The Effects of Telecommunication Systems on Economic Activity - Dissertation Example

The effects of telecommunication systems on economic activity This paper intends to study the importance of telecommunication and its consequent effect on the economy’s growth. Further, we want to analyze the causal direction between the expansion in telecommunication and economic growth across 15 countries and its effect on the economy as a whole. This verification of this causal relationship is done by applying the Granger causality Test on time series data collected across 15 countries on the levels of telecommunication infrastructure and economic growth. Our observation tells that the direction of causality is stronger from telecommunication to economic growth than the other way. Although, the industrialized or developed countries have a strong service sector which is heavily dependent on telecommunications, this trend holds good for both the technologically developed and less developed countries with a difference in the strength of causation. We also verify that whether in this case, quantitative research work is superior to qualitative research.  Introduction Telecommunication, in its simplest form, is a technology that reduces or removes the distance between two persons no matter how far they are situated. According to the International Telecommunication Union telecommunication is defined as “any transmission, emission or reception of signs, signals, writings, images and sounds; or intelligence of any nature by wire, radio, visual, or other electromagnetic systems” (Huurdeman, 2003, p. 5). In any business Telecommunication serves as a cheaper substitute  in the form of lower transportation cost and time that are involved with the exchange, transfer and processing of messages and information among computers or individuals.. It also increases the productivity of the production unit as a whole by increasing the efficiency of the individual inputs mainly, labor and capital. Telecommunication facilitates the organizational contacts in all segments of the economy by removing the physical constraint. Due to easy acquisition and transmission of information amongst economic units, and by smoothing out the progress of two-way communications over space, telecommunications help in the organization of economic activity. Telecommunications increases the effectiveness of market operations by easing the flow of information and improving the communication between purchasers and sellers. It also helps in decreasing the capital costs of production by increasing the possibilities of arbitrage in the financial markets. Besides these direct contributions, telecommunication also generates significant spillover effects or externalities in other sectors of the economy. These entail reduced search costs, augmented arbitrage capabilities and more detailed information on the allocation of prices and services. Due to these effects, it is expected that the direct return on telecommunication investment will be surpassed by the social rate of return on telecommunication. Like domestic telecommunications, international telecommunications can manipulate the worldwide economy through similar mechanism. Telecommunication helps in the quick movement information from one country to another allowing for optimal utilization of available technology, services and products around the globe, thereby helping to develop the global economy (Direct Effects of Telecommunication on Economic Development, n.d.). Literature review Studies on the effect of telecommunications improvement on economic growth began in the 1960s. A number of these confirmed an unambiguously positive correlation between the levels of telecommunications development and economic growth (e.g., Jipp, 1963; Hardy, 1980; Moss, 1981; Saunders et al., 1994; Lichtenberg, 1995; Greenstein and Spiller, 1996). However, these researches only examined the association between telecommunications and economic growth and not the direction of causality.  There have been other studies to approximate the implication of telecommunications on economic expansion based on structural models, which has functioned by controlling other significant determinants of development. In general, these researchers have found that investment in telecommunications infrastructure significantly and positively affects the economic growth of a country, along with other aspects such as education, energy, gross fixed investment, and transport facilities. These studies are reflected in the papers of Dholakia and Harlam, 1994; Madden and Savage, 1998; Röller and Waverman, 2001; Datta and Agarwal, 2004.  More than a few studies have applied time series analysis for instance Granger causality tests and modified Sims tests, and have emphasized on the strength and trend of the causal association between telecommunication infrastructure investment and economic expansion. One of the earliest studies has been conducted by Cronin et al. (1991, 1993a, b) by using causality tests to examine the causal relationship between telecommunications and economic growth and concluded on a bidirectional relationship between them.  Although telecommunications development is found to be one of the important factors affecting economic growth, its contribution differs among countries at different stages of development. For example, Röller and Waverman (1996, 2001), found that the impact of telecommunication on economic growth is not necessarily linear, the impact is more on the GDP of OECD countries than on non-OECD countries and countries that have not attained the critical mass (defined as the number of main telephone lines exceeding 40 per 100 persons). The study was conducted on of twenty-one OECD nations and fourteen developing or newly industrialized non-OECD nations between 1970 and 1990.  Causality test conducted by Madden and Savage (1998) also verifies a bidirectional association between investment in telecommunications and economic growth in Central and Eastern European countries (CEE countries). The route of causation between telecommunications investment and economic expansion has major policy insinuations. Another study conducted by Dutta (2001) uses Granger Causality Test on 30 countries, 15 industrialized and 15 developing countries shows that the causal relationship is stronger from telecommunications infrastructure to economic activity than that for the causality in the opposite direction.   Chakraborty and Nandi’s (2003) conducted a study on 12 developing Asian countries with high and low degrees of privatization. The results showed a two-way association between teledensity and GDP both in the short and long run; however the bidirectional relation was true for countries with a high degree of privatization. For countries with a lesser degree of privatization, the causal relationship was unidirectional running from teledensity to GDP.  The study of Cieslik and Kaniewsk’s (2004) validates a positive and statistically significant causality running from telecommunications infrastructure and level of income at the regional level in Poland.  A study by Yoo and Kwak (2004) in South Korea over the phase 1965-1998 demonstrates a two-way association between investment in information technology and economic expansion. Karner and Onyeji (2007) studied the contribution of investment in telecommunication to economic growth in 14 African nations and 13 nations in Central and Eastern Europe (CEE) for a period of 6 years from 1999 to 2005. They ran a regression on the following data and found that the result is positive but insignificant. The selected countries exhibited a low level of telecommunications infrastructure and concluded that this low level of infrastructure is responsible for reducing the impact of private investment in telecommunication on economic growth. Shiu and Lam (2008) found out a unidirectional relationship from GDP to telecommunications development in China. Causality in the reverse direction, that is, from level of telecommunications to economic growth, which is seen only in the well off eastern region, but not in the low-income western and central regions.   To wrap up, the outcomes of preceding studies, in general show that there exists either a bidirectional relationship between telecommunications development and economic growth or a unidirectional relationship from the former to the latter.  Problem statement: Increase in teledensity results in enhanced economic activity and hence higher growth. Research questions: What is the recent observable trend in teledensity? What is the contribution of telecommunication sector to the economic activity of an emerging nation? Objectives The main objective at large is to understand the impact of telecommunication infrastructure on the level of economic activity and hence the contribution to economic growth. Other objectives relate to the impact of teledensity on the economy of a developing nation and the importance of the telecommunication sector to the economic activities and thus, economic growth. The effect of telecommunication on economic activity The world is rapidly heading towards an economic system that is based on the constant and ever-present accessibility of information. Recent progress in telecommunications technology has played a significant role in making way for information exchange to build up as a valuable service. Information plays a crucial role in stimulating economic growth by circulating new-fangled ideas and technology for individual enterprises, the industrial sector and the national economy. Countries and industries equipped with the necessary and apt telecommunications structures are rapidly moving into technologically upgraded and information-based economic growth. For the developing countries, a contemporary telecommunications infrastructure is not only crucial for indigenous economic growth, but a prerequisite for participating in the highly competitive world markets and for inviting new investments. The 1980s saw a period marked by the rapid expansion of the telecommunications sector. The reason behind this swift growth of telecommunication services can be explained by a number of factors, such as advancements in technology, market liberalization, and privatization. Development in telecommunications is considered to be one of the driving forces behind globalization and the rapid growth of the world’s economy.  The purpose of any infrastructure investment is to increase the level of economic activity in terms of employment and income, value addition, productivity and capital formation. Infrastructure investment also helps to integrate the social and political elements of any region.  Investments in telecommunication influence economic development in the same way as other infrastructure investment. It cuts the cost of production, boosts revenues and raise employment both through direct and indirect effects.  Telecommunications is an essential component of the economic infrastructure while incorporating the development policies of the economy in the industrialized nations. The basic reason behind this is reflected by the industrys demand for highly developed and sophisticated telecommunications equipment that is mainly backed by competitive motive. The less developed nations have started to identify that poor telecommunications services lead to discouragement and disincentive to new investment, which renders the existing industries non-competitive. This is applicable for a variety of activities, mainly the domestic industries and commodities in which the nation has a comparative advantage. This includes improvement in animal husbandry, farm production, export industry, bank transfers and tourism industry. The key economic benefit of enhanced telecommunication services is greater efficiencies in the other productive sectors.   Business, either domestic or international cannot operate fully and competitively without the modern telecom facilities. It is impossible to think of sustaining international activities without telecommunication. The basic advantages include reduced transaction costs and transport costs, enhanced marketing information and better efficiency in industrial production. Modern telecommunications systems have become an essential part of all the economic sectors (agriculture, manufacturing and services) and their business operations.   Telecommunication plays a major role in the unification of all the countries into a single global economy. In other words, event of globalization is impossible to think without telecommunication. Demand for telecommunications goods and services among the communities all over the world have been stimulated. This has increased worldwide connectivity and has opened opportunities for commercial expansion and investment in cellular phones, Internet and electronic mail industries. Telecommunication is also perceived to reduce the differentiation between rural and urban regions with respect to their income and standard of living, especially in the developing countries, where this discrepancy is huge. The rural areas suffer because of imperfect or lack of information, which is misused by the delinquent intermediaries. A continuous stream of information between urban and rural markets can keep the village suppliers updated on the demand and price of their goods and services and protect them from being cheated (Direct Effects of Telecommunication on Economic Development, n.d.). Data The time series data is collected from 15 countries on yearly level of economic activity and telecommunication infrastructure levels for the past 26 years, that is, from 1980-2006. The fifteen countries chosen comprise both the developed and under-developed countries. The main reason behind this can be described in the light of the disparity in telecommunication infrastructure and its level of development between the developed and under developed countries. Based on the previous studies of Nandi and Chakraborty, and Waverman, mentioned in the literature survey, we use teledensity as a proxy variable to measure the development of telecommunication sector. Teledensity is defined as the number of mobile phone and fixed line subscribers per 100 persons. Due to the rapid increase in the use of cell phones in the past decade, it is advisable to take into account the cell phone users per 100 persons to get a more accurate result and a better proxy for the variable measuring the development of telecommunication. GDP in U.S. dollars at constant (2000) prices is used to measure the economic growth. The currencies are converted using the Purchasing Power Parity (PPP) exchange rates. The data is collected from the databases of the World Bank (World Development Indicators) and International Telecommunications Union (ITU). Due to the unavailability of GDP figures prior to 1980 in many countries, the time series analysis starts from 1980. Since, the use of mobile phones was not predominant in 1980s; the data on mobile phone subscribers are missing in some countries for some specific years. Due to this reason, only the fixed-line subscribers have been considered in those countries. The countries chosen are divided into two categories as follows: Developing Countries: Argentina, Chile, Indonesia, Malaysia, Mexico, Panama, Paraguay, Philippines  Industrialized Countries: Australia, Canada, Finland, France, Japan, United Kingdom, United States of America   Methodology Granger Causality Test   The concept of Granger causality is mainly used to understand the direction of causality in time series data. For instance, in our study, we have time series data on two variables—economic activity and telecommunications infrastructure levels. First, an autoregressive model is built on the past historical data of any one of the variables, say, teledensity, and predict that model. Now, the other variable, economic growth in this case, is added to the model. If significant improvement is observed in the model in the predicting the teledensity level, then it is said that economic activity Granger-causes teledensity. By interchanging the function of the two variables, it can be studied whether telecommunications levels Granger-causes economic activity in a similar way. Expressed systematically, Granger Causality involves three steps: To check whether Y Granger-cause X?  Build an autoregressive model for and  predict X as accurately possible using  only its own history. Add some past historical data of Y to the autoregressive model of X. Check whether this addition improves the ability to predict X in a statistically significant way. If so, then, Y Granger-causes X. Otherwise, there is no evidence of Granger causality from Y to X.    The notational form of the variables under consideration is  y(t) = economic activity level in year t =GDP(t) x(t) = telecommunications infrastructure level in year t = teledensity(t)   Hypotheses: H01:  Economic activity does not Granger-cause level of telecommunication H11: The level of economic activity Granger-causes the level of telecommunications        infrastructure.  H02: Level of telecommunication does not Granger-cause economic activity H12: The level of telecommunications infrastructure Granger-causes the level of economic activity.  H01 and H02 are the respective null hypotheses For each country, both the hypotheses could turn out to be false, one of them could be true, or both could be true.  The Granger test of causality is based on the estimation of the given equation by Ordinary Least Squares (OLS):                                   N                 M             y(t) = Σ α(i)y(t-i) +Σ β(i)y(t-i) + µ + ε(t) ------------------------------(1)                       i=1                       i=1  Where, ε(t) is a white-noise term, and µ is a constant. To test the hypothesis that telecommunications infrastructure levels do not Granger-cause economic activity levels, means that β(i) = 0 for i = 1,2…. M. The lagged dependent variables constitute an autoregressive representation for series y(t). The Granger test statistic is calculated by estimating the above equation in both constrained (i.e., β(i) = 0, i = 1,2,...,M) and unconstrained forms. Then, we take the ratio         F1 =   Where, SSE and DF stand for error sum of squares and degrees of freedom respectively. The suffices ‘u’ and ‘c’ stand for unconstrained and constrained respectively. The above ratio has an F distribution with [{DFc – DFu}, DFu] degrees of freedom, and can be used to test the null hypothesis mentioned above. A similar test can be performed for the claim that economic activity level does not Granger-cause telecommunications infrastructure stages by overturning the roles of x(t) and y(t) in Equation 1.   An important thing to be kept in mind while estimation is that the series for GDP and Teledensity should be stationary, that is, unit roots should not be present. If not they should be made stationary by differencing. The presence of unit root is detected by carrying the usual PP or ADF tests and unit root, if present, is eliminated by the method of consequent differencing.  The F test is carried out to verify these hypotheses. If the calculated F statistic is greater than the tabulated value for an F distribution in either H01 or H02 or both, then we can reject the null hypotheses and conclude that there is a causal relationship between telecommunications development and economic growth in either direction or both, as explained by the testing results.    Results  Tallying up, our empirical results suggest that a rise in teledensity is more effective in increasing the levels of economic activities in all the countries and the results are statistically significant. However, the other of causation, that is, from economic activity to the level of telecommunication, the causation is not as strong. It is even statistically insignificant in some countries. In less-developed nations, telecommunications improvement, in general, is caused by a rise in real GDP, but it does not itself lead to an rise in real GDP, although the direction of causation from telecommunication to economic growth is present in both the classes, it is stronger for the industrialized countries. The probable cause for the absence of income-stimulating effects on telecommunications development in the less-developed countries can be summed up in the following way - underdevelopment of the telecommunications infrastructure and the related or complementary factors. In other words, an up gradation in telecommunications infrastructure along with better transport facilities, healthy business environment, higher-level of skill acquired through better and developed education facilities are also required to stimulate economic growth (Dutta, 2001; Shiu and Lam, n.d.).  Conclusion A complex though significant relationship between telecommunications infrastructure and economic activity exists in the real world analysis. The evidence of causal relationship emanating from telecommunication to economic growth is significantly stronger than in the reverse direction. This causality pattern was substantially the same for both industrialized and developing countries although varying in their intensity from industrialized to less developed countries. The policy implication of our finding of a causal relationship from telecommunications to level of economic activity is that, the market mechanisms required to expand telecommunications infrastructure can be improved by specific incentives to promote telecommunications growth within a nation in targeted ways.  The research could be developed further by incorporating a structural model that would account for the determinants of economic growth other than telecommunications, such as the business environment, transportation network, foreign investment, education and human skills development and training. By controlling the effects of these additional determinants, we can evaluate the contribution of telecommunications to the economic growth of different countries. In addition, these causality tests can be applied to individual countries for individual assessment. 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(2008) Causal relationship between telecommunications and economic growth in China and its regions. Forthcoming in Regional Studies. Read More