Internal and external scale effects in productivity analysis: A dynamic dual approach

The theoretical and empirical significance of external factors for the productive performance of a private firm has been the focus of a rapidly increasing body of literature. This paper offers a way to adjust the traditional Tornqvist-Theil index of Total Factor Productivity (TFP) growth for public infrastructure as a source of external scale effects. This is achieved through a dynamic profit maximisation model which allows us to distinguish between internal and external scale effects and technical change effects. An application of this model to the agricultural sector in Greece indicates that public infrastructure in the sector has worked towards raising producers' profits. Decomposition of TFP growth into technical change, internal scale and external scale effects suggests that not accounting for the role of public infrastructure results in over-stating TFP growth in the sector.