Service Deregulation, Competition, and the Performance of French and Italian Firms

Date01 July 2016
Published date01 July 2016
Francesco Daveri*
**, R
emy Lecat*** and Maria Laura Parisi****
This article reports estimates of the impact of service regulation reform on the
productivity of French and Italian firms in retail, transports and professional ser-
vices over the period 19982007. We implement a two-stage least squares esti-
mation: the first-stage instruments mark-ups, a financial measure of rents, with
barriers to entry and the second stage estimates the impact of instrumented
mark-ups on total factor productivity (TFP), a real measure of firm efficiency.
We find that entry barriers lower firm productivity by raising mark-ups and
rents. These estimates imply that, if French and Italian regulators had adopted
the OECD best practices in terms of entry barriers, firms in these sectors would
have increased their TFP level by five percentage points. We do not find any
robust evidence of a non-linear relation between mark-up and productivity.
From 1980 to 2007 policy makers reduced regulatory barriers in many OECD
countries under the assumption that lower regulation would induce efficiency
gains for firms and lower prices for consumers. A large body of literature sup-
ported the policy stance in favor of deregulation, pointing to negative effects
of entry barriers, red tape or legal requirements on economic performance,
notably firm productivity. Yet, while considerable effort has been devoted to
the search for significant correlation, less attention has been directed at the
details of the transmission mechanism through which the relationship between
regulation and firm productivity should materialize.
This article lies in this area of empirical research. We establish a link from
regulation to efficiency through the firm mark-up, a measure of firm-specific
rents. However, rather than concentrating the attention on a broad cross-sec-
tion of countries and on deregulation as such, we study the details of this process
a Cattolica del Sacro Cuore (Piacenza)
***Banque de France
a di Brescia
Scottish Journal of Political Economy, DOI: 10.1111/sjpe.12092, Vol. 63, No. 3, July 2016
©2015 Scottish Economic Society.
looking at one specific aspect of deregulation, the reduction in entry barriers in
the service industries.
We do this for two highly regulated countries, France and Italy. As of 1998,
both countries posted the highest values (behind Greece) for the Product Mar-
ket Regulation (PMR) index constructed by the OECD. Since then, extensive
deregulation of professional business activities, network industries, and retail
has occurred in both countries. Data indicate that deregulation has intensively
affected entry barriers although its pace has been uneven across industries and
over time. In our article, we construct time-varying industry variables that
summarize the change in entry barriers for retail, road freight and business
services. We contrast the variation in regulation in such industries over 19982007
with firm-level variation in the behavior of total factor productivity (TFP), a
commonly accepted measure of efficiency. If the aim of deregulation is raising
efficiency, then it should positively affect TFP. Indeed, Nickell (1996), Blundell
et al. (1999) and Griffith et al. (2010) found a negative relation between regulation
and productivity. This also stems from the results of Schivardi and Viviano
(2011), who found that barriers to entry in the Italian retail sector are positively
correlated with profit margins, and negatively correlated with productivity. It
would be desirable to go beyond this and establish a mechanism that gives rise to
causation. To establish such a mechanism, we look at the mark-up as an interme-
diate variable. Regulation is bad for the economy, in the first place, if it reduces
competitive pressures, giving rise to rents. As long as rents are associated with
managerial slack and other inefficiencies, we expect that a measure of rent, such
as the mark-up, bears a negative correlation with observed firm productivity.
Following previous research in this field (Griffith et al., 2010; Ospina and
Schiffbauer, 2010), we test this idea through a two-step procedure. In the first
stage, we look at whether changes in barriers to entry have affected the mark-up,
a financial indicator of rents, for firms in the industry where reform took place in
the expected direction (lower entry barriers bringing about a diminished scope
for rent). In the second stage, we investigate whether the induced changes in
mark-up, originating from lower barriers, have translated into TFP changes, a
real indicator for firm efficiency changes.
We test the relationship between entry barriers, mark-up and productivity
using a two-stage least squares estimation strategy on a panel of French and
Italian firms, with barriers to entry as an instrument for mark-up in the first
stage and mark-up as a determinant of TFP in the second stage. In general, our
results indicate that barriers to entry in France and Italy are linearly associated
with higher mark-ups and lower TFP, with an overall impact of barriers to entry
on productivity stronger in France than in Italy. This effect appears to be one
and a half times greater in the long run than in the short run. The relationship
holds true for small and large firms as well as in retail firms which make
about two-thirds of our data set. Overall, our results withstand changes of
specification, changes of instruments, and exclusion of specific observations. In
particular, we do not find robust evidence for the inverted U relationship
between the mark-up and the efficiency indicators that would be implied by the
so-called ‘Neo-Schumpeterian’ approach (Aghion et al., 2005).
Scottish Journal of Political Economy
©2015 Scottish Economic Society

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