Manufacturing has traditionally driven economic growth in developing countries. A new book by the World Bank highlights the potential of the service sector in driving development. What are the implications of this shift for least developed countries? 

Manufacturing industries, and manufacturing-led development, has been the traditional model for development for the last three decades. Development theory has long held that manufacturing is an engine for economic growth. However, a new study posits that manufacturing may no longer be the most efficient pathway to development.

Developing and least developed countries (LDCs) often aim for export-oriented industrialization, relying heavily on manufacturing. However, the COVID-19 crisis recently demonstrated the limitations of this kind of development. The garment industry, for example, is a common starter industry for LDCs, and countries like Bangladesh have integrated their apparel industries into global value chains. But the pandemic quickly revealed the fragility of these value chains, with garment factories in Bangladesh facing orders cancellations from Western retail companies.

As well as the garment sector, the COVID-19 pandemic exposed the susceptibility of the supply chains of many other sectors, including the agri-food industry, putting many workers in vulnerable positions. Could these high-risk value chains be offset by a shift towards another industry?

What role can the service industry play in fostering growth? 

A new book by the World Bank looks at how the service sector could lead to development for low- and middle-income countries. The service sector encompasses industries like hospitality, tourism or retail but also banking, transport, distribution, or administrative and support services. Development economics has long relegated services to the sidelines or ignored them altogether. Yet this sector has been growing at a faster pace than the manufacturing sector, particularly in developing economies, and currently accounts for 45% of GDP in developing economies.

Growth models are therefore moving away from manufacturing-based development, and towards services-based development. Gaurav Nayyar, co-author of the World Bank book, noted that 50% of workers in low and middle-income countries are currently employed in the services sector and have become more productive since the 1990s.

Worth noting is how the service industry fared during the pandemic. According to Richard Baldwin, Professor of International Economics at the Graduate Institute, Geneva, and Editor-in-Chief of Vox EU, the service industry rapidly adapted to the new reality of the pandemic.

Baldwin noted that the pandemic contributed to the “disintegration” of the service value chain. This disintegration comes from the fact that different tasks are being done by different people, in different locations, all coordinated online. "The pandemic has advanced remote work by 5-10 years", he said, and this, in tandem with the disintegration of the service value chain, has caused an important shift in the trade landscape.

For one, this has increased opportunities for people who are based in developing countries to access these value chains. Many workers in developing economies are also noticing the shift to the service industry, and are seeking jobs in offshore services This trend has been accelerated by the Covid-19 induced lockdown, with an increasing number of people looking for remote work.

Challenges in the shift to service-led development

For developing economies – and LDCs in particular – to benefit from service-led development, they will need to urgently bolster their digital infrastructure, said Baldwin.

This kind of shift does not come without challenges for LDCs. Internet connectivity is expensive, and often, digital infrastructure are unevenly distributed in LDCs: only 20 per cent of the population in the LDCs have adequate internet access. Therefore, for successful remote work, employees, or even self-employed people, require a stable Wi-Fi connection and electricity. However, those with this advantage are often located in cities, which has the potential to push the divide between rural and urban populations further apart still.

Indeed, a consequence that can be expected from the uptake of service-led development is the increased polarisation between different groups like wealthier and less wealthy, or urban and rural populations. In addition, internet access rates are not equal between women and men, as an International Telecommunication Union report documents, with women only 48% integrated into their digital infrastructure of LDCs compared 58% to men.

The World Bank report also takes note of how working-age individuals often report a lack of ITC skills as an employment constraint. This kind of socio-economic inequality could prove to be only exacerbated by a shift towards services, with more rural and marginalised communities increasingly feeling the digital divide.  

A promise with caveats

The shift towards service-led development could ultimately prioritize those who already have access to certain privileges, who live in more urban areas, and have access to education and  training. There needs to be multilateral efforts to ensure that service-led development can become as inclusive as possible; to reach women as well as men, people in rural areas as well as urban ones, and bridge the generational skills gap so people from all ages can stay connected.

The first step is to strengthen digital infrastructures in LDCs to ensure the disintegrated value chains of the service sector can be accessible to workers in these countries. The second is putting in place policies and programmes ensuring that as many people as possible can access and benefit from the digitalized service sector. A key message from Baldwin was that embracing service-led development will require governments to re-think their development strategies. But while service-led development could be an overall net export gain for developing economies, a key challenge will be to make sure that development remains inclusive.

Finally, with the climate crisis looming, non-industrial pathways of development are of increasing interest. LDCs should not have to shoulder the burden of sustainable development alone, but the shift to the service-industry could be a win-win situation for everyone, including those that might otherwise be left behind.