My Say: Complexity and the service sector

This article first appeared in Forum, The Edge Malaysia Weekly, on June 10, 2019 - June 16, 2019.
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In 2016, Malaysia’s Gini Coefficient, a common measure of relative income inequality, stood at 0.399. This figure was lower than the corresponding Malaysian Gini Coefficient in 2007, which stood at 0.461. Given that a lower coefficient implies lower income inequality, a first glance at the change in Malaysia’s Gini Coefficient indicates that income inequality in the country has improved significantly from 2007 to 2016.

Data from a 2017 paper by the International Monetary Fund (IMF) seems to bear this out. In a sample of 50 countries, including developed nations and developing nations, Malaysia’s labour income share — in essence, the percentage of GDP or national income accruing to labour — increased the most from 1991 to 2014. Indeed, some of the world’s most important economies saw a decline in that trend, including China, Germany, the US and Japan. So, Malaysia seemed to have bucked a common global trend — increasing returns accruing to capital owners, rather than to labour.

On the surface, it reasons that the state of inequality in Malaysia is improving. The Gini Coefficient has been decreasing, and labour — more so than capital — is taking a greater share of the national income. But, as always, with a mightily complex issue such as inequality, a deeper understanding of what is really happening with the Malaysian economy is necessary.

A research paper by the Khazanah Research Institute in 2017 shows that, as per government policy, Malaysia has transitioned towards an economy where 60% of its GDP came from the service sector. This is in line with policy direction at the time; the Economic Transformation Programme (ETP) states that Malaysia will focus on developing a “large and thriving service sector”. Of the 11 National Key Economic Areas (NKEAs) under the ETP, seven are service NKEAs.

While the ETP set out to develop high value-added services — and, therefore, to create high-income jobs — the reality turned out very differently. From 2005 to 2010, traditional services accounted for 41% of GDP, increasing to 44% of GDP over the period from 2011 to 2016. Modern services, however, stood still at 14% of GDP. As such, Malaysia’s economic structure did not evolve as quickly as the policy had intended; we still have an economic structure that prioritises traditional low value-added services, as opposed to high-technology sectors.

As such, it makes sense, given the structure of the economy, we would see the prevalence of a labour-intensive economy, manifesting itself in the increase in the labour income share, as documented by the IMF. This, among other social assistance programmes, such as the Bantuan Sara Hidup, also reduced the Gini Coefficient in Malaysia.

The question is — at what cost? In the short term, Malaysia’s growth may be more inclusive as rewards to labour rise, but in the long term, we have managed to develop an economic structure that is less reliant on technology, and thereby reduce our capacity to harness innovation and drive productivity growth. Of course, this is not to say that we should blindly allow inequality to run roughshod over the nation, but rather to say that approaches to tackling inequality need to take into account the larger picture of national development. We cannot miss the forest for the trees.

At the same time, even as we can all collectively agree that there is nothing inherently wrong with shifting to the service sectors per se, and that we should focus on high technology, high value-added services, the complexity does not end there. For all the exponential growth in technology and innovation over the past decade or so, global growth has not responded in kind. In fact, the global GDP growth remained at its highest in the late 1960s and early 1970s. As such, why is it that technology seems to be advancing rapidly, but we do not see those advances necessarily translating into productivity or growth?

Lukasz Rachel at the London School of Economics has a potential explanation. He argues that a good chunk of innovation, particularly in the past decade, has been in leisure-enhancing innovation. According to Rachel, leisure-enhancing innovations are services that are supplied free of charge and are designed specifically to draw in viewers. Some of these innovations spring easily to mind — Facebook, Instagram, Snapchat, mobile games and much more.

Rachel shows that there has been an increase in leisure hours over the long run which, in fairness, is not necessarily a bad thing — perhaps people have achieved a sufficient level of material comfort and are choosing to spend more time partaking in leisure. Next, he shows that there is also a dramatic rise in the use of leisure technologies more recently, across all sorts of media.

Putting it together, given the rise of leisure hours and rising use of leisure technologies as well as the “free” nature of such innovations — revenue from these innovations come from advertising — it stands to reason that these leisure-based technologies garner a lot of our time and attention.

Rachel’s paper then goes on to argue that once the leisure sector emerges, the growth rate of knowledge or productivity starts to decline. Given that the long-term growth of any unit of observation — household, firm and nation — ultimately depends on productivity growth. The increased focus on the leisure sector will, therefore, dampen long-term growth.

His work still needs to be suitably verified through more empirical studies, but the logic makes sense. If our highly-skilled workers are all focused on developing more

leisure-based technologies — say, the next Uber of pet grooming — will there be significant benefits to productivity from simply moving up the value-added ladder in the service sectors? So, simply moving towards more high value-added services is insufficient to drive productivity growth, and thus we need to move towards high value-added productivity-enhancing services.

As the government develops its strategies for the 12th Malaysia Plan and the New Industrial Master Plan, it needs to be as nuanced as possible in detailing the nature of industries — be it services, manufacturing or even agriculture — to ensure that the priority is, ultimately, on both high value-added economic activities and also on productivity-enhancing economic activities.

After all, the point of a strategic move towards more high value-added economic activities is to have a sustainable long-term economic growth path, but that can only come with economic activities that are based on enhanced productivity.

Nicholas Khaw is an economist with the Khazanah Research and Investment Strategy Division

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