That the share of the services sector in GDP rises as per capita incomes rise is well known, but is the relationship a linear one? Barry Eichengreen and Poonam Gupta study services sector growth across countries and find the relationship progresses in waves. In the first phase, as per capita incomes rise, the share of services to GDP rises faster than the growth in GDP.
After a while, this reduces; but once per capita incomes cross a certain level, the share of services to GDP starts growing faster again. An interesting finding is that those countries that have a high degree of trade openness, are close to major financial centres and are democracies tend to have higher service sector-to-GDP ratios. When growth in per capita income rise from 6.75 per cent to 7 per cent, the share of the services sector in GDP rises by 7.6 per cent; this falls to just 1.8 per cent as per capita income growth rises to 7.25 per cent; as per capita incomes rise from 8.75 per cent to 9 per cent, however, this ratio rises by 12.3 per cent.
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capita income
Services/GDP ratio
Source: The Two Waves of Service-Sector Growth
Barry Eichengreen and Poonam Gupta
What of India? Eichengreen and Gupta find that India was below the average for all countries in terms of the share of the services sector in overall GDP in 1990 but it is now on the trend line. As for particular type of services, India is below the trend when it comes to the second generation of services like education and health, which suggests a large potential in this area. India is above the cross-country trend when it comes to the third generation of services like business services, suggesting perhaps that India’s growth here is linked directly to the exports sector.
