Thailand stands at a watershed. Earlier signs of recovery are fading, and government estimates for economic growth in 2001 have been lowered to just 2 to 3 percent. Exports are declining because of a slowing world economy, and foreign direct investment is stagnating as China, which offers cheaper labor and has a larger domestic market, attracts more and more investment traditionally channeled to Southeast Asia.

This recent news may be discouraging, but in the longer term Thailand can break out of its difficult position. A recent McKinsey Global Institute (MGI) study,¹ undertaken in collaboration with two leading Thai institutes,² found substantial opportunities for increasing economic growth by improving productivity in important Thai industries. Most of the needed policy reforms are ultimately free; they require no government spending on stimulus packages or industry subsidies. But to be effective, efforts to increase productivity must target the specific industries and issues that have the greatest impact on the national productivity.

The MGI research on Thailand, analyzing and benchmarking the productivity of companies and industries against global best practices, focused on seven important sectors: retail banking, telecommunications, retailing, cement, computers and electronics, beer, and chicken processing. In every sector, the study identified major distortions, which, if eliminated, could dramatically increase performance and efficiency.

Consider retail banking. Restrictions on competition and a cumbersome regulatory environment are largely responsible for its low productivity—roughly 45 percent of the US level (Exhibit 1). Insulated from intense competition, Thai banks have been slow to reap the benefits of low-cost delivery channels (such as telephone banking) and centralized back-office functions. As a consequence, Thai bank employees process, on average, less than half of the number of payment transactions and less than 15 percent of the number of loan applications processed by their US counterparts in a given unit of time. Streamlining regulatory processes and permitting greater competition would encourage Thai banks to increase their efficiency and innovativeness.

Another example comes from the Thai telecommunications sector. Labor productivity in the fixed-line segment is low—less than half of the US level—because it is largely government owned and the entry of new players is restricted. Furthermore, capital productivity is hampered by the large proportion (30 percent) of installed lines that remain unsubscribed because of fixed-line concession terms that have led to speculative overbuilding in some areas.

The terms of concessions have created issues in the mobile segment as well. Under current regulations, mobile-phone operators must pay the government 20 to 25 percent of the revenue derived from phone use but receive the exclusive rights to distribute handsets. The result is that the operators offer free connection time and expensive handsets, thus reducing overall mobile penetration and growth because many consumers can’t afford the up-front investment in higher-priced handsets. In fact, even China, whose gross domestic product per head is 30 percent lower than Thailand’s in purchasing-power-parity-adjusted terms, has reached similar penetration levels in mobile and fixed-line telecommunications alike. Clearer policy objectives and efforts to eliminate such regulatory distortions could dramatically increase the productivity of the Thai telecom sector.

In the retail sector, the story is mixed. Of all the countries MGI has studied, Thailand was fastest in increasing retail productivity by introducing modern formats such as supermarkets and hypermarkets, convenience stores, and specialty stores. These formats generally prove to be as efficiently run in Thailand as elsewhere—indeed, Thailand’s supermarkets enjoy higher productivity than US ones. Yet the overall retail sector remains a mere 22 percent as productive as its US counterpart because small independent shops and street vendors, accounting for more than 90 percent of employment in the sector, still conduct the vast majority of retail activity (Exhibit 2). Migrating more of it, as well as more employment, to modern retail facilities could have a dramatic impact on the productivity of a sector that accounts for almost 10 percent of nonagricultural employment.

Consumers could benefit, since supermarket and hypermarket prices are typically around 20 percent lower than those of small shops. In addition, the entry of global retailers is opening up new market opportunities for Thai consumer goods businesses: companies such as Tesco Lotus sell qualified Thai products into global supply chains. But there have been calls to limit foreign involvement in the Thai retail sector—a move that could threaten progress and hinder further improvements in its economic efficiency.

In each of the industries we studied, we found artificial barriers to higher productivity and growth. Removing such barriers with a careful view to their political and social implications could bring tremendous benefits to Thailand’s people. Yet if this opportunity is missed, the country might, as Japan did in the early 1990s, lapse into a prolonged period of stagnation.