Central America’s Deindustrialization

The paper assembles and harmonizes sectoral data from several sources to study the industrialtrends in six Central American economies. The industrial employment share contracted by 2.5 percentage points onaverage over the past two decades. This deindustrialization was not trade-driven in which economies substitute domesticproduction of industrial goods via cheaper imports. Instead, an increase in barriers restricting the efficient flow oflabor across sectors drives this decline. Adopting policies that target such barriers can potentially deliverconsiderable industrial expansion. But the economic impact of this policy is likely to be marginal, with aggregateoutput increasing by 3 percent or less if barriers are eliminated. At the same time, this approach also carriesseveral risks, and rather than reining in inefficiency might introduce new distortions making the economy moreinefficient. Perhaps a more prudent growth strategy will be to concentrate on boosting productivity, which, althoughchallenging, has a direct effect on output.