Despite many policy reforms since the late 1980s, Latin America’s economic performance continues to disappoint. Since 1993 the region’s GDP has risen by barely more than the growth rate of the population, while labor productivity has been practically stagnant. Even considering the higher GDP growth of the past three years, the contrast with Asia’s booming economies is stark. What’s holding Latin America back?

A big part of the answer is the weak performance of services. In Latin America they represent a large share of the economy, given its level of development, yet their productivity is relatively low. This pattern has a long history. During the import substitution era (the half century after the 1929 depression) the region’s competitive intensity was low because of public-sector ownership in electricity, telecommunications, and other important sectors, combined with restrictions on foreign direct investment in most service industries. At the same time low-skill services such as retail trade and personal services became the default form of employment for workers leaving agriculture. As a result the share of services in GDP and employment across Latin America is already...