Highways, Firm Productivity, and Allocative Efficiency in India

This project evaluates the impact of highway construction in India on different aspects of economic activity, such as firm productivity and allocative efficiency, and thus the impact of public infrastructure on the entry of new firms into the manufacturing sector. 

Public investment in infrastructure is often recommended as a means of promoting economic activity. Identifying the impact of infrastructure investment on economic activity is, however, very complicated. The placement of new infrastructure may itself be endogenous, which makes it difficult to clearly quantify causal effects. Areas with better roads may grow faster, but it is equally possible that the economic potential of the region dictated where roads were placed. It is also possible that roads are placed into struggling regions as an effort to prop up the local economy. Thus, simple correlations between road quality and growth may overstate or understate the impact of roads on growth. One way to tackle the endogeneity problem is to study highways built to link two centres of economic activity. It can be argued that since such a highway is constructed to connect two centres, its route through intermediate areas is not a consequence of any economic or other characteristics they might happen to possess, but merely their location. In this way large scale highway construction offers a true random experiment for evaluating the impact of infrastructure on economic activity.

This exploratory project seeks to evaluate the impact of the Golden Quadrilateral (GQ) Project, a large-scale highway construction and improvement project in India, on the entry patterns of new manufacturing plants and the relocation of existing plants. The GQ system comprises 5,846 km of road designed to connect five major urban areas in India. The authors find that districts located within 10 km of the GQ network – excluding those near the five urban areas on which the network is designed – experienced substantial increases in firm entry and firm productivity as a result of the highway upgrade work. Their results also suggest that the GQ upgrades have facilitated a more natural sorting of land- and building-intensive industries from the nodal districts into the periphery locations; the upgrades further appear to encourage spatial decentralization by making intermediate cities more attractive for manufacturing entrants. Importantly, the upgrades are also associated with better allocative efficiency – i.e. the extent to which the employment of an industry is contained in the industry’s most productive plants – in the organized sector.