Big distortions, small efficiency loss: Measuring resource misallocation with complementary distortions in Vietnam

Distortions and resource misallocation cause large productivity losses, especially in developing countries. But removing (all) distortions is infeasible in practice. Policymakers face second-best policy options at best. However, empirical studies typically do not show the productivity gain from a partial removal of distortions. In this paper we analyze the productivity gain from (only) removing ownership distortions within the Hsieh and Klenow (2009) framework using the Vietnam Enterprise Census over the period 2000–2015. We show analytically how the productivity gains from a removal of ownership distortions depends on their covariances with other distortions. Empirically, state-owned enterprises and foreign firms experience significantly lower capital distortions than private firms in most manufacturing industries. However, the removal of ownership distortions has little impact because of complementary size-dependent distortions in Vietnam. This type of analysis can support policymakers in designing productivity enhancing policy interventions in the presence of complementarities.