This chapter expands the analysis of structural transformation in developing Asia. I rely on recent work on economic diversification, the importance of export sophistication and the product space. All this body of work has very important policy implications.

Comparative Advantage and Diversification

Recent research by Imbs and Wacziarg (2003) suggests that at low levels of income per capita, economies tend to diversify and subsequently, as their income rises, they then specialize: whatever drives economic development, it is not comparative advantage. Figure 10.1 graphs the degree of specialization in the manufacturing sector in the vertical axis vis-à-vis the logarithm of income per capita in the horizontal axis. As noted above, the new literature emphasizes the importance of diversification as opposed to traditional comparative advantage (i.e., the idea that as countries open up trade, they will specialize in those activities that use intensively those factors that are in abundant supply). Graphically, this corresponds to a U-shape relationship between specialization and income per capita, which Figure 10.1 corroborates. The figure shows increasing diversification as income per capita increases (at low levels) in Bangladesh, India, Indonesia, Pakistan, Sri Lanka, and Thailand. None of these economies become more specialized within comparable low-income ranges. Increasing specialization is only detected at higher income levels in the Republic of Korea, Malaysia, and Singapore. Hong Kong, China seems to be increasing its level of diversification.