Digital adoption and firm capability: Substitution effects in productivity across developing economies

This study examines how digital adoption interacts with firm capability to shape productivity outcomes across developing economies. Much of the existing literature emphasizes complementarity between digital technologies and firm capabilities, suggesting that firms with stronger capabilities benefit more from digital transformation. This study offers an alternative perspective by showing that digital adoption may also function as a capability equalizer under certain conditions. Using firm-level data from the World Bank Enterprise Surveys covering 7,057 firms, regression analysis with interaction terms is employed to assess how the effects of digital adoption vary with firm capability. The results indicate that both digital adoption and firm capability are positively associated with productivity, while their interaction is negative and statistically significant. This pattern implies that the marginal productivity gains from digitalization are larger for firms with lower levels of capability. Digital technologies therefore appear to partially compensate for internal capability constraints rather than simply reinforcing existing advantages. Additional analysis suggests that this equalizing effect is primarily driven by skill-related capability, whereas managerial capability remains largely complementary. The productivity effects of digital adoption are also more pronounced among small and medium-sized enterprises. These findings highlight the role of digital technologies not only in enhancing firm performance but also in reshaping the relationship between capability and productivity. Under certain conditions, digitalization may reduce the dependence on internal capability and may help narrow productivity disparities across firms.