Working Paper N° 330

Why do manufacturing firms produce services? Evidence for the servitization paradox in Belgium

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The increasing role of services in GDP results from the growing share of service industries, but also from the fact that firms produce services along with goods. This paper investigates the determinants of service provision by manufacturing firms. First, it develops a model of differentiated products with, on the demand side, complementarities between the firm’s goods and services, and, on the supply side, rivalry in the allocation of expertise between the production of goods and the provision of services. Second, it provides an econometric assessment of the determinants of servitization for manufacturing firms, using a fractional Probit model with heterogeneity, controlling for endogeneity with respect to unobserved firm characteristics. Both the theoretical model and empirical estimates point to a non-linear relationship between servitization and firm productivity. The relationship is further shaped by the sector environment as well as intrinsic characteristics of the goods and services supplied.