The promise of services-led development

The reception desk staff is seen at the Pearl Continental hotel in Peshawar, Pakistan April 10, 2018. REUTERS/Fayaz Aziz

Manufacturing-led growth has been the central development paradigm for centuries, but it is time to shift the spotlight. The share of industry in total employment across low- and middle-income countries (LMICs) has, strikingly, remained almost unchanged in recent decades (Figure 1).  Rather, the share of the services sector increased from 40 percent to 50 percent between 1991 and 2018, offsetting almost the entire decline of agriculture. The most common response to this structural transformation is worries about “premature de-industrialization” and renewed calls for lower-income countries to expand manufacturing. The promise of services-led development is instead overlooked but it should not be as our new book “At Your Service? The Promise of Services-Led Development” shows.

Figure 1. Services, not industry, are driving structural transformation in LMICs

Figure 1. Services, not industry, are driving structural transformation in LMICsSource: “At Your Service? The Promise of Services-Led Development,” World Bank.

The growth dividend of services

Services jobs all too often conjure up images of someone selling goods on the side of the road or in a small retail shop. But this misses the diversity of opportunities with services—and the extent to which they are contributing to income gains. Much like manufacturing, ICT (information and communications technology), finance, and professional services are highly traded internationally, offshorable, and linked to other sectors. Cargo transportation and wholesale services are internationally traded because they are linked to the export and import of goods. Accommodation, food, passenger transportation, and health care are also exported as international travelers buy these services.

Several developing economies have leveraged these export opportunities regardless of their level of industrialization. IT and professional services account for more than half of all services exports in Costa Rica, Ghana, India, Pakistan, and the Philippines. And around 50 percent of all online freelancers that deliver services remotely are based in India, Pakistan, and Bangladesh alone. China, Costa Rica, Jordan, Turkey, and Thailand are in the top 10 health tourism destinations worldwide. Even though currently hit by the COVID-19 pandemic, tourism-related transportation and accommodation services accounted for two-thirds of services exports even in less traditional destinations, such as Rwanda, Tanzania, and Uganda.

It should not, therefore, be surprising that labor productivity growth in services has matched that of manufacturing across LMICs in many regions since the 1990s and performed particularly well in South Asia and sub-Saharan Africa. Productivity growth in services during the past three decades in LMICs has also exceeded that in high income countries, contributing to catch-up (Figure 2).

Figure 2. Labor productivity growth in services has been strong in LMICs since the 1990s

Figure 2. Labor productivity growth in services has been strong in LMICs since the 1990sSource: “At Your Service? The Promise of Services-Led Development,” World Bank.

The power of digital technologies, intangible capital, and linkages

The challenge for LMICs is that jobs tend to be concentrated in less productive services. High-skill and productive services, such as IT and professional services employ only 5-10 percent of services workers in lower income countries, compared with 15–20 percent in high-income countries. In contrast, low-skill subsectors such as retail and personal services that have provided little by way of productivity gains employ two-thirds of services workers compared with 30 percent in high-income countries. If LMICs could increase their share of employment in more productive services to mirror that of high-income countries, productivity could increase by one-third.

But new opportunities for scale and innovation make low-skill services more productive. For example, restaurants and hairdressers can scale up through investments in intangible capital such as marketing and software that enable branching and franchising. There are similar possibilities to achieve scale in arts and entertainment services where streaming platforms such as Netflix and YouTube are fast enabling artists to deliver their creative content to international markets remotely. Small retailers can innovate through digital apps that automate skill-intensive tasks such as inventory management and accounting. Similarly, for ridesharing drivers, the platform substitutes both map-reading skills and numeracy skills.

At the same time, high-skill, productive services such as ICT and professional services, are expanding opportunities for low-skilled workers through their linkages with other sectors. For example, when indirect exporting is included (i.e., selling to other sectors that export, such as agriculture and manufacturing), the unskilled labor content in every thousand dollars of exports of business services in the Philippines, at around $150, approximates that for ready-made garments in Bangladesh.

The importance of services for industrialization

Even though services provide growth opportunities in the absence of industrialization, they are also increasingly important in improving the competitiveness of the manufacturing sector. Services are embodied in manufactured goods as inputs, such as design, marketing, logistics, or e-commerce platforms and account for one-third of the value of gross manufactures’ exports across countries. With the advent of “smart” production processes, ICT services—as the predominant producers and users of data—will play an especially crucial role in boosting manufacturing productivity.

Services also complement industrialization through their bundling with manufactured goods, which adds value postproduction. Smartphones are increasingly combined with apps that stream music and movies where the latter constitute audiovisual services. Car manufacturers offer financial services through monthly installment payment plans​. For producers of consumer durables, after-sales services, such as advertising, warranties, and equipment maintenance account for the lion’s share of total revenues.

Given the growing contribution of services to development, ignoring this agenda is no longer an option. There is a need to emphasize expanding services trade, fostering technology adoption, training workers and firms to upgrade skills, and targeting services that provide wider benefits to help ensure that services-led development is indeed in the service of development.