BUS613: Advanced International Business

Structuralists consider that availability of infrastructure plays important role in markets connectivity and trade promotion while the lack of infrastructure disrupts markets and retards trade. Infrastructure makes a huge difference in the process of development and the comparative edge of an economy, particularly in trade. Researchers estimated that poor infrastructure penalizes international trade. Countries with better infrastructure (such as Singapore and Hong Kong) perform well in international trade and punch above their weight while countries with weak infrastructure (such as Bhutan and Pakistan) perform poorly in the external sector. This means infrastructure is crucial for trade promotion and global economic integration.

Despite the fact that infrastructure affects the cost of production and level of trade, many international trade theories overlooked the role of infrastructure. Traditional international trade theories assumed zero transportation and energy cost which hardly justify the ground realities at a time when infrastructure services play a dominant role in regional as well as international trade. Hoekman and Nicita argue that 10% decrease in transport costs increase trade by 6% while 10% increase in overall investment in infrastructure contribute 5% to exports in developing countries. On the other hand, lack of infrastructure increases the cost of production, reduces profitability, and causes unnecessary delay in economic activities.

South Asian poor performance in the external sector is attributed to a number of variables including lack of skilled labor, meager foreign direct investment, shortage of capital, etc.; however, rarely any study focused on the role of infrastructure despite its significant contribution to trade and business. It is difficult to understand the South Asian external sector performance without understanding the role of infrastructure in the region. For example, lack of energy, transport, and communication and its related infrastructure adversely affect inter-regional and international trade in South Asia. Keeping in view the importance of physical infrastructure in a robust external sector, Asian Development Bank report advised South Asia to focus on investment in infrastructure in order to boost exports and tackle the perennial trade deficit. Therefore, in this paper we are trying to examine whether infrastructure affects international trade, particularly exports, and reduces trade deficit in selected South Asian countries.

Previous studies have some shortcomings to better understand the role of infrastructure in international trade by using the individual aggregate data of landline and mobile connectivity for telecommunication - and the total length of roads and the number of aircraft departures for transport infrastructure cost. Some recent studies devised principal components analysis (PCA). However, using PCA in a panel data tends to unduly restrict the set of countries and the data series that can be included in the analysis. Therefore, in this study we use a new Global Infrastructure Index based on annual dataset of 30 indicators of the quantity and quality of infrastructure and sub-indices on transport, communication, financial and energy to better understand the role of physical infrastructure in promoting exports and curtailing trade deficit in selected South Asian countries. This study uses the Pooled Mean Group (PMG) technique to examine the long- and short-run impact of infrastructure on exports and trade deficit. The superiority of the PMG procedure over other econometric techniques is that it allows for both short-run and long-run results. In addition, it also suggests the speed of adjustment to the long run. We also employ the Padroni and Kao cointegration test to examine the cointegration between the variables of our interest. Fully modified ordinary least square (FMOLS) and dynamic ordinary least square (DOLS) are also used for further robustness and to obtain long-run coefficients of cointegration.

Rest of the paper is organized as: Sect. 2 presents infrastructure services and trade in South Asia, Sect. 3 reports data source and description of the variables, Sect. 4 provide the detail about econometric methodology and Sect. 5 consists of results and discussion, Sect. 6 shows robustness check with alternative methodologies, while conclusion and policy implications is accommodated in Sect. 7.