Estimating the External Effects of Infrastructure Development

In contrast with much private investment, investment in infrastructure can generate positive externalities throughout an economy, leading to social returns that exceed private returns. For regional infrastructure in transport and communication, one of their most important external effects is to increase market access by lowering trade costs. Broadly defined, trade costs include policy barriers (tariffs and nontariff barriers), transportation costs, local distribution costs, information costs, contract enforcement costs, and other costs associated with border-related barriers, such as language and currency conversion. The tariff equivalent of trade costs can range from 30% to 105%, depending on the sector, according to estimates for imports by the United States (World Bank 2005). Based on 1990 bilateral trade data for 19 member countries of the Organisation for Economic Co-operation and Development, Eaton and Kortum (2002) found that the tariff equivalent of trade costs ranged from 58% to 78%. Trade costs in developing countries are typically much higher due to weaker infrastructure and institutions.

Assessing the importance of infrastructure in facilitating trade, Nordas and Piermartini (2004) defined four dimensions of the relationship between infrastructure and trade costs. The first dimension of infrastructure's effect on trade costs is measured by direct monetary outlays for trade. These are determined not only by the distance (both physical and cultural) between trading partners, but also by the quality of infrastructure and the cost and quality of related services. Second, delivery time—whether on time or not—is likely to be influenced by the quality of infrastructure. Third, poor quality infrastructure increases the uncertainty of delivery, which is associated with a higher risk of damage, and therefore with higher losses and insurance costs. The fourth dimension of trade costs is high opportunity cost due to lack of access to good transport and telecommunications services. The quality of infrastructure thus largely determines the time required to get product to market and the reliability of delivery.

Francois, Manchin, and Pelkmans-Balaoing (2009) estimated the elasticity of trade costs with respect to the quality of infrastructure for several Asian economies (Table 2 [ PDF 58.7KB | 3 pages ]). Their results indicated that a 1% improvement in transport infrastructure decreased the trade cost equivalents for the value traded by 0.03%–0.58% in most developing Asian countries assessed during 1988–2003. For countries with the least-developed transport infrastructure, such as Cambodia and Myanmar, the elasticity of trade to transport infrastructure was as high as 1.17. For communication infrastructure, the trade cost reductions from a 1% improvement were somewhat smaller, ranging from 0.07% to 0.25%. This suggests that upgrading transport infrastructure would contribute more to reducing trade costs in Asia than upgrading communication infrastructure. The impact of both transport and communication infrastructure on a country's trade costs is much related to income. Figure 1 [ PDF 21.3KB | 1 page ] and Figure 2 [ PDF 20.8KB | 1 page ] plot these estimated elasticities against the level of per capita GDP for selected Asian countries. As can be seen, the elasticities for communication infrastructure are positively correlated with income level, while those for transport infrastructure are negatively correlated with income level. In other words, transport infrastructure has a larger impact on trade costs in low-income countries than in high-income countries. On the hand, communication infrastructure has a larger impact on trade costs in high-income countries than in low-income countries.

Using the estimated historical elasticities reported in Table 2, the linear regression equations between elasticity of trade costs with respect to the quality of infrastructure and the logarithm of per capita GDP were estimated for Bangladesh, Cambodia, PRC, India, Indonesia, Lao People's Democratic Republic, Malaysia, Pakistan, Philippines, Thailand, and Viet Nam. The values of these elasticities were then forecast for 2010–2020 based on United Nations population projections and assumed baseline GDP growth rates for these economies. To apply these forecasted elasticities to the scenario for infrastructure growth presented in Table 1, the per capita stock of transport infrastructure and per capita stock of communication infrastructure were used as proxies of infrastructure quality. This allowed estimation of trade cost reductions resulting from infrastructure expansion for each year during 2010–2020. The results, expressed as the accumulated reduction, in 2020, of trade costs during 2010–2020, are presented in Table 3 [ PDF 24.8KB | 1 page ].

For energy infrastructure, the principal externality is improvements in the efficiency of energy production and use. In an assessment of cross-border energy infrastructure—the oil pipeline between Kazakhstan and the PRC, Roland-Holst (2008) suggested that it may bring down the costs of the PRC's oil imports from Kazakhstan by 40%. Looking at the Greater Mekong Subregion (GMS), Integriertes Ressourcen Management (2008) found that an energy-integrated GMS could save overall GMS energy costs by 19%. Based on these empirical findings, it is projected that the overall efficiency of energy supply in developing Asia (excluding newly industrialized economies) would improve by 20% in 2020 as a result of investment in regional energy infrastructure.

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