Investment Climate and Firm Performance in Developing Economies

Abstract

Drawing on recently completed firm‐level surveys in Bangladesh, China, India, and Pakistan, this article investigates the relationship between the investment climate and firm performance. These standardized surveys of large, random samples of firms in common sectors reveal that objective measures of the investment climate vary significantly across countries and across locations within these countries. We focus primarily on measures of the time or monetary cost of different bottlenecks (e.g., days to clear goods through customs, days to get a telephone line, and sales lost to power outages). For many of these costs, the obstacles are lower in China than in Bangladesh or India, which in turn are higher than in Pakistan. There is also systematic variation across cities within countries. We estimate a production function for garment firms and show that total factor productivity is systematically related to the investment climate indicators. Factor returns (wages for a given quality of human capital and rate of profit) are also higher where investment climate is better. These higher returns then have dynamic effects: accumulation and growth at the firm level are higher where the investment climate is better.