EMPLOYMENT – GROWTH

NEXUS
(JOBLESS GROWTH)
A Case Study of Pakistan

A thesis submitted for the partial fulfillment of the requirement for the degree of
Doctor of Philosophy

BY
AZAD HA IDER

SCHOOL OF ECONOMIC SCIENCES

FEDERAL URDU UNIVERSITY OF ARTS, SCIENCE &

TECHNOLOGY, ISLAMABAD

2010
 CERTIFICATE

This is to certify that Mr. Azad Haider has completed his dissertation in partial fulfillment

of the requirements for the degree of Doctor of Philosophy entitled, ―Employment –

Growth Nexus (Jobless Growth) A Case Study of Pakistan‖ under our supervision. In our

opinion, this dissertation fully meets the requirements, in scope and quality, for the degree

of Doctor of Philosophy.

Senior Supervisor Foreign Supervisor

_________________ ___________________

Dr. Ather Hussain Akbari Dr. Yigit Aydede

ii
 ABSTRACT

The slow growth in employment during the present and past few economic recoveries

around the world has generated interest among economic researchers in the phenomenon

of jobless growth. In developing countries the potential of economic growth to generate

employment has often been questioned. The present study is assesses this potential in

Pakistan which has relied mainly on economic growth in the past to generate

employment. Using a production function, an employment demand model is derived in

which Gross Domestic Product (GDP) is the main explanatory variable. This model is

estimated using annual time series data for the period 1974-2008, first at the national

level and then by pooling data for the major sectors of the economy. Econometric

estimates of the parameters of this model have been used to calculate a threshold level of

GDP growth below which growth in employment is expected to be stagnant.

The analysis of national data indicates that the economic growth in Pakistan has

generally been slower than the level of growth required to generate employment growth.

This result is mainly attributed to below threshold level of growth in the manufacturing

sector of the economy which is regarded as one of the main engines of economic growth

by economic planners in Pakistan.

Among the potential factors behind the above results are labour productivity,

sectoral shifts in the labour market, and the macroeconomic policies of the last three

decades. Directions for future research and policy implications of results are also

discussed in this study.

iii
 Dedication

I dedicate this dissertation to my Parents and late brother,

Farrukh Hayat, who provided me encouragement and moral
support to pursue a doctoral degree.

iv
 ACKNOWLDGMENTS

―In the name of Allah, the most gracious, the most merciful‖, praises and thanks are first
and foremost due to the Almighty Allah, the Lord of the Universe, who gave me the
strength, patience, and the ability to complete this dissertation.

It is difficult to overstate my gratitude to my senior supervisor, Dr. Syed Ather H.

Akbari. With his enthusiasm and expertise in explaining the economics concepts clearly
and simply, he helped to make the discipline of economics fun for me. Throughout my
thesis-writing period, Dr. Akbari provided encouragement, sound advice, good teaching,
good company, support and many good ideas.

I would also like to thank Dr. Yigit Aydede, my foreign supervisor, for his
valuable guidance especially on the econometrics analysis.

My appreciations are also due to Dr. Syed Nawab Haider Naqvi, Dr. Rehana
Siddiqui, Dr. Abdul Salam, Dr. Ather Maqsood, Dr. Waseem Shahid Malik and Saeed
Ahmed Sheikh whose classes strengthened my interest in the field of economics and
provided me the inspiration to conduct applied research.

I also thank Dr. Mumtaz Hussain of the International Monetary Fund for his
valuable guidance and encouragement.

Words are inadequate to express my full and sincere gratitude to my parents and
siblings. A special thought is devoted to my parents for a never-ending support -
especially to my mother for her understanding, endless patience and encouragement when
it was most required.

Finally, I also gratefully acknowledge The Higher Education Commission (HEC)

of Pakistan for providing me financial assistance to pursue a doctoral degree in
economics.

Azad Haider

v
 Table of Contents

Certificate ............................................................................................................................... ii
Abstract …..............................................................................................................................iii
Dedication ............................................................................................................................... iv
Acknowledgements ................................................................................................................. v
Table of Contents................................................................................................................... vi
List of Tables ........................................................................................................................... x
List of Figures ....................................................................................................................... xii

CHAPTER 1

Introduction ............................................................................................................................. 1

1.1 Importance for Pakistan: ................................................................................................ 3

1.2 A Brief Review of Pakistan‘s Current Employment Policy: ....................................... 6

1.3 Research Questions: ..................................................................................................... 10

1.4 Method of Analysis and Data Used: ........................................................................... 12

1.5 Organization of the Study: ........................................................................................... 13

CHAPTER 2

Literature Review ................................................................................................................. 15

2.1 European and North American Studies: ..................................................................... 16

2.1.1 Regional Studies on Europe and North America:............................................... 16

2.1.2 Country Specific Studies in Europe and North America: .................................. 25

2.2 African and Asian Studies: .......................................................................................... 37

2.2.1 African Studies on Jobless Growth: .................................................................... 37

2.2.2 Asian Studies: ....................................................................................................... 42

2.3 Studies on the Relationship between Economic and Employment Growth in

Pakistan: ...................................................................................................................... 48

2.4 Summary:...................................................................................................................... 53

vi
CHAPTER 3

Theoretical Background, Method of Analysis, and Economic Model.......................... 55

3.1 Theoretical Background of the Relationship between Employment and Output

Growth: ........................................................................................................................ 55

3.2 Method of Analysis: ..................................................................................................... 60

3.3 Employment Demand Model: ..................................................................................... 61

3.4 Some Issues in the Estimation of Employment Demand Equation: ......................... 68

CHAPTER 4

Econometric Results of Employment Demand Model for Pakistan ............................. 71

4.1 The Employment Demand Equation:.......................................................................... 72

4.2 Sources of Data and Their Description:...................................................................... 75

4.3 Econometric Results of Employment Demand Model: ............................................. 77

4.3.1. Econometric Issues Relating to the Time Series Estimation of Employment

Demand Model: .............................................................................................................. 78

Stationarity of Data .................................................................................................... 78

Autocorrelation .......................................................................................................... 80
Multicollinearity......................................................................................................... 80
4.4. Interpretation of Econometric Results: ...................................................................... 81

4.4.1 A Comparison of the Threshold Level of GDP Growth Rate with Actual
Annual GDP Growth Rate: .................................................................................. 84

Calculation of Threshold Level of GDP Growth ..................................................... 84

4.5 Employment and Economic Growth Relationship during Periods of Slow and Fast
Economic Growth: ...................................................................................................... 87

4.5.2 Threshold Level of GDP Growth in the Fast Economic Growth Period: ......... 90

4.6 Summary:...................................................................................................................... 91

vii
CHAPTER 5

Sectoral Analysis of Employment Demand in Pakistan ................................................. 92

5.1 Augmented Employment Demand Equation Showing Sectoral Effects: ................. 95

5.2 Econometric Issues Relating to Estimations Based on Pooled Data: ....................... 96

5.3 Results of the Unit Root Test for Stationarity of Pooled Data: ................................. 97

5.4 Econometric Results of the Augmented Employment Demand Equation: .............. 99

5.5 Summary:.................................................................................................................... 106

CHAPTER 6

Why Jobless Growth in Pakistan ..................................................................................... 108

6.1 Possible Factors Responsible for Jobless Growth: .................................................. 109

6.2 An Investigation of Factors Responsible for Jobless Growth in Pakistan: ............ 112

6.2.1 Labour Productivity Growth in Pakistan:.......................................................... 112

6.2.2 Structural Change in Pakistan‘s Economy: ....................................................... 116

Groshen and Potter‘s (GP) Measure ....................................................................... 117

Lilien‘s Measure ...................................................................................................... 120
Rissman (1997) Measure ......................................................................................... 121
Aaronson, Rissman and Sullivan Measure ............................................................. 123
6.2.3 Monetary and Fiscal policies: ............................................................................ 126

6.2.4 International Trade and Globalization:.............................................................. 130

6.3 Summary:.................................................................................................................... 133

CHAPTER 7

Conclusions and Policy Implications ............................................................................... 135

7.1 Summary of Conclusions Regarding Presence of Jobless Growth in Pakistan: .... 135

7.2 Key Factors Responsible for Jobless Economic Growth in Pakistan: .................... 140

7.3 Some Policy Implications of this Study: .................................................................. 141

7.4 Limitations of the Study and Some Directions for Future Research: ..................... 144

viii
Appendix I ........................................................................................................................... 147
Appendix II .......................................................................................................................... 151
Appendix III ........................................................................................................................ 153
Appendix IV ........................................................................................................................ 157
Bibliography ........................................................................................................................ 158

ix
 List of Tables

Table 1.1: Some Labour Market Indicators in Pakistan (1974-2008) ................................... 4

Table 2.1: Sector Wise Elasticities of Employment with Respect to GDP in Pakistan ..... 49
Table 2.2: National and Sectoral Elasticity of Employment with respect to GDP in
Pakistan, 1970s, 1980s, and 1990s ...................................................................... 50
Table 3.1: Share of Capital Goods in Total Imports, Pakistan (1974-2008) ...................... 66
Table 4.1: Regression Results of Employment Demand Model ......................................... 77
Table 4.2: Unit Root Test Results (ADF Test) ..................................................................... 79
Table 4.3: Residuals Based Co-Integration Test Results (ADF) ......................................... 80
Table 4.4: Correlation Matrix (Employment is Dependent Variable) ................................ 81
Table 4.5: Periods of Economic Growth in Pakistan .......................................................... 88
Table 4.6: Econometric Results of Employment Demand Model Incorporating the Effects
of Slow and Fast Economic Growth .................................................................... 89
Table 5.1: Sectoral Shares of GDP and Employment in Pakistan (1950-2008, %) ........... 93
Table 5.2: Sectoral Hours Worked Per Week in Pakistan (Averages, 1974 to -2008) ...... 94
Table 5.3: Unit Root Test for Employment, GDP and Total Number of Hours Worked Per
Week ...................................................................................................................... 98
Table 5.4: Econometric Results of Employment Demand Equation: FGLS Estimates .. 100
Table 5.5: Residuals Based Co-Integration Test Results (ADF) ....................................... 101
Table 5.6: Sector Wise Elasticities of Employment with respect to GDP in Pakistan .... 102
Table 5.7: Threshold and Average Annual GDP Growth Rates in Non-Agricultural
Sectors of Pakistan .............................................................................................. 104
Table 6.1: Employment to Population Ratio and Total Number of Hours Worked Per
Week Per Person Employed in Pakistan ........................................................... 115
Table 6.2: Employment Growth Rates by Sectors in Peak and Trough of Economic
Growth, and in the Years Following them. ....................................................... 118
Table 6.3: Comparison of Three Measures of Sectoral Allocation in Slow and Fast
Economic Growth Periods ................................................................................. 125
Table 6.4: Econometric Results of Employment Demand Equation by Using OLS Method
.............................................................................................................................. 128
Table 6.5: Residuals Based Co-Integration Test Results (ADF) ....................................... 129
Table A5.1: Sectoral Compositions of Pakistan Economy ................................................ 153

x
Table A5.2: Sectoral Distribution of Employment according to Rural and Urban Areas,
Pakistan (1974 - 2008)..................................................................................... 154
Table A5.3: Sectoral Distribution of Informal Employment according to Rural and Urban
Areas, Pakistan (2001 - 2008) ......................................................................... 155
Table A5.4 : Sectoral Employment and GDP Growth Rate of Pakistan (1974-2008) ..... 156
Table A6: Measures of Sectoral Change............................................................................. 157

xi
 List of Figures

Figure 3.1: Phases of Business Cycle.................................................................................... 57

Figure 4.1: Growth Rates of Employment and Total Number of Hours Worked Per Week
(1973-74 to 2007-08) ........................................................................................... 73
Figure 6.1: Pakistan Employment, GDP and Labour Productivity Growth Rates ........... 112
Figure 6.2: Lilien, Rissman and Aaronson et.al Measures of Sectoral Variations in
Employment, Pakistan (1967-2008) ................................................................. 124
Figure A4: Estimates of Economic Growth Cycles in Pakistan Based on HP Method: .. 152

xii
 CHAPTER 1

Introduction

The main purpose of this study is to assess the employment growth potential of economic

growth in Pakistan. This purpose is achieved by estimating the elasticity of employment

demand with respect to Gross Domestic Product (GDP), within the context of production

theory, for the period 1974-2008. The analysis is conducted at national and sectoral levels

of Pakistan‘s economy. 1 Following an empirical verification of the strength of the

relationship between employment and economic growth, the study also explores a set of

factors that may determine the strength of this relationship in the context of Pakistan‘s

economy.

Recent interest in the relationship between employment and economic growth

began at the end of the global recession of 1991 when employment recoveries in many

countries were found to be slower than the recoveries observed at the end of previous

recessions. The phrase ―jobless growth‖ was first introduced by the New York Times in

the 1930s when at the end of the Great Depression, job growth was slower than the GDP

growth.2 This term gained prominence after the 1991 recession in the global economy to

describe the economic recovery that did not result in immediate job creation in most

economies.

Jobless growth is defined in two broad ways in this study. In the first definition,

"it refers to a situation whereby the overall economy is growing, but the absolute

1
To be consistent with terminologies used in the Pakistani literature, sectoral level data include data on
agriculture; industry defined as mining, manufacturing, construction and electricity, and services sectors.
Appendix Table A5.1 provides a list of the components of each sector.
2
For reference, please see U.S. Heads for Third Straight Jobless Recovery. Morning Edition, National
Public Radio. 16 Oct 2009 cited by http://en.wikipedia.org/wiki/Jobless recovery .

1
employment level is stagnant or falling, rendering near-zero or negative employment

growth rates. Second, the term may be used to describe a situation whereby the overall

economy is growing, while the rate of unemployment is rising. Each of these two

definitions represents a very strict and broad interpretation of the term, with the latter not

ruling out the possibility of an increase in the level of employment" (Altman 2003:12).

The issue of jobless economic growth in developing countries is important

because, economic growth in most of them is the main focus of economic policies to fight

wide-spread poverty levels. However, efforts to reduce poverty are destined to fail unless

jobs are created for the unemployed and poor. As Fields (2004) points out "the poor are

poor because they earn little from the work they do. If growth does not produce enough

jobs that are also high-productivity and high-paying, its purpose to foster development

and alleviate poverty will eventually be defeated". Indeed, recent data on developing

countries indicate a weakening of the relationship between overall employment and

economic growth (Rada, 2008).

Khan (2007) has identified several factors responsible for jobless growth in a

developing country. These factors include the transition towards a market-based

competitive environment that necessitates economic reforms, which in turn lead to worker

layoffs and adoption of a cautious approach to new hiring; a structural shift in the

economies towards less employment-intensive sectors, which may be the result of greater

competitiveness of an economy; adoption of more capital-intensive production; and

reduced availability of credits for small- and medium-sized enterprises, which tend to be

more labour-intensive. In addition, labour productivity increases accompanied with

economic growth, expansion of international trade, and wait unemployment which is also

2
referred as ―just-in-time employment practices‖ by Schreft and Singh (2003), are cited as

possible factors causing economic growth to be jobless.

1.1 Importance for Pakistan:

An investigation of the relationship between employment and economic growth

rates is important for Pakistan. As Table 1.1 shows, over the period 1974-2008,

employment growth in Pakistan has been generally slower than the growth in its real

GDP. On the whole, the unemployment rate matched economic growth rate over the

period. Since the mid-1990s, the unemployment rate has been high. The rapid rate of

economic growth in the current century has been accompanied by high unemployment

rates. This indicates that economic growth in Pakistan has not been able to absorb new

entrants into its labor force. 3 Even in the periods where employment growth rate came

close to the GDP growth rate, the unemployment rate was 6 percent or higher. A crude

measure of employment elasticity, response of employment growth to GDP growth, is

also provided in the same Table by calculating the ratio of annual percentage changes in

employment and GDP. An overall inelasticity of employment with respect to GDP

growth rate is observed over the four decades.

3
Arif, Kiani and Sheikh (2002) also find that labour absorptive capacity of Pakistan‘s economy has
declined over time.

3
Table 1.1: Some Labour Market Indicators in Pakistan (1974-2008)

Employment Unemployment GDP Productivity Employment

Period Growth Rate Rate Growth Growth Elasticity
Rate Rate
1974-80 3.30 2.70 5.56 2.25 0.59
1981-85 2.23 3.80 6.78 4.55 0.33
1986-90 2.73 3.20 5.80 3.07 0.47
1991-95 0.94 5.00 4.65 3.71 0.20
1996-00 3.25 6.00 3.27 0.02 0.99
2001-05 2.28 8.00 5.23 2.95 0.44
2006-08 4.17 6.40 5.84 1.67 0.71
1974-08 2.65 5.20 5.29 2.64 0.50

Source: Based on Economic and Labour Force Survey of Pakistan (various issues).

It is by and large notion that the key objective of any economic policy is, to

enhance material wellbeing and the quality of people‘s lives and this can be accomplished

with an economic growth which will produce income generating employment

opportunities (Loots, 1998). This does not seem to be the case in Pakistan.

A systematic investigation of the employment and GDP growth relationship in

Pakistan that will quantify this relationship can help shed light on the desirability of

relying on economic growth as a tool for future employment growth in the country. This

is essential because until recently, economic planning in Pakistan has been largely

economic growth oriented (Pakistan 2007a). One desired outcome of this policy was

employment expansion which in turn could help reduce income inequality and poverty.

However, with the launching of Vision 2030 by the Government of Pakistan in August

2007, the policy focus has now changed towards an employment-intensive economic

growth (Pakistan 2007c). A comprehensive strategy has been designed to create "A

developed, industrialized, just and prosperous Pakistan through rapid and sustainable

development in a resource constrained economy by developing knowledge inputs. A

4
major objective of this strategy is to place employment and employability of labour at the

centre of economic and social policies" (Pakistan 2007a, p.6). By estimating the elasticity

of employment with respect to economic growth within an economic framework, and by

providing evidence on the presence or absence of jobless growth, the present study will

shed light on whether a shift from economic growth led employment towards

employment led economic growth can be supported by past data on Pakistan‘s economy.

Apart from employment expansion, employment policies in Pakistan also focus on

enhancing worker productivity through education and training, and self-employment

through microfinance programs (Pakistan, 2007a). Enhancement of worker productivity

can weaken (alter) the relationship between employment and economic growth rates

(Majid, 2000). In particular, if worker productivity is rising, one would expect

employment levels to grow slower than national output thereby creating a jobless growth

type of situation in the economy. If this is true, then an employment generation policy

should emphasize expansion of industries where specific skills of newly trained

unemployed workers are in demand. Table 1 data also showed that the productivity

growth rate in Pakistan has generally varied directly with economic growth. However, no

clear relationship appears to exist between productivity and unemployment rate. The

present study will investigate productivity growth as a possible cause of slow response of

employment to GDP growth.

Whenever a country emerges from a recession, public expectations are raised that

employment will rise. However, if the link between economic growth and employment is

weak, economic planners in a democratic country must convince general public why

employment does not grow as expected when the economy recovers. The present study

5
will provide useful information to policymakers whose job becomes more challenging

during bad economic times.

The following section provides an overview of the country‘s current employment

policy.

1.2 A Brief Review of Pakistan’s Current Employment Policy:

Economic growth or development is a multifaceted phenomenon as it is an

outcome of numerous social, economic and institutional factors such as capital, labour

(quantity as well quality), technology, natural resources, entrepreneurship, and

infrastructure. It is also influenced by the political environment and governance as well as

the strength of public institutions and civil services, which in turn help determine the

government‘s approach to fiscal, monetary, and trade issues. The focus of any research

aimed at providing inputs to policymakers should be on decomposing the development

experience of fast growing economies of the world into its critical sub-components and

then using this experience to visualize the future track of economic development in

relation to Pakistan. In 2005, the Government of Pakistan launched a Medium Term

Development Framework, 2005-10 (MTDF) and Poverty Reduction Strategy (PRSP-I),

which emphatically states that Pakistan must become a developed, industrialized, just and

prosperous nation within one generation. 4 It must do so in a manner that sustains its

development paradigm of a good quality of life and opportunity for all its citizens to

reach their true potential. The MTDF also states that in spite of resource constraints,

4
"High pro-poor economic growth, social development, good governance and protection of the vulnerable
are the four basic themes of the employment and poverty reduction strategy of the MTDF. It aims at
achieving employment oriented pro-poor growth by accelerating productive economic activities. Expansion
of employment opportunities in agriculture, SMEs, and housing and construction that provide employment
to the poor segments of the society are the key instruments. Some targeted public support-programs, such
as, Tameer-e-Pakistan and Khushal Pakistan aim at income and employment generation" (Pakistan 2007b,
p.10).

6
Pakistan can reach the development levels, which it needs and deserves, by deploying

knowledge inputs and human capital. Employment generation has now become a central

focus of macro and sectoral policies and budgetary allocations in Pakistan (Box-1). The

MTDF stresses on "creating a just and sustainable economic system for reducing poverty

and achieving the Millennium Development Goals (MDGs) by the target year of 2015. It

incorporates a paradigm shift towards enhancing competitiveness not only by means of

higher investments but also through knowledge inputs to maximize total factor

productivity (TFP)" (Pakistan 2007b, p.2).

Box-1

"Key Elements of the Global Employment Agenda (GEA) Reflected in

Pakistan’s Employment Generation and Skills Development Strategy

• Making employment central in economic and social policy making,

• Emphasis on both the quantity and quality of jobs generated in the economy,
• Increasing employment intensity of growth and creation of decent employment
through appropriate macro, trade, labour market and sectoral policies,
• Strengthen institutions to create an efficient and equitable labour market,
• Active involvement of employers and workers organizations and civil society in
formulation of employment policy,
• Create favourable conditions for growth of the private sector especially SMEs
and other labour absorbing sectors,
• Create a competitive and productive world class labour force, and
• Strengthen institutional machinery for employment policy making, HRD and
monitoring labour market development".

Source: Sustainable Economic Growth, Employment and Human Resource Development,

Ministry of Labour and Manpower (Policy Planning Cell) 2007, p.5

7
 The MTDF aspires to attain an average growth rate of 8.0 per cent per annum in

real GDP during the period leading up to 2030. By then, sector share of agriculture in

GDP is expected to fall from 21.6 percent to 10 percent, that of manufacturing is expected

to rise from 18.2 to 30 percent, while that of Services will remain stagnant at about 52

percent. In fact, the share of agriculture in GDP has fallen from 39 percent in 1969-70 to

20.9 percent in 2006-07. During the same period, the share of service sector increased

from 38.4 percent to 53 percent. The manufacturing sector‘s share rose from 15.9 percent

in 2001-02 to 19.1 per cent in 2006–07. To reach the quantitative targets of 30 percent

GDP share by 2030, within an overall average GDP growth rate of 7 to 8 percent until

2030, the manufacturing sector needs to grow at an average rate of about 10 percent.5

Vision 2030 document does not emphasize economic growth as necessary for a

higher level of economic development, but it recognizes that they both feed into and feed

upon the social and infrastructure development. Thus, it is important that backward and

forward linkages among the key variables of the macroeconomic framework are properly

identified and adequately quantified so as to make the framework consistent, mutually

enforcing, and a catalyst for overall economic activity.

Finally, the Vision 2030 framework places special attention on development of

human capital and its quality. As discussed above, employment generation has become a

direct target of policymakers to achieve economic growth, while in the past employment

generation took a back seat and was totally dependent on economic growth. The new

approach towards employment generation under the employment agenda of the Vision

2030 is highlighted in Box 1. In light of this change in focus, the present study is

5
Pakistan Economic Survey, 2006-07.

8
important as it will provide some quantitative evidence on the desirability of such a

change.

Effectiveness of an employment policy is crucially linked with sufficiently

available, reliable, and disaggregated data on the employed and unemployed. Realizing

the importance of such information and regular monitoring of the developments in the

labour market, the Federal Bureau of Statistics (FBS) has started conducting Labour

Force Surveys (LFSs) on a quarterly basis. The quarterly reports – mainly in the form of

summary tables – are now providing important insights on labour market indicators.

These data can be used in ascertaining the outcomes of the ―targeted‖ programs aimed at

employment generation (Pakistan 2007b). However, it is too early to conduct such an

analysis.

To strengthen the system of data collection, the Government of Pakistan has

launched a Labour Market Information System (LMIS) to collect labour market

information in order to provide labour market diagnosis/monitoring and labour market

intermediation in a participative and cost effective manner. "The Policy Planning Cell

(PPC) of the Ministry of Labour, Manpower and Overseas Pakistanis (MOLMOP) is

currently elaborating an institutional framework for the LMIS as a part of its employment

policy currently under preparation; The MOLMOP has also initiated a project for better

monitoring and analysis of the labour market" (Pakistan 2007b, p.9).

The labour market of Pakistan is confronted with two main challenges. The first is

the creation of employment opportunities to a level that is at least commensurate with

absorbing fresh entrants into the labour market; their number increasing due to high rates

of growth of the labour force. This has to be accompanied with the creation of conditions

for ―decent work‖ thus focusing on the quality of jobs and work opportunities that are

9
being generated in terms of income, productivity, better working conditions and respect

for fundamental rights at work. The second relates to tackling the low absorptive capacity

and declining employment elasticity of the economy posing indeed a serious challenge to

policy makers (Pakistan 2007b). The focus of Vision 2030 on employment generation is

an attempt to meet these challenges.

1.3 Research Questions:

Our discussion in Sections 1.1 and 1.2 raises at least five important research

questions that will be addressed in this thesis:

1. What has been the magnitude of the impact of GDP growth on employment

growth in Pakistan? An answer to this question will shed light on the desirability

of the recent change in policy focus from relying on economic growth to generate

employment towards directly generating employment.

2. Is there a differential response of employment growth to GDP growth in Pakistan

during periods of fast economic growth compared to slow growth periods. By

answering this question, further insights can be gained on the sensitivity of

employment growth to economic growth.

3. Was there a minimum ―threshold‖ level of GDP growth that the country missed to

achieve before the impact of GDP could be felt on employment? This question is

related to the first question. It will help assess the extent to which past economic

growth has really been jobless or job-generating.

4. Was there a sectoral imbalance in the impact of GDP growth on employment

growth? Identification of sectors where employment response to GDP growth was

10
 slower than the average can be important information for policy makers desiring

to maintain a balance in employment generation across rural and urban regions

based on economic growth. This information will also be useful as the

manufacturing sector has been identified to have large multiplier effect on

employment in the economy of a developing country (Mazumdar and Sarkar,

2007). Furthermore, over the past three decades, many developing countries

including Pakistan have experienced a shift in employment towards the services

sector. This shift has been observed in both rural and urban Pakistan (Appendix

Table A5.2). Development economists are divided over the role of services sector

as a sustainable source for future employment growth in developing countries due

to their low per capita incomes and high income elasticity of demand for services.

Hence, a current high potential of economic growth in services sector may not be

viewed as sustainable. Thus, if employment is found responsive to economic

growth nationally then this outcome will not be sustainable if it were derived

solely by the service sector.6 A sectoral analysis is also important due to the

varying component of informal economy in each sector.7

5. What were some major causes of jobless growth, if any, in Pakistan? If structural

changes in the economy, or increases in labour productivity have caused economic

growth to be jobless, then employment generation programmes aimed at

facilitating worker re-training and establishment of industries which will hire

these workers will help enhance employment opportunities.

6
Appendix Table A5.4 provides sectoral growth rates of GDP and employment.
7
Sectoral components of the informal economy are provided in Appendix Table A5.3.

11
1.4 Method of Analysis and Data Used:

Using an aggregate production function, an employment demand model that

expresses employment as a function of Gross Domestic Product (GDP) will be derived. A

Cobb-Douglas production function will be assumed. The model will be expressed in

logarithmic form. Econometric estimates of the parameters of this model will be used to

calculate a threshold level of GDP growth below which growth in employment is zero. A

comparison of the actual GDP growth with the threshold level will be drawn to

understand if past economic growths in Pakistan can be viewed as jobless or job-

generating. The analysis will be performed first at the national level; and then separately

for seven sectors of the economy.

The period of analysis of this study is from 1974 to 2008.8 During this period,

Pakistan has experienced: five short periods of democratic governments followed by

longer periods of two military regimes, international oil crises, economic reforms,

Afghanistan crisis, economic sanctions imposed on it due to its production of a nuclear

bomb, and natural disasters, all of which may have affected the data used in this study.

The data have been obtained through various published and unpublished sources

of the Government of Pakistan. For some periods, these data were missing and had to be

interpolated, using the linear interpolation method which is inbuilt in EViews 7.1

software.

8
A choice of this period avoids any data inconsistency resulting from the 1971 division of Pakistan.

12
1.5 Organization of the Study:

The presentation of the study is organized as follows. In Chapter 2 a review of

previous international studies that have examined the relationship between employment

and economic growth is provided according to geographic regions. This review mainly

focuses on those studies which investigate presence or absence of jobless growth.

In Chapter 3, an empirical model of employment demand in Pakistan is derived

using a production function approach. This model relates national employment with GDP.

Its econometric estimation provides the elasticity of employment with respect to GDP

which is a measure of the degree of employment response to a change in national output.

Some econometric issues related to the estimation of the employment demand model are

also identified in Chapter 3.

The main focus of Chapter 4 is to analyze the relationship between employment

and GDP at the national level. Emerging trends in the employment growth, GDP growth

and hours worked per week in Pakistan are discussed in the same chapter. Estimates of

employment elasticity are obtained based on econometric estimates of an expanded

employment demand model. The model estimates are also used to estimate a threshold

level of GDP growth below which employment growth is expected to be zero. The actual

GDP growth rate is compared with this threshold level. This comparison is also

performed in periods identified as periods of fast economic growth.

Chapter 5 breaks down the national level analysis of Chapter 4 by dividing the

economy into seven broad sectors. These sectors include: Agriculture, Manufacturing,

Construction, Electricity, Transport, Trade & Finance and All Other Services sectors.9 A

9
Mining sector has a small (less than 1 percent) contribution towards GDP and employment and hence, the
combined sector of mining and manufacturing is dominated by manufacturing industries.

13
sectoral analysis is necessary due to the presence of a large informal sector which

employs about 70 percent of the working age population, because of which employment

elasticity estimates based on national data may not be useful from an employment policy

perspective. The chapter also estimates separate thresholds for seven different sectors of

the economy. The analysis of Chapter 5 is based on pooled data comprising cross

sectional and time series components. The use of pooled data for estimation gives rise to

certain econometric issues which are also discussed in the same chapter.

Chapter 6 discusses a set of various possible causes of this result in light of the

relevant literature. Some of these causes are broadly investigated for Pakistan depending

on the availability of data.

Finally, Chapter 7 concludes the study and discusses some policy implications of

econometric results of the study. Some shortcomings of the present study and directions

for future research are also discussed in this Chapter.

14
 CHAPTER 2

Literature Review

In developing countries, the necessity of economic growth to reduce poverty levels has

been emphasized in literature and employment generation as a consequence of economic

growth is a mean to achieve this goal. However, very few studies in development

economics literature have evaluated the impact of economic growth on employment

generation in developing countries.

In developed countries, recent interest in the issue of jobless growth emerged

among economists after the recession of early 1990s. Studies conducting empirical

investigation of this issue started to emerge only towards the end of 1990s. Most of these

studies focus on estimation of the relationship between employment growth and growth in

Gross Domestic Product (GDP). Jobless growth is inferred in these studies on the basis of

the magnitude of the GDP, or output, elasticity of employment demand. 10 Some studies

have gone a bit further and have used the output elasticity of employment to compute the

threshold level of economic growth, defined as the minimum level of economic growth

required to have any positive growth in employment. Finally, some analysis has also been

based on the growth accounting framework borrowed from the macroeconomics

literature.

10
―GDP elasticity of employment‖, ―employment elasticity‖, ―intensity of employment elasticity‖ and
―employment- to-output elasticity‖ have the same meaning.

15
2.1 European and North American Studies:

The phenomenon of jobless growth has been extensively investigated for

European countries and the United States. Some studies have been conducted at the

regional level where data on a group of countries are analyzed while making references to

some particular countries. Other studies are purely country specific.

2.1.1 Regional Studies on Europe and North America:

A positive relationship between employment and economic growth can be

suggested on the basis of economic theory. Padalino and Vivarelli (1997) provide one

such evidence for G-7 countries. 11 Their study approaches the issue from both theoretical

and empirical perspectives. Econometric analysis of the relationships between real GDP,

employment and working time is conducted using aggregate as well as manufacturing

sector data for the period 1960 to 1994. The theoretical framework of their article is based

on the French regulation theory which seeks to single out the characteristics of what the

authors call the post Fordist era, in influencing the link between economic and

employment growth. 12 The jobless growth hypothesis is contrasted with the more

optimistic view which continues to maintain that economic growth entails employment

growth, in light of different ways of looking at technological change. They show

11
G-7 countries include "Canada, France, Germany, Italy, Japan, the United Kingdom and the United
States" http://www.actuaries.org.uk.
12
Post-Fordism is the name given to "the dominant system of economic production, consumption and
associated Socio-economic phenomena, in most industrialized countries since the late 20th century. It is
contrasted with Fordism, the system formulated in Henry Ford's automotive factories, in which workers
work on a production line, performing specialized tasks repetitively. Definitions of the nature and scope of
Post-Fordism vary considerably and are a matter of debate among scholars". "Post-Fordism is very much
driven by information technology. Advancement in computer technologies allows for just-in-time
manufacturing. There is no longer a need to stock-up on a given product. Products are made and then they
are out the door. The key to production flexibility lies in the use of informational technologies in machines
and operations". Retrieved September 2009, http://en.wikipedia.org/wiki/Post-Fordism and
www.absoluteastronomy.com/topics/Fordism.

16
empirically that aggregate economic growth contributes to employment. To analyze the

jobless growth phenomenon in G-7 countries, these authors estimated the output

elasticities of employment for the entire economy and also for manufacturing sectors

using data for the period 1960-1994. Separate estimations were made for the Fordist

period before the two oil shocks (1960-73) and for the post-Fordist period (1980-94), in

order to investigate any structural break during the 1960-94 periods. The findings

suggested that as a whole, the North American economy experienced employment–

intensive growth. The economy of United Kingdom experienced jobless growth. France

and Germany also faced jobless growth when total working time was taken into account.

In the manufacturing sector, European countries faced a problem of jobless growth in

terms of the number of employees as well as in terms of working time, while North

America still experienced positive employment-intensive growth.

A similar study was conducted by Pini (1996) for the G-7 countries (excluding

Canada) and Sweden for the period 1960-95. This study focused on changes in the output

elasticity of employment over time. France and Sweden experienced a decrease in output

elasticity of employment during the post –Fordist period (1979-95) while the reverse

occurred in Germany and Japan. Italy, United Kingdom and the United States

experienced similar aggregate elasticities of employment to output in the two periods.

Negative elasticities were found for Italy and Sweden during 1990-95, meaning that

economic growth led to job destruction instead of job creation. All countries experienced

a decrease in elasticities, except for Japan, as compared with the 1980s. When data were

disaggregated by sectors, all countries were found to have negative employment

elasticities in manufacturing sector and positive in the services sector. 13

13
These sectoral results are consistent with the previous studies by the same author (Pini, 1995 and 1996).

17
 In investigating the impact of output on employment, the above studies did not

isolate the impact of changing labour productivity on employment. To disentangle this

impact from the impact of output growth, Pianta et al. (1996) included the labour

productivity variable in the employment demand model. This variable was calculated as

the difference between GDP growth and employment growth. Their data included 36

manufacturing industries in the G-7 countries, excluding Canada, over the period 1980-

92. A Value-added measure of GDP was used and it was found that growth in this

variable had a significant effect on employment growth only in the United States and in

Germany. The other four countries namely France, Italy, the United Kingdom and Japan,

experienced a positive relationship between value added growth and employment but this

relationship was found to be statistically insignificant.

In an earlier study, Pianta (1995) had also found a positive relationship between

employment and value added in Germany and Italy, but this relationship was also

statistically insignificant in Italy. The study used data on 20 manufacturing industries

based on the European Community Innovation Survey. 14 Two proxy variables for

aggregate input productivity, including research and development intensity and the

innovation expenditure, were also used in this model and were found to be negatively

correlated with employment both in Germany and Italy. Hence, the aggregate input

productivity improvement can be viewed as a source of jobless growth.

Formulation of any economic growth policy aimed at promoting employment

opportunities for the population must distinguish between the short- and long-run impacts

of economic growth on employment. Dopke (2001) used the co-integration and error

correction techniques to estimate the short- and long-run relationship between

14
A standardised cross sectional analysis carried out in 1992.

18
employment and economic growth. He used data on 18 selected OECD countries for the

period 1970-1999. To test for a possible co-integration relation, he used two residual

based statistics. The first one was obtained using an Augmented Dickey-Fuller (1979)

test, abbreviated as ADF test, to test the null hypothesis of "no co-integration." The

second one was based on the Kwiatkowski, Phillips, Schmidt, and Shin (1992) test,

abbreviated as KPSS test. In this case, the null hypothesis was co-integration between

employment and GDP growth. The ADF test could not confirm the presence of co-

integration between these variables, while the KPSS test indicated the presence co-

integration between these variables and confirm that a long run relationship exist between

employment and economic growth. However, in some cases the influence of real GDP on

employment was found to be unexpectedly low.15

One standard approach to measure the impact of various factors on economic

growth is the ―growth accounting‖ approach attributed to Solow (1957). Growth

accounting decomposes the growth rate of GDP into two main components, one that is

due to increases in the amounts of observable factors – mainly capital and labour - and the

other which cannot be accounted for by observable changes in factor utilization, also

called total factor productivity (TFP) growth considered to represent technological

progress. In a report published by the Centre for Economic Performance (2002), its head,

C. Pissarides, used the growth accounting approach to investigate ―jobless growth,‖ in

Europe, United States and Japan over the period 1980-2000. He found that since 1960,

15
At the end, Dopke also estimated Okun‘s (1962) coefficient for each country in his sample and found it to
be statistically significantly different across countries which led him to conclude that economic growth
affects employment growth differentially across countries in the OECD. In economics, Okun's law, named
after economist Arthur Okun who proposed the relationship in 1962 (Prachowny 1993), describes a
relationship between the change in the rate of unemployment and the difference between actual and
potential real GDP. In the literature, some economists make use of Okun‘s coefficient to discuss jobless
growth. One implication of Okun's law is that "an increase in labour productivity together with an increase
in the size of the labour force can mean that real net output grows without net unemployment rates falling"
(the phenomenon of jobless growth).

19
capital accumulation accounted for about one third of GDP growth in the European

countries and the United States. 16 However, in the United States, the employment growth

accounted for 40 percent of GDP growth and TFP growth for the remainder while in the

European Union, the employment growth contributed only seven percent of GDP growth

leaving about 60 percent of GDP growth explainable by TFP growth. However, if

employment growth is measured by hours of work, its contribution to growth becomes

slightly negative, leaving about 70 percent of economic growth attributed to TFP growth.

In Japan, capital accumulation contributed about 50 percent of the economic

growth, while employment contributed 14 percent if measured by persons and 4 percent if

measured by hours worked, leaving about 36 to 46 percent contribution of TFP growth.

In summary, while the rate of GDP growth was about the same in Europe and in

the US, growth in the US was much more employment-intensive than in Europe and in

Japan, which is attributed by the author to a higher population growth rate. The

dominance of TFP growth rate in European growth rate is viewed as technological

catching up. The higher rate of TFP growth, which is labour-saving, and lower rate of

capital growth worked against employment generation in Europe. Although TFP growth

also played an important role in Japanese growth, capital accumulation which is an

indicator of larger investment partially offset the joblessness of economic growth in

Japan.

Kwiatkowski, Roszkowska and Tokarski (2004) analyzed the sources and

consequences of jobless growth in 48 European countries including some members of the

16
The European Union is composed of 27 sovereign member states: "Austria, Belgium, Bulgaria, Cyprus,
the Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia,
Lithuania, Luxembourg, Malta, the Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain,
Sweden, and the United Kingdom". European Countries, Europa web portal. Retrieved 18 September 2009,
http://europa.eu/abc/european_countries/index_en.htm.

20
Commonwealth Independent States (CIS) over the period 1990-2000.17 These authors

found a strong link (relationship) between employment and economic growth in Slovenia,

the Central European and then by post –Soviet Baltic region countries, but a weak

relationship in countries of former Yugoslavia and CIS. In their view, the weak link

between GDP and employment was due to limited socio-economic reforms in Bulgaria

and Romania and the regional instability in former Yugoslavia and Albania. They also

concluded that the limits to jobless growth differ between countries – they are the lowest

in the EU countries, a bit higher in Eastern Europe and the highest in the Baltic

Republics. Finally, no conclusive evidence on the link between GDP and employment

growth rates was found for the CIS countries of Asia.

On the other hand, Verme (2006) observed that the phenomenon of ―jobless

growth‖ was present in seven low-income CIS countries which experienced sustained

output growth since 1997, but did not experience growth in employment. The joblessness

of economic growth in these countries could be the result of a capital-intensive growth,

large potential for productivity gains among existing workers and the dual labour market

framework. In these low income countries, in the periods of recession and recovery affect

the agriculture and manufacturing sectors in different ways. The agriculture sector

infrastructure is largely depleted, underinvested and disconnected from manufacturing

sector, because of which this sector is unable to grow beyond subsistence. On the other

hand, manufacturing sector only focus on capital intensive techniques and highly

productive means of production and provides good wages for the few highly skilled

workers. With governments and international organizations currently lacking focus on

17
CIS countries include: "Armenia, Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyzstan, Moldova,
Russia (former Soviet Union), Turkmenistan, Tajikistan, Ukraine, and Uzbekistan. Some of these countries
are in Asia: Kazakhstan, Kyrgyzstan, Soviet Union, Tajikistan, Turkmenistan, and Uzbekistan". CIS
Countries, Retrieved 18 September 2009. http://en.wikipedia.org/wiki/CIS_countries.

21
agriculture and manufacturing sector investments, jobless growth is likely to persist in the

low-income CIS countries.

Sengenberger (2006) investigated the phenomenon of jobless growth in South-

East European (SEE) countries. 18 Employment was fairly sensitive, or elastic, to GDP

growth in some countries of the SEE region. Elasticity of employment to output was in

the ―normal‖ range for Albania, Bulgaria, Croatia, Greece, and Moldova, at least during

part of the transition period from the command to market economic system. During the

1994 economic crisis, GNP in Turkey fell by 6.1 percent while employment continued to

grow (World Bank 2006b, p.25), thereby giving a negative employment elasticity. In

2001, Turkish GNP fell by 9.5 percent, with employment shrinking by 3.7 percent until

2003. In the years following the 2001 economic crisis, GDP expanded by 25 percent in

real terms, but unemployment could not be reduced below 10 percent. Apparently,

agriculture acted as an employment safety net. Jobless growth continued in 2003 and

2004, both at national and sectoral levels. Employment decline was substantial in

Macedonia, the only country in the region identified as having low GDP growth after

1999, as a result of which negative employment elasticity was found in that country too.

No employment elasticity values are available for Bosnia Herzegovina, Serbia and

Montenegrin. However, available data in these countries also show employment decline

despite economic growth.

Studies on Central and Eastern Europe (CEE) found the lowest and declining

employment intensity of GDP growth (GDP elasticity of employment) in the world after

18
For the purposes of this paper "SEE comprises the twelve nation states, they include Albania, Bosnia and
Herzegovina, Bulgaria, Croatia, Greece, Romania, Serbia, Moldova, Montenegro, the Former Yugoslavia,
Republic of Macedonia, Slovenia, and Turkey. Montenegro declared its independence from Serbia on 2
June, 2006. As most of the statistical data presented in this paper relates to the period prior to the
separation, Serbia and Montenegro are treated as one state in part of the analysis. Where this is the case,
reference will be made to the SEE-11". Retrieved 18 September 2009,
http://www.ilo.int/public/english/region/eurpro/ankara/events/istanbul/ist-background.

22
1991 (Rutkoswki et.al 2005; Cazes and Nesporova 2006).19 During 1991-95, elasticity of

employment demand with respect to GDP was 0.24, which fell to 0.01 during 1995-99

period, and then to -0.19 during 1999-2003. A United Nations study concluded no

evidence of a relationship between output growth and changes in unemployment in 2003-

2004 in the CEE countries (United Nations Economic Commission for Europe, 2005b, p.

33).

World Bank economists attributed the joblessness of economic growth in CEE

and SEE to overprotected, rigid labour markets and excessive social benefits (Rutkowski

and Scarpetta, 2005). However, this explanation of jobless growth is refuted by the lack

of employment improvement in these regions experienced after protection standards were

scaled down and new flexible forms of labour laws were introduced. A cross-country

study conducted by Kapsos (2005) also arrived at a similar conclusion. The above studies

were based on aggregate data on each economy.

Onaran (2007) estimated a labour demand equation based on the pooled data of

manufacturing sector in selected countries of Central and Eastern European (CEE)

region.20 He investigated the effects of domestic factors, such as wages and output, and

international factors, such as exports, imports, and FDI, on employment during post-

transition recovery. Jobless growth was prevalent in manufacturing sector, irrespective of

wage developments, in most countries. Although the output elasticity of labour demand

was mostly positive, its low value indicated a weak relationship between employment and

19
CEE includes the following former socialist countries, which extend east from the border of Germany
and south from the Baltic Sea to the border with Greece: "Baltic states, Estonia, Latvia, Lithuania,
Poland, CzechRepublic, Slovakia, Hungary, Romania, Bulgaria, Albania ,states of former Yugoslavia:
Slovenia, Croatia,BosniaHerzegovina, Serbia, Kosovo(disputedindependence), Montenegro, Macedonia".
Retrieved 18 September 2009, http://danpritchard.com/wiki/Central_and_Eastern_Europe.
20
These CEE countries included the Czech Republic, Hungary, Poland, Slovakia, Slovenia, Lithuania,
Bulgaria, and Romania.

23
GDP, especially in the medium and low skilled sectors of the Czech Republic, Bulgaria,

and Romania. The process of transition resulted in downsizing of firms and productivity

enhancement which in turn resulted in significant employment losses in the new

millennium, despite the achievement of economic growth in these countries.

The transition economies of Europe also present an interesting case for

investigating the phenomenon of jobless growth. Rutkowski et al. (2005) analyzed the

links between employment and economic growth in nine transition economies of Europe

during the period 1992 to 2002. They concluded that these countries were developing

symptoms of a jobless growth. They also investigated whether jobless growth in those

Central and Eastern Europe countries could be accounted for by a particular set of

macroeconomic conditions. To study the response of employment to economic growth,

they identified two main economic phases. The first phase was termed the transitional

recession experienced during the period 1990-97. The second phase started with the

1998–99 financial crisis in Russia. A rise in productivity was observed during both

phases, although output had begun to rise in the second phase. The productivity increase

was accompanied by a drop in employment, even in the second phase, in most countries.

The authors of this paper held changes in monetary and fiscal policies to be responsible

for jobless growth. Their econometric analysis indicated that the poor employment

performance since the 1998 recession was perhaps due to the worsening of the fiscal

stance, as indicated by the significant effect of the primary budget surplus variable. The

employment elasticity of output did not change significantly in the post 1997 period, but

the partial effect of output rise on employment was offset by the worsening of the fiscal

stance.21

21
Their regression included a slope dummy for the post-1997 period interacted with GDP. That term should
capture any change in the employment-output relationship that occurred during the second phase.

24
2.1.2 Country Specific Studies in Europe and North America:

During the early 1990s, a number of countries belonging to the Organization for

Economic Cooperation and Development (OECD) experienced severe recession. 22 In

most of them, economic recovery was associated with a sluggish job growth (see, for

example, OECD, 1994, 53-55).23 This caused many economists to investigate joblessness

in recoveries in individual countries.

One member country of the OECD for which the phenomenon of jobless growth

has been studied extensively is Finland whose economy was hit the most in 100 years by

the recession of 1990s. Real GDP in Finland fell by almost 15 per cent during 1990s

recession. Unemployment rose to record levels, and the banking system was hit by a

serious crisis. During 1993-98, with growing GDP as compare to European Union (EU)

the Finnish economy showed signs of recovery. However, the rate of unemployment

remained above the EU average during this period. Productivity growth in Finland is

described as "excessive" both during the depression years from 1992 to 1993 when GDP

decreased, and in 1994 which was viewed as the first year of recovery. However, the

period of "excessive" productivity growth lasted only three years. Hence, a statistical test

to confirm any jobless growth during this period was necessary. This test was provided by

Sauramo (1999a) who used quarterly data starting from the first quarter of 1975 and

ending in the second quarter of 1998. He estimated a simple structural Vector

22
There are 34 members of OECD most of which are high-income economies with a high Human
Development Index and are regarded as developed countries such as, "Australia, Austria, Belgium, Canada
,The Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Iceland, Ireland,
Israel, Italy, Japan, Korea, Luxembourg, Mexico, Netherlands, New Zealand, Norway, Poland, Portugal,
Slovak Republic, Slovenia, Spain, Sweden, Switzerland, Turkey , United Kingdom and United States".
Retrieved 18 September 2009,
http://www.oecd.org/countrieslist.
23
In OECD‘s Jobs study (OECD, 1994, p.55) the experiences from different countries are summarized as
follows: "On balance, while the recovery in employment has been slower in some countries than in the past,
this would appear to reflect an initially weaker rebound in output rather than jobless growth as such".

25
Autoregressive (VAR) model to investigate whether economic growth in that country can

be characterized as jobless and found no statistical evidence in this regard for the entire

period. However, there was some evidence of jobless growth during 1992-94 which could

be attributed to rapid growth in labour productivity during these years. After this period,

labour productivity in Finland slowed down.

While the above study was based on aggregate data, Sauramo (1999b)

investigated the presence of jobless growth using disaggregated quarterly data on the

manufacturing sector in Finland over the period 1976-1998. This analysis was also based

on the estimation of simple structural VAR models, but this time the author also assessed

the role of technological and structural changes in affecting the demand for labour in

Finland. The VAR model is appropriate for this analysis. Improvements in labour

productivity that occurred in the manufacturing sector, especially in the metal industry,

and improvements in service sector technology - largely innovation- appeared to have

caused growth in these two sectors to be jobless. In the manufacturing sector, company

restructuring and labour re-allocations contributed to productivity growth which may

have resulted in jobless growth in that sector.

Regional disparity between employment and output relationship in Finland has

also been of interest in the literature. Kangasharju & Pehkonen (2001) linked this

disparity to variations in industrial structures. They used a Generalized Method of

Moments (GMM) technique24. The highest employment decline occurred in regions

where agriculture and public sector industries dominated, while the least decline occurred

where the private sector was dominant. Private services played a major role in

24
Generalized Method of Moments (GMM) estimator by Arellano and Bond (1991), where the lagged
values of the variables (in levels) are used as instruments to remove the correlation between the regressors
and the error term.

26
determining the relationship between changes in employment and output in Capital and

Eastern-Northern region and in the Middle Finland region, contributing about 50 percent

and 66 percent of the total growth, respectively. The authors also found that growth

centre‘s (such as Helsinki, Turku, Tampere, Oulu, and Jyvaskyla) have an impact on

employment in their neighbouring regions. The second main contributor, in the case of

Middle Finland was industry which contributed 21 percent of the total. 25 For the Eastern-

Northern and the Capital region, public services were the second main contributor about

34 percent of the total. Bockerman (1998) used data on labour districts for the period

1988-1995 and found a strong employment and output relationship in southern Finland,

where economic activity is largely concentrated, while the link disappeared in some

districts of the eastern, northern, and western parts of the country. He also found that

various exogenous factors, such as the migration process and the quality of jobs, played a

more important role in employment fluctuations in the northern part of the country than

elsewhere.

Another European country for which the employment and economic growth

relationship has also been studied extensively is Poland where unemployment was the

most important issue faced by economists after economic transition of the early 1990s.

Kwiatkowski, Kucharski and Tokarski (2002) aimed at establishing the possible links

between GDP and unemployment between 1993 and 2001. They used three main

indicators: the number of employed; the number of unemployed; and the flow between

employment, unemployment and productivity. Their analysis suggests that in Poland, the

unemployment rates dropped but the employment growth rate was slower than the GDP

growth rate during 1995-98, which was a period of fast economic growth. During periods

25
In European countries the terms industry and manufacturing are used interchangeably.

27
when employment grew, the GDP growth rate was at least 4.8 percent. These authors also

predicted that by 2010, a GDP growth rate of at least 6 percent would be required to

create jobs in the Polish economy. They also emphasized the importance of

macroeconomic policies to stimulate short-term growth in employment.

Kwiatkowski and Kwiatkowska (2006) concluded that a faster productivity

growth in Poland, that increased its global competitiveness, also increased its potential for

experiencing a jobless growth over the period 1991–2004. During the period, the

country‘s GDP growth was 4.3 percent, labour productivity growth was also 4.3 percent

and employment growth was zero percent. The growth of labour productivity was much

higher in Poland than in the remaining EU countries. These authors estimated the

threshold GDP growth rate in Poland to be around 4.3 percent which was much higher

than the 1 to 2 percent rate estimated for other EU countries.

The above study also provided some evidence of jobless growth on fifteen EU

countries. In some of them, labour productivity growth rates were higher than GDP

growth rates which led to employment declines (Latvia, Estonia, Lithuania, Slovakia,

Slovenia, the Czech Republic, Sweden, and Finland).

Wolnicki, Kwiatkowski and Piasecki (2006) also attribute the jobless economic

growth in Poland mainly to labour productivity growth during the late 1990s and early

2000s. Using the interpretation of Harrod-Domar (1946) as proposed by Barro and Sala-i-

Martin (1992, p.22) these authors provide an explanation of jobless growth. "The long-

run employment growth rate is determined by the difference between the GDP growth

rate and productivity growth rate. A positive GDP growth rate is possible when there is

no growth in employment, or even where there is a negative rate of employment growth.

28
Hence, joblessness is entirely possible when productivity grows at faster rate than that

determined by GDP (guaranteed) rate of growth".

The econometric analysis in the above study was based on GDP and job growth

data obtained for the period 1990-2002 for Poland and fifteen European Union (EU-15)

nations.26 The period of early to mid-1990s in Poland can be viewed as a period of

transition from a command to a market economy. Based on an earlier study,

Kwiatkowski, Roszkowska and Tokarski (2004), they calculate a threshold level of GDP

growth defined as the rate below which employment growth rate is zero. At first an

employment growth rate equation is derived from an employment demand equation in

which log of employment is dependent on log of GDP and time trend. 27 A threshold level

of GDP growth rate is then calculated based on the econometric estimates of employment

growth equation in which employment growth rate is set equal to zero.

Poland was found to have the highest threshold rate of GDP growth at about 4.38

percent, while in the EU-15, used for comparison, it ranged between 1-2 percent.28

During 2002-03, the unemployment rate in Poland was nearly three times higher than the

average unemployment rate in the EU-15 countries which could be directly attributed to

the drop in the overall demand for labour resulting from a significant rise of labour

productivity which in turn led to higher rates of GDP growth. Labour productivity during

this period rose by 60 percent in Poland, while it rose by only 20 percent in EU-15. In

sum, a rise in labour productivity in Poland was largely responsible for its jobless growth.

26
Poland is included in the European Union which is composed of 27 sovereign member states. The authors
compared Poland with other EU-15 countries namely Austria, Belgium, Denmark, Finland, France,
Germany, Greece, Ireland, Italy, Luxembourg, the Netherlands, Portugal, Spain, Sweden, and the United
Kingdom
27
The coefficient of time trend variable is interpreted as the drop in labour demand when GDP is zero.
28
The threshold rate of GDP growth is the one below which employment growth is zero.

29
 The phenomenon of jobless economic growth has also been studied in Sweden

whose economy has a large public sector. Economic growth in that country during the

early 2000s did not provide any boost to employment growth thus causing its politicians

to term their country‘s economic growth experience to be jobless. Lund (2006) confirmed

jobless growth in both private and public sectors of Sweden during 1976-2003. Public

sector had been experiencing jobless growth since early 1990s. The private sector was

divided into two sectors; industry and service. As the level of real GDP grew, Sweden

experienced a decreasing proportion of service sector unemployment in overall national

unemployment. This means that jobless growth did not occur in services sector. On the

other hand, jobless growth was experienced by the manufacturing sector since late 1970s,

which indicates that jobless growth is not a new phenomenon. She attributed jobless

growth during the period 1987-1993 to technological advances. These advances led to

enhanced effectiveness and efficiency of capital resulting in a substitution of workers

with machinery.

Another study by Swane and Vistrand (2006) examined the jobless growth

phenomenon for Sweden and some selected OECD countries over the period 1980-2004,

which they divided into two sub-periods: 1980-1993 and 1994-2004.29 This study based

its analysis on the Okun‘s law. GDP elasticity of employment was about 0.7 percent for

Sweden which remained stable over time. For other OECD countries, the employment

elasticity ranged from 0.2 to 0.8. The employment and GDP move together in the long

run and their stable relationship over time suggested that the joblessness of economic

growth in Sweden identified in the previous study was a temporary situation. The

29
There are 34 members of OECD and the author compares Sweden with 21 selected OECD countries
namely Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Iceland, Ireland, Japan,
Italy, Luxembourg, Netherlands, New Zealand, Norway, Portugal, Spain , Switzerland, United Kingdom
and United States. The author provides no reason for separating the 1980-1993 periods from the rest.

30
following country specific studies are all from the United States. Although the term

―jobless growth‖ was used in the public circles of the United States since the early 1990s,

most studies on the United States are found in literature since 2001.

Schreft and Singh (2003) identified two jobless recoveries in the United States

economy by examining employment growth in the first year after the recession of 1991

and after the recession of 2001. Employment growth was only 0.14 percent after the first

recession, but it was 2.7 percent after the second recession. One possible explanation for

the failure of employment growth to resume in the first year of the recovery period was

attributed to unusually weak economic growth especially immediately after the 1991

recession. The analysis was based on the Okun‘s law (1962).

Groshen and Potter (2003) found that the economic recovery after 2001 recession

was reflected in stable growth in output but no corresponding rise in employment. A

review of sectoral reallocation in manufacturing sector during 2001-03 suggested that

structural change in the economy caused a permanent reallocation of workers from some

industries to others which led to slow response of aggregate employment to growth. The

task of finding new jobs in other firms or industries is generally difficult and time-

consuming as workers need time to learn new skills. This situation was further

complicated by the weakening of financial markets. In such a situation, firms may

postpone new job creation due to the risks involved in growing their businesses or

undertaking new ventures. The authors found some support for this interpretation in the

shortfall to low job creation than to widespread job elimination. Thus, improved financing

options for riskier ventures and a resolution of uncertainties about economic conditions

are the two main ingredients which require for a return to job growth.

31
 Schweitzer (2003) pointed out that the U.S economic expansion of 1990s began

with such surprisingly slow employment growth that economist called it the ―jobless

recovery‖. A review of the trends in employment, unemployment, and labour force

participation rates all indicated jobless recovery. The unusually low level of labour force

participation led the author to term the recovery as ―less jobseeker.‖ He suggested that not

all recoveries were the same, so economic policies needed to adapt to the situation at hand

rather than following a predetermined recovery path.

Bailey and Lawrence (2004) noted that the economic recovery in the United States

which began in the third quarter of 2001 was more jobless than 1991 recovery. On the

basis of their econometric model estimates, they predicted that real GDP, real

compensation of employees and real profits in the US will be higher in 2015 largely due

to lower prices of imports associated with off-shoring. They held that the decline in US

manufacturing employment had occurred mainly because the manufacturing sector‘s

productivity grew faster than its GDP growth. In addition, off-shore activities and the rise

of trade were also responsible for jobless growth in the US manufacturing sector. Schreft

and Singh (2003), reviewed earlier, found that job creation in the US took sometime after

the 1991 recovery began. Bailey and Lawrence suggested that the waiting period in case

2001 recovery may be even longer. 30 They viewed international competition to be the

main cause.

Andolfatto and MacDonald (2004) noted that after the last two recessions of 1991

and 2001 in the United States, employment growth lagged the GDP recovery by several

quarters. According to them, a recession followed by a jobless recovery is what

neoclassical theory also predicts. This is because new technology impacts different

30
This prediction is confirmed by latter studies some of which are reviewed below.

32
sectors of the economy differentially, and the resulting sectoral adjustments in the labour

market take time to have an effect. Their explanation for the jobless recovery include the

varying size and scope of technological innovation, delayed effect of adopting new

technology and a slow reallocation of labour across different firms. 31

The authors explored the properties of a Real Business Cycles (RBC) model in

which growth is driven by technological advances that improve factor productivity. They

do not claim, however, that all technological advances lead to jobless recoveries. Glosser

and Golden (2004) consider the substitution between employment and weekly hours of

work in the US manufacturing sector as a possible source of jobless recovery. The multi-

equation vector auto regressions methodology was used to get the impulse response

functions of both employment and weekly hours. The results revealed a marked change in

labour input adjustments since 1979, Weekly hours worked by workers rose somewhat,

while employment dropped considerably which suggests employers‘ potential reactions to

a skill-upgrading of jobs under greater market pressures in order to control cost. For

policy purposes, the results of the above study imply that active labour market policies

would likely facilitate a more robust job creation instead of longer work hours following

growth in output.

Aaronson, Rissman, and Sullivan (2004a) noted that job recoveries after recession

slowed down since 1990‘s. During each of the five recessions of the 1960s, 1970s, and

1980s, non from employment took less than four month to recover and exceed its

previous level of the recession and in the recoveries it took on average 26 month to

recover. However, after the recession of early 1990‘s, employment growth was much

31
In a previous study, Greenwood, MacDonald, and Zhang (1996) had developed a real business cycle
model to include the effect of varying size of technological innovation and labour re-allocation and found
that a jobless recovery can be the result of a technology-driven recession. Their explanation hinged
critically on the above three assumptions.

33
weaker. It took 14 months for the number of jobs to return to the level reached just before

the trough and an additional nine months before it exceeded the previous expansion‘s

peak. Job growth was even more disappointing after the recession of 2001. After 26

months into that recovery, nonfarm payrolls were still 0.5 percent lower than those of

November 2001, the day the National Bureau of Economic Research (NBER) declared

that the recession had ended. Many analysts (Lilien, 1981; Abraham and Kurtz, 1986;

Rissman, 1997, etc) attributed this surprisingly weak employment performance to

structural changes in the US economy. According to them, "an accelerating pace of

structural change greatly increased the number of workers forced by job loss to make

major career transitions. Because securing a new job in a different economic sector is a

time consuming process, temporarily higher unemployment and a restrained employment

growth was observed. Of course, in the long run, reallocating workers to their most

productive use greatly benefits the economy. However, in the short run, reallocation is

costly".

Aaronson, Rissman, and Sullivan (2004b) do not support the view that the need to

reallocate labour across industrial sectors has been particularly great during the last two

recessions (1991, 2001) or the jobless recoveries that followed. These authors emphasize

the need to focus future analysis on changes in occupational mix of employment rather

than the industrial mix because, according to their findings, industrial restructuring of

employment declined during the two recoveries.

Gomme (2005) also explained the two jobless recoveries of early 1990s and 2000s

with the probabilities of job finding and job separation. "Flows into employment are

called job finding; flows out of employment are referred to as job separations. The

probabilities of job finding and job separation can be calculated from monthly data on the

34
levels of employment and unemployment". The author analyzed the cyclical behavior of

these probabilities in the postwar U.S. economy. During the recession of early 1990s,

both probabilities showed the same behaviour, while both probabilities showed the

different behaviour in the 2001 recession. The probability of finding a job was similar to

that experienced in the early 1990‘s recession. However, the probability of job-separation

behaved quite differently. Thus, focusing on changes in the job-separation probability -

either the firing decisions of firms or the decisions of workers to quit their jobs - is

unlikely to provide a satisfactory explanation of the jobless recovery of 2001. Although

the job separation probability followed the pattern of previous business cycles during

1990–91, the job-separation probability was unusually low during 2001, a fact that by

itself would tend to maintain the level of employment. Thus, explanations of the jobless

recoveries based on the job-finding probability are more likely to be on target.

Hemraj, Madrick and Semmler (2006) interpret the recent phenomenon of jobless

growth in the US in terms of Okun‘s theory. They measured output by GDP volume at

constant prices and used quarterly data from 1961-2001. They estimated the Okun‘s

coefficient for U.S (0.37), Germany (0.22), France (0.17) and for U.K (0.31). They

demonstrated that a declining response of job growth stems from a decline in the Okun

coefficient. They also show that, in Germany and France, this coefficient had not been

falling but rising. The previous higher response of job growth to economic growth in the

US has thus been reversed.

All studies that have been reviewed above ignored the fact that employment

growth may also be affected by the output gap, i.e., the difference between actual and

potential GDP which is an indicator of macroeconomic disequilibrium. Seyfried (2004)

considered this possibility for the US by examining the relationship between employment

35
growth and output gap. In addition, he also analyzed the relationship between

employment and economic growth. State level data were used for the period 1990-2003.

Seemingly Unrelated Regression (SUR) technique was used to estimate state-specific

employment demand models while fixed effects technique was used for the pooled

regression. His results indicated that although economic growth had some immediate

impact on employment, its effects continued for several quarters in most of the states

considered. He found that nine of the ten states showed a positive and significant

relationship between employment growth and GDP gap, with the exception of California

which was attributed in part due to its fiscal crisis. State level employment elasticities

with respect to the GDP gap ranged between 0.20 and 0.56 and with respect to the GDP

growth ranged between 0.31 and 0.61. The national level elasticities, based on the pooled

regression, were found to be 0.39 and 0.47, respectively. In short, this study showed low

response of employment to GDP growth in ten of the United States.

It is concluded from most of the US studies that the last two recoveries, of 1991

and 2001, were different from the ones observed in the past due to a weak post-recession

(in the period of recovery) employment performance that led economic commentators to

coin the term ‗jobless recovery‘ (see Schreft and Singh, 2003; Groshen and Potter, 2003;

Gomme, 2005). While there is a continued debate in the United States as to whether the

two jobless recoveries of the early 1990s and the early 2000s should be attributed to

accelerated structural changes in the labour market, enhanced productivity growth,

economic and political uncertainty, or institutional factors, it is increasingly recognized

that the strong job growth that was once a typical feature of recoveries may be a thing of

the past.

36
2.2 African and Asian Studies:

One common limitation of studies which focus on the less advanced countries of

Africa and Asia is data reliability. This problem is further complicated by the presence of

a large informal sector whose employment changes are not captured in official statistics.

For example, Sinha and Adam (2004) recognized that there could be a rise of

employment in India that is not captured by official figures due to the presence of a large

informal sector. 32 With increased competition in the formal sector that has led to severe

cost-cutting measures including a reduction in employment, the informal sector has been

providing livelihoods for the new unemployed. Hence, any study in the developing

country that investigates jobless growth based on formal sector data is likely to result in

misleading conclusions. Hence, all developing country studies tend to make clear

distinction between formal and informal sectors of their economies.

2.2.1 African Studies on Jobless Growth:

Most African studies on the issue of jobless growth are on South Africa where

unemployment rate has been in double digits since early 1980s. The most cited empirical

study on South Africa is the one conducted by Loots (1998). Using data for the period

1970 – 1996, he estimated the GDP elasticity of employment in the formal non-

agricultural sector to be less than unity - in the range of 0.49 during 1970-80, 0.76 during

1980-90 and -0.55 during 1990-96, while on national level the GDP elasticity of

employment was 0.16 over the period 1990-1995 - thus leading him to conclude that

economic growth did not stimulate employment in South Africa.

32
The informal sector in India contributes more than 60 percent of GDP (NAS) and covers about 87
percent of the workforce (Sinha, Sangeeta, Siddiqui, 2003).

37
 In the same study, the author also estimated the GDP elasticity of total formal and

informal employment in South Africa to be in the range of 0.77 during 1970-80, 1.01

during 1980-90 and 0.16 during 1990-95. Although the GDP and unemployment

relationship was negative - a one per cent increase in the real GDP led to a 1.26 percent

decrease in the unemployment rate - the R-square value is 0.16 which is very low and

indicated that only 16 percent of the change in the unemployment rate could be explained

by economic growth. The low elasticity figures and the weak relationship between GDP

and unemployment show inability of the South African economy - especially the formal

economy - to create sufficient employment opportunities.

Toit and Koekemoer (2003) confirmed the presence of jobless growth in South

Africa by using a neoclassical model of wages and employment for skilled and unskilled

labour. They investigated the structural nature of the problem of rising unemployment

since 1970s with a view to investigate if economic growth was jobless in South Africa.

Their model of wages and employment was based on the systems approach followed by

Layard and Nickell (1985, 1986) and Nickell (1988). A Cobb-Douglas cost function was

estimated as representative of the South African production structure. The period of

analysis was 1970 to 2000 and all data series were employed in the first difference form

in error correction models, which captured the short- as well as long-run dynamics of the

labour market. A single equation residual based Co- integration (ADF) estimation

procedure was chosen. The estimated elasticity of labour demand with respect to the GDP

growth was found to be 0.48 in case of skilled labour, and 0.39 in case of unskilled. These

low responses of employment to GDP growth are indicators of jobless growth in South

Africa.

Altman (2003) defined jobless growth in two broad ways: Firstly, "jobless growth

may refer to a situation whereby the overall economy is growing, but the absolute
38
employment level is stagnant or falling, rendering near-zero or negative employment

growth rates. Alternatively, the term may be used to describe a situation whereby the

overall economy is growing, while the rate of unemployment is rising". In his empirical

analysis, he found no strong correlation between GDP and employment growth in South

Africa over the period 1994-2002. He also found that higher GDP growth generally

accompanied higher unemployment rate. A shift away from formal to informal sector was

observed where there are lower returns to education, lower wages, and fewer contractual

benefits for the employees. His calculations suggested that as of 2001, the South African

economy would have needed about 450,000 net new jobs each year while on average only

240,000 net new jobs had been created annually since 1994, almost all of which were in

the informal sector. This higher rate of desired job creation meant annual employment

growth of 3.9 to 4.4 per cent. Due to dramatic structural changes taking place in South

Africa, it was difficult to calculate precisely the rate of GDP growth that would have been

needed to achieve this minimum target of employment growth. Hence, to give an

indication of the needed GDP growth rate, the author cited literature on other countries

that had transformed less dramatically. "In the South-East Asian economies, for example,

employment growth rates of 2.5 to 4 per cent would normally be associated with GNP

growth rates around 5 to 8 per cent or more (Mazumdar & Basu, 1997). In these

countries, employment and growth depended on the rapid expansion of low-cost

manufactured exports, made possible by a low cost structure. On the other hand,

developed economies that have overcome high unemployment have relied substantially

on the expansion of high-valued market services (such as business and professional

services) and low- value social and personal services, such as health, education and child

care. Ireland is one such example, where employment growth rates generated in this way

39
have averaged 2.6 per cent per annum during 1991 to 1997, while GDP grew by more

than 8 per cent per annum" (O‘Connell 1999).

"South Africa has a capital-intensive structure of production with many supply

constraints limiting employment and investment multiplier effects. This is reinforced by

globalization, where it is mainly the high-skill, capital-intensive export industries which

are benefiting" (Altman 2001). At the same time, "service sector industries are expanding

as in Ireland, and entry is easier for formal and informal Small Medium and Micro

Enterprises (SMMEs)" (Lewis 2001). Hence, Ireland‘s example was used by the author to

conclude that the South African economy would generate less than 1 per cent annual

growth in formal ‗market-based‘ employment in the short-to-medium term.

Bhorat and Oosthuizen (2007) analyzed South African data from 1995-2005.

Their study can be divided into two parts. In the first part, they provide a descriptive

analysis of GDP and employment growth. GDP and employment growth had positive

relationship over the period 1967-1993 but from 1994-2002 these variables exhibited a

negative relationship. This means employment fell during economic growth in most of

the post 1990 period. The authors also used two simple performance indicators ―Target

Growth Rate‖ and the ―Employment Absorption Rate‖ or EAR.33 They concluded that

employment grew just 29.3 percent during 1967-2002, but it would have needed to grow

by 66.7 percent of the net entrants to the labour market. The economy was able to provide

just 44 jobs for every 100 economically active individuals that entered the labour market

during the period.

33
"The target growth rate measures how fast employment would have had to expand in order to provide
work for all net entrants to the labour market over a given period. The employment absorption rate is the
ratio between actual employment growths and the desired or target employment growth rate"(p.10-11).

40
 In the second part of their analysis, the authors obtained their GDP elasticity of

employment by running an OLS regression of the log of employment demand on the log

of wage rate, user cost of capital and GDP. They estimated this elasticity for the non-

agriculture sector using formal employment data for the period 1980-98, as obtained from

the official South African Reserve Bank (SARB). Their autocorrelation adjusted results of

the regression model yielded the GDP elasticity of employment to be 0.29 for 1980-89

and -0.20 for 1990-1998 in the formal sector of South Africa.

Extending their analysis to individual sectors of the economy including the

agriculture sector, they also tested the jobless growth phenomenon on disaggregated data

for the period 1995-2005. All sectors had a positive employment growth except for the

mining and agriculture sectors which were hence identified as experiencing jobless

growth.

Another African study (Fofana, 2001) investigated jobless growth in the private

sector of Cote d‘ Ivoire. A co-integration analysis was conducted to estimate employment

elasticities with respect to GDP over the period 1975-1995. He also used foreign aid,

investment and public expenditure as explanatory variables in the model. The study

concluded that employment and economic growth do not move together in the long run.

In sum, his econometric findings showed a presence of jobless growth in the Ivorian

modern private sector. 34

34
Their study also showed that the employment elasticities with respect to foreign aid and investment were
statistically significant, but only the latter had a positive effect on employment. Public expenditure also had
statistically insignificant impact on employment.

41
2.2.2 Asian Studies:

Khan (2007) has identified several factors responsible for jobless growth in

developing countries. These factors include: the transition towards a market-based

competitive environment that necessitated economic reforms which in turn led to worker

layoffs and adoption of a cautious approach to new hiring; a structural shift in the

economies towards less employment-intensive sectors which may be the result of greater

international competitiveness of an economy; adoption of more capital-intensive

production; and reduced availability of credits for small and medium size enterprises who

tend to be more labour intensive. Some of these factors have been the focus of Asian

studies on jobless growth which are reviewed in this Section.

Gupta et.al (2005) presents detailed evidence on India. Economic growth in

countries with per capita incomes similar to India‘s has normally been led by the

manufacturing sector. However, in recent years, the services sector has been the engine of

economic growth rather than manufacturing.35 These authors used both national and

sector wise data from 1960 to 2000 to estimate employment elasticities in the pre-Reform

period (1983-84 to 1987-88) and the post-Reform period (1993-94 to 1999-2000).36 Their

calculations indicated that between these two periods a sharp decline in the overall

employment elasticity from 0.6 to 0.16. They also noted sizeable reductions in

employment elasticity in the agriculture sector from 0.87 to 0.01, in manufacturing sector

35
Rodrik and Subramaniam (2004) provided a very optimistic view about the Indian economy, that Indian
economy would grow faster than China, at the rate of 7 to 8 percent, for two reasons. The first was the
presence of a higher level of well developed institutions in India because of it democratic political system.
Second reason was the faster growth in the labour force of India, at 2 percent annually, than in that of China
and other competitor countries.

36
Market-based economic reforms were introduced in India during 1988-89. The purpose of these reforms
was to integrate the Indian economy with global economy by adopting liberal policies such as liberalization
of trade and foreign exchange rate, and increased privatisation. It was argued that these reforms would
benefit wealthy people and bypass the poor. The Ninth Plan stated one of its objectives as ―growth with
social justice and equity.‖

42
from 0.59 to 0.33 and in construction sector from 2.81 to 0.82. These reductions occurred

because the growth rates of GDP in agriculture and manufacturing sectors were slower

after 1997 than they were in 1980s. In addition, employment elasticity increased in the

post reforms period in a number of service sector industries including finance, insurance,

real estate and business services.

In another study on India, Muzumdar and Sarkar (2007) decomposed the

determinants of employment elasticity into three key factors (i) the trend in the domestic

real exchange rate, abbreviated as DRER. 37 (ii) The wage-employment trade-off; and (iii)

the trend in the share of wages. They analyzed the formal manufacturing sector data for

the period 1974-75 to 2001-02 and found that employment elasticity showed a cyclical

pattern in four sub-periods, such as reform period of 1986-96, and the immediate post-

reform period of 1996-2002. During the first period, 1974-80, the employment elasticity

was 0.99 but it declined sharply to -0.16 during the 1980-86. During 1986-96,

employment elasticity rose to 0.33 but it experienced a significant drop again during

1996-2002 to -1.39. This last drop was attributed by the authors to both factors isolated in

their decomposition exercise: (i) DRER further turning against manufacturing and (ii) the

wage growth at the expense of employment growth. Both of these factors were important

as indeed they were in the period of jobless growth. But when considering the magnitudes

involved, these authors concluded that the quantitative impact of the DRER (price) factor

was stronger than the wage-employment trade-off. 38

37
DRER also define as, the relative movement over time of the producer price index relative to the
consumer price index.
38
The relative movements of producer and consumer price indices; sometimes called the ‗domestic real
exchange rate‘, or DRER, "translates the wage bill growth into real terms in terms of consumer prices. The
share of wages and the wage-employment trade-off are both labour market variables. They are tied together
in neo-classical economics by the supply functions of labour and of capital working through the production
function. Together, they determine the share of wages, the level of employment, and the wage per worker.
Economists recognize the importance of expectations both in the determination of the wage per worker and
the share of wages. Thus, the difference between the neo-classical tradition, stressing the dominance of

43
 Paul and Pellissery (2007) attributed jobless growth in India to recent policy

changes on the demand side of the labour market. They suggested that the policy shift

away from capital intensive methods may have generated greater mismatches in the

labour market, thereby creating a significant impact on the economic growth itself. The

decline in economic growth can have cyclical effects on employment generation,

especially since the Indian education system was unable to create the employable labour

force. The paper emphasized the need for appropriate employment strategies at regional

levels by focusing on the appropriate human capital demands of their labour markets.

Karmakar (2008) reviewed the effects of market liberalization and trade openness

on the employment generating potential of service sector. Indian services sector employs

about 26 percent of labour force, while its share in the national GDP is over 55 per cent.

This was a clear indication of jobless growth in this high growth sector. A disaggregation

of data showed that, finance, insurance, real estate and business, contributed 23.4 per cent

to the total incremental employment generated in services sector during the five-year

period ending in 2004-05. 39 About 16.8 million workers found jobs in services sector

during the five-year period. However, despite the low overall elasticity of employment in

the country at just 0.48, the disaggregated data showed that the employment elasticity was

reasonably high, and was increasing in certain service sectors. An elasticity of

employment of 0.94 in finance, insurance, real estate and business services followed by

factor supply functions, and the post-Keynesian tradition, emphasizing the importance of decisions
originating on the employers‘ side, have been reduced. The relative importance of the wage-employment
trade-off is that a negative sign of the value signifies that there is a decline towards wage growth, while a
positive value indicates that employment growth is preferred. Thus, other things being equal, a positive
value of the first term would favour an increase in employment elasticity, while a negative value would
signify that the bias towards wage growth reduces employment elasticity. The DRER effect is the
difference between producer price growth and the consumer price growth. Given real output growth, a
negative value of the DRER is similar to a leakage from the growing pie, which has to be shared between
wage growth and employment growth: ceteris paribus, it depresses employment elasticity".
39
The gross incremental employment was around 60.82 million during this period.

44
construction sector at 0.88, trade 0.59 and transport 0.27. The employment elasticity was

1.52 in agriculture and 0.34 in manufacturing sector over the period 1999 to 2005.

The author of the above study also argued that, contrary to developed countries,

Indian service sector‘s employment elasticity was lower than that in its manufacturing

sector. Services sector benefited from outsourcing since 2000. Her statistical analyses

indicated that India continues to exhibit a strong revealed comparative advantage, RCA,

in services relative to goods sector. 40 Finally, the author of the above study also argued

that developments in services contribute to economic growth in numerous ways, by

offering cheaper final services to both individual and business consumers and by

providing inputs into productive activities. Hence, a liberal and pro-competitive service

regime can be a new source of growth and employment generation.

Another country for which jobless growth has been investigated is Turkey.

Pamukcu and Yeldan (2005) allude to the possibility of jobless growth in Turkey when

evaluating the outcomes of that country‘s macroeconomic policy. Turkey had a high

economic growth rate but also a high unemployment rate during the 2001 recovery period

leading the authors to conclude that problem of jobless growth exist in the Turkish‘s

economy. Between 2002 and 2004, unemployment rate continuously increased in Turkey

from 6.5 to 10.3 percent, and employment averaged a negative 0.1 percent growth, even

40
"India‘s RCA in services has been rising sharply since mid-1990s, increasing the gap with the goods
sector drastically in the past decade. A time-series analysis of the service sector‘s RCA indicated that
India‘s current strength in commercial service exports comes from business services including finance,
management and other professional services among others. Between 1996 and 2000, India‘s RCA in
business services grew most dramatically, rising by 327 per cent. The recent trend of increased
specialization of India‘s exports of services in a selected set of sub-sectors within the services sector reflects
the change in composition of exports".

45
though GDP grew at 7.5 percent rate. 41 Employment decline was observed in seven of the

eleven quarters although GDP grew throughout the period.

Tezcek (2007) followed up on the above study and considered three possibilities

for jobless growth in Turkey including:

1. Agriculture Displacements in the pre and post 1980‘s period: Until 1950s, about

80 percent of total labour force in Turkey was employed in agriculture. Since then,

agricultural employment continued to decline. Hence, the decline in agricultural

employment cannot be a reason for jobless growth that was observed in 2001.

2. Structural adjustment policies adopted during 1980-2000: These policies

resulted in a deregulation of labour markets and greater openness of Turkish economy to

rest of the world which may have made employment practices more competitive.

3. Production re-structuring that led to productivity increases in the post-2000

period: Turkey initiated a restructuring of its production technology in 1997. Production

activities aimed at increasing productivity of labour rather than increasing employment.

One measure adopted in this regard was the increased mechanization of workplace and

less reliance on labour. As a result, between 1997 and 2005, the rate of labour

productivity increased by 52.9 percent but the rate of employment declined by 17 percent

in Turkish manufacturing sector. The change in production technology is provided as a

third possible reason by authors for a jobless growth in Turkey.

Another Asian country for which jobless growth has been investigated is

Indonesia. Islam and Nazara (2000) estimated GDP elasticity of employment growth in

Indonesia and the threshold level of GDP growth required to absorb the new entrants into

41
Unemployment was a severe problem in Turkey, especially among the young urban labour force,
reaching 26 percent in 2003-04.

46
its labour force. They used province wise as well as national data from 1979 to 1996 and

estimated the employment elasticity using different statistical techniques such as, simple

descriptive analysis, the Ordinary Least Squares (OLS) method, Generalized Least

Squares (GLS) method and the random effect model. Their estimates varied from a low of

0.49, based on descriptive statistical analysis, to a high of 0.66, based on econometric

analysis. Indonesia required between 3.47 per cent to 4.68 per cent threshold levels of

GDP growth to absorb its 2 million new entrants to the labour force each year. 42 Islam

and Nazara‘s study suffered a caveat in that it did not account for any possible non-

stationarity of data. Hence their results could be misleading.

Ghannam (2008) used the data of Saudi private firms and investigated the

relationship between employment and economic growth. He used co-integration/error

correction models and Granger causality techniques to determine the direction between

the two variables in both short and long runs. The study covered the period 1973-2002.

His co-integration test confirmed a long-run equilibrium relationship between economic

growth and employment in Saudi Arabian private sector. Error correction model and

Granger causality test results indicated a unidirectional causality from economic growth

to employment, and not vice versa, in the short and long runs. The authors suggested that

the Saudi private firms should focus on the quality of hired labour to increase their

productivity via technological improvements in order for employment to play important

role in economic growth.

42
A widely cited statistic is that every one per cent growth in GDP leads to the creation of 400,000 jobs.
This led a recent (1999) ILO Mission to Indonesia to conclude that the economy would have to grow at 5
per cent to absorb new entrants to the labour force, but even such a growth rate would not be able to cope
with the backlog of the unemployed and underemployed.

47
2.3 Studies on the Relationship between Economic and Employment Growth in
Pakistan:

No study has investigated the issue of jobless growth in Pakistan directly. Some

studies have estimated the employment and economic growth relationships, and a few of

these have estimated the output elasticity of employment. Some of these studies are

descriptive while others are empirical. Results of these studies can be used to infer the

nature of economic growth, jobless or job generating, as was done for other countries in

this literature review.

Baqai (1979) estimated the employment elasticity of output in various sectors of

Pakistan‘s economy. The elasticity was found to be 0.33 in agriculture, 0.35 in Mining

and manufacturing and 0.33 for the overall economy. Many other studies, for example

Kemal & Irfan (1983), Kemal (1990), Chaudhary & Hamid (1994, 1998), Aslam and

Zulfiqar (2008), also provided estimates of employment elasticities which are reported in

Table 2.1. Nationally, the calculated values are in the range of 0.33 and 0.41. Only Aslam

and Zulfiqar (2008) conducted their study for the post-2000 period. Except for Aslam

and Zulfiqar (2008) all studies have the same caveat, as some studies reviewed earlier in

this Chapter, that they do not account for the possibility of data non-stationarity which

makes the reliability of their results questionable.

48
Table 2.1: Sector Wise Elasticities of Employment with Respect to GDP in Pakistan

Elasticity
Chaudhary Hyder Baqai Kemal Planning Aslam&
Sectors & Hamid Commission* Zulfiqar

Agriculture 0.44 0.46 0.33 … 0.37 0.13

Mining &Manufacturing 0.50 0.22 0.35 0.12 0.02 0.20
Construction 0.82 0.89 … … 0.87 0.60
Electricity 0.32 0.28 … …. 0.54 0.24
Transport 0.34 0.48 … 0.18 0.45 0.22
Trade &finance 0.44 0.40 … 0.31 0.57 0.32
Overall(National) 0.37 0.40 0.33 …. 0.41 0.11

Source: * Based on Anwar (2004), State Bank of Pakistan, Table.9. All other studies are reported
in Aslam and Zulfiqar (2008) who do not provide the time period of coverage. These studies were
not available to me at the time of writing.

Majid‘s (2000) report was based on a study he conducted in 1997-98 for the

International Labour Organization (ILO), United Nations Development Program (UNDP)

and the School of Policy, Planning and Development (SPPD). The basic objective of his

report was to provide input to the development of an employment policy for Pakistan‘s

Ninth Five Year Plan period, 1997-98 to 2001-02. He emphasized the importance of

manufacturing sector and of macroeconomic policy environment in creation of an

economic growth that is job-intensive. Following important observations were made in

the study:

1. 1970s and late 1990s were periods of low economic growth.

2. Pakistan‘s employment growth has been lower than its GDP growth in all decades

except in the early 1970s. Since the mid 1980s, volatility of employment growth

has increased. During the high economic growth of the 1980s, employment

growth was slow.

49
 3. GDP growth has been a stable component of the employment elasticity and the

elasticity of employment with respect to GDP growth has generally followed the

employment growth.

The first two patterns noted above are indicative for jobless growth. The volatility

in employment growth appeared to be the cause of structural changes in the economy of

Pakistan. Hence, it will be instructive to undertake an examination of sectoral changes on

employment growth in order to more fully understand the sources of jobless growth.

Majid‘s (2000) report also emphasized the importance of estimating employment

elasticities in assessing the employment situation in Pakistan. The study provided national

and six sectoral estimates of the employment elasticities over the three different decades

(1970s, 1980s, 1990s) using a descriptive analysis of data. These estimates are reported in

Table 2.2

Table 2.2: National and Sectoral Elasticity of Employment with respect to GDP in
Pakistan, 1970s, 1980s, and 1990s

Sectors 1970s 1980s 1990s

Agriculture 1.05 0.49 0.48

Mining &Manufacturing 0.70 0.17 -0.10
Construction 0.89 1.05 1.81
Electricity 1.51 -0.39 0.32
Transport 0.55 0.48 0.14
Trade &finance 0.90 0.37 1.22
Overall(National) 0.68 0.38 1.22

Source: Majid (2000)

50
 The elasticity estimates of Table 2.2 may be misleading as the issue of possible

data stationarity is ignored. Furthermore, no controls are introduced for the impact of

other variables on employment. However, these are the only available consistent

estimates of the elasticity of employment demand with respect to GDP growth in

Pakistan. These estimates indicate that a weak relationship existed between employment

and GDP growth at the national level until the 1980s, when the national elasticity values

were lower than unity, but the relationship became stronger in the 1990s. The

strengthening of this relationship is largely attributed to Construction and Trade &

Finance sectors. Structural changes in the transport sector and in the combined mining

and manufacturing sectors appear to be responsible for a weakening of employment and

GDP growth relationships in these sectors while it appears to indicate its declining

capacity to absorb labour in the agriculture sector. 43

Majid‘s report also discussed two important issues with the growth and

development experience in Pakistan. The first one was the insensitivity of economic

growth to income distribution. A structural change in the economy may have spurred

economic growth but it has not improved the lives of a majority of the population by

anywhere near what that growth process could have achieved. The second issue was the

government‘s inability to establish a sustainable pattern of public finance. The country

has historically relied on borrowing from short term private sources, loans by domestic

non bank sectors and heavily depends on foreign grants.

43
Agricultural output growth rates were reasonable in the 1980s and 1990s but slightly declined in 1990s.
Employment growth and productivity growth have declined during this time, leaving a more or less
constant elasticity of employment. However, the low employment–low productivity growth situation is
sensitive to growth conditions in the rest of the economy and the sector needs to be protected on this count.
An overview of the employment situation in agriculture suggests that over the 1970s, 1980s, and 1990s, a
profitability-driven cropping pattern changes based on the new technological package that may have
increased labour requirements in the sector. However, the changing distribution of operated holdings,
mechanization and tenure shifts may have partially adapted to, as well as reduced, these increases.

51
 As a result, Pakistan now faces a profile of increasing future debt service

payments. These two issues are also mutually reinforcing. A growth process insensitive to

the distribution is complemented by the unwillingness or the inability of the State to tax

the better-off sections of society. This in part makes the public finance structure narrow

and precarious.

For the development of an employment growth strategy, the above study

recommended that the country should focus on achieving the growth of GDP in the

manufacturing sector which boost the employment and promote the dynamic sub-sectors

within the small-scale enterprise sector. The limitation of increased labour absorption in

agriculture should also be recognized by the policy makers.

Other labour market studies in Pakistan which have discussed employment

generation include Kazi (1987), Nadvi (1990), and Kemal and Mehmood (1993). They all

suggest that informal sector has been an important source of employment generation in

Pakistan. This conclusion highlights the importance of a sectoral analysis of employment

growth relationship in a developing country, as was stated in the beginning of this

Section, to isolate the impact of informal sector on the official employment data. Some

studies (Haq, 1993 and Chaudhary and Hamid, 1998) have discussed that fiscal policy

and economic planning were not focused towards employment generation in Pakistan.

Haque and Waqar (2006) suggest greater reliance on domestic commerce sector to

generate employment opportunities, as it can be the most-pro-poor sector, given greater

concentration of small businesses in this sector. In addition, expansion of this sector can

also help generate employment opportunities in the other sectors of the economy, such as

transport, construction, retail shops and other service industries.

52
 Most of the above studies did not perform any econometric estimation and none

has discussed or analyzed employment and economic growth in the context of jobless

economic growth. Hence, the present study is an attempt to fill this gap in Pakistan‘s

labour market literature.

2.4 Summary:

Most investigations of jobless growth in empirical literature are based on

estimates of the output elasticity of employment. Some studies have used these estimates

to calculate the threshold level of GDP growth, i.e., the rate of GDP growth below which

employment growth will not occur. The actual growth rate in GDP is then compared with

this rate.

The theoretical background to most studies is providing by the theory of business

cycle. When the economy starts to recover from a recession, employment grows at the

same time or soon thereafter. If employment takes longer to recover, the recovery is

viewed as jobless. However, some studies in literature have also based their analysis on

the seminal work of Okun‘s to analyze the phenomenon of jobless growth. A declining

value of Okun‘s coefficient is viewed as an indicator of jobless growth in such studies.

Other studies have simply interpreted a weak employment elasticity value as an indicator

of jobless growth.

In summary, a review of literature demonstrates the presence of jobless growth in

developing countries (for example, India, South Africa, Cote d Ivoire) as well as in

developed countries (for example, the United States, Poland, Finland, and most of the

European countries). This phenomenon has been attributed to technological changes,

structural changes and changes in macroeconomic variables.

53
 Empirical studies on jobless growth in developing countries are somewhat limited

in their scope due to data limitations. Employment data used in these studies may not be

meaningful since they do not take into account the general trend towards a decrease in the

working time per employee (Maddison, 1991). Lack of consideration of this tendency

may lead to over-evaluation of employment elasticities (Padalino and Vivarelli, 1997). In

addition, as clearly stated by Saget (2000), attention should be paid to the impact of the

unofficial economy on GDP and employment data, because it may alter their relationship.

This issue is particularly important in case of developing countries.

54
 CHAPTER 3

Theoretical Background, Method of Analysis, and Economic Model

The previous chapter provided a review of the empirical literature on the issue of jobless

growth. Theoretical background in most of those studies is provided by the theory of

economic growth and business cycle which is reviewed in the next section (Section 3.1).

The method of analysis employed in estimating the nature of economic growth, jobless or

job generating, in Pakistan is discussed in Section 3.2. Following this method of analysis,

an employment demand model is derived in Section 3.3 using a Cobb-Douglas production

function. Section 3.4 describes some issues in the estimation of employment demand

equation derived in Section 3.3.

3.1 Theoretical Background of the Relationship between Employment and Output

Growth:

In economics literature, the relationship between employment and economic

growth can be best described under the background of economic growth theories,

business cycle theories and Okun‘s (1962) law. Economic growth refers to a change in

economic output, measured by the real Gross Domestic Product (GDP) of a country.

According to the neoclassical theory, the long term economic growth in an economy

depends on the growth in labour force, growth in human capital, growth in physical

capital and on technological improvement. The short-run economic growth depends on

the conditions in goods and services market of the economy. Factors that may change

aggregate supply are changes in factor prices and factor productivity. Factors that may

change aggregate demand include changes in private investments, government spending,

foreigners‘ demand for goods and services and changes in household consumption

55
resulting from changes in personal income. Unexpected changes in either aggregate

demand or in aggregate supply are responsible for causing short-term fluctuations in

economic growth around its long-term trend and such fluctuations are called business

cycles, which in turn are the main source of fluctuations in employment.

Business cycle research has a long history, much of which was initiated by US

researchers working at the National Bureau of Economic Research (NBER) in the early

1920s. These earlier researchers included Mitchell (1927), Mitchell and Burns (1938) and

Burns and Mitchell (1946) who were particularly interested in the widespread and

persistent fluctuations in the general level of economic activity.44

Classical economists hold that due to perfectly competitive markets, periods of

unemployment cannot persist for long because wages will fall in order to get rid of the

excess supply. Keynesians on the other hand believe that wages are not changed very

easily, especially not downwards. Thus, excess demand and supply may persist for a

while.

An outstanding characteristic of the economic system in which we live is that it is

subject to severe fluctuations in respect of output and employment. However, it is not

violently unstable. Indeed, it seems capable of remaining in a chronic condition of sub-

normal activity for a considerable period without any marked tendency either towards

recovery or towards complete collapse. Moreover, the evidence indicates that full, or even

approximately full, employment is of rare and short-lived occurrence. Fluctuations may

44
The best definition to date of the business cycle is that proposed by Burns and Mitchell: "Business
cycles are a type of fluctuations found in aggregate economic activity of nations that organize their work
mainly in business enterprise: a cycle consists of expansions occurring at about the same time in many
economic activities, followed by similarly, general recessions, contractions, and revivals which merge into
the expansion phase of the next cycle; this sequence of changes is recurrent but not periodic; in duration
business cycles vary from more than one year to 10 or 12 years; they are not divisible into shorter cycles of
similar character with amplitudes approximating their own"(Burns and Mitchell, 1946, p.3)

56
start rapidly but wear out before proceeding to great extremes, and an intermediate

situation is viewed as normal. It is upon the fact that fluctuations tend to wear themselves

out before proceeding to extremes and eventually to reverse themselves, that the theory of

business cycles having a regular phase was founded.45

National output (GDP) may fluctuate more rapidly than unemployment in the

economy for several reasons. As unemployment increases, some unemployed workers

may get discouraged and drop out of the labour force after which they are no longer

counted in the unemployment statistics. Also, the employed workers may work shorter

hours and labour productivity may decrease, perhaps because employers retain more

workers than they need. The different phases of business cycles are presented in Figure

3.1.

Figure 3.1: Phases of Business Cycle

45
John Maynard Keynes (1936)

57
 In the above Figure, a business cycle has been divided into two broad periods:

contraction, also called recession, and expansion. During the recession period, the

economic output as a whole is in decline. More specifically, recession occurs after the

business cycle has peaked, but before it becomes a trough. The economy enters this phase

because the bottlenecks that occur at the peak, due to limited resources, result in higher

prices of factors of production and of final goods and services that eventually dampen the

investment demand. In most economies, a recession is said to occur when the real GDP

has declined for two or more consecutive quarters. For most people, a recession in the

economy can be the source of harsh economic conditions because as the economy pushes

into a recession people start losing their jobs. While no recession lasts without end, it is

very difficult to judge just how long a down trend will persist.

During the period of expansion, the economy moves from a trough to a peak. This

period is divided into two sub-periods, i.e., recovery and prosperity. In this period,

business activity surges and gross domestic product expands until it reaches a peak. The

economy enters this phase after reaching trough as it starts to replace its existing plant

and equipment that begin to wear off after sometime. This replacement investment

generates an economic activity, more workers are hired, additional income is generated

thereby creating additional demand for goods and services as well as that of the factors of

production, and "economic recovery" takes place. Recovery turns into ―prosperity‖ when

the economic output exceeds the output at the previous peak of the business cycle. The

whole period of expansion lasts on average about three to four years but has also been

known to last anywhere from 12 months to more than 10 years.

Andolfatto and MacDonald (2004) noted that after the last two recessions of 1991

and 2001 in the United States, employment growth lagged the GDP recovery by several

58
quarters. According to them, a recession followed by a jobless recovery is what

neoclassical theory also predicts. This is because new technology impacts different

sectors of the economy differentially, and the resulting sectoral adjustments in the labour

market take time to have an effect. Their explanation for the jobless recovery include the

varying size and scope of technological innovation , delayed effect of adopting new

technology and a slow reallocation of labour across different firms. 46 When economies

have been in the recovery phase of a business cycle with growing GDP, employment has

grown at the same time, or soon thereafter. However, lately this fact concerning the

relationship has been questioned and the concern of jobless growth has been raised.

The long-run relationship between employment and GDP growth may be obtained

from the Okun‘s (1962) law which is primarily based on empirical observations that can

vary depending on the country and time period under consideration. For the United

States, Okun found that a one point increase in the unemployment rate is associated with

two percentage points of decline in real GDP. More recently, Abel and Bernanke (2005)

also verified this relationship. Reasons for a weak relationship between GDP and

unemployment rate could include a reduction in labour productivity if employers retain

more workers than needed during an economic downturn, reduction in work hours,

discourage worker effect which tends to increase the official unemployment rate, and a

possible reduction of multiplier effect of money circulation from workers. One

implication of Okun's law is that an increase in labor productivity or an increase in the

labour force can result in growth in real output without a fall in the unemployment rate

which is the same as the jobless growth phenomenon.

46
In a previous study, Greenwood, MacDonald, and Zhang (1996) had developed a real business cycle
model to include the effect of varying size of technological innovation and labour re-allocation and found
that a jobless recovery can be the result of a technology-driven recession. Their explanation hinged
critically on the above three assumptions.

59
3.2 Method of Analysis:

The previous chapter provided a review of the empirical literature that has

investigated the issue of jobless growth in different countries. Most studies have used the

concept employment elasticity of demand with respect to GDP to infer the presence or

absence of any jobless growth in an economy. The employment elasticity of demand with

respect to output is obtained as the ratio of percentage changes in employment to GDP.

This ratio indicates the extent of the response of employment in the economy to a change

in national output. Some studies have calculated the arc elasticity of employment directly

by using annual data on employment and GDP. Others have estimated employment

elasticity by estimating an employment demand equation. The value of employment

elasticity is then used to directly infer any jobless growth in the economy. It is also used

to calculate the minimum GDP growth that must take place in an economy to generate

any new employment. The actual rate of growth in GDP is then compared with this

―threshold‖ GDP growth rate. The present study will use the latter approach to investigate

if the average GDP growth in Pakistan over the period 1974 to 2008 was jobless. 47

At first, an employment demand model will be derived mathematically based on

the production function approach which is standard in the microeconomics literature. The

employment demand equation considers employment demand as derived from the

demand for final output, or GDP, in the economy. The value of employment elasticity of

demand with respect to GDP will be used to calculate the threshold level of the GDP

growth rate. This is the level of growth rate which must be achieved by the economy to

generate any growth in employment. Finally, the actual GDP growth rate in the economy

47
A direct calculation of the arc elasticity of demand from raw data suffers from two problems. First it
considers only the extreme values of employment and GDP, thereby ignoring any interim effects on data.
Second, its value is highly unstable. Hence, an econometric estimation is preferable (Gupta and Singh,
2005).

60
over the period 1973-74 to-2007-08 will be compared with the threshold level of GDP

growth rate. The data used in this study span the period 1974 to 2008. Separate estimates

will be obtained using time series data for the entire economy and using data for seven

broad sectors of the economy in pooled form. The next Section derives the empirical

model of employment demand.

3.3 Employment Demand Model:

Most empirical studies on employment demand are based on production functions.

Some of these studies include Fair (1969), Hamermesh (1986) and Hazeldine (1981).

Employment demand equation is derived from a specified production function to express

labour employment as a function of output.

An economy wide employment demand equation can be derived from an

aggregate production function in which the national output (usually the Gross Domestic

Product, GDP) is expressed as a function of two inputs, i.e., labour and capital.

An employment demand equation will be derived from the production function

with some economic assumptions so that the employment demand is dependent on the

final output and not on input prices. 48 Although the demand equation is derived for an

individual firm, the analysis is conducted for the economy which is viewed as a collective

producing unit.

A two input-single output production function for a single firm can be written in a

general form as follows:

X= f (Z1, Z2) (1)

48
An alternative derivation of employment demand equation in which factor price ratio appears as an
explanatory variable is provided in Appendix I.

61
 Where X denotes the output level while Z1 and Z2 are labour and capital inputs,

respectively.

In the short run, a firm‘s capital is assumed to be fixed so that the short run

production function may be written as follow,

X = f (Z1, 2) = f (Z1) (2)

Assuming, invertability, equation (2) may be solved for Z1 to give the following

expression,

Z1 = f (X) (3)

Which shows the firm‘s desired level of labour input (Z1) as a function of its

output level (X). Here we see that the above equation (3) is the employment demand

function derived from the technical relationship between the firm‘s inputs and output as

represented by its short run production function given by equation (2). This simple model

is based on the usual assumption of technical efficiency of the production function, in the

sense that equations (1) and (2) show the maximum output level for each possible

combination of inputs (Henderson and Quandt, 1980, p.66). Here we see that in the

employment demand function there is no role of the wage rate in affecting the firm‘s

desired level of labour input. The analysis in this study is based on such a labour demand

equation, which has also been estimated by Greenaway et al. (1999) for UK, Hine and

Wright (1998) for UK, and Milner and Wright (1998) for Mauritius. In the context of

jobless growth, this function has been estimated by Kwiatkowski et.al (2004) and Wolnicki

et al (2006), among others. This equation was also used by Stehrer (2004) for analyzing

trade effects on employment in the Organization for Economic Co-Operation and

Development (OECD) countries.

62
 To derive the employment demand equation for Pakistan, a Cobb-Douglas (1928)

production function is assumed.49 This production function at a given time period, t, can

be written as follows:

Where,

Xt = Firm‘s actual output at time period t.

A(t) = A measure of input productivity assumed to grow over time in Hicks – neutral

fashion50

= Labour input at time t

= Capital input at time t

α and β are exponents of and which measure the labour and capital elasticity of

output respectively.

If A (t) = there is an absence of technical change. If technical change is present, it

is assumed that it occurs exponentially at a constant rate .51

Where,

49
In a Cobb-Douglas production function, the elasticity of substitution between inputs is constant at unity.
More flexible specifications of production functions include Constant Elasticity of Substitution and
Translog production functions. Zahid,Akbar and Jaffry (1992) find that the elasticity of substitution
between capital and labour in Pakistani manufacturing sector is generally low and consistent with Cobb
Douglas production function. Battesse, Malik and Sultana (1993) find that in food manufacturing, elasticity
of substitution is not statistically significantly different from unity. Kalim (2009) finds the overall elasticity
of substitution in manufacturing to be 0.96. All of these studies are based on Constant Elasticity of
Substitution and translog specification of production functions.
50
Hicks-neutral technical change (Hicks, 1932) refers to a technical change that does not affect the factor
ratio in the sector which is progressing. Hence, such a change does not affect the factor price ratio in that
sector, if the production function is homogeneous. According to Krugman (1999), Hicks-neutral technical
change comes up in practice only for aggregate production functions.
51
Charles, Knox and Marie (1976), See Katzner (I 970) for further details.

63
θ = Positive constant

t = Time trend

So that the production function can be re-written as under

(4)

The equation (4) is non-linear in terms of time trend which captures shifts in the

production function brought about by the technical progress leading to change in the

efficiency of production factors.

The above equation (4) can be linearized by taking natural logarithms on both

sides which yields the following equation:

(5)

Since lne =1, the equation (5) becomes

(6)

Rearranging equation (6) and solving for we get,

Therefore,

(7)

64
where,

The above equation (7) shows that for any given level of output, the firm‘s desired

level of labour input in a given time period is negatively related to its use of capital input,

in other words the production isoquant drawn between capital and labour is negatively

sloped. The positive relationship of employment demand with the level of output

indicates the scale effect on labour demand: for any given quantity of capital used in a

particular time period employment demand will rise with an increase in output.

Ball and St Cyr (1966) suggested growth in capital stock can be assumed to be

similar to technical progress which can be captured by the time trend variable.

Kwiatkowski et al (2004) and Wolnicki et al (2006) assumed the same in their empirical

study on jobless growth in 48 Commonwealth Independent States (CIS) and for European

countries, respectively. An important question to ask is whether capital stock growth can

be captured by the time trend variable in a developing country like Pakistan where

markets for capital goods may not function as efficiently as in a developed country.

In the absence of reliable data, it is assumed in this study that most capital goods

that are used in production of goods and services in developing countries are imported

from industrialized developed countries. A recent study, Caselli and Feyrer (2007), has

found that the marginal product of capital across developed and developing countries is

remarkably similar. Using this result, the authors draw the implication that the flow of

capital stock from rich to poor countries is not affected by international aid and credit

65
restrictions. 52 In Pakistan, the share of capital goods in annual imports has varied only

slightly, mostly within one standard deviation of the mean, since the 1970s (Table 3.1).53

Table 3.1: Share of Capital Goods in Total Imports, Pakistan (1974-2008)

Capital Goods Total Value Share

Years ( Millions) ( Millions) (Percentage)
1974-80 63000 189013 33
1981-85 106908 347662 31
1986-90 205304 580622 35
1991-95 471355 1238788 38
1996-00 736292 2298670 32
2001-05 1312345 4096906 32
2006-08 2033200 6075036 33
1974-08 4928404 14826697 33

Source: Pakistan Economic Survey, 2008-09.

Based on the findings of the study noted above, and because of the stability of the

share of imported capital goods in annual imports in Pakistan, it appears safe to assume

that the availability of capital stock in Pakistani industries has not been a significant

hurdle in industrial production and that the capital stock grew smoothly over the period 54.

Hence, assuming capital stock is growing at a constant rate, equation (7)

simplifies to

where,

52
They attribute lower capital ratios in developing countries to lower availability of complementary factors
and lower efficiency, as well as to lower prices of output goods relative to capital.
53
Only during 2000-02 this share fell below one standard deviation probably due to the international
sanctions that were imposed on Pakistan soon after the 1997 nuclear explosion. These sanctions were
removed in 2002.
54
Zahid, Akbar and Jaffry (1992) find there is idle capital stock in large scale manufacturing sector of
Pakistan.

66
 =

Collecting the time trend variable, the above equation becomes: 55

(8)

where,

The coefficient in Equation (8) captures the total effect of the growth of

capital stock and technical progress. Equation (8) is a particular form of Equation (3)

which results from the assumption of a Cobb-Douglas production function with a constant

rate of growth of capital input.

The stochastic form of the basic model (8) is obtained by adding an error term, to

capture the influence of such random factors on employment as the influence of weather

on agriculture, international demand for goods and services, unexpected changes in raw

material prices, changes in political events, and so on. The equation for econometric

estimation may be written as follows:

(9)

where, is employment demand. Measurement of this variable for econometric

estimation of the model will be discussed in the next Chapter. The equation will be

55
We substitute the γ in equation (7) for capital stock because we assume that capital changes over time
with a proportional rate γ, so

= = t therefore,
=

67
estimated using aggregate data assuming the economy to be a collective producing unit

comprising several individual units or economic sectors. It will be estimated first using a

time series national data for the economy of Pakistan, and then using sectoral data for the

economy that will be organized in a pooled form.56 The model will also be modified to

control for certain data characteristics that may have additional influence on the

employment demand in an econometric estimation based on pooled data. The estimates of

the model will be used to obtain a threshold level of GDP growth defined as the minimum

level of GDP growth needed to generate employment in the economy. Calculations of the

threshold level will be discussed in Chapter 4 where the augmented model is provided.

3.4 Some Issues in the Estimation of Employment Demand Equation:

The issues relating to the estimation of the employment demand equation obtained

above can be divided into two sets. One set of these issues relates to the way the

employment demand equation is derived and its interpretation. The second set of issues

relates to the data set used for its estimation. While we discuss the first set of issues in

this section, the second set of issues will be discussed in the econometric estimation

chapters.

First, there is the issue of the two-way relationship between employment and

output. From the perspective of an economy-wide production function, the use of labour

and complementary factors of production generates national output or GDP. Hence, the

faster the growth of labour, ceteris paribus, the faster the growth rate of output. In an

econometric estimation, this two-way causality between independent and dependent

56
Pooled data comprise several independent cross section data gathered at different points in time.

68
variables creates the problem of endogeneity. It is assumed in this study that employment

determination is a two-step procedure. In the first step, a firm determines its output level

based on market demand. In the second step, it chooses its combination of inputs that will

minimize the cost of producing that level of output. In this sense, the employment

demand equation is a ―conditional demand‖ for labour employment – conditional on the

demand for final product. 57

Second, some economists have argued (Islam, 2004; Islam & Nazara, 2000) that

the notion of employment elasticity is ‗endogenous‘ to the policy regime. A given policy

regime could be more or less conducive to the growth of employment. For example,

existing policy initiatives could encourage labour-using technology or they could impart a

capital bias in production processes. The clear implication is that the elasticity of

employment is not really an ‗exogenous‘ variable. It is affected by the market forces as

well as by the economic policies. Disentangling the two effects can be a complex task. In

the case of Pakistan, economic policy has focused mostly on capital biased technology to

promote economic growth which in turn was expected to create employment. While data

limitations prevent an explicit incorporation of the changes in capital stock, the time trend

variable has been included to capture the effects of changes in capital stock and

technology over time.

A third complexity in the measurement of employment elasticity is specific to

Pakistan.58 It can be argued, following Islam and Nazara (2000) that the impact of GDP

on employment is not symmetrical, i.e., while economic growth may promote

employment, economic contraction may not result in unemployment. The authors

57
Lunenberger (1995) uses the term ―conditional factor demand ―to describe an input demand function in
which the final output appears as one argument.
58
Islam and Nazara (2000) point out that this issue is specific to the Indonesian economy. We can also
apply this argument to Pakistan, because its economy‘s features are similar to Indonesia.

69
suggested that it appears to be true in Pakistan because of the so-called ‗unemployment as

luxury‘ hypothesis. In the absence of any comprehensive unemployment benefits,

unemployment during an economic contraction in Pakistan becomes a luxury that only

those with adequate non-labour income can afford. During the 1997-98 Asian financial

crisis, workers in Indonesia responded to a major recession by re-allocating their labour

services to the agricultural sector and the informal sector rather than remaining ‗openly

unemployed‘ (Islam and Nazara, 2000). This means that in an economic downturn the use

of any employment elasticity coefficient can overstate the impact on unemployment

(Groshen and Potter, 2003). To account for possible difference in the response of

employment in different phases of business cycle, the present study will identify the slow

and fat growth periods of Pakistan‘s economy over a business cycle and capture their

effects by including a dummy variable in the employment demand model. This dummy

variable will be interacted with the GDP variable.

70
 CHAPTER 4

Econometric Results of Employment Demand Model for Pakistan

The previous chapter derived an employment demand equation based on a Cobb-Douglas

production function. An econometric estimate of this model based on national data will

provide the elasticity of employment with respect to GDP. The magnitude of this

elasticity will indicate the strength of the relationship between employment and GDP,

which can be used to infer the extent to which GDP growth in Pakistan has induced

employment growth during the period between 1974 and 2008. This elasticity value can

also be used to obtain a ―threshold‖ level of the GDP growth rate, i.e., the minimum

growth rate in GDP required to generate any employment growth in the economy.

The present chapter first specifies the employment demand equation in a form that

will be estimated econometrically. This is done in Section 4.1. Section 4.2 defines the

variables included in the model and also describes the sources of data used for each

variable. Econometric issues related to the employment demand estimation are discussed

in Section 4.3. Section 4.4 discusses the econometric estimates of the employment

demand equation and also uses the estimated elasticity of employment demand with

respect to GDP to calculate the threshold level of GDP growth rate with which the annual

real GDP growth rates in Pakistan that were experienced over the period 1974 - 2008 are

compared. Section 4.5 extends this analysis by estimating the elasticity of employment

demand with respect to output observed during fast growth periods and using the same to

calculate the threshold levels of GDP growth rates for the two fast growth periods

observed during the period of analysis. A summary of findings is presented in Section

4.6.

71
4.1 The Employment Demand Equation:

The basic employment demand equation was derived in the previous chapter,

assuming a Cobb-Douglas production function and a constant rate of growth of capital.

This equation is re-written below:

β (9)

For an empirical estimation of the above equation, it is important to first define

the labour input (Z1t). In this study, Z1t is defined to be a product of the number of

employed workers at period t and the hours worked by these workers in that period. This

definition of labour input is a more complete definition of labour service in the sense that

it incorporates the effect of varying hours demanded per worker by the firm.

Mathematically,

Z1t = H t.Et (10)

Where Ht is the hours worked per worker in period t and E t is the number of workers

employed in that period. To achieve any particular level of Z1t, the firm can adjust Ht and

Et. With the above definition of Z1t, the employment demand equation can now be re-

written as follows:

β β

which gives the following:

β β

Therefore,

β β (11)

72
 Our derivation of the above equation suggests that, in its econometric estimation,

the coefficient of variable should be restricted to unity. However, in this study the

equation will be estimated without any restriction on the coefficient of this variable to

control for differential preferences of employers for full-time and part-time employees

who work different hours during a week. Hence, the coefficient of the variable

measures the elasticity of employment demand with respect to the weekly hours worked

in the economy. A statistical test of significance will reveal if the coefficient of the

variable differs from unity. A value higher than unity would imply that to achieve a

certain growth in total hours worked by employees, firms rely heavily on employing more

workers. A lower than unity value would imply the opposite. The elasticity value can

also be negative, in which case workers and hours will be viewed as substitutes indicating

that there is a tradeoff between employment and hours of work. When one reviews the

trend in the relationship between employment and hours worked in Pakistan over time, an

overall negative relationship is observed indicating a possibility of substitution between

them (Figure 4.1 below).

Figure 4.1: Growth Rates of Employment and Total Number of Hours Worked Per
Week (1973-74 to 2007-08)

10
8
6
4
2
Growth rate (%)

0
-2
-4
-6
-8
1982
1984

1998
2000
1974
1976
1978
1980

1986
1988
1990
1992
1994
1996

2002
2004
2006
2008

Emp growth Hours growth

Source: Labour Force Survey (various issues).

73
 Hours worked are often manipulated in developed countries to affect the level of

employment in the labour force. Caballero and Hammour (1998) found that between 1960

and late 1970s the average weekly hours per worker in France fell gradually from around

45 to 40 and further down to 39 hours per worker since 1981. The official purpose of this

reduction was to increase employment by decreasing the unemployment rate in the

country. Moreover, a fourth week of paid vacation was introduced in 1969 and a fifth

week in 1981. The government elected in 1981 was committed to implementing the 35-

hour a week initiative by 1985. A further reduction in the work week to 32 hours was

pursued in 1986 but this reduction was not then successful in expanding employment.

Since the early 1990s, the French government encouraged reduced hours with reduced

pay through agreements between employers and unions. Similar government policies

have been implemented in Belgium. In Germany, the legal workweek has been shortened

through union agreements. Such proposals were also under discussion in Italy. Erbas and

Sayers (2001) also show that, during the period 1970-2000, it may have been possible to

increase employment in the G-7 countries with a policy that combined a reduction in the

workweek with an employment subsidy. Werner (1998) has discussed that in the US,

employment and working hours grew in the same direction but not so in Europe.

To date, evidence on the substitutability of hours worked and employment in

developing countries is lacking. Therefore, inclusion of the hours worked variable in the

estimation of employment demand model for Pakistan will provide useful information

that is missing for a developing country.

Another important variable that can affect employment, especially in a

developing country, is its population growth. This is especially true in case of developing

countries where the phenomenon of high population growth rates is well known. A rapid

74
growth in population results in a rapidly growing young population entering the labour

force. As a result, levels of both employment and unemployment can change in the same

or in opposite directions. In addition, as indicated by Walterskirchen (1999) and Beaudry

and Collard (2002), a more rapidly expanding supply of labour can lead to more

employment-intensive and lower productivity growth. Hence, in an econometric study on

a developing country, it is important to disentangle the effect of GDP from the effect of

population growth on employment. Others, such as Pasinetti (1981), have also used

population variable to control for the effect of labour supply on employment.

Based on the above discussion, the final employment demand equation which will

be estimated econometrically in this Chapter is specified as follows:

β β β (12)

4.2 Sources of Data and Their Description:

The period of analysis in this study spans over the years 1974 to 2008. Data on

real GDP at constant factor costs (base year-2000) are obtained from the International

Monetary Fund (IMF, 2009). Data on employed labour force are obtained from various

issues of the Pakistan Economic Survey and are based on the Labour Force Survey (LFS)

of Pakistan which is conducted annually by the Federal Bureau of Statistics. 59 All paid

and self-employed individuals aged 10 years and above who worked at least one hour

during the survey week are considered. 60

59
Pakistan Economic Survey is published annually by the Government of Pakistan, Ministry of Finance.
60
Paid employment includes persons with a job, at work and not at work. According to Pakistan Labour
Force Survey at work are those "who during the reference week performed some work for wage or salary,
in cash or in kind and persons with a job. Not at work are those who having already worked in their present

75
 Population data are also obtained from the same sources as above and are

estimates of population based on population censuses that were conducted in 1972, 1981,

and 1998.61

The hours worked per week data are obtained from Federal Bureau of Statistics

(1998) and are also based on the LFS. These data are frequency distributions reported for

the reference week of LFS in intervals of weeks worked variable. Averages are calculated

using these frequency distributions. As the LFS was not conducted in years 1976-78,

1980-82, 1984, 1989-90, 1996, 1999, 2001, 2003, 2005, there are some missing values.

These values have been interpolated using a linear interpolation method which is inbuilt

in EViews 7.0 Beta software. 62

Majid (2000) notes that an important weakness of any analysis on labour markets

in Pakistan is the internal limitation of the data produced on population, labour force and

employment. The 1998 population census was conducted after seventeen years. Although

LFS is conducted annually, population coverage of the LFS is known to be low, with the

result that both participation and employment rates based on LFS are underestimated. 63

job and temporarily not at work during the reference week due to some reasons, such as absence, leave,
illness and strike etc, but had a formal attachment to their jobs".
60
Self-employment includes four types of persons: "(1) persons at work, (2) persons not at work but ―with
an enterprise‖ at work, (3) persons who during the reference week performed some work for profit or
family gain, in cash or in kind, and (4) persons with a enterprise, a farm or a service undertaking who were
temporarily not at work during the reference week due to some specific reasons, such as absence, leave,
illness, and strike etc". According to the Right to Education Project, the minimum working age in Pakistan
is 14 years (http://www.right-to-education.org ). However, the Labour Survey in Pakistan collects data on
individuals aged 10 years and above.
61
The 1998 census was the latest available population census conducted in Pakistan.
62
The Linear interpolation method simply computes a linear approximation based on the previous non-
missing value and the next non-missing value. The interpolated value is then calculated as:

63
Since 2007, LFS is being conducted on a quarterly basis.

76
 Data quality and coverage in developing countries are known to be low and

Pakistan is no exception. It is important that in the absence of regular and better quality

data, results of the present study be interpreted with care and be considered as indicative

of a general trend. The best alternative to the published data used in this study are survey-

based data for whose collection more time and resources are required.

4.3 Econometric Results of Employment Demand Model:

Table 4.1 provides econometric estimates of employment demand model using the

ordinary least squares (OLS) technique. Time series data for the period 1974 - 2008 are

used to estimate the model.

Table 4.1: Regression Results of Employment Demand Model

Variable Coefficient t-statistic P-value

Constant 7.455 5.17 0.0000
GDP (lnXt) 0.257 2.70 0.0113
Hours (lnHt) -1.404 -5.38 0.0000
Population (lnPopt ) - 0.617 -3.68 0.0009
Time (t) 0.0255 7.93 0.0000
)R2 (adjusted) 0.9923
Durbin Watson (DW) Stat. 1.85
No of Observations 35

Before interpreting the results of Table 4.1, it is important to discuss some of the

econometric issues relating to the above estimation, their implications, and remedy. 64

64
A study by Ramsey (1969) and Ramsey & Alexander (1984) showed that the Regression Specification
Error Test (RESET) could detect specification error in an equation which was considered a priori to be mis-
specified. According to this test, if the F test statistics is greater than the F critical value, we reject the null
hypothesis that there is no specification error in the model. A Ramsey RESET was applied on the estimated
model. F-stat was found to be 3.10 which is lower than h critical F-value of 4.18. Hence the hypothesis of
no specification error cannot be rejected and the conclusion is reached that the model is correctly specified.

77
4.3.1. Econometric Issues Relating to the Time Series Estimation of Employment Demand

Model:

There are three major issues relating to estimations based on time series data

which can affect the reliability of econometric estimates. These issues include: non-

stationarity of series, multicollinearity, and autocorrelation.

Each of the above issues, their implications and related tests are discussed below.

Stationarity of Data

"A stochastic process is said to be stationary if its mean and variance are constant

over time and the value of covariance between two time periods depends only on the

distance or lag between the two time periods and not on the actual time at which the

covariance is computed" (Gujarati, 2006, p.496). If data are non-stationary, regression

estimates are likely to be spurious.

Previous time series studies that have calculated employment elasticity in Pakistan

using descriptive analysis did not test for data stationarity (for example, Baqai, 1979;

Kemal, 1990 and Chaudhary & Hamid, 1998). In contrast, the present study has used the

Augmented Dickey Fuller (1979) test (ADF test) to test for stationarity of data series

used. The results are presented in Table 4.2. The null hypothesis being tested is that the

data have a unit root.

78
Table 4.2: Unit Root Test Results (ADF Test)

Level 1st Difference Order of

Variables Non Intercept Intercept Non Intercept Intercept Stationary
&Trend &Trend
LnE 6.80 0.019 -2.31 -1.81*** -5.24* -5.16* I(1)

LnX 3.37 -1.19 -1.65 -0.71 -3.80* -3.91** I(1)

LnPOP -0.47 -3.14** -4.51* - - - I(0) or Trend

stationary
LnH -0.91 -2.46 -3.74** -7.66* -7.69* -7.56* I(1)

Notes: The null hypothesis is that the data have a unit root. *, **, *** means level of
significance at (1, 5, 10 %). E = employment, X = GDP, POP = population, H = hours
worked per week and Ln = natural Logarithm.

As seen in the above results, the variables are stationary at different orders. First

differences of the employment, GDP and hours worked variables appear stationary

indicating that these variables are integrated of order one, i.e., I(1). On the other hand, the

test results show mixed results on the population variable depending on whether the data

are assumed to have intercept and/or trend. Moreover, first differencing does not make

the data stationary. It is likely that it has a trend stationary process.

To address the concern that the non-stationarity of the data may result in spurious

or meaningless regression outcomes, a residual based co-integration test was also applied.

Its results using the residual based ADF test are provided in Tables 4.3. If residuals of the

employment demand model are found to be stationary, the series are co-integrated and

results are not spurious.

79
Table 4.3: Residuals Based Co-Integration Test Results (ADF)

t-Statistic Prob.
Augmented Dickey-Fuller test statistic -5.783743 0.0000
Test critical values:* 1% level -5.6532
5% level -4.8601
10% level -4.4749

* The Null hypothesis indicates non-co-integration. The critical values are calculated by
using the software provided by James G. MacKinnon
http://www.econ.queensu.ca/faculty/mackinnon/jbes/. See MacKinnon (1994).

The above co-integration test result shows that residuals of the estimated

regression, i.e., the employment demand model, are stationary in their levels. Hence, the

series are co-integrated so that a linear combination of the series is converging in the

long-run, indicating that econometric results of the employment demand model are not

spurious.

Autocorrelation

Autocorrelation occurs if the error terms of the OLS regression based on the time

series data are successively correlated. Presence of autocorrelation causes the OLS

estimates to be inefficient. The detection of autocorrelation is based on Durbin and

Watson (DW, 1950) test statistic. As was shown in Table 4.1, the calculated DW statistic

of 1.85 is close to the critical value of 2, implying no auto-correlation in the error terms.

Hence OLS estimates are efficient.

Multicollinearity

The issue of multicollinearity arises when the independent variables are correlated

with each other. In the presence of high multicollinearity, the variances of the OLS

80
coefficients are high which can result in lower t-values, thereby leading one to wrongly

conclude insignificance of a variable in the regression.

The following correlation matrix (Table 4.4) shows some sign of multicollinearity

in the model. 65 However, all variables in the regression model are found to be statistically

significant at 0.05 level of significance as revealed by the t values that exceed the critical

value of 2 (Table 4.1). Hence, following Kennedy (1998), multicollinearity is not viewed

as affecting the interpretation of regression results. 66 Kennedy (1998) has also noted that

multicollinearity is a common problem in estimations based on Cobb-Douglas production

using time series data.

Table 4.4: Correlation Matrix (Employment is Dependent Variable)

Variables Employment GDP Hours Population Time trend

(LnE) (LnX) (LnH) (LnPop) (t)
Employment (LnE) 1.0000

GDP (LnX) 0.9850 1.0000

Hours (LnH) -0.7931 -0.7398 1.0000

Population (LnPop) 0.9823 0.9974 -0.7320 1.0000

Time Trend (t) 0.9912 0.9927 -0.7361 0.9937 1.0000

Source: E-views output on correlation matrix.

4.4. Interpretation of Econometric Results:

We now turn to the interpretation of the econometric results of employment

demand model reported in Table 4.1. Since the model is run in log-linear form, each

coefficient is the elasticity of employment with respect to the corresponding variable

65
Multicollinearity was also confirmed when the R-square of a regression of one independent variable on
others was found to be higher than the R-square of the original regression of employment demand.
66
Multicollinearity does not depend on any theoretical relationship among any of the regressors; rather it
depends on the approximate linear relationship in the data set at hand.

81
except ―t‖. All t-values indicate that the elasticity of employment with respect to each

independent variable included in the model is statistically significant at 0.05 percent level

of significance.

The main variable of interest is the GDP variable. It has the expected positive

sign. Hence, GDP growth causes employment growth. However, the magnitude of the

coefficient of log of GDP variable is only 0.257, indicating an inelasticity of employment

with respect to GDP. Over the period 1974 - 2008, a one percentage change in annual

GDP growth caused employment to increase by only about 0.26 percentage on average,

keeping the effect of other variables in the model constant. Hence, economic growth in

Pakistan appears to be largely focused on projects that did not generate employment over

the period.

The negative value of the elasticity of employment with respect to hours worked

per week reflects a trade-off between employment of workers and hours of work in the

labour markets of Pakistan. The absolute value of this elasticity is 1.404 and the t- test

indicates that this value exceeds unity in the true model, thereby indicating a significant

trade-off between employment and hours worked, keeping the effects of other variables in

the model constant. 67

The population variable also has a negative and statistically significant coefficient.

A Wald test of statistical significance of the difference between two coefficients revealed

that the difference between the coefficients of population and GDP variables is

67
The calculated t-value for this test obtained as (β -1) / s.e (β ) was equal to -9.212 which in absolute
terms exceeds the critical t-value of 2 at 0.05 level of significance.

82
statistically significantly different from zero. 68 Hence, the two coefficients differ from

each other in the true model. The magnitude of the population variable is less than unity,

at -0.617. This result implies that the population variable has its own effect on

employment rather than through its effect on GDP per capita in Pakistan. The negative

impact of population in the model is contrary to the suggestions of Walterskirchen (1999)

and Beaudry and Collard (2002) that a more rapidly expanding labour supply can lead to

more employment-intensive and lower productivity growth in a developing country. The

lower population growth and expansion of post-secondary education in recent years, and

continued availability of capital are all sources of productivity growth that may have

resulted in a negative effect of population on employment demand. An investigation of

these causes is beyond the scope of this study and can be pursued in future research.

Based on the theoretical discussion of Chapter 3, the time trend variable captures

the effect of changes in the capital stock and of technical progress. Its estimated positive

sign and low magnitude probably suggest a low complementarity between capital and

labour and a lack of employment intensity of technical progress in Pakistan, keeping the

effects of all other variables constant in the model.

A high value of the constant term indicates a large effect of all excluded

variables on the employment demand over the period. These variables could be the

domestic political and economic conditions, changing economic policies, worker training,

etc. When more data are available, a future study can investigate the effects of these

variables.

68
The value of F-statistic in the Wald test was found to be 12.38 with degrees of freedom 1 and 30 in the
numerator and denominator, respectively. The critical value of F-statistics at 0.05 percent level of
significance is 4.17.

83
4.4.1 A Comparison of the Threshold Level of GDP Growth Rate with Actual Annual

GDP Growth Rate:

Econometric estimation of the employment demand model yielded an elasticity of

employment demand with respect to GDP as 0.26. Thus, over the period 1974 - 2008 a

GDP growth rate of one percent was responsible for only a 0.26 percent growth rate in

employment. One can use this elasticity estimate to calculate a ―threshold‖ rate of GDP

growth, i.e., the minimum GDP growth rate required in a given year to achieve a positive

growth rate in employment during that year. The method of this calculation is discussed

as follows.

Calculation of Threshold Level of GDP Growth

The augmented employment demand equation, Equation 12, whose estimation

was provided above, is re-written below:

β β β (12)

Taking the first-order derivative of the above equation with respect to time, we

obtain the following equation:

= + (13)

where = δ(lnEt ) / δt is the annual growth rate of employment in an

economy during year t. Similar to employment growth rate, annual growth rates in all

other variables are obtained by taking their respective time derivatives. Thus, is the

real GDP growth rate, is the growth of hours worked per week in an economy, while

is the growth rate of population. From equation (13), we can estimate the GDP

84
growth rate below which employment will be stagnant, ceterus paribus. This growth rate

will be called the threshold level of GDP growth rate, Kwiatkowski et al (2004) also

based his calculation on the same method to calculate threshold level of GDP growth for

48 countries of Western, Central, and Eastern Europe and some selected countries which

were parts of the former Soviet Union. 69

Letting =0, one can derive as follows:

] (14)

The expected signs of are negative and those of are positive.

The GXt* is calculated at average values of GH t, and GPOPt.

Another simple calculation of threshold GDP has been suggested by Islam (2004).

The threshold GDP growth is obtained as a ratio of labour force growth and employment

elasticity. This ratio provides the GDP growth desired in order to absorb its surplus

labour.70

Now we consider the results of estimated employment demand equation

LnEt = 7.455 +0.257 LnXt - 1.405 LnHt - 0.617 Ln Popt + 0.026 t

Based on the method discussed above, the threshold level of GDP growth rate for

Pakistan, calculated at the average values of annual growth rates in hours worked and

69
Their period of analysis was 1990-2000.
70
For example, if labour force growth is 2 per cent per annum and the employment elasticity is 0.5, a GDP
growth rate of 4 per cent would be required merely to absorb annual increments in the labour force. Thus, in
order to have an employment growth that is enough to absorb the economy‘s backlog of the unemployed
and surplus labour, the required GDP growth would have to be higher than four percent.

85
population over the estimation period using the formula provided above, is found to be

6.03 percent. In other words, Pakistan‘s economy must grow at least by 6.03 percent in a

given year to generate any employment in that year, while keeping the effects of growth

in other variables in the model constant. A 99 percent confidence interval constructed

around this value indicates that the range of this threshold is 5.75 to 6.32. The average

annual growth rate of GDP in Pakistan during the entire period of analysis, i.e., 1974 -

2008 was around 5.28 percent which lies outside the 99 percent confidence interval

constructed for the threshold level. Hence, it may be concluded that the average annual

growth rate in Pakistan‘s economy has fallen below the level necessary to generate jobs in

the economy.

Another more direct way of calculating the threshold level of GDP growth rate, as

noted above is to consider the rate required to absorb the surplus labour in the economy

which its growing labour force generates. 71 With the current annual labour force growth

rate of 2.8 percent in Pakistan and an elasticity of employment demand value of 0.26 with

respect to GDP, as computed in this study, the GDP must grow at 11 percent to absorb all

new labour. This method of calculating threshold GDP also leads to the same conclusion:

the annual growth rate of Pakistan‘s economy has not been sufficient to generate

employment.

The value of threshold growth rate in Pakistan‘s GDP is close to that reported for

Pakistan by Amjad (2007) who found the same to be in the range of 7 to 8 percent. In

addition, the 2008 issue of Pakistan Economic Survey, published by the Government of

Pakistan, also reported the threshold level of GDP growth rate to be in the range of 6 to 8

percent. During the period 1974 - 2008, the annual employment growth rate in the

71
Islam(2004)

86
country has been 2.65 percent while the labour force growth has been 2.8 percent. With a

13 percent unemployment growth rate, the employment in the economy must grow at a

rate higher than 2.8 percent if all new entrants into the labour force are to be absorbed.

A review of the literature on other countries, as provided in Chapter 2, showed the

threshold levels of GDP growth rates for Poland to be 4.38 percent, Sweden 2.58 percent,

and Finland 2.61 percent. Most of the other European countries had threshold levels

between 1 and 2 percent (Wolnicki et al, 2006). Hence, the rate calculated for Pakistan

falls within the range reported for other developing countries.

4.5 Employment and Economic Growth Relationship during Periods of Slow and
Fast Economic Growth:

The analysis conducted so far in the present study has shown a weak relationship

between GDP growth and employment growth in Pakistan. It has also shown that on

average, the annual GDP growth was slower than that required for employment

generation.

Based on literature discussed in Chapter 2, the response of employment to

economic growth can vary during periods of fast and slow economic growth. One would

expect economic growth to be more employment intensive during periods of fast

economic growth, when more demand is created in the economy and businesses are

expanding, than when economic growth is slow. The empirical analysis carried out in this

Chapter can be extended to study the employment generation during periods of fast

economic growth in Pakistan experienced over the 1974 – 2008 period.

87
 To proceed with the analysis, the trend growth in GDP is first filtered out to

isolate cyclical movements. Irregular shocks are then removed from these movements and

periods of fast and slow economic growth identified as periods of rising and falling

growth in real GDP, respectively, which reach the peak and trough in the interim. Many

methods of detrending an economic time series and identifying the turning points of its

cyclical component have been suggested in literature. In the present study, the most

common method, the Hodrick- Prescott (1997) method is used. 72 The method is described

in Appendix II. Results are reported in Table 4.5. 73

Table 4.5: Periods of Economic Growth in Pakistan74

Cycle Slow Growth Fast Growth

1949-69 1949-50 to 1959-60 1960-61 to 1968-69

11 years 9 years

1969-1991 1969-70 to1978-79 1979-80 to 1990-91

10 years 12 years

1991-2008 1991-92 to 2001-02 2002-03 to 2007-08

11 years 6 years

Source: Based on author‘s own calculations using real GDP data at 1999-2000 prices.

To analyze the behaviour of employment during the two periods of economic

growth, the employment demand model is re-estimated by adding a slope dummy

72
For details of HP methodology, please see Appendix II.
73
Arby (2001) also used the same method to identify fast and slow economic growth periods during 1949-
2001. He used real GDP data at prices of 1980-81.The present study has used these data until 2008 at prices
of 1999-2000.
74
For the purpose of this study, a period of slow economic growth is considered to be the one of declining
de-trended annual value of GDP, free of irregular shocks while a period of fast growth is the opposite,
Some economists, for example Arby (2001), have called these two periods as periods of recession and
recovery which is contrary to their conventional definitions which are based on actual real GDP.

88
variable that identifies the periods of fast economic growth in Pakistan during the period

of analysis (1974 to 2008).

The dummy variable has been interacted with the GDP variable. The modified

form of employment demand equation is written as under:

β β β β (15)

Where,

D = 1 in fast growth period

= 0 in slow growth period

All other variables enter the regression model as before.

The joint slope coefficient is interpreted as the elasticity of

employment with respect to output during the period of fast economic growth. OLS

results of the modified model are provided in Table 4.6.

Table 4.6: Econometric Results of Employment Demand Model Incorporating the

Effects of Slow and Fast Economic Growth

Coefficient t-statistic P-value

Variable
Constant 7.1373 5.6241 0.0000
GDP (lnXt) 0.1148 1.2077 0.2369
Hours (lnHt) -1.0724 -4.2503 0.0002
Population (lnPopt ) -0.3804 -2.2992 0.0289
Time (t) 0.0263 9.2698 0.0000
)
Interaction variable (Base: Slow economic growth) *
D GDP (lnXt) 0.0017 3.1489 0.0038
R2(adjusted) 0.9941
DW Statistic 1.63
No of Observations 35

Note: * Based on Table 4.5.

89
 Table 4.6 results show that all variables, except for the GDP coefficient, are

statistically significant and have the same signs as in the previous estimation. The GDP

coefficient now provides the elasticity of employment with respect to output during the

period of slow economic growth. The statistical insignificance of this elasticity value

indicates no effect of GDP growth on employment growth during period of slow

economic growth. . However, the effect is statistical significant but only slightly higher

during the period of fast growth. The employment elasticity rises to only about 0.117

when the economy is expanding rapidly, which is even lower than the average value

found for the entire period of analysis.

4.5.2 Threshold Level of GDP Growth in the Fast Economic Growth Period:

The modified employment demand model results during the period of fast

economic growth, based on Table 4.6, is written as under:

LnEt = 7.137 +0.117 LnXt - 1.072 LnHt - 0.38 Ln Popt + 0.026 t

From the above equation, the threshold level of annual GDP growth, i.e., the one

below which employment growth is zero, is estimated to be 7.91 percent. In other words,

employment will be generated during the period of fast economic growth if the economy

grows at a rate faster than 7.91 percent which is higher than the value found for the

overall period. The 99 percent confidence interval for this threshold is found to be 7.66 to

8.23 percent. The actual rates of GDP growth during the two fast growth periods (1979-

90, and 2002-2007) were 6.5 percent and 6.4 percent, respectively, which were below the

threshold values found for fast growth period 75. Hence, it may be concluded that over the

75
The average growth rates for the two periods are based on various issues of Pakistan Economic Survey.

90
period 1974 to 2008, the economic growth in Pakistan was jobless even during the period

of fast economic growth.

4.6 Summary:

The analysis conducted in this chapter reveals that economic growth in Pakistan

cannot be viewed as contributing towards more employment in the economy. Overall, a

5.75 to 6.32 percent growth rate in GDP is required to achieve any growth in

employment, but the GDP growth rate has generally been below this level. During fast

economic growth rate period, the threshold level of GDP rises.

Results of this Chapter may be questioned on the basis that, similar to any

developing country, a large part of non-agricultural employment in Pakistan (about 67

percent) is found in the informal sector on which no data are available to perform the

employment demand analysis. However, the sectoral component of the informal economy

also varies (Appendix III, Table A5.3). Hence, if the analysis is conducted for different

industrial sectors of the economy, the effect of informal sector on the results of present

analysis can be narrowed. This is done in the next Chapter.

91
 CHAPTER 5

Sectoral Analysis of Employment Demand in Pakistan

In Chapter 4, an econometric investigation of jobless growth in Pakistan was conducted

using national data. It was concluded that economic growth in Pakistan has been jobless

over the past four decades. The present Chapter extends the same analysis using separate

data on seven sectors of Pakistan‘s economy. As has been the case of many developing

and developed countries, Pakistan‘s economy has also experienced a structural shift in

employment as employment shifted from agriculture towards manufacturing and then

towards the service sector (Table A5.3). During 2007-08, the service sector accounted for

most of the national output, with its GDP comprising about 53 percent of national GDP

(Table 5.1). It has been argued by some development economists (Gupta and Singh, 2005;

Karmakar, 2008; ) that due to low per capita incomes in developing countries, growth in

the service sector is likely to be mainly jobless. This is because of the high income

elasticity of demand for services. Hence, reliance of a growth policy on service sector to

generate employment so that the benefits of growth are shared by a large section of the

society will yield results that are unsustainable. The present study will also investigate the

sensitivity of employment to economic growth in services sector of Pakistan. An

estimation of employment elasticity for each sector of the economy can also suggest

which sector of the economy needs more focus if the overall (national) response of

employment to economic growth is to be enhanced.76 Finally, an analysis of sectoral data

helps in reducing the sensitivity of national results to the presence of informal economy.

76
A simple illustration may be useful in indicating the magnitude of employment elasticity (and output
growth) that may be desirable for an economy in order to quickly absorb its surplus labour. "With a labour
force growth of 2.5 per cent per annum and an overall employment elasticity of 0.4, a GDP growth of 6 per
cent would be required merely to absorb the annual additions (not including the already unemployed pool of

92
Table 5.1: Sectoral Shares of GDP and Employment in Pakistan (1950-2008, %)

Sector Share 1950 1960 1970 1980 1990 2000 2008

Agriculture GDP 53.2 45.8 38.9 30.6 25.8 25.9 21.3

Employment - 60.47 57.03 52.65 51.15 48.42 44.65
Industry GDP 9.6 15.5 22.7 25.6 25.6 23.3 24.3
Employment - 15.39 19.91 20.32 19.81 18.03 20.1
Manufacturing GDP 8 12.4 16.5 17.5 18.1 17 20.7
Employment - 13.6 15.57 14.66 12.84 11.55 13.11
Construction GDP 1.4 2.5 4.2 5.1 4.1 2.5 2.1
Employment - 1.44 3.93 4.92 6.38 5.78 6.29
Electricity GDP 0.2 0.5 2 3 3.3 3.9 1.4
Employment - 0.35 0.41 0.74 0.59 0.7 0.7
Services GDP 37.2 38.7 38.4 43.8 48.6 50.7 53.8
Employment - 24.14 23.06 27.04 29.04 33.55 35.25
Transport GDP 5 5.7 6.3 6.8 9.5 11.7 10.3
Employment - 2.04 4.73 4.73 4.89 5.03 5.46
Trade &finance GDP 12.3 13.5 15.6 16.8 18.8 21.2 23.7
Employment - 7.6 9.89 11.94 11.93 13.5 14.62
All other GDP 19.8 19.6 16.5 20.3 20.4 18.3 19.9
services Employment - 14.5 8.44 10.37 12.22 15.02 15.17

Source: Various issues of Pakistan Economic Survey.

As shown in Table 5.1, while manufacturing sector has experienced a rise in its

contribution towards GDP since 1960, its share in total employment dropped after rising

in 1970. The share of employment in electricity sector remained almost stagnant during

this period, although it too showed a rise in its GDP share.

The rising GDP share of manufacturing accompanied with a decline in its

employment share is the result of a bias towards capital intensity of production in this

sector as has been noted in a recent study by Kalim (2009). State support for the use of

workers) to the labour force. On the other hand, if this hypothetical economy could achieve a high growth
of it‘s more labour intensive sectors (e.g., labour intensive manufacturers, construction, and services), the
overall employment elasticity could perhaps be raised (say, to 0.6) and a lower GDP growth (say, of six per
cent) could enable it to achieve the same objective" (viz., the absorption of surplus labour in modern
sectors) (Islam, 2004, p.5)

93
capital, as identified in Mahmood, Ghani and Muslehuddin (2007) appears to be the main

cause for this outcome.

In Pakistan, hours worked per week by employees vary significantly by sectors

(Table 5.2). In some sectors (transport and trade &finance) total number of hours worked

per week is above 50 hours. On the other end, a considerable proportion of workers, about

28 percent worked 56 hours or more a week. About 14 percent of the employed persons

worked less, while 86 percent more, than ―35 hours a week‖- the duration representing

full time employment. Some broad averages by sectors are provided in Table 5.2.

Table 5.2: Sectoral Hours Worked Per Week in Pakistan (Averages, 1974 to -2008)

Sector 1974 1980 1990 2000 2008

Agriculture 46.75 46.19 43.36 45.14 40.69

Manufacturing 45.24 46.56 47.32 46.81 47.95

Construction 45.67 46.98 45.70 44.28 46.24

Electricity 46.68 47.33 45.88 43.82 45.03

Transport 47.63 49.10 49.41 51.37 52.95

Trade &finance 48.41 48.41 47.57 48.71 51.12

All other services 46.17 46.51 45.72 44.30 47.66

Total Pakistan
Economy 46.87 46.64 45.14 46.28 45.12

Source: 50 years of Pakistan in Statistics Volume-II (1947-1997) and Labour Force

Survey (various issues).

The next Section 5.1 presents an augmented employment demand equation that

will be estimated using sectoral data for the economy of Pakistan. The sectoral data are

94
pooled for the period 1974 to 2008 to estimate the employment demand equation. Section

5.2 discusses the econometric issues involved in the estimation of pooled cross section-

time series data. Stationarity results of Pakistani data are discussed in Section 5.3 while

econometric results are interpreted in Section 5.4 which also discusses the employment

elasticity in each sector based on which threshold growth of GDP is obtained for each

sector. Section 5.5 summarizes the results.

5.1 Augmented Employment Demand Equation Showing Sectoral Effects:

The final employment demand equation that was estimated in the previous

Chapter to obtain national elasticity of employment demand with respect to GDP is re-

written below:

In the present Chapter, sectoral time series data are obtained to estimate the above

equation. Seven sectors of the economy are considered, including: Agriculture,

Manufacturing, Construction, Electricity, Transport, Trade & Finance and All other

services.77 Data are organized in a pooled form giving rise to 245 observations. The

employment demand equation with sector dummy variables, Di, is written below:

77
The grouping of sectors was based on data availability. A detailed list of the composition of each sector is
provided in Appendix III, Table A5.1.

95
 where i represents 6 of the sectors listed above, excluding agriculture which is

considered as the base. In the above equation, the dummy variable (Di) takes on a value

of 1 for sector i and zero otherwise. The dummy variable is interacted with the GDP and

hours worked variables. This interaction allows a direct test of significance of the

differential impact of each variable on employment demand in relation to the base, or the

seventh, sector. Agriculture is used as the base sector. Although over time, employment

has shifted in Pakistan away from the agriculture sector, it still remains the major

employer, with about half of the employed labour force working there.

5.2 Econometric Issues Relating to Estimations Based on Pooled Data:

Pooled data consist of a time series for each cross-sectional unit in the data. In the

econometric analysis of present Chapter, data are pooled for seven sectors of the economy
78
for the period 1974-2008. In the analysis of pooled data issues of data stationarity and

autocorrelation arise due to the time series component of data and the issue of

heteroscedasticity arises due to the cross section component.

To test for the presence of stationarity, the econometrics literature provides

different tests such as, graphical, correllogram and unit root tests of stationarity. Different

tests of unit roots have been proposed in recent econometric literature, for example,

Levin, Lin and Chu (2002); Im, Pesaran and Shin (IPS, 1997); Breitung (2000); Fisher

type tests using ADF and PP tests (Maddala and Wu, 1999, Choi, 2001, and Hadri,

78
Gujrati (2006) provides good discussion of econometric issues arising in estimations based on pooled
data.

96
2000).79 In these six tests, some provide a common root, such as the Levin, Lin and Chu

test; and Breitung and Hadri test. 80 Others provide an individual root, such as, Im,

Pesaran and Shin (1997) test also called the IPS test; and Fisher type tests using ADF and

PP tests (Maddala, 1999 and Choi, 2001).81 For the purpose of this study, the IPS test is

more valid, because it tests for the overall stationarity of data as well as for the

stationarity of each cross section series. A detailed discussion on IPS can be found in

M.H. Pesaran (1997).

Presence of autocorrelation and heteroscedasticity also render the OLS

estimations inefficient. The Newey-West Heteroscedasticity and Autocorrelation

Consistent (HAC) standard errors method corrects for the wrong standard errors and t
82
values obtained in the presence of heteroscedasticity and autocorrelation. Given the

large sample size in this study, exceeding 50 observations, the HAC estimation by

Newey-West is appropriate (Gujrati, 2002).

5.3 Results of the Unit Root Test for Stationarity of Pooled Data:

Results of the IPS test for the stationarity of variables used in the employment

demand model of this Chapter are provided in Table 5.3.

79
For a detail discussion on Unit root tests see Wooldridge (2002) and Baltagi (2008).
80
Common root indicates that tests are estimated assuming a common autoregressive (AR) structure for all
of the series in a pooled.
81
Individual root is used for tests which allow for different autoregressive (AR) coefficients in each series
of the pooled.
82
Newey and West (1987)

97
Table 5.3: Unit Root Test for Employment, GDP and Total Number of Hours
Worked Per Week

Employment
Im, Pesaran and
Level 1st difference
Shin (IPS)
Intercept Intercept &Trend Intercept Intercept &Trend
Cross sections Statistics Prob Statistics Prob Statistics Prob Statistics Prob
Agriculture 0.3833 0.9789 -3.1968*** 0.1030 -4.5872* 0.0009 -4.5637* 0.0051
Manufacturing -2.1173 0.2394 -3.1903*** 0.1033 -5.0762* 0.0002 -5.0205* 0.0016
Construction -1.1507 0.6835 -2.1451 0.5034 -6.8064* 0.0000 -6.7426* 0.0000
Electricity -6.9106* 0.0000 -4.4814* 0.0073 -5.6091* 0.0001 -5.6879* 0.0003
Transport 0.4925 0.9836 -5.7098* 0.0002 -4.5943* 0.0010 -4.5971* 0.0049
Trade &finance 0.4944 0.9838 -3.4772** 0.0591 -5.7551* 0.0000 -5.7196* 0.0003
All other services 0.4628 0.9820 -2.0066 0.5717 -6.5476* 0.0000 -6.0412* 0.0002
Overall Unit root 0.72681 0.7663 -4.07946* 0.0000 -11.5930* 0.0000 -10.1431* 0.0000
Im, Pesaran and GDP@
Shin (IPS) Level 1st difference
Intercept Intercept &Trend Intercept Intercept &Trend
Cross sections Statistics Prob Statistics Prob Statistics Prob Statistics Prob
Agriculture -0.5455 0.8697 -2.5308 0.3123 -7.1211* 0.0000 -7.0919* 0.0000
Manufacturing -0.3907 0.8992 -2.3809 0.3815 -2.859*** 0.0615 -2.7757 0.2158
Trade &finance
Construction -1.9597 0.3023 -2.5476 0.3049 -4.5025* 0.0011 -2.8312* 0.1995
Electricity -1.5420 0.5006 -0.1667 0.9913 -5.2016* 0.0002 -5.7358* 0.0002
Transport -1.8597 0.3465 -1.3559 0.8558 -5.2027* 0.0002 -5.5456* 0.0004
Trade &finance 0.0088 0.9530 -1.6634 0.7454 -4.8005* 0.0005 -4.7162* 0.0034
All other services -1.9993 0.2858 -2.4748 0.3377 -6.3837* 0.0000 -6.3551* 0.0000
Overall Unit root 0.98077 0.8366 0.82279 0.7947 -10.7682* 0.0000 -8.7656* 0.0000

Im, Pesaran and HOURS

Shin (IPS) Level 1st difference
Intercept Intercept &Trend Intercept Intercept &Trend
Cross sections Statistics Prob Statistics Prob Statistics Prob Statistics Prob
Agriculture -1.0849 0.7095 -1.9714 0.5927 -3.2601** 0.0258 -3.198*** 0.1032
Manufacturing -3.7833* 0.0070 -4.6181* 0.0040 -4.8932* 0.0004 -4.7936* 0.0031
Construction -1.1431 0.6862 -4.3002* 0.0089 -6.1293* 0.0000 -6.0135* 0.0001
Electricity -1.1563 0.6773 -4.5721* 0.0045 -3.5457** 0.0146 -3.364*** 0.0784
Transport -1.5707 0.4863 -4.5944* 0.0043 -10.198* 0.0000 -10.113* 0.0000
Trade &finance 0.2340 0.9707 -0.8601 0.9489 -8.6358* 0.0000 -9.1655* 0.0000
All other services -1.4664 0.5355 -3.5782** 0.0496 -3.2890** 0.0252 -3.354*** 0.0783
Overall Unit root 0.02448 0.5098 -4.2296* 0.0000 -11.8649* 0.0000 -10.6643* 0.0000

(*, **, ***) means statistically significant at 1, 5, and 10 percent levels of significance, respectively.
Hence, the series are considered stationary. Employment and hours worked per week data are
stationary at I (0), while the GDP data are stationary at I (1). @GDP data are stationary at I(0)
according to Levin ,Lin and Chu test (Test statistics: -2.02349 & Probability value is 0.0215).

98
 The IPS unit root test shows the employment data in all sectors have different

levels of stationarity. The data on employment are trend stationary in levels but in each

sector it is stationary in first difference and also stationary in first differences with an

intercept. GDP data are stationary in first differences in each sector and also in the overall

pooled data. The data on total number of hours worked per week are stationary in levels,

except in agriculture and trade &finance sectors. In the overall pooled data, this variable

is stationary in levels.

In summary, the IPS test results show that in pooled data, employment and

number of hours per week data are trend stationary in levels but also stationary in first

differences with an intercept and GDP data are stationary in first differences. To account

for the non-stationarity of GDP data, a residual based co-integration ADF test will be

performed after presenting econometric estimation results in the next Section. This test

will indicate whether econometric results are spurious.

5.4 Econometric Results of the Augmented Employment Demand Equation:

The augmented employment demand equation (equation 16) was estimated with

pooled data. The Feasible Generalized Least Square (FGLS) method was used as it

corrects for heteroscedasticity, present due to cross section component of data, and any

contemporaneous correlation that may be present due to the time series component of the

data. For robust variance, the methodology of Beck and Katz (1995), which is also called

a Panel Corrected Standard Error (PCSE), is used. 83

83
According to Gujarati (2006), panel data are a special type of pooled data, which are also called
longitudinal data or micro panel data, in which the same cross sectional unit, for example a family or a firm,
is surveyed over time. All tests applicable to panel data are also applicable to the general form of pooled
data.

99
 Table 5.4 provides econometric results of employment demand equation using the

FGLS approach.

Table 5.4: Econometric Results of Employment Demand Equation: FGLS Estimates

Variable Coefficient t-statistic P-value

Constant 3.371023 3.066692 0.0024
GDP (Xt) -0.07635 -1.77954 0.0765
Hours (Ht ) 0.635056 3.161675 0.0018
Population (Popt ) -0.58049 -4.45186 0.0000
Time (t) 0.037442 11.04457 0.0000
)
Interaction variables (Base sector is agriculture)*

GDP(Mining & Manufacturing) 0.105492 1.970137 0.0500

GDP(Construction) 0.565023 16.32795 0.0000
GDP(Electricity) 0.287625 3.07024 0.0024
GDP(Transport) 0.244561 5.650384 0.0000
GDP(Trade &Finance) 0.285162 7.381531 0.0000
GDP(All other Services) 0.372586 7.561574 0.0000
Hours (Mining & Manufacturing) -0.72916 -3.9752 0.0001
Hours (Construction) -2.29621 -20.6644 0.0000
Hours (Electricity) -2.00685 -7.12157 0.0000
Hours (Transport) -1.39097 -9.55886 0.0000
Hours (Trade &Finance) -1.32689 -9.97152 0.0000
Hours (All other Services) -1.62049 -9.57022 0.0000
2
R 0.983237
No of Observations 245

* The interaction variable in a sector is the product of its dummy variable with the corresponding
variable (GDP and hours worked per week). All variables, except for the time trend variable, are
entered in log form.

Before interpreting the econometric results, we address the concern that the non-

stationarity of the GDP data, as found above, may result in spurious or meaningless

regression outcomes. A residual based co- integration test was applied. Its results using

ADF are provided in Table 5.5. If residuals of the employment demand model are found

to be stationary, the series are co-integrated and results are not spurious.

100
Table 5.5: Residuals Based Co-Integration Test Results (ADF)

t-Statistic Prob.
Augmented Dickey-Fuller test statistic -11.14020 0.0000
Test critical values:* 1% level -5.6532
5% level -4.8601
10% level -4.4749

* The Null hypothesis indicates non-co-integration. The critical values are calculated by
using the software provided by James G. MacKinnon
http://www.econ.queensu.ca/faculty/mackinnon/jbes/. See MacKinnon (1994)

The above co-integration test result shows that residuals of the estimated

regression, i.e., the employment demand model for sectoral analysis, are stationary in

their levels, i.e, I (0). Hence, a linear combination of the series is co-integrated indicating

that the econometric results of the employment demand model are meaningful and

variables of the model are co-integrated in the long run.

We now turn to the interpretation of the econometric results which were reported

in Table 5.4.

The high value of R-square suggests that the regression model is a good fit.

Values of t-statistics suggest that all coefficients are statistically significantly different

from zero. This is true for most variables at 0.05 percent level of significance, but for the

GDP variable it is true at 0.10 percent level of significance. Since all variables are entered

in log form, except for the time trend variable, the coefficient of each variable is the

elasticity of employment with respect to the corresponding variable. Coefficients of

interaction variables measure by how much each sector‘s elasticity of employment with

respect to the corresponding variable differs from that in the base sector which, as before,

is the agriculture sector. All such coefficients are statistically significantly different from

101
zero indicating a statistically significant difference between the elasticity of employment

in each sector from that in agriculture sector.

In each of the included sector, the elasticity of employment demand with respect

to GDP is higher than it is in agriculture. However, the opposite is true when

employment elasticity with respect to hours worked per week in each sector is compared

with that in agriculture. Since the absolute values of the negative coefficients of each

dummy interaction variable with hours are higher than the positive elasticity in

agriculture, they all have negative employment demand elasticities with respect to hours.

This result perhaps indicates that employers in those sectors substitute between the

number of workers and their working hours, but not so in agriculture.

The main elasticity of interest in this study is the elasticity of employment demand

with respect to GDP. Based on the results of Table 5.4, this elasticity value is computed

for each sector and presented in Table 5.6.

Table 5.6: Sector Wise Elasticities of Employment with respect to GDP in Pakistan

Sectors Elasticity
Agriculture -0.076
Mining &Manufacturing 0.029
Construction 0.488
Electricity 0.211
Transport 0.168
Trade &finance 0.208
All other services 0.296

Source: Based on Table 5.4. Each sector’s elasticity is obtained by adding the coefficient of its
dummy interaction variable with GDP to the coefficient of GDP variable.

102
 As Table 5.6 results indicate, the agriculture sector has a negative elasticity of

employment demand with respect to GDP.84 A one percent output growth in agriculture

causes a negative employment growth in agriculture of 7.6 percent. In other words,

employment demand in agriculture sector of Pakistan drops when its output grows. A

possible reason for this result could be the presence of surplus labour in agriculture sector

which has resulted in a negative marginal product of labour in this sector. 85 Future

research can investigate this issue in more detail. 86

The elasticity of employment demand with respect to GDP is positive in all non-

agricultural sectors. Hence, output growth in non-agricultural sectors appears to have an

employment-enhancing effect. The strongest response of employment to output growth is

found in the construction sector, while it is the least in the combined sector of mining and

manufacturing.

Given the above estimates of employment demand elasticities, it is clear that for

employment generation, public policy in Pakistan can rely upon economic growth in only

non-agriculture sectors of the economy. However, how much output growth is needed in

each sector before it begins to employ additional workers? To answer this question, one

must calculate the all important ―threshold‖ levels of GDP growth for each sector whose

calculation was discussed in Chapter 4. Results of this calculation for each non-

84
That means higher GDP will lead to lower agricultural employment. This, in essence, is in line with the
structural change theory proposed by Chenery and Syrquin (1975) which suggests that "increases in
agricultural GDP will have two counteracting influences on agricultural employment. On the one hand, the
expansion of the agricultural sector will boost employment in that sector, but on the other hand, the
expansion of the economy as a whole could also decrease agricultural employment as workers reallocate
their services to non-agricultural activities".
85
The surplus labour appears to have pushed agriculture production to the inefficient third stage of
production.
86
Kapsos (2005) has estimated elasticity of employment in agriculture for Nepal, Thailand and Indonesia
for the period 1991-2003 and has found that it has turned negative in recent years. Perugini and Signorelli
(2007) also reported similar finding for Italy, noting that manufacturing and agriculture sectors have low
employment elasticity (even negative in agriculture) as compared to services sector.

103
agricultural sector are provided in Table 5.7. The same Table also provides the actual

output (GDP) growth in each sector for comparison.87

Table 5.7: Threshold and Average Annual GDP Growth Rates in Non-Agricultural
Sectors of Pakistan

Threshold growth Average Annual Growth Rate

Sectors rate in GDP* of GDP (1974 - 2008)

Mining &Manufacturing 19.231 5.759

Construction 1.287 3.819
Electricity 1.968 3.857
Transport 4.620 6.375
Trade &finance 3.142 6.236
All other services 2.224 5.349

*Calculated as the GDP growth rate below which employment growth will be zero.

Source: Calculations by the author based on results of Table 5.4. The method of calculation was
discussed in Chapter 4.

Results of Table 5.7 show that the combined sector of mining and manufacturing

in Pakistan had the highest level of threshold GDP growth rate during 1974 - 2008. GDP

must rise by about 19 percent in this sector to generate employment. The actual average

rate of growth of GDP in manufacturing has been about 6 percent during 1974 - 2008.

Hence, on average, GDP growth in the mining and manufacturing sector was not enough

to help generate employment growth.88 However, GDP growth rates in all other sectors

were above their threshold levels.

87
Complete sectoral average growth rates of employment and GDP can be found in Appendix Table
A5.4.
88
Mazumdar and Sarkar (2007) also found GDP growth rate to be jobless in Indian manufacturing.

104
 Less than half a percentage of national employment in Pakistan is in the mining

sector. The large threshold growth rate in the combined sector of manufacturing and

mining is an indication of the strong employment barrier faced in the manufacturing

sector which is viewed as a high capital intensity sector. One of the major factors

considered responsible for high capital intensity of manufacturing production is the factor

market distortion in favor of capital caused by deliberate policy measures aimed at

attracting domestic and foreign investment.89 This is considered as a root cause of low

employment in the large-scale manufacturing sector of Pakistan by Hussain (1974);

Kemal (1981); Zahid, Akbar and Jaffry (1992) and Kalim (2009). The last two studies

also report excess capacity in the manufacturing sector which implies a potential for job

creation in this sector.

The mining and manufacturing sectors together employ about 13 percent of

employed labour force in Pakistan and their share in national GDP is about 22 percent.90

Hence, these two sectors together occupy an important position in the economy of

Pakistan. The combined growth rate in these two sectors was rapid, 5.7 percent over the

period of analysis. In some years the growth in this sector was even in double digit. Any

growth in this part of the economy can have a direct as well as an indirect effect on

89
Some of these measures include low (0-5 percent) import duty on machinery, no withholding tax on
imported machinery, no sales tax on imported machinery, a debt to equity ratio of 70:30 on foreign and
80:20 on local machinery. These and further details have been provided by Shah and Ahmed (2003) and
also on the following web site: www.fauji.org.pk/webforms/InvestmentClimatePak.Mahmood, Ghani and
Muslehuddin (2007) maintain that while industrial and trade policy reforms in recent years have exposed
domestic enterprises to greater internal and external competition, most of these enterprises continue to seek
government support.
90
Anwar (2004) pointed out that "growth in large scale manufacturing sector is mainly due to the utilization
of excess capacity ranging from 30-40 percent created by large investments in the mid 1990s in thermal
power generation through independent power projects (IPPs), cement, sugar, automobile and consumer
electronics. Furthermore, employment elasticity of large scale manufacturing sector is very low (0.02)
relative to other sectors. Thus, this pattern of growth, together with stagnant investment, does not seem to
be pro-poor since it is not likely to generate sufficient employment to offset the large increases in labour
force over the years".

105
employment in other sectors. The direct effect can come from the additional demand for

supporting goods and services produced in other sectors. The indirect effect can come

from the additional demand for goods and services which results from additional income

that accompanies any combined employment generation in the mining and manufacturing

sectors. Manufacturing sector also has spillover effects on other sectors of the economy

through technical progress (Gupta and Singh, 2005).91

The economy wide result (reported in Chapter 4) that the average annual GDP

growth rate in Pakistan has been jobless can be explained by the jobless growth in the

mining and manufacturing sectors combined. Future research should explore any

multiplier effect of growth in mining and manufacturing sectors on employment growth

in other sectors of the economy.92

5.5 Summary:

Econometric analysis of sectoral data conducted in this Chapter reveals that output

growth in agriculture sector of Pakistan, the most dominant employer, cannot be viewed

as contributing towards more employment in the economy. This sector appears to have

absorbed so much labour that labour‘s marginal product in it has become negative. Any

future employment generation in Pakistan will have to rely on non-agricultural growth. In

the non-agricultural sectors, although the mining and manufacturing sectors (combined)

grew at a rapid rate, this rate was not enough to generate employment largely due to high

91
Another important way in which manufacturing benefits the whole economy is through its role in
international trade and in balance of payments. This is because of the fact that a large part of international
trade takes place in manufacturing products.
92
Kaldor (1967) point out that manufacturing sector is an engine of economic growth because of its
multiplier effects on other sectors.

106
capital intensity of production. This appears to be the main cause of the overall jobless

growth in Pakistan that was concluded in the previous Chapter. Output growth in all other

sectors generated a positive employment growth.93

93
Mazumdar (2003) acknowledges the importance of employment generation in the manufacturing sector
in a developing country which also highlights the importance of a sectoral analysis undertaken in the
present study. He first stressed the centrality of manufacturing output growth for total economic growth in
developing countries, based on the ―Kaldor‘s law‖ of economic development. However, “if the elasticity of
employment with respect to output is low, the economy can end up with an enclave type of development in
which the impact of even a respectable rate of manufacturing growth has only a limited effect on the rest of
the economy” (p.564).

107
 CHAPTER 6

Why Jobless Growth in Pakistan

Detailed econometric investigations conducted in the previous two chapters revealed an

overall weak sensitivity of employment growth to economic growth in Pakistan. Over the

period 1974 to 2008, a GDP growth rate of one percent contributed to only a 0.26 percent

growth rate in employment when national data were used. The national annual threshold

level of GDP growth rate was estimated to be 6.03 percent, i.e., for employment

generation in any given year, Pakistan‘s economy should have grown by at least 6.03

percent in that year. The average annual GDP growth rate in Pakistan during the entire

period of analysis was around 5.28 percent – lower than the estimated threshold GDP

growth rate of 6.03 percent. Hence, it may be concluded that the average annual growth

rate of Pakistan‘s economy has fallen below the level necessary for job creation. . This

result was found to be driven mainly by the mining and manufacturing sectors which had

the highest level of threshold GDP growth rate at 19 percent while experiencing only a 6

percent average annual growth rate during the 1974-2008 period. GDP growth rates in all

other sectors were above their threshold levels.

In addition to the employment barrier present in the manufacturing sector

resulting as a byproduct of policy measures to encourage the use of capital, several other

important changes occurring in the economy may also be responsible for the slow

response of employment to GDP growth. It is important to investigate those changes for

an appropriate employment policy response. An in-depth investigation of these factors

warrants a separate study. In the present Chapter, only a broad investigation is pursued.

108
 Economics literature has identified several possible factors responsible for jobless

growth. These are discussed in Section 6.1. The impacts of these factors in case of

Pakistan are discussed broadly in Section 6.2 by using mostly descriptive tools of data

analysis. The impact of macroeconomic policies is analyzed in the same Section using an

econometric model. Section 6.3 presents a summary of findings.

6.1 Possible Factors Responsible for Jobless Growth:

Five major factors responsible for jobless growth can be identified from economics

literature.94 These reasons are listed below, followed by their discussion:

1. Increase in labour productivity

2. Structural change in labour market (Sectoral Change )

3. Monetary and fiscal policies

4. International trade and globalization (Outsourcing and Off-shoring)

5. Just-in-time employment practices

The first four causes are broadly explored in this Chapter using available data. .

Labour productivity, measured as the average product of labour or output per

worker, rises when there are factors that suppress employment growth, for example

technological changes, while output is expanding (Francis and Ramey 2003; Gong and

Semmler 2006; Hemraj et .al 2006). Indeed, empirical research shows that strong labour

productivity growth is not sufficient to solve problems of acute poverty or

94
Tezcek (2007) analysis of the Turkish economy concludes that the Turkish economy faces the problem of
jobless growth due to three main reasons. One reason is Agriculture displacement (pre and post 1980‘s), the
second is Structural adjustment policies (1980-2000) and the third is productivity increase in the new
millenium. Hemraj et.al (2006) identified possible factors responsible for jobless growth in the US
economy. Rada (2008) and Rutkowski et.al, (2005) identified such factors for Central and Eastern European
countries.

109
underdevelopment (UN, 2008). If productivity rises faster than economic growth, the

problem of jobless growth can arise (Indiresan, 2002; Tezcek, 2007; Rada, 2008).

Structural change in the labour market, or the sectoral change, is said to occur in a

labour market when there are changes in the composition of aggregate demand for goods

and services, or when there are changes in the productivity of labour, that result in an

industrial shift in labour demand. When the labour market is undergoing structural

change, workers may lose jobs because their current skills are no longer in demand.

Hence, if an economic growth is accompanied by structural change, there is a potential

for this growth to be jobless. This possible explanation of jobless growth in the United

States was first suggested by Aghion and Howitt (1994) and then later empirically studied

by Rissman (1997), Groshen and Potter (2003) and Aaronson et.al (2004c).95

Monetary and fiscal policies can cause economic growth to be jobless if they

increase the interest rate. Interest rate is defined as the opportunity cost of capital which

can rise due to a monetary contraction, or due to a fiscal expansion that increases demand

for loan-able funds in financial markets. A rise in interest rate reduces private

investments. Hence, if an increase in aggregate demand is caused by an expansionary

fiscal policy, private firms would attempt to meet this increase by restructuring to

increase the productivity of existing labour and capital rather than hire new ones. These

firms could also withhold their new investment plans in the anticipation of a rise in future

tax burden that the government may impose in order to finance future interest payments. 96

95
Some studies have also examined the relationship between sectoral changes business cycles. These
studies including Lilien (1982), Abraham and Katz (1986), Campbell and Kuttne (1996), Davis (1987),
Loungani, Rush, and Tave (1990) decompose changes in labour productivity into a component due solely to
changes within plants and a component due to sectoral reallocation of labour across plants and analyze the
cyclical behavior of both components.
96
This outcome is predicted by the Ricardian equivalence rule as discussed by Barro (1989).

110
 Expansion of international trade and greater economic integration of the world can

also cause economic growth in a country to be jobless. Since the 1990s, the world has

become more economically integrated because many countries have moved towards a

uniform economic climate in which there is an increased role of markets in allocations of

resources and of goods and services, there is an increased role of private sector and there

are lower barriers to trade in resources and in goods and services. As a result, there is now

a greater movement of goods, and factors of production between countries. Lowering of

trade barriers and flexible economic policies in many developing countries has also

enabled many manufacturers in developed countries to take greater advantage of lower

labour costs in developing countries by outsourcing of production. This phenomenon has

caught the attention of many economists who argue outsourcing to be a major source of

jobless economic growth experienced by many developed countries since the 1990s. 97

Empirical research also suggests that the spread of new information technologies

promotes increased international services trade which could be another source of

outsourcing of economic activities to developing countries.

Finally, jobless economic growth may also be attributed to just-in-time

employment practices. Firms can decide when to hire, taking into consideration the cost

associated with hiring too early or too late. More flexible employment practices would

thus delay hiring, allowing firms to see when everyone else is going to hire before

beginning their own hiring if they are uncertain about the strength of a recovery. This

97
Using the data on Ireland, Gorg and Hanley (2005) argue that countries adopt outsourcing when imports
fall short of exports. Nevertheless, outsourcing remains a major and significant driver of the wage
differential. Following Feenstra and Hanson‘s (1996,) work, similar evidence has been produced for a
number of European countries, e.g., Geishecker and Gfrg (2004) for Germany and Egger and Egger (2003)
for Austria. These economists discuss the issue of outsourcing in their study and point out that the
outsourcing is a cause of net employment decrease. (See,Egger, Pfaffermayr, & Weber (2003), Head and
Ries (2002) , Kletzer (2000), Deardoff (2001) , Jones & Kierkowski (2001), Kohler (2001), Arndt (1997),
and Krugman ( 1995)).

111
type of approach by firms can result in extended periods of jobless growth accompanying

economic growth (Schreft and Singh, 2003).

6.2 An Investigation of Factors Responsible for Jobless Growth in Pakistan:

An in-depth analysis of the factors identified in the above section warrants a

separate study. In the present study, only a broad investigation of some of those factors

will be conducted to provide some policy directions and directions for future research.

6.2.1 Labour Productivity Growth in Pakistan:

The time series data on growth rates of labour productivity, employment and GDP

are presented in Figure 6.1 for the period 1965 to 2009. Labour productivity in this Figure

is measured as the ratio of GDP and employment where employment is measured as the

number of persons working.

Figure 6.1: Pakistan Employment, GDP and Labour Productivity Growth Rates
(1974-2008)

14
12
10
8
Growth Rate

6
4
2
0
1974

1978

1987

1991

1995

2004

2008
1975
1976
1977

1979
1980
1981
1982
1983
1984
1985
1986

1988
1989
1990

1992
1993
1994

1996
1997
1998
1999
2000
2001
2002
2003

2005
2006
2007

-2
-4
-6 Year

Employment Growth GDP Growth Productivity Growth

Source: Pakistan Economic Survey and Labour Force Survey of Pakistan (various
issues).

112
 As observed in Figure 6.1, during most of the periods of high GDP growth rates in

Pakistan, employment growth rate has been low. From 1970s until early 1990s, GDP

growth rate was remarkably high in some years, reaching above 6 percent, while

employment growth rate generally hovered around 2 percent in those years. However, in

1971 when the GDP growth rate fell close to zero, employment growth rate rose to

approximately 4 percent. In early 1990s, the employment growth rate became negative

while the GDP growth rate even exceeded 6 percent in one year. After the recession of

early 1990s, the employment rate did shoot up for three years, but has been below GDP

growth rate since then. As was seen in Table 1.1, in periods of high GDP growth rates,

the unemployment rates have also been high indicating the inability of GDP growth to

absorb new labor force entrants. During 1994-1996, the GDP growth rate increased

continuously while the employment growth rate continued to decrease, reaching almost

zero in 1996. Since 2000, employment and GDP have shown upward trends, but the

direction of relationship between them has not been consistent, with employment growth

rate exceeding GDP growth rate in 2007 but then dropping to under 1 percent. A

calculation of the correlation coefficient between the two data series resulted in a value of

-0.026 for the period. In sum, one can conclude a low and negative correlation between

GDP and employment growth rates over the entire 35 year period.

GDP growth rate equals the sum of changes in employment and labour

productivity growth rates (Kapsos, 2005). Hence, if GDP growth rate rises while

employment growth rate is falling, labour productivity growth rate should also rise and

vice versa. From Figure 6.1, it is also observed that the growth rates of GDP and labour

productivity followed identical paths in most of the period, while employment and GDP

growth rates went in opposite directions. During 1970s, the average annual labour

productivity growth rate was 1.73 percent while the average GDP growth rate was 4.84

113
percent - much lower than the average 6.87 percent growth rate of GDP experienced in

the preceding decade. During the 1980s, an average 4.47 percent growth rate of labour

productivity was accompanied by a 6.87 percent growth rate of GDP on average, which

was the highest ever recorded during a decade in Pakistan. However, in the 1990s, the

annual average annual productivity growth rate fell to 1.8 percent and exhibited large

fluctuations. Some of the years also saw negative growth rates in labour productivity. The

negative growth in labour productivity may be attributed to the employment generation

schemes introduced by the civilian governments of Peoples Party and Muslim League,

which caused employment to grow more rapidly. Lower productivity growth of 1990s

was also accompanied by a fall in the average annual GDP growth rate to 3.98 percent.

Finally, during the 2000-09 period, a 2.41 percent average annual growth rate of

productivity, which was a significant improvement over the previous decade, was

accompanied by a 5.03 percent average growth rate of GDP. During 1990-1993 and in the

year 2001, the average annual productivity growth rate was higher than the corresponding

GDP growth rate but employment growth rate was negative, implying that productivity

growth rate was achieved at the expense of employment reduction. The correlation

between GDP growth rate and productivity growth rate is found to be high, at around 0.78

during the entire period. When employment and productivity growth rates are compared

in Figure 6.1, a negative relationship is found with a correlation coefficient of -0.67,

demonstrating a trade-off between employment and productivity growth rates. These

findings are consistent with the result that economic growth in Pakistan has been largely

jobless.

Further insight into the trade-off between productivity and employment growth

rates can be obtained by investigating the relationship between working hours per person

and the employment to population ratio. This is done in Table 6.1.

114
Table 6.1: Employment to Population Ratio and Total Number of Hours Worked
Per Week Per Person Employed in Pakistan

Years Employment /Population Hours per Person Employed per

Ratio Week
1973-74 29.75 47.77
1980-81 30.11 46.84
1985-86 27.4 46.96
1990-91 26.39 46.37
1995-96 24.69 46.66
2000-01 25.33 46.11
2005-06 26.85 44.34
2007-08 28.49 45.12

Source: Various issues of Pakistan Labour Force Survey.

Table 6.1 data show an overall negative relationship between the employment to

population ratio and the hours per employed person per week. Hence, labour employment

and hours worked may be viewed as substitutes. This finding of our descriptive analysis

is consistent with the econometric result of Chapter 4 showing a negative employment

elasticity of hours valued at -1.404 and is also similar to Jorgenson and Vu (2005), who

reported that Pakistan‘s productivity and GDP growth rates declined during 1995-2003 as

compared to during 1989-1995. An earlier study by Mahmood and Siddiqui (2000) had

also arrived at the same conclusion for manufacturing industries.

In summary, the descriptive analysis presented above shows that during the period

1974 to 2008, GDP and employment growth rates had a negative correlation, as did

employment and labour productivity growth rates, while GDP and labour productivity

growth rates had a positive correlation. Hence, increases in labour productivity may be

viewed as one source of jobless economic growth observed in the econometric analysis of

115
data for the period 1974 to 2008. At least in the short- and medium-term, a tradeoff is

observed between productivity and employment growth rates.

The next section investigates structural change in the economy of Pakistan which

can be another reason for jobless growth in its economy.

6.2.2 Structural Change in Pakistan’s Economy:

If economic growth is accompanied by structural changes in the economy,

workers may have to retrain and update their skills. Hence, some unemployment may

occur in the economy, when workers are switching their skills, thereby weakening the

relationship between employment and GDP growth rates. Structural change of an

economy is often proxied by employment shifts between industrial sectors. An in-depth

analysis of structural change in the economy requires disaggregated employment data

within each of the seven sectors listed in Chapter 5. Unfortunately, such disaggregated

data are not available. Hence, only some broad patterns of sectoral change are analyzed

for the present study.

Four measures of structural change in the economy are commonly used in the

literature. These measures have been proposed by Lilien (1982), Groshen and Potter

(2003), Rissman (1997), and Aaronson, Rissman and Sullivan (2004c) and are discussed

below. The measure proposed by Groshen and Potter (GP) is presented and discussed

first. Because of the similarities between the other three measures, they are discussed after

the GP measure.

116
Groshen and Potter’s (GP) Measure

Following Groshen and Potter (2003), industrial sectors that continue to

experience slower than average employment growth during and after periods of slow

growth as well as those sectors that continue to experience faster than average

employment growth during and after slow economic growth can be considered as

undergoing structural change. The statistic suggested by these authors, called the GP

statistic, measures the percentage of such sectors in all sectors of the economy. In present

study, Pakistan‘s economy was divided into seven sectors (Chapter 5). Annual data are

used for each sector‘s employment, although it will be preferable to use monthly data but

they are not available.

First, employment growth rate in each sector is compared with the average

employment growth rate during different periods of economic growth as shown in Table

6.2.98 The signs of sectoral changes concluded in columns (11) and (12) are for the start

of slow and fast economic growth periods as they are for one year after growth rate peaks

and troughs. To account for any randomness in employment fluctuations that could affect

employment growth in these years, employment changes at the peak and trough of

economic growth are also compared and signs of sectoral change concluded in columns

(9) and (10). To help the intuition of the reader, an example has been provided in the

notes below Table 6.2.

98
When monthly data are used, GP‘s measure is based on a recession period that starts one month after the
business cycle peak and an 11-month post-recession period that begins the month after the business cycle
trough (Groshen and Potter, 2003).

117
Table 6.2: Employment Growth Rates by Sectors in Peak and Trough of Economic Growth, and in the Years Following them.

Employment Growth Rates in Employment Growth Rates Effects of Sectoral Change

Peak and Trough one year after Peak and Trough
Peaks Troughs In Peak and 1year after
Peaks Troughs
Trough Peak and
Trough
1968- 1990- 1978- 2001- 1969- 1991- 1979- 2002- 1968- 1990- 1969- 1991-
69 91 79 02 70 92 80 03 69 91 70 92
Sectors (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) (11) (12)
Agriculture, forestry, hunting and
fishing 3.86 -2.33 1.92 -2.99 3.93 -2.70 2.84 -1.42 No -ve +ve -ve
Manufacturing, Mining and
quarrying -0.21 -1.23 5.42 8.12 1.12 -5.13 -9.13 8.61 No No -ve No
Construction 2.42 -0.67 8.61 3.20 3.12 2.57 -2.29 3.02 +ve No No +ve
Electricity, gas, water and sanitary 2.54 9.49 16.42 6.70 -3.39 11.02 5.57 1.41 +ve +ve No No
Transport and communication -0.88 3.69 2.30 7.18 -0.46 3.75 -1.48 7.01 -ve +ve -ve +ve
Trade and Finance -2.73 2.75 3.83 4.92 1.90 3.36 -2.83 5.83 No +ve -ve +ve
All Others services -2.56 2.83 4.18 4.64 -4.00 6.28 30.02 5.10 No +ve No +ve
Total Employment Growth Rate 1.59 -0.42 3.31 1.64 2.29 -0.26 2.79 2.74
Notes:

1. The year after each peak and trough represents the start of decreasing and increasing economic growth periods, respectively.
2. Employment growth rates in peak and trough are also considered to cover for any possibility of randomness in the results based on slow and fast growth
periods. For details, see Aaronson, Rissman and Sullivan (2004c).
3. For agriculture, the positive effect in Column (11) is concluded as follows: Employment growth one year after peak (3.93) exceeded the average for all
sectors (2.29) and so did the employment growth one year after the trough (2.84 and 2.79). Hence, a positive effect of sectoral change on employment in
agriculture is concluded. No effect in Column (9) is concluded as follows: Employment growth in peak (3.86) exceeded the average growth for all
sectors (1.59), but employment growth in trough (1.92) was slower than the average (3.31). Hence, no sectoral change is concluded. The same method is
followed for other sectors.

118
 As can be observed in Table 6.2, when one considers employment growth rates

from one year into slow economic growth to one year into fast economic growth (one

year after economic growth peaks and one year after it troughs as reported in columns 11

and 12), the effect of structural change in the economy appears somewhat stronger in the

1991-92 downturn of growth than it was in the 1969-70 downturn. During the 1969-70

downturn, a sectoral employment change was observed in four sectors while this was the

case in five sectors during the next downturn. Electricity, water and sanitary sectors did

not experience any structural shift, collectively. If one considers employment growth

rates over the half cycle (in peak and trough as reported in Columns 9 and 10), then the

structural shifts are found to be even less pronounced during 1969-70 as this occurred

only in three sectors. However, the electricity, water and sanitary sector does show

structural shift under this method. Only the transport and communication sector is found

to have experienced structural shifts under both methods during both downturns. All other

sectors show mixed results. 99

In conclusion, the analysis of structural change based on aggregated employment

data for seven sectors of the economy yields some mixed results. However, it does appear

that structural changes were more pronounced at the time of 1991 downturn of economic

growth than in 1969-70 downturn. This result is largely due to significant shifts in

employment from agriculture towards services sector as recorded in the GP method. The

GP method also recorded significant changes in the transport sector. The ―Yellow Cab‖

scheme introduced in the mid-1990s by the regime of former Prime Minister Nawaz

Sharif, which made it easier for investors in the transport sector to import vehicles from

99
Groshen Potter (2003) also provided a descriptive statistic based on the correlations between the
difference of employment growth rate in each sector from the national average before and after recession.
This statistic will not be meaningful for present study due to small number of observations (only seven).

119
abroad, may have caused an expansion of this sector. When more disaggregated data are

available, one can perform an in-depth analysis of employment shifts within each of the

seven sectors to investigate if these shifts caused production in each sector to become

more or less capital intensive.

While one weakness of the above analysis is its use of aggregated data, another

weakness is that it is based on only four data points which may not capture full

fluctuations in employment during the period. Other measures such as those provided by

Lilien (1982), Rissman (1997) and Aaronson et.al (2004c) are improvements over the GP

measure. All three measures consider deviations of annual employment from a standard

level, but differ in the measurement of this deviation. These methods are discussed next.

Their results are presented together after their discussions.

Lilien’s Measure

Lilien (1982) holds that in the absence of structural change, employment in all

sectors will grow at the same rate. By contrast, when labour is being reallocated across

industries, expanding industries will grow faster than average and contracting industries

will grow slower. Lilien proposed a measure of structural change based on the standard

deviation of employment growth rates across industrial sectors calculated as follows:

Where GEit is employment growth in sector i at time t, GEt is the combined

employment growth rate for all sectors, it may be viewed as the national average growth

120
rate in employment, and Sit is the i-th sector‘s share in total employment at time t. 100 If

all sectors grow at the same rate, Lilien‘s measure would be zero. The measure is always

positive and larger, the more an individual sector‘s employment growth rate exceeds the

average. The variable is called the Lilien measure of structural change.

Some economists, such as Abraham and Katz (1986) have criticized the Lilien

measure. They note that employment growth in some sectors, such as the commodity-

producing sectors, typically declines faster during economic downturns than employment

growth in service-producing sectors. This pattern implies an increased dispersion in

sectoral employment growth during contractions and a reduced dispersion during

expansions, even if there is no actual impact of this change on aggregate employment.

Consequently, sectoral change as measured by Lilien captures both the process of sectoral

change and the normal employment flows of the business cycle. The measure does not

tell us which sector is positively or negatively affected by recession or recovery. Hence,

we cannot be certain that a high measured value of dispersion in employment growth is a

signal of anything other than low economic activity.

Rissman (1997) Measure

Rissman (1997) tried to incorporate Abraham and Katz‘s criticism of the Lilien‘s

measure. The Rissman measure is based on a decomposition of the time series of sectoral

employment share growth rates into three components. The first component reflects the

long-term growth trend of employment in each sector. The second component, as noted

by Abraham and Katz (1986), is the predictable movement of employment into and out of

100
A sector‘s employment growth is related to its share of employment by the following mathematical
relationship: Δ Ln (Sit) = Δ Ln (E it / Et) = GE it – GEt.

121
certain industries over the business cycle. The third component is the unexpected

movement of workers across sectors or industries, i.e., changes across sectors that occur

for reasons distinct to business cycles or long-term secular reasons. These unexpected

movements, which Rissman calls idiosyncratic shocks, could be thought of as

transformational changes in a firm or industry due to reforms, reorganizations, or other

factors that might shift inputs to more valuable uses. Employment changes like these are

likely to be the most upsetting to the labour market because they are unpredictable (unlike

long term trends) but are everlasting characteristics of the conditions (unlike cyclical

trends).

Similar to Lilien (1982), Rissman proposed a measure of sectoral change based on

the estimates of idiosyncratic shocks, . Specifically,

The term is sector i‘s acyclic employment share at time t–1. This

employment share is hypothetically what the sector‘s employment share would have been

if the national employment cycle were held constant at a value of zero, i.e., national

employment was stagnant. The acyclic employment share would depend only on the

sector‘s long-term trend and i.e., random, idiosyncratic shocks. The ‘s are estimates of

the idiosyncratic shocks for each sector obtained from the H.P filter estimation exercise,

as was described to decompose the GDP series in Appendix B relating to Chapter 4. In

short, this measure relies upon unanticipated variations in the composition of sectoral

employment growth. Long-term structural change affects the measure only through its

effect on the acyclical employment shares. Because of its construction, the measure

directly addresses the Abraham and Katz‘s critique of Lilien‘s measure.

122
Aaronson, Rissman and Sullivan Measure

Aaronson, Rissman and Sullivan (2004c) provide a measure of sectoral change

that is somewhat in between those proposed by Lilien and Rissman. Their measure is

given by:

The above measure calculates variations in the composition of sectoral

employment growth that are unrelated to the normal shifts that occur as the result of

business cycle. It is a broader measure of sectoral change in that it considers long-term

change in a sector employment share separately as a sectoral shift.

Figure 6.2 plots the above three measures of structural change obtained for

Pakistan‘s economy. The data are provided in Appendix IV.

Annual dispersions in sectoral employment, using the above three measures, are

provided in Figure 6.2. Lilien‘s method shows that sectoral employment growth

deviations around the national growth have been positive in all years indicating that

Pakistan‘s economy has been experiencing structural changes in all years. However, the

measure did not show a systematic pattern until 2003. It dropped during the 1969-70

recession while it rose during the 1991 recession indicating more pronounced structural

changes during the later recession.

123
Figure 6.2: Lilien, Rissman and Aaronson et.al Measures of Sectoral Variations in
Employment, Pakistan (1967-2008)

1.00
0.95
0.90
0.85
0.80
0.75
Employment Deviations

0.70
0.65
0.60
0.55
0.50
0.45
0.40
0.35
0.30
0.25
0.20
0.15
0.10
0.05
0.00
1969

1977

1985

1993

2001
1967

1971
1973
1975

1979
1981
1983

1987
1989
1991

1995
1997
1999

2003
2005
2007
Year
Aaronson et.al Rissman Lilien

Source: Based on own calculations presented in Appendix IV, Table A6. Lilien‘s
measure is based on sectoral employment growth deviation from the national employment
growth. Rissman‘s measure is based on shifts in the employment composition that are
unrelated to fluctuations in economic growth. Finally, the Aaronson et.al measure is
similar to that of Rissman, but it also includes long-term change in sector employment as
a sectoral shift.

The other two measures of employment dispersion are lower because of the way

they are measured. These two measures also indicate an overall structural change in the

economy, although the evidence is weak in recent years. Hence, it may be concluded that

structural changes took place during the two periods of upturns in Pakistan economy.

Finally, the data plotted in Figure 6.2 show that all three measures of structural shift are

sensitive to the pace of economic growth.

124
 A summary of the three measures of sectoral change is provided in Table 6.3

during periods of slow and fast economic growth. On average, more employment shifts

took place between sectors during the first ten years of slow growth as was also true for

the first ten years of fast growth. Similar pattern is observed during periods of fast

growth.

Table 6.3: Comparison of Three Measures of Sectoral Allocation in Slow and Fast
Economic Growth Periods

Average Dispersion of Employment Growth

Sectoral Slow Economic Growth Fast Economic Growth

Change 1969-70 to 1991-92 to 1979-80 to 2002-03 to
Measure 1978-79 2001-02 1990-91 2007-08
Aerosen et.al 0.123 0.047 0.134 0.017
Rissman 0.117 0.035 0.117 0.011
Lilien 0.438 0.302 0.444 0.175

Source: Based on own calculation presented in Appendix IV, Table A6.

In summary, the different measures show that in general, the economy of Pakistan

underwent structural changes during periods of slow and fast economic growth. However,

there is an indication of stronger structural changes in the 1970s than in earlier periods.

When more disaggregated employment data are available, a future study may investigate

the quantitative impact of a structural change on the relationship between employment

and GDP growth rates of Pakistan.

125
6.2.3 Monetary and Fiscal policies:

Monetary and fiscal policies can cause economic growth in a country to be jobless

if they result in an increase in the real interest rate or in labour costs. As discussed earlier

in this Chapter, a contractionary monetary policy, or an expansionary fiscal policy, can

result in an increase in interest rates. An expansionary fiscal policy can also cause labour

costs to rise.

Akbari and Rankaduwa (2006) have provided a review of monetary and fiscal

policies in Pakistan over the period 1973 - 2005. Both policies have gone through several

periods of contraction and expansion. While international and domestic economic events

have influenced them, they have also largely been dependent on the type of political

regimes in place. More consistency was observed in fiscal and monetary policy variables

during the presence of military regimes, especially during the last military regime which

remained in power from 1999 to 2008, than during civilian regimes each of which lasted

for short periods, mostly 2 to 4 years. Over the period 1999-2005, the first six years of the

last military regime, fiscal policy became consistently contractionary when the

government‘s budget deficit reduced from about 7 percent of GDP to about 3 percent.

Monetary policy became expansionary during this period with a rise in money supply

growth rate from under 5 percent to 15 percent. This consistent pattern of monetary and

fiscal policies was also accompanied by several market reforms in the country which had

actually started in the early 1990s. These market reforms included enhanced role of

private sector and liberalization of interest rates, exchange rates and international trade.

The central bank also became more autonomous during this period.

A detailed analysis of the impacts of macroeconomic policies and of market

reforms on the relationship between employment and GDP growth rates warrants a

126
separate study. For the purpose of the present study, a broad analysis will be conducted

by augmenting the employment demand equation of Chapter 4 to incorporate the effects

of macroeconomic policies and trade liberalization. A similar model was estimated for

transition economies of Europe by Rutkowski et.al (2005).

Three independent variables are added to the employment demand model of

previous Chapters. The first two are money supply and fiscal budget balance to control

for the effects of monetary and fiscal policies on the GDP elasticity of employment

demand. A third variable, proportion of the sum of imports and exports in total GDP is

included to control for the foreign trade effect. Rationale and results of this variable will

be discussed in the next Section. Nominal values of all variables are converted into their

real values using data on Consumer Price Index. 101

The augmented form of the employment demand equation is re-written below:

(16)

Each observation is for the year t. As before, is log of employment in number

of persons, is log of GDP, is the log of total numbers of hours worked per

week, and ln is the log of total population of the country. The new variables are the

logs of money supply, ; budget deficit, ; the sum of imports and exports as a

proportion of GDP, . A dummy variable, , is also added to the model to identify

any shift in employment after the introduction of market and macroeconomic policy

101
Data sources: Money Supply, Imports and Exports prices and Consumer Price Index data are taken from
International Financial Statistics 2009 and Budget deficit data are from Pakistan Economic Survey (Various
Issue).

127
reforms that took place in the 1990s. This variable is also interacted with the money

supply, fiscal budget balance, and international trade variables to test for statistical

significance of the change in their impacts on employment after 1990s. D t is given a value

of one for the post 1989 period and zero otherwise. 102 Results of econometric estimation

are provided in Table 6.4.

Table 6.4: Econometric Results of Employment Demand Equation by Using OLS

Method

Variable Coefficient t-statistic P-value

Constant 10.52464 5.794722 0.0000
GDP (Xt) 0.325217 2.841063 0.0093
Hours (Ht) -0.679397 -2.405950 0.0246
Population (Popt ) -2.261729 -6.570361 0.0000
Money Supply (MSt) -0.046624 -1.914136 0.0681
Budget Deficit (BDt ) 0.003525 0.331006 0.7436
International Trade (OP t ) -0.070216 -2.717765 0.0123
Time (t) 0.088808 6.638536 0.0000
Interaction variables (Base year is1990)*
Dummy Variable (Dt) 3.442822 2.856755 0.0089
) t) *Money Supply (MSt)
(D -0.306624 -4.009963 0.0005
(Dt)*Budget Deficit (BDt ) -0.021331 -1.206269 0.2400
(Dt)*International Trade (OP t ) 0.088657 0.920945 0.3666
R2 0.9967
Dwd Stat. 2.23
No of Observations 35

Before interpreting the econometric results, we again address the concern that the

results may be spurious due to non-stationarity of the data. The employment and GDP

series were found to be non-stationary in Chapter 4. The money supply and budget deficit

102
The model also follows the work of Boeri and Garibaldi (2004) on European New Members States and
European Monetary Union (EMU).

128
series, which are introduced in the present Chapter, are found to be stationary at I(1) but

the International Trade (Openness) series is stationary at level, i.e., it is I(0). As was done

in the previous chapters, a residual based co- integration ADF test was applied. 103 The

results are provided in Tables 6.5. If residuals of the employment demand model are

found to be stationary, the series are co-integrated and results are not spurious.

Table 6.5: Residuals Based Co-Integration Test Results (ADF)

t-Statistic Prob.
Augmented Dickey-Fuller test statistic -8.081097 0.0000
Test critical values:* 1% level -5.6532
5% level -4.8601
10% level -4.4749

* The Null hypothesis is non-co-integration. The critical values are calculated by using
the software provided by J. G. MacKinnon
http://www.econ.queensu.ca/faculty/mackinnon/jbes/. See MacKinnon (1994)

The above co-integration test result shows that residuals of the estimated

regression are stationary in their levels, i.e, I (0). Hence, a linear combination of the

series is co-integrated indicating that econometric results of the employment demand

model are meaningful and variables of the model are co-integrated in the long run.

The focus of the econometric analysis of this Section is on the effects of monetary

and fiscal budget balance variables. Results of Table 6.4 show that money supply and

international trade variables have statistically significant effects in the model while fiscal

budget deficit does not. The negative effect of money supply on employment is

strengthened since the 1990s, as shown by the t-value of the variable interacting the

103
As shown earlier, the employment and GDP series were stationary at I (1).

129
dummy variable and money supply, while the macroeconomic and market reforms of this

period did not affect the influence of fiscal budget balance or the international trade, as

the low t-value of the variable interacting the dummy variable and fiscal budget balance

indicates.

The GDP elasticity of employment is found to be 0.325 in the augmented model

which is higher than what was observed in Chapter 4 (value = 0.26) when no controls for

the effects of macroeconomic policy variables and for international trade were introduced.

This means that the macroeconomic policies and international trade have weakened the

effect of GDP on employment during the overall period of analysis.

In summary, the negative effects of money supply on employment and on GDP

elasticity of employment demand imply that monetary policy may have weakened the

effect of GDP on employment thereby causing economic growth to be jobless over the

three decades under study. A future study can investigate the impacts of other monetary

variables such as, interest rate and inflation rate, on employment demand and on GDP

elasticity of employment demand.

6.2.4 International Trade and Globalization:

When countries move towards economic integration, international trade expands

as trade barriers are removed. Countries expand the production of goods in which they

have comparative advantage while reducing the production of goods in which their

trading partners have comparative advantage. Specialization of production on the basis of

comparative advantage is a source of economic growth, but it is also a source of labour

productivity growth and of structural shift in the economy both of which in turn can cause

130
the resulting economic growth to be jobless in a country.104 With a share of exports and

imports at about 36 percent of its GDP, Pakistan‘s international trade sector is a

significant component of Pakistan‘s economy. Hence it is important to investigate the role

of this sector in employment generation. The econometric results reported in Table 6.4

showed a statistically significant and negative effect of Pakistan‘s international trade on

employment. As discussed above, the fact that introduction of this variable, along with

the macroeconomic policy variables, increased the GDP elasticity of demand probably

also indicates that macroeconomic policies and the international trade sector of the

economy may have contributed towards joblessness in economic growth over the three

decades under study. To what extent the expansion of international trade in Pakistan has

led to economic and labour productivity growth and in structural shift, can be topics of

future studies. Such studies could also estimate the international trade multiplier of

employment.

A byproduct of international trade and enhancement of private sector is the

phenomenon of ―outsourcing.‖ Sometimes a company in a developed country may lack

comparative advantage in production of a good but may find it worthwhile to shift its

production to a developing country where labour cost is low. 105 This phenomenon, known

as ―outsourcing‖ of production, has become more prominent since 1990s with the

adoption of flexible economic policies in developing countries that allow for market

driven means of production. Outsourcing of production from developed to developing

countries has often been blamed for employment decreases in developed countries. For

example, Gorg and Hanley (2005) found that Ireland lost much of its employment

104
When countries exploit their comparative advantage, some industries expand while others shrink.
105
This is especially true if investment in such production requires large amount of capital not available in
the developing country.

131
opportunities due to outsourcing, particularly with respect to financial services being

relocated to India. Kletzer (2000) found outsourcing led to job losses in the United States.

This caused President Obama to announce that his government may levy a tax on those

US companies whose majority of employees are located outside the country.

"To encourage ... businesses to stay within our borders, it is time to finally slash

the tax breaks for companies that ship our jobs overseas, and give those tax breaks to

companies that create jobs right here in the United States of America. Now, the House

has passed a jobs bill that includes some of these steps. As the first order of business this

year, I urge the Senate to do the same, and I know they will. They will. People are out of

work. They're hurting. They need our help. And I want a jobs bill on my desk without

delay" (Obama, 28 January 2010).106 In the United Kingdom, about 100,000 jobs would

have relocated abroad by 2005 as a direct consequence of outsourcing (Financial Times,

2005). 107

India has been one of the biggest beneficiaries of outsourcing and could be the

worst hit by any move in developed countries to restrict outsourcing of jobs. American

companies alone employ about 1.7 million people in India (IANS, 25 February 2009; 4

May 2009).

106
―Obama raises red flag on outsourcing‖ By Agencies Posted On Thursday, January 28, 2010 at 04:21:24
PM. In his first state of Union Address, US President Barack Obama said that the worst of the economy
slump for the US is over.
http://www.mumbaimirror.com/article/4/2010012820100128162124545309dffe2/Obama-raises-red-flag-
on-outsourcing.html.
107
A recent Financial Times article report's findings from an independent consultant that a ―two-speed
Europe is emerging‖, with the UK and Ireland reporting the highest levels of worker replacement. Financial
Times, August 16, 2005, Europe set to move 1 million jobs abroad in a decade (World News). Other studies
that found evidence of job losses in Europe include: Egger & Egger (2003), Feenstra & Hanson (1996),
these economist discuss the issue of off-shoring in their studies and find out that off-shoring is a cause of
net decrease in employment.

132
 Since the phenomenon of outsourcing mostly causes a shift of production from

developed to developing countries, it is expected to generate a ―job-intensive‖, rather than

a ―jobless‖, economic growth in a developing country which is at the receiving end. It

could also increase the GDP elasticity of employment. Unfortunately, very little evidence

exists to date as to how much employment generation and economic growth has taken

place in developing countries due to production outsourcing from developed countries. In

2002, the Planning Commission of India reported that globalization offered little or no

scope for employment growth in the organized sector of India (Indiresen, 2002).

Data on outsourcing of production from other countries into Pakistan and the

resulting impact on employment and economic growth are lacking and hence it is not

possible to determine if this phenomenon has been the source of jobless growth or job-

intensive growth in the country. A future study may collect and systematically analyze

these data.

6.3 Summary:

In this Chapter, some possible causes of jobless economic growth in Pakistan

besides the employment barrier created in manufacturing sector due to deliberate policy

creation of favorable prices of capital, were identified and interpreted. Based on a broad

analysis of the impact of each cause, it may be concluded that labour productivity growth,

structural shifts in the labour market, monetary policy and international trade may have

caused economic growth in Pakistan to be jobless over the period 1974 to 2008. There is

more evidence of an increase in structural change during 1968-1985. In the early 1990s,

labour productivity increases were noticeable. As Krugman (1992, p.9) wrote

―productivity is not everything but in the long run it is almost everything‖ so in the short

run productivity may be harmful for employment but in the long run it is very important

133
for economic development as there is a two-way causation between productivity and

growth.108 Monetary policy and international trade may have weakened the relationship

between employment and GDP by causing labour productivity to increase during this

period. Expansion of international trade could also have caused greater structural shifts.

The analysis presented in this Chapter is broad. An in-depth analysis can be pursued in

future using more detailed econometric modeling and disaggregated data for each sector.

108
Srinivasan (2005)

134
 CHAPTER 7

Conclusions and Policy Implications

The main purpose of this study was to investigate whether economic growth in Pakistan is

jobless or job intensive. An econometric analysis was conducted using national and

sectoral data for the period 1974 to 2008 and possible reasons for joblessness of economic

growth were explored. Section 7.1 provides a summary of the main conclusions in

relation to the research questions which were raised in the first Chapter. Section 7.2

summarizes the investigation of the causes of jobless growth in Pakistan. Some policy

implications of main findings are discussed in Section 7.3 while Section 7.4 discusses

some limitations of this study and provides some directions of future research.

7.1 Summary of Conclusions Regarding Presence of Jobless Growth in Pakistan:

An analysis of general trends in labour market indicators and economic growth

rate in Pakistan over the past four decades showed that overall; the employment growth

has been slower than growth in GDP. There appears to be a negative relationship

between labour productivity and employment elasticity according to these general trends.

In the last decade, both of these variables have been volatile. 109 Jorgenson and Vu (2005)

reported that Pakistan‘s productivity and GDP growth rates both declined during 1995-

2003 as compared to during 1989-1995.

109
This correlation does not isolate the impact of employment growth on GDP growth from other factors
which was done in the employment demand model.

135
 The rate of growth of employment declined in the 1990s, not due to a decline in

economic growth from 1980s, rather due to a decline in the rate of growth of the labour

force.

To investigate the nature of economic growth, an employment demand model was

derived from a production function. In this model, employment was expressed as a

function of GDP. This model was estimated in log-linear form. The estimated

employment elasticity of demand with respect to GDP was less than unity, 0.26,

indicating a slow response of employment to economic growth over the period 1974-

2008. Other studies have found employment elasticity with respect to GDP to be in the

range of 0.11 to 0.41.110 The overall slow response of employment growth to GDP growth

indicates that economic growth in Pakistan may have been largely dependent on capital

intensive projects, which is largely the case in manufacturing sector. Arif, Kiani and

Sheikh‘s (2002) longitudinal study found that the labour absorptive capacity of Pakistan‘s

economy has declined over time. 111

A major contribution of this study is its use of employment elasticity to calculate

the threshold level of GDP growth for Pakistan below which employment is stagnant.

This was found to be above 6 percent, while the annual average growth rate has been

around 5 percent during the period of analysis indicating the jobless nature of economic

growth over the period 1973-2008. The threshold level of GDP growth is higher than the

110
Baqai (1979), Kemal (1990), Chaudhary & Hamid (1994 and 1998), Majid (2000), Hyder (1994),
Planning Commission of Pakistan (2004) and Aslam & Zulifqar (2008).
111
These authors also found that transition from unemployment to employment was slow and more so in
case of females.

136
3.5 to 4.7 rate found for Indonesia by Islam and Nazara (2000), and the 4.4 percent rate

found for Poland by Wolnicki, Kwiatkowski and Piasecki (2006).112

When the effect of fast economic growth was introduced into the employment

demand model, it was found that employment elasticity dropped to only 0.11, giving an

even higher threshold level of GDP growth rate of 7.9 percent. The slower response of

employment during initial periods of fast growth indicates the possibility of a wait and

see approach of employers before they start re-hiring workers which has been found to be

true in other country studies (for example, Schreft et al ,2005). It could also be the result

of structural changes in the economy towards labour-saving capital intensive means of

production and a possible productivity growth when firms are restructuring.

The above results were based on the aggregate national data. Based on sectoral

analysis, a negative relationship was found in the agricultural sector between employment

and GDP growth rates. Because of a low income elasticity of demand in the agriculture

sector, future economic growth is not likely to cause significant growth in agriculture and

more labour is expected to move to the non-agriculture sectors. Furthermore, any

technical progress in this sector is also likely to be both land and labour saving. The low

employment growth linkage in agriculture is contrary to the suggestions of those found in

the literature that development of agriculture sector can be a recipe for poverty reduction

(Majid, 2000). Kaldor (1968) has suggested that agriculture productivity can be increased

by switching labour from agriculture to other sectors. Arif, Nazli and Haq (2000) suggest

that a dynamic labour-intensive agriculture combined with a non-agriculture sector can

lead to a broad spread of employment.

112
In the South-East Asian economies, employment growth rates of 2.5 to 4 per cent would normally
require a GNP growth rate of 5 to 8 per cent or more (Mazumdar & Basu 1997).

137
 Evidence for jobless growth is found in the manufacturing sector, which is often

regarded as one of the main engines of economic growth.113 The threshold level of GDP

growth in this sector is the highest among all sectors. High capital intensity of production

appears to be the main reason for the lack of employment growth in this sector. The

overall employment trend in manufacturing has been negative. This can be explained by

the rise in trade and increase in productivity which has been the case in the manufacturing

sector of developing countries as discussed by Schulze (2004) and Bailey& Lawrence

(2004). Mahmood and Siddiqui (2000) also found an increase in productivity in the

manufacturing sector of Pakistan.

The share of the construction sector in employment is 6.2 per cent but it

contributes only 2 per cent towards the GDP. Growth in this sector was found to be above

threshold level of GDP growth. Two other studies, Pakistan (2007) and Ahmad (2006),

report a shortage of 6.0 million houses in Pakistan and that the construction sector has the

largest employment linkages to other sectors. Nearly 40 industries in the manufacturing

sector are linked with construction related activities, in addition to the housing sub-sector.

According to the above two studies, even if only 0.5 million housing units are constructed

annually, at least 200,000 to 300,000 additional jobs will be created in the housing sector.

The electricity and gas distribution sector (combined) does not appear to have

much capacity to absorb labour due to its relatively small share in the overall economy,

although its growth is also employment intensive (above threshold level) according to the

findings of the present study.

113
Mining and manufacturing were considered as combined sector in this study. The share of mining in
employment is very small (less than one percent).

138
 The share of the services sector in employment is 36 per cent. Econometric results

showed that the service sectors‘ average growth rate was above the threshold level of

GDP growth; hence, growth in this sector is also employment intensive rather than

jobless. Trade and finance sectors, combined, contribute the most towards GDP among

other services sectors, and they are also major employers of labour. The finance sector

has significantly increased its labour absorption (Pakistan, 2007) and according to Ahmad

(2006), this sector has little capacity to increase employment. Most activities in the trade

sector are undocumented and as such this sector is mostly out of the tax net. A proper

regulatory framework is needed for the wholesale and retail sectors which can absorb

0.25 to 0.45 million workers during the tenure of PRSP-II 2007-2010.114

Growth in the transportation sector, another component of services sector, is also

employment intensive. This sector can also be a major employer in services sector, where

about three million jobs can be generated in urban as well as in rural areas of the country

(Ahmad, 2006). The share of all other industries in the services sector including

Ownership of Dwellings, Public Administration & Defense and Community, and S&P

Services, is 15 per cent and econometric results of the present study show that these

sectors‘ average growth rate was above the threshold level of GDP growth; hence, growth

in these sectors was employment intensive rather than jobless.

Despite the impressive economic growth performance of services sector and its

absorption of labour, its continued potential as employment source in future is

questionable. Development economists are divided over the sustainability of services as

potential source of employment in developing countries (Gupta and Singh, 2005;

114
Poverty Reduction Strategy of Pakistan

139
Karmakar, 2008). Income elasticity of demand for services, such as the trade finance

services which are currently major contributors to GDP growth, is high because of which

lower capita incomes cannot sustain the growth of this sector.

The overall conclusion of employment elasticity analysis is that economic growth

in Pakistan was jobless only in the manufacturing sector which has also experienced a

decline in employment over the past decade. One may attribute this finding to the faster

than average productivity growth in the manufacturing sector. Some authors, noted in the

present study have found that factor price distortions in favor of capital, caused by

deliberate policy measures aimed at increasing investment in this sector, have resulted in

high capital intensity of production which has become a barrier to employment creation in

this sector. However, at the same time, there may have been some spillover employment

growth effects of manufacturing growth in the services sector, especially in the

transportation sector thereby causing employment generation in the services sector.

Future research can explore this possibility.

7.2 Key Factors Responsible for Jobless Economic Growth in Pakistan:

Besides identifying the high capital-intensity of production in manufacturing as

being the likely reason for jobless growth in that sector, this study also investigated

broadly other potential factors behind jobless growth in Pakistan and found labour

productivity, sectoral reallocation or structural shifts in the labour market, and

macroeconomic policies (fiscal and monetary) to be among the major causes.

Sectoral reallocation in Pakistan during 1968-1985 was a main cause of the

jobless growth during that period. In the early 1990s, increases in labour productivity in

140
Pakistan and most of the developing countries also appear to have led to jobless growth.

Other studies that have also attributed jobless growth to productivity increases include

Kwiatkowski and Kwiatkowska (2006) and Wolnicki et.al (2006) for Poland and Tezcek

(2007) for Turkey. Finally, monetary and expansionary fiscal policies contributed

towards jobless growth in late 1990s and early 2000s. The negative effect of money

supply on employment became stronger since the 1990s while the macroeconomic and

market reforms of this period did not affect the influence of fiscal budget balance or the

international trade on employment growth relationship. A similar conclusion was reached

by Rutkowski et.al (2005) for transition economies of Europe and by UNDP (2008) for

Asian countries.

7.3 Some Policy Implications of this Study:

The current labour policy in Pakistan aims at targeting employment growth

directly instead of relying solely on economic growth to generate employment. However,

one cannot deny the importance of aggregate demand in goods and services markets in

promoting employment demand for which economic growth is necessary. Employment

growth can be enhanced through increasing the GDP elasticity of employment which in

turn would reduce the threshold level of GDP growth. In this regard, as per the evidence

discussed in this study, priority should be given to the manufacturing sector which is

found to have significantly higher level of threshold GDP growth than other sectors. This

sector is likely to continue as a sustained source of future economic growth. It also has

spillover effects on other sectors, such as the services sector. In particular, growth in

transportation and storage sectors often relies on the growth in manufacturing sectors.

Labour-intensive methods of production should be encouraged in this sector. The

increasing demand for skilled workers in this sector is expected to slow down the

141
expansion of employment of low-skilled workers. Hence, the labour employment policy

should also emphasize on worker training. Since the manufacturing sector is widespread

in the country, provision of information regarding job availability and for greater worker

mobility should also be the components of future employment policy. Consideration

must also be given to the factor price distortions that currently favor the use of capital and

have become employment barrier in this sector by raising the relative price of labour.

Establishment of more small- and medium-sized labour-intensive manufacturing

industries should be encouraged in order to address the problem of rural unemployment.

In particular, agro-based industries such as food processing, meat processing, poultry

processing, milk production, furniture industry, fibre industry, etc. should be encouraged

in rural areas. Special tax incentives in rural areas that help reduce the cost of labour will

also encourage expansion of manufacturing sector. This sector also has a large informal

(unorganized) component where about 57 percent of its employment takes place

(Gennari, 2004). Hence, any future sustainability of this sector as a potential employment

source will also depend on how the informal sector grows.

Economic growth in the services sector has been high and its labour absorption

has been strong. However, this sector has uncertain potential of continued employment

source since its growth may not be sustainable due to lower per capita income and high

income elasticity of demand for services. Despite its overall uncertain employment

potential, some of the service sub-sectors, such as the transport and storage, also have

forward linkages to the manufacturing sector. Hence, employment and growth policies

should also focus on improving employment conditions in these sectors. One important

sector within services is the Information Technology (IT) which can absorb skilled

labour. The use of information technology should be encouraged in all sectors in Pakistan

142
which will improve worker productivity and will also have a job-enhancing effect in the

services sector.

One other way of generating employment can be through the creation of special

incentives for employers to substitute working hours with employees. Over the four

decades for which data are analyzed in this study, working hours fell only in the

agriculture sector while they rose in all other sectors and the econometric analysis of this

study showed that labour and hours are substitutes in production. Employees in all non-

agriculture sectors work more hours than the national average, working more than 50

hours per week in transport and trade and finance sectors. To create incentives for

employers to use more workers, rather than require each worker to work more hours,

possibilities for any reduction in the regular number of working hours and for increasing

the overtime premium should be considered.

Employment generation policies are prone to macroeconomic policies. The recent

drift towards expansionary fiscal and restrictive monetary policies in Pakistan can have

negative employment effects through their effects on interest rates. Muslehuddin (2009)

suggests fiscal policy should focus on investment in labour-intensive infrastructure that

can offset the negative employment effects. He also suggests a strong need for

coordination of fiscal and monetary policies so that they do not offset each other‘s effect.

Finally, as Arif, Kiani and Sheikh (2002) longitudinal study has shown, women

face lower probability of finding employment once they become unemployed. By

investigating and removing employment barriers faced by women, as much as possible,

and introducing special employment schemes for women in rural and urban areas, the

unemployment issue for this large section of the society can be address.

143
7.4 Limitations of the Study and Some Directions for Future Research:

The present study is the first to investigate the job intensity of economic growth in

Pakistan. Most empirical studies have some limitations which should be taken into

consideration when interpreting the results and this study is no exception. Some of the

limitations of the present study are discussed below. Based on these limitations, some

directions for future research are also provided.

 First of all, in this study the focus has been on employment generation alone and

not on the quality of jobs that may be generated by economic growth. As noted by

Garibaldi and Mauro (2002), more jobs should not be viewed as necessarily good

if they are not accompanied by increased productivity which causes higher wages

thereby improving the standard of living, and/or lowering involuntary

unemployment. A study on the quality of jobs can be based on survey data that are

not available at this time.

 The labour market data used in this study are based on the Labour Force Survey

(LFS). The population coverage of the LFS is known to be low (varying from only

20,000 households in 1980s to about 32,000 households since the year 20,000 and

beyond).

 Many authors have raised the issue of the quality of data available in developing

countries (Kenya, India, South Africa, etc) which can affect the reliability of the

results of an empirical study (Bowen et al, 1994; Deininger and Squire, 1996 and

1998; Baird et al, 2008). To the best of my knowledge, the data I have used in this

study are the best available data from government sources in Pakistan. Other

empirical studies that have pursued different topics have also made use of these

data. The results of present study are not expected to have been affected by the

144
 quality of data in any different way from the results of other published studies that

have used time series data. Again, the best alternative to these data will be survey

data for which more time and monetary resources are required.

 The analysis conducted in this study was only limited to the formal sector. A large

employment in developing countries is created in informal sectors on which no

data are available. In Pakistan, estimates indicate that about 67 percent of

employment in non-agriculture sector is in the informal sector (Pakistan, 2007).

The sectoral composition of the informal economy has also changed in recent

years (Table A5.3). As noted by Mahbub-ul-Haq Human Development Centre

(2004), the largely jobless growth has lowered labour standards and increased the

vulnerability of about 90 percent of the workforce engaged in the informal sector

in South Asian countries. The annual Labour Force Survey of Pakistan began

collecting data on the informal sector since 1996. The latest data are for 2008-09,

but due to several interruptions in the survey, these data are available for only nine

years which are insufficient for conducting a meaningful analysis of the impact of

economic growth on employment that covers the informal sector as well.

 One important finding of the present study is that growth in the mining and

manufacturing sectors (combined) was jobless over the last four decades. The

mining sector is a small sector of the economy and hence the combined

manufacturing and mining sector is dominated by the manufacturing industries.

Growth in the manufacturing sector can have spill over effect on other sectors of

the economy, especially the services sector and this effect has not been analyzed

in the present study. Given that the growth in service sector has been employment

intensive, it will be interesting to analyze how much of the service sector growth

in employment was attributable to the growth in the manufacturing. It will also be

145
 important to analyze separate data on manufacturing sector, and within that sector,

disaggregated data on individual industries should be analyzed according to their

geographic locations. An analysis by geographic locations can shed some light on

the regional disparities in the effects of economic growth.

 A high value of the constant term in employment demand model of Chapter 4

indicates a large effect of all excluded variables on the employment demand over

the period of analysis. These variables could be the domestic political and

economic conditions, changing economic policies, worker training, etc. The

exclusion of these variables may have biased the employment elasticity estimated

in this study.

 This is the first study in Pakistan which has investigated the possible causes of

jobless growth, but in a broad manner. An ad-hoc model was estimated to gauge

the effect of macroeconomic policies. An in-depth analysis can be pursued in

future using more detailed econometric modeling and disaggregated sectoral data.

Such an analysis is necessary for an appropriate employment policy response.

 Lastly, an analysis based on survey data for specific industries and regions will

shed some light on how individual industries have adapted to changing economic

growth over time. Special attention may also be paid to any differential effects of

the jobless nature of economic growth on employment of men and women.

Despite some limitations, the quantitative analysis conducted in this study has

provided an important input for policy debate on the role of economic growth in

improving the standard of living of the Pakistani population through employment

creation. The study has also opened new pathways for future research on the job creating

potential of economic growth in Pakistan.

146
 Appendix I

Derivation of Employment Demand Equation

The employment demand equation derived in the text can also be obtained by considering

the cost minimization problem faced by a firm. Here we consider two factors of

production , . So the general production function is given by

X=f( , )

where X is output, is a labour, is a capital. To estimates the employment

demand equation, we have to minimize the cost function subject to output function.

Assuming a Cobb-Douglas production function, which was used in most of previous

studies, we state the problem as: function.

Minimize C = +

Subject to =

where,

C = total expenditure on inputs, , are factors prices of labour and capital

respectively. incorporates technology changes as described in the text.

X is output of the firm.

is labour, is capital.

is share of labour, β share of capital.

The Lagrange function for the constrained minimization problem is written as follows:

L = + + λ (X –

147
Differentiate the above Lagrange function with respect to Z1, Z2 and λ. We get,

First Order Conditions (FOCs)

(1)

(2)

X– =0 (3)

From equation (1) and (2) we get,

Therefore,

(4)

= , =

Put the values of and in equation (4) we get,

After some manipulation we find the value of Z2, we get,

From equation (3) we get,

X =

Put the values of Z2 in the above equation, we get,

148
 = [

From the above equation we find the value of

Taking natural log on both sides we get,

= + θt lne +

Where, lne = 1 and,

β2 = θ

If we impose an assumption on the above equation that the ratio of wages is

constant, i.e., do not vary, then the final demand for labour equation may be written

as follows:

= + + β2t (6)

The last equation (6) is a labour demand equation which is similar to equation (8)

derived in the text where represents the labour input in a given country and

represents the total gross domestic product (GDP) in a given year. is a slope

coefficient and represents employment elasticity with respect to output. is time trend

capturing the effect of technological changes. is the intercept term which includes the

149
factor wage ratios in the above derivation. The equation is applicable if the factor wage

ratios can be assumed fixed, which is possible in the context of Cobb-Douglas production

function if capital to labour ratio remains constant under the assumption of constant

returns to scale. However, the estimated equation in the text is based on a direct

derivation of employment demand from the production function where the constant term

and the time trend variables have different interpretations. No assumption regarding

returns to scale is made.

150
 Appendix II

Methodology for Identifying Fast and Slow Economic Growth Periods

in Pakistan

Hodrick – Prescott (1997) developed a methodology to estimate business cycles. In the

present study, their methodology is used to estimate the economic growth cycles. In

summary, this method assumes that annual series of real GDP is an aggregate of three

components including Trend, Cyclical movements, and Irregular movements.

In symbolic form;

Y t = T t + Ct + I t

Where

Tt = Long-run trend

Ct = Cyclical movements

It = Irregular movements (shocks)

All variables are considered in natural log form.

It is intended to isolate C t in the Y t series. This is done in two steps. In the first

step, Tt is removed from Yt. For this purpose, an HP filter applied using E-Views

software. This gives the following series:

Zt = Yt – Tt = Ct + It

In the second step, HP filter is used again to remove irregular shocks (It) from Zt, to give

Ct. The above method provides a de-trended log GDP series for Pakistan that is also

isolated from irregular shocks. Slow and fast GDP growth rate periods are identified as

151
the periods in which the detrended annual GDP values, free of irregular shocks, are

falling and rising, respectively, and are displayed in Figure A4.

Figure A4: Periods of Slow and Fast Economic Growth in Pakistan Based on HP
Method:

0.015

Peak
0.01

0.005

-0.005

-0.01
Trough
-0.015
1950
1952
1954
1956
1958
1960
1962
1964
1966
1968
1970
1972
1974
1976
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008

152
 Appendix III

Table A5.1: Sectoral Compositions of Pakistan Economy

1. Agriculture
i. Major Crops
ii. Minor Crops
iii. Livestock

iv. Fishing
v. Forestry

2. Industry
2.1. Manufacturing

i. Mining & Quarrying

ii. Manufacturing

a) Large-Scale

b) Small-Scale

2.2. Construction

2.3. Electricity and Gas Distribution

3. Services
3.1. Transport, Storage and Com.

3.2. Trade and Finance

i. Wholesale and Retail Trade

ii. Finance and Insurance

3.3. All others Services

i. Ownership of Dwellings

ii. Public Administration & Defense

iii. Community, S & P Services

153
Table A5.2: Sectoral Distribution of Employment according to Rural and Urban
Areas, Pakistan (1974 - 2008)

Rural
Sectors
1974 1980 1985 1990 1995 2001 2005 2007 2008

Agriculture 72.08 68.76 70.94 63.79 61.94 59.01 53.45 60.94 61.72
Mining and Quarrying 0.13 0.44 0.29 0.14 0.11 0.07 0.15 0.14 0.25
Manufacturing 9.32 5.93 8.52 8.08 6.78 8.68 8.69 8.37 8.35
Construction 3.41 3.4 4.36 6.63 7.47 6.23 7.99 6.09 6.51
Electricity 0.23 0.39 0.23 0.54 0.56 0.56 0.5 0.42 0.43
Trade 5.9 5.31 6.22 8.11 9.56 9.5 12.09 9.63 10.55
Transport 2.94 2.54 3.07 3.68 3.81 4.82 5.98 4.42 4.3
Services 5.7 9.2 6.3 8.97 9.73 11.1 11.1 9.96 7.86
Activity not described 0.29 4.03 0.06 0.06 0.05 0.03 0.04 0.03 0.03
Total 100 100 100 100 100 100 100 100 100

Urban

Agriculture 6.2 7.39 6.83 7.63 5.8 5.19 6.32 6.21 5.77
Mining and Quarrying 0.19 0.28 0.17 0.17 0.14 0.07 0.02 0.07 0.37
Manufacturing 25.74 18.29 26 22.35 20.1 25.08 24.71 23.89 23.9
Construction 6.41 6.43 7.68 6.59 6.49 5.67 5.91 6.75 6.87
Electricity 1.23 1.18 1.32 1.55 1.53 1.33 1.25 1.36 1.3
Trade 28.24 23.94 29.37 28.83 30.76 29.37 29.5 31.15 32.99
Transport 10.3 8.65 8.18 9.07 8.47 8.26 8.22 7.92 7.42
Services 21.26 26.41 20.35 23.75 26.58 25.03 24 22.39 21.3
Activity not described 0.44 7.43 0.09 0.07 0.13 0.01 0.06 0.26 0.08
Total 100 100 100 100 100 100 100 100 100

Source: Labour Force Survey of Pakistan (Various Issues).

Note: Totals may not add up to 100 due to rounding.

154
Table A5.3: Sectoral Distribution of Informal Employment according to Rural and
Urban Areas, Pakistan (2001 - 2008)

Mining All
and Manu- Cons- other
Years Class Quarrying facturing Electricity truction Trade Transport Finance Services Total
Rural 0.02 9.53 0.02 9.89 15.24 7.11 0.23 9.25 51.29
2001-
02 Urban 0.01 11.33 0.01 3.97 18.72 4.62 0.43 9.62 48.71
Total 0.03 20.86 0.03 13.86 33.96 11.73 0.66 18.87 100
Rural 0.03 9.96 0 9.66 15.38 6.22 0.37 8.58 50.2
2003-
04 Urban 0.01 10.65 0.07 3.72 19.24 4.93 1.03 10.14 49.79
Total 0.04 20.61 0.07 13.38 34.62 11.15 1.4 18.72 100
Rural 0.09 10 0.02 9.73 15.24 6.65 0.4 8.22 50.35
2005-
06 Urban 0.01 11.34 0.01 4.06 19.25 4.43 1.04 9.51 49.65
Total 0.1 21.34 0.03 13.79 34.49 11.08 1.44 17.73 100
Rural 0.1 9.89 0.02 10.15 14.83 6.25 0.39 8.59 50.22
2006-
07 Urban 0.01 10.46 0.01 4.41 19.75 4.59 1.2 9.35 49.78
Total 0.11 20.35 0.03 14.56 34.58 10.84 1.59 17.94 100
Rural 0.09 10.19 0.02 9.7 15.7 6.79 0.51 8.15 51.15
2007-
Urban 0 10.68 0.02 4.51 19.64 4.24 1.27 8.48 48.84
08
Total 0.09 20.87 0.04 14.21 35.34 11.03 1.78 16.63 100
Rural 0.09 10.2 0.02 10.77 17.08 6.83 0.57 4.98 50.54
2008-
Urban 0.03 11.3 0.01 4.73 22.53 4.06 1.27 5.54 49.47
09
Total 0.12 21.5 0.03 15.5 39.61 10.89 1.84 10.52 100

Source: Labour Force Survey of Pakistan (Various Issues).

Note: Totals may not add up to 100 due to rounding.

155
Table A5.4 : Sectoral Employment and GDP Growth Rate of Pakistan (1974-2008)

Sector Growth Rate 1974 1981 1986 1991 1996 2001 2006 1974
-80* -85 -90 -95 -00 -05 -08 -08
GDP
3.31 4.16 4.43 4.01 3.80 1.80 4.52 3.65
Agriculture
Employment
1.72 1.39 2.91 -0.89 3.86 -0.12 6.23 1.90
GDP
5.55 5.67 7.00 4.38 2.23 8.77 7.49 5.76
Manufacturing
Employment
9.84 1.05 1.18 -3.13 5.08 5.79 3.30 3.68
GDP
9.75 2.00 5.63 4.22 -6.58 1.41 10.7 3.82
Construction
Employment
4.46 4.79 5.28 3.34 -1.24 2.40 7.54 3.62
GDP
8.16 1.06 12.9 8.56 2.51 0.75 -16.9 3.86
Electricity
Employment
30.5 0.80 -0.46 7.48 0.01 1.36 6.47 7.96
GDP
5.98 14.5 4.21 6.14 5.06 3.05 5.55 6.38
Transport
Employment
5.93 4.10 1.45 1.62 3.02 4.84 3.40 3.62
GDP
6.16 8.62 5.63 4.72 5.42 6.07 7.63 6.24
Trade &finance
Employment
5.79 1.52 3.34 4.80 1.75 4.07 4.60 3.76
GDP
All other 7.44 6.37 5.73 4.72 0.83 4.71 7.81 5.35
services Employment
-0.65 6.07 2.10 5.15 3.04 3.65 2.98 2.98

Note: * indicates that annual averages of 1974-80

Source: Based on various issues of Labour Force Survey and Economic Survey of
Pakistan.

156
 Appendix IV

Table A6: Measures of Sectoral Change

Year Aaronson et.al Rissman Lilien

1967 0.1727 0.0337 0.6017

1968 0.0461 0.0745 0.3019
1969 0.0271 0.0860 0.2695
1970 0.0309 0.0449 0.2408
1971 0.0275 0.0183 0.2841
1972 0.3075 0.2412 0.8429
1973 0.3519 0.2686 0.8806
1974 0.0301 0.0380 0.2316
1975 0.2280 0.2809 0.6595
1976 0.2042 0.2486 0.6444
1977 0.0175 0.0106 0.2050
1978 0.0168 0.0104 0.1996
1979 0.0170 0.0110 0.1951
1980 0.4189 0.3503 0.9245
1981 0.3947 0.3389 0.8907
1982 0.0237 0.0172 0.1947
1983 0.2818 0.2928 0.8011
1984 0.2692 0.2520 0.7726
1985 0.0266 0.0325 0.2543
1986 0.0567 0.0343 0.3311
1987 0.0132 0.0147 0.1645
1988 0.0334 0.0117 0.2542
1989 0.0174 0.0282 0.1860
1990 0.0417 0.0204 0.3082
1991 0.0290 0.0148 0.2428
1992 0.0670 0.0259 0.3905
1993 0.0283 0.0352 0.2690
1994 0.0401 0.0224 0.3184
1995 0.0092 0.0131 0.1465
1996 0.0855 0.0546 0.3968
1997 0.0172 0.0125 0.1856
1998 0.0176 0.0143 0.1872
1999 0.0558 0.0795 0.3346
2000 0.0205 0.0277 0.2098
2001 0.0862 0.0453 0.4504
2002 0.0895 0.0557 0.4342
2003 0.0645 0.0390 0.3787
2004 0.0055 0.0123 0.0868
2005 0.0077 0.0072 0.1205
2006 0.0085 0.0052 0.1300
2007 0.0084 0.0013 0.1501
2008 0.0098 0.0031 0.1863

Source: Based on author‘s own calculation.

157
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