-- End of picture text --> In this section, we try to understand what is driving the U-shaped pattern of the lowess curve and whether it is due to differences between-country or within-country. Figure 4 shows non-parametric lowess curves for the pooled, between and within-relationship between employment and GDP per capita.

<!-- Start of picture text --> tween employment and GDP per capita.<br><!-- End of picture text -->

> '6 The lowess curve has a U-shaped curve for all economies. Looking at resource-rich and resource-poor countries separately, it seems that the downward section of the U shaped is driven by diversification in resource-poor countries and the upward section is driven by concentration in resource-rich countries. Results are available upon request.

<!-- Start of picture text --> countries and the upward<br><!-- End of picture text --> <!-- Start of picture text --> section is driven by concentration in<br><!-- End of picture text --> <!-- Start of picture text --> countries.<br><!-- End of picture text --> <!-- Start of picture text --> available upon request.<br><!-- End of picture text --> 14
Figure 4: Fixed- and within-effects estimation <!-- Start of picture text --> Employment (2-digit) and GDP per capita (PPP) for all countries<br>Pooled (N=4,932) Between (N=140) Within (N=4,929)<br>oses Ss ° s. s = ss ose Ssss<br>GDP per capita, PPP (constant 1995) ‘GDP per capita, PPP (constant 1985) Change in GDP per capita, PPP (constant 192<br><!-- End of picture text --> Source: Authors’ calculations The first panel of Figure 4 displays the same lowess curve as Figure 2: the non-parametric lowess curve for the Gini index on GDP per capita, on pooled data. The smoothed values of the Gini index are obtained from local weighted regressions of the Gini index on GDP per capita according to the following equation: y,, = a+ $x, + €,,. The lowess curve has a U-shaped pattern showing two stages of diversification.

<!-- Start of picture text --> curve has<br><!-- End of picture text --> <!-- Start of picture text --> pattern showing<br><!-- End of picture text --> <!-- Start of picture text --> stages of diversification.<br><!-- End of picture text --> The second panel displays the non-parametric lowess curve of the average Gini index on average GDP per capita. The smoothed values of the Gini index are obtained from local weighted regressions of the country-average Gini index on the country-average GDP per capita according to the following equation: <u>7,</u> = aPE 4 BBE <u>TZ</u> + <u>=.</u> The lowess curve displays again a U-shaped pattern, this characterizing the between-country relationship between Gini and GDP per capita.

<!-- Start of picture text --> relationship<br><!-- End of picture text --> <!-- Start of picture text --> between Gini and GDP per capita.<br><!-- End of picture text --> The third panel displays the non-parametric lowess curve of the de-meaned Gini index on the de-meaned GDP per capita. The smoothed values of the Gini index are obtained from local weighted regressions of deviation from the country-average of the Gini index on deviation from the country-average of the GDP per capita according to the following equation: <!-- Start of picture text --> ation from the<br><!-- End of picture text --> <!-- Start of picture text --> of the<br><!-- End of picture text --> <!-- Start of picture text --> GDP per capita<br><!-- End of picture text --> <!-- Start of picture text --> according<br><!-- End of picture text --> <!-- Start of picture text --> to the following equation:<br><!-- End of picture text --> 15
|GDP per<br>capita square||0.00000||0.00022***||0.00000*|
|---|---|---|---|---|---|---|
|Constant ||0,.60639*** ||0.60740*** ||0.59386*** ||0,62422*** ||0.62756** |<br>*|0.63086***|
|~~/| ~~|~~(0.00125)~~<br>~~|~~|~~(0.00160) | ~~|~~(0.00176) |~~|~~(0.00270) |~~|~~(0.00195) ~~|~~| (0.00277)~~|
||4,970<br>|4,970<br>|3,393<br>|3,393<br>|1,577<br>|1,577<br><br>|
||0.00648|0.00668|0.01165|0.07075|0.00306 ||0.00489|
|Number of|140|140|93|93|47|47|
|iso3cl<br>Table|2: Between|Regressions fo|r Pooled, Reso|urce-Rich, an|d Resource-P|oor|
|~~Pe~~<br>~~f~~|~~FM~~|~~PM~~|~~LO~~|~~LOL~~|~~em~~|~~]eo)~~|
|VARIA-<br>BLES|<br>All<br>Linear|<br>All<br>Quadratic|<br>Resource-<br>Poor<br>Linear|Resource-<br>Poor<br>Quadratic|<br>Resource-<br>Rich<br>Linear|<br>Resource-<br>Rich<br>Quadratic|
|GDP per | <br>capita<br>|-0.00434*** <br>|| -0.01185*** <br>|| -0.00670*** |<br>|-0.01521*** <br>|| -0.00232 <br>|| -0.01754<br>|
|**~~|~~**|~~(0.00115)~~|~~|(0.00197)~~|~~|(0.00178)|~~|~~(0.00499)|~~|~~(0.00204)~~|~~|(0.01466)~~|
|GDP per<br>capita<br>square||<br>0.00019***||<br>0.00036*||<br>0.00043|
||-3,66375*||<br>-2.77362 ||-7.74183*** ||-6.66882** ||-0.10016|0.05693|
|**~~|~~**|~~(1.97675) ~~|~~| (1.79207) ~~|~~| (2.53702) |~~|~~(2.53674) |~~|~~(6.26328) ~~|~~| (6.21142)~~|
|Observa-<br>tions|4,970|4,970|3,393|3,393|1,577|1,577|
||0.71510|0.77155|0.88303|0.89216|0.88934|0.90677|

17
Figure 5: Estimated Semi-parametric Curve for UNIDO 2-digit Employment Data <!-- Start of picture text --> Estimated Non-Parametric Curve For Gini - UNIDO 2-digit Employment Data<br>rs) pret<br>fers "ly<br>‘Jpra” I<br>hd4 “ ry h<br>ws rwal vr _— ~~ é!<br>© rye<br>a<br>oe eel<br>5 , fase<br>iff<br>‘o NN WAff?<br>9 it!<br>aN. el!<br>Sse"<br>9<br>SF& SF& SCis] SC SF& EF& SFBS LCis] LF<br>Income midpoint<br><!-- End of picture text --> Source: Authors’ calculation <!-- Start of picture text --> Regression with the semi-<br><!-- End of picture text --> Figure 6: Slope coefficients and their significance in the Fixed-effect Regression with the semiparametric Method and Updated Data <!-- Start of picture text --> GDP Slope Estimates and Number of Observations o<br>8<br>3 +<br>S Nt 85: ip)<br>2° \ =<br>aW5<br>iSa<br>fe)<br>aOo —<br>D al | a<br>Te) os<br>8 Ss<br>3 FS)<br>er Ff& FF& SF& SFS SF& EC LS EF& &<br>Income Midpoints<br><!-- End of picture text -->

Source: Authors’ calculations 20
<!-- Start of picture text --> Regression with the<br><!-- End of picture text --> Figure 7: Intercept Coefficients and their Significance in the Fixed-effect Regression with the semi-parametric Method and Updated Data <!-- Start of picture text --> Intercept Estimates For Gini - UNIDO 2-digit Employment Data<br>°|<br>-<br>©<br>=, ‘<br>x ,ih<br>; i<br>es<br>Income midpoint<br><!-- End of picture text -->

Source: Authors’ calculations Similarly, Figure 7 plots the intercept of the semi-parametric fixed-effects regression of each subsample against its midpoint GDP per capita. Consistent with our earlier evidence that between-effects account for much the U-shaped relationship between diversification and GDP per capita, the estimated intercept curve is U-shaped and the intercept is estimated with consistent precision.

<!-- Start of picture text --> and the intercept is estimated<br><!-- End of picture text --> <!-- Start of picture text --> with consistent precision.<br><!-- End of picture text --> <!-- Start of picture text --> Diversification for<br><!-- End of picture text --> <!-- Start of picture text --> and Highly<br><!-- End of picture text --> 4.5 Patterns of Diversification for Resource-Poor, Resource-Rich, and Highly Resource-Rich Countries.

<!-- Start of picture text --> Countries.<br><!-- End of picture text --> <!-- Start of picture text --> and<br><!-- End of picture text --> Figure 8 displays the lowess curve for the Gini index of employment, value-added and exports for resource-rich and resource-poor countries separately.

<!-- Start of picture text --> exports for<br><!-- End of picture text --> <!-- Start of picture text --> and<br><!-- End of picture text --> <!-- Start of picture text --> countries separately.<br><!-- End of picture text --> 21
Figure 8: Diversification patterns in resource-rich and resource-poor countries <!-- Start of picture text --> Lowess curve for Gini of employment, value added and exports against GDP per capita (PPP) at 2-digit level<br>Employment Value-added Exports<br>-]-]-|<br>||<br>l<br>l ] |<br>a|A|||<br>|| |] \ \ | Pa<br>| | \ | 4”<br>0 | © | ; ea; \ xo<br>= / ‘ ,<br>a | = | / = S=f<br>| Lo] 1 ] f a |<br>TM | | /<br>| y = | / TM I<br>| y; i ] |<br>| a \ |<br>©:|4\|I<br>y | é 2 \, | é ee} |<br>\ ‘ /<br>Sop 7 || |I<br>|<br>wn w wn<br>xSEESOS P Oo OSE 5FEISSoS © OP Oo oFESS OG S$O OH<br>GDP per capita, PPP (constant 1995) GDP per capita, PPP (constant 1935) GDP per capita, PPP (constant 1955)<br><!-- End of picture text -->

Source: Authors’ calculations In resource-poor countries, the Gini index follows a similar pattern to Figure 2. Countries first diversify then they start specializing at a turning point around PPP GDP per capita of 20,000 (constant 1985 US dollars). Instead, resource-rich countries reach a plateau at around PPP GDP per capita of 10,000 (constant 1985 US dollars) and start specializing again later at a higher-turning point. Resource-rich countries have a higher Gini index on average than resource-poor countries and therefore look more concentrated. This observation is most noticeable in the third panel of <!-- Start of picture text --> observa-<br><!-- End of picture text --> <!-- Start of picture text --> tion is most noticeable in the third panel of<br><!-- End of picture text --> Figure 8. After the turning point, re-specialization in resource-poor countries is higher in employment and value-added than in resource-rich countries. While re-concentration is higher for resource-rich countries’ exports.” <!-- Start of picture text --> re-concentration is<br><!-- End of picture text --> <!-- Start of picture text --> higher for<br><!-- End of picture text --> <!-- Start of picture text --> countries’ exports.”<br><!-- End of picture text --> The upward bending part of the lowess curve in the 3 panels is steeper for resource-poor countries than for resource-rich countries, suggesting that richer resource-poor countries <!-- Start of picture text --> countries than for<br><!-- End of picture text --> <!-- Start of picture text --> suggesting<br><!-- End of picture text --> <!-- Start of picture text --> that richer<br><!-- End of picture text --> <!-- Start of picture text --> countries<br><!-- End of picture text --> <!-- Start of picture text --> Figures using<br><!-- End of picture text --> <!-- Start of picture text --> and exports display similar results and can be available upon request.<br><!-- End of picture text --> 3 Figures using value-added and exports display similar results and can be available upon request. 22