Economic Research Forum (ERF)

The role of state-business relations in employment growth

Improving the quality of the relationship between the private and public sectors in MENA countries is a strategy that is likely to enhance job creation and broader economic development. This column reports firm-level evidence from the World Bank’s Enterprise Surveys of Egypt and Turkey, which shows that political instability, high tax rates, poor electricity infrastructure and inadequate access to finance and credit are the key elements of state-business relations that are constraining employment growth.

In a nutshell

The quality of state-business relations in Egypt and Turkey is significantly related to net job creation.

Firm size and age, the gender ownership of a firm and the accreditation of a quality assurance have a significant impact on employment growth.

It is imperative to improve the quality and effectiveness of state-business relations, especially opening up access to finance and credit, reducing corruption and political instability, and providing tax incentives and credits for the most productive firms.

Employment growth and firm productivity have been a key focus of governments around the globe since the Great Recession of 2007. That includes the MENA countries, which are characterised by strong cyclical fluctuations and which have experienced significant economic and political changes, such as the Arab Spring.

Given persistently high unemployment levels, not only in emerging and developing economies, but also in many developed countries, as well as slow and disappointing growth, there is an increasingly strong focus among policy-makers on job creation and economic development.

This makes it important to assess whether the quality of governance and institutions expressed by state-business relations are important factors in net job creation. For example, young entrepreneurs and pioneering young business and firms may become relatively more important as creators of jobs.

But poor quality state-business relations – such as political instability, limited access to finance, corruption and high tax rates – may prohibit the productive processes of those firms, with negative consequences for employment and output growth.

It is equally important to know which groups of firms perform better (young versus old, small versus large), as well as indicators of quality assurance, gender ownership, the labour productivity and other characteristics.

Our study is motivated by the interest of policy-makers in the possible sources of employment growth, which will eventually lead to further economic development. The aim is to explore the main factors of net job creation, including:

Firm size, defined as the number of employees.

Firm age, expressed by the firm’s years of operation.

Female ownership, indicating whether the ownership of the firm consists of women.

Foreign ownership, showing the percentage of the firm belonging to a foreign company.

Exporter, indicating whether the firm sells its goods and services abroad.

Labour productivity, measured as the percentage change of the output achieved given the same quantity of workers.

Part of a larger firm, which shows whether the firm belongs to another larger company.

State-business relations, the main factor of interest, which are relations between the private and public sector.

State-business relations can be divided into ‘passive’ and ‘active’. In the former case, the state does not engage with specific private sectors, while active state-business relations refer to the case where the state may directly intervene in favour of specific firms, industries and sectors.

In our study, state-business relations are expressed by the obstacles in relation to access to finance and credit, electricity, corruption, political instability, tax rates, tax administration, trade and labour regulations, competition from firms operated in the informal sector, crime, the courts system, an inadequately educated labour force, access to land, business permits and transport infrastructure and networks.

The obstacles in the quality of state-business relations are measured on the one hand, as major or very severe, and on the other hand, as minor or not important at all.

Our analysis relies on data from the Enterprise Surveys provided by the World Bank, and it explores the determinants and role of state-business relations in a sample of firms in Egypt and Turkey. In particular, based on the surveys and data availability, we explore Egypt in the years 2013 and 2016 and Turkey in the years 2008 and 2013.

One of the main conclusions is that the majority of the establishments in both countries are small (4-19 employees) ranging between 63% and 65% of the total, followed by medium-sized firms (20-99 employees) at 28-30% and large firms (more than 99 employees) at 7.4% and 9.37% respectively in Egypt and Turkey.

In Egypt, 7.5% of firms are very young (two years old or under), while the comparable share in Turkey is 2%. Similarly, 14.5% of firms in Egypt have been established for three to five years compared with 11% in Turkey. In both manufacturing and services sectors, the majority of the firms are older than five years: 78% and 87% respectively in Egypt and Turkey.

Other descriptive statistics show that the average number of employees is 115 and the average firm age is 21 in Egypt, while the respective values in Turkey are 138 employees and 24 years. Female ownership in Egypt is only 6.8%, while the percentage in Turkey is 30%. This shows that female entrepreneurship is more common in Turkey, while women in Egypt have rather fewer opportunities to establish businesses.

Of the Egyptian sample, 19% of establishments are a part of a larger firm, while only 8.8% of establishments in Turkey are part of another firm. This is probably explained by foreign ownership, where 6% of Egyptian firms are characterised by foreign ownership and the respective percentage in Turkey is 4.3%.

In Egypt, only 10% of the sample is accredited an international quality certification compared with 31.5% in Turkey, while exporting firms comprise 7.6% of firms in Egypt compared with 20% in Turkey. These statistics illustrate the openness of the firms, which is significantly higher in Turkey. Moreover, average labour productivity in Egypt is negative at -3%, while in Turkey it is positive at 4.8%.

Our study shows that while firm age in Egypt has and insignificant impact on net job creation, firm size plays a role: in particular, large firms create more jobs. But the impact is lower when the number of employees is more than 400. On the other hand, firm size and age do not play any major role in employment growth in firms in Turkey.

Female ownership has no effect in the Egyptian firms, while it increases net job creation by 32% in Turkish firms. Furthermore, firms belonging to other larger institutions and which have an international certification of quality assurance, are more likely to increase their net job creation rates – respectively by 16% and 7% in Turkey. No significant impact is found for the Egyptian firms.

The main obstacles in state-business relations facing firms in both Egypt and Turkey are limited access to finance and credit, and political instability. Furthermore, the third major obstacle in Egypt is the quality of the electricity infrastructure and supply, while high tax rates are another major obstacle in Turkey.

In 2013, the majority of firms in Egypt stated that one of the main obstacles in state-business relations is political instability (49%) followed by obstacles related to electricity infrastructure and access to finance and credit at 11%. In 2016, the percentage for electricity supply was 10%, for political instability it had remarkably reduced to 25%, while it had increased for access to finance and credit to 15%.

In Turkey, 25% of firms stated that access to finance is one of the major obstacles in state-business relations in 2008, followed by a decrease to around 12% in 2013. In 2008, 17% and 18% of firms stated that political instability and tax rates respectively are the major obstacles in state-business relations. The respective percentages in 2013 reached 13% and 27%.

The analysis shows that firms facing major and severe obstacles related to access to finance and political instability create 0.5% to 1% fewer jobs compared with firms stating that these obstacles are moderate. The percentage of the poor quality in electricity infrastructure and supply reaches -0.2%.

In Turkey, firms stating that the obstacles related to access to finance and credit are severe and major, reduce their net job creation rate by 0.55%, political instability by 0.35% and tax rates by 1.6% compared with firms where the obstacles in state-business relations are considered moderate or minor.

Even though the relationship between net job creation and the quality of state-business relations seems small, this does not imply that we should neglect or understate its further impact on economic development. While the obstacles in state-business relations reduce net job creation, the effect has a further multiplying consequence, as employment growth may lead to further economic development and investments in human capital.

In addition, providing equal opportunities and access to finance and capital for young productive firms with high skilled personnel that lack funding resources to start their businesses, will lead to further sustainable development. This is also in line with political instability and corruption, not only for the domestic firms, but also for foreign firms willing to invest in the country.

Moreover, according to our findings, reforms and policies that encourage employment and support vulnerable groups should be implemented. Female participation in entrepreneurial activities and accreditation with quality control certifications can be important factors of employment growth.

Therefore, decisive reforms are required, as education, investment in human capital and employment in MENA countries will determine the livelihoods and living standards of almost 380 million people and drive the factors of growth and development for the next generations.

It is imperative for the region to make adequate investments in human capital, and to improve the quality and effectiveness of state-business relations, especially opening up access to finance and credit, reducing corruption and political instability, and providing tax incentives and credits for the most productive firms.

Further reading

Giovanis, E, and O Ozdamar (2018) ‘State-Business Relations and the Dynamics of Job Flows in Egypt and Turkey’, ERF Working Paper, forthcoming.

Acknowledgment

The authors gratefully acknowledge financial support from the Economic Research Forum (ERF) under the project ‘Structural Change, Resource Misallocation and Growth Dynamics in the MENA Region’. The views expressed in this paper are those of the authors and do not necessarily represent those of the ERF.

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