ECON 3508 Autumn 2015

Introduction to Economic Development

II. THEORIES OF GROWTH AND DEVELOPMENT

See Text, Chapter 3. (excluding appendices)

September 2015

Agenda1. Introduction2. Stage Theorizing: Rostow3. Growth Theorizing: Harrod-Domar4. Structural Change: W. A. Lewis5. “Dependence” Theories: Prebisch; Frank6. Neo-Classical Approaches7. Mainstream Economics Approach

1. Introduction

Brevity of the era in which “human development” as we know it, has been an important objective of public policy;

Reasons for Post WWII focus on “development”

The evolution of “Development Economics” and “Economics for Development”

Rostow’s purpose;

Stages of Growth:Traditional Society; Preconditions for Take-Off; Take-Off; Drive to Maturity; High Mass Consumption

2. Rostow’s “Stages of Economic Growth”

The “Take-Off”:

“The great watershed in the lives of most societies”Two types:

“Regions of Recent Settlement” (Canada, Australia, NZ….)“Older civilizations”

Beginning the “Take-Off”? Some sharp stimulus e.g. political revolution; major technological change, external challengeRequirements:

increase in net investment to 10% or more of GDPnew institutional structures; new elites and control of income flows; effective entrepreneurshipDevelopment of “Leading Sectors”

Types of leading sectors: UK: cotton, engineering, canals, railways,France, US, Canada, Russia: Railways widening the market

Rostow: Actual Historical Stages, from “Take-Off”

to “High Mass Consumption”

Critique of Rostow’s Schema:– General weakness of “stage theories”?– Ethnocentric?

• Would model from US, UK Europe be applicable everywhere?• Is “high mass consumption” stage the universal objective? (Rostow

amended this and added Stage #6: “The Search for Quality in Life”

– Is movement from stage to stage “uni-directional”? Or can take-offs fizzle and reverse?

But some of his ideas are interesting and have come to be taken for granted in our understanding of “development”: e.g. – role of Savings and Investment; – idea of leading sector; – some thoughts re social change– Importance of entrepreneurship

3. The Harrod-Domar ModelDefinition of Variables: S: Savings Y: National Income or GDP Y: change in National income or GDP per year Y/Y = g, or the growth rate of GDP (i.e. the change in GDP as a

proportion of total GDPI: K or “Net Investment” (over and above replacement investment)K: Capital stock;s: S/Y, or net Savings;ICOR: Incremental Capital to Output Ratio, or “c”;

c” = K/ Y

Note: This was presented in class. Please see the textbook, pp. 121-124

3. The Harrod-Domar Model

Concepts of “Dualism” and “Structural Change”Historical and colonial aspects;Traditional societies, institutions and technologies

and “Modern” (or “western”) societies, institutions

and technologies

The range of “dualistic” theorizing

4. The “Lewis Model”

Assumptions: Two SectorsTraditional: – Traditional Society; – L intensive; K-extensive; – abundant or surplus labour; – subsistence income; – disguised unemployment (Traditional agriculture and urban

informal economy)Modern Sector: – Technologically modern; – capital intensive; – “capitalistic”; – “modern” goods; (modern factories, plantations, mines, government services, professional services…)

4. The “Lewis Model”

Further Assumptions:1. Closed national economy; (no migration, capital

flows etc.)2. “Homogenous” labour;3. Pure competition; 4. “Capitalists” were well-behaved;5. Mechanisms exist for the transfer of agricultural

surplus from rural to urban areas.

Structural-Change Models:

W. A. Lewis

[See notes from class discussion and text]

Workings of the Lewis Model

The Growth Process

Implications for Income Distribution

Policy Implications of the model

Limitations of the Lewis Model1. Two sectors only?2. Takes modern sector investment for granted

(are capitalists well-behaved?)3. Is traditional economy incapable of

contributing to growth?4. International linkages do exist: migration,

capital flows5. Labour markets are not truly competitive6. Political implications of income distribution

“Structural Change” Theorizing

• Switch from agriculture to industry (and services)• Rural-urban migration and urbanization• Steady accumulation of physical and human capital

Patterns of Structural Change

5. The Dependence Approach:• General features and varieties• The neocolonial dependence model– Legacy of colonialism, Unequal power, Core-

periphery• R. Prebisch;• A.G.Frank and P. Baran• O. Sunkel;• “False Paradigm” General Limitations of Approach

6. “Neo-Classical Approach• Challenging the Statist Model: Free Markets, Public

Choice, and Market-Friendly Approaches– Free market approach– Public choice approach– Market-friendly approach

• Main Arguments – Denies efficiency of intervention– Points up state owned enterprise failures– Stresses government failures– Traditional neoclassical growth theory - with diminishing

returns, cannot sustain growth by capital accumulation alone

7. Mainstream Economics Approach

Focus on the factors of production and Productivity

Example of the role of Productivity in shaping Production per person:

Agriculture in Canada and Africa Generally

Canada: - recent technologies (seeds, machines etc.)- large farms, much land per farm family; - much machinery, equipment, buildings & livestock per farm; - much education per farmer; - serviced by a broad range of other activities (machine dealers, transport, fertilizer firms, R&D, etc.)

** about 4% of the labour force is in agriculture (plus mining, fisheries and lumber) ; yet Canada has large “net exports” of food, minerals wood….

Sub-Saharan African Agriculture:- traditional technologies;- small farms; little land per farm family;- reliance on hand tools, e.g. hoes, machetes and pangas;- limited formal education for farm people;

“Great skill; traditional technology”

Result: Africa: 62.0% of the labour force is in agriculture; 8.6% in industry; 20.4% in services, but is a major net importer of food..

Result:

One Canadian farm worker feeds +/- 25 to 30 people, plus net exports;

One African farm family feeds itself and about two additional persons on average, minus net imports.

Implications ??

How Is Productivity Determined?

The Factors of Production include:

1. Physical Capital2. Human Capital

Capital is a produced factor of production, i.e. capital is an input into the production process that in the past was an output from production.

3. Natural Resources4. Technological KnowledgeTo which I would add

5. “Enterpreneurship” and

6. “Social Capital”

The Factors of Production: 1. Physical Capital

The stock of equipment and structures that are used to produce goods and services.

Examples:

Produced through investment.

How to achieve growth? Save and Invest in Physical Capital

As a theory of growth?

Necessary but Insufficient

Relevance for Developing Countries?

The Factors of Production: 2. Human Capital

• the knowledge and skills that workers acquire through education, training, and experience.

• Like physical capital, human capital raises a nation’s ability to produce goods and services.

• Produced through investment in people

Examples: family environment, health, education, nutrition, sanitation, on-the-job training; water availability

As a “Theory of Growth”? Important but not the whole story

Relevance for Developing Countries

Inputs used in production that are provided by Mother Nature: land, trees, soils, rivers, and mineral deposits, oil…...– They may not be necessary for an economy to be

highly productive– But they sure can help [or sometimes hinder: the

“curse of oil wealth”]– Renewable Resources: Trees, forests, fish stocks, soil

fertility– Non-Renewable Resources: Oil, natural gas;

minerals of various sorts[Note: These also usually require Investment for their

harnessing by humans]Relevance for Developing Countries

The Factors of Production: 3. “Land” or Natural Resources

The Factors of Production: 4. Technological Knowledge

Definition: The understanding of the ways to produce goods and services; how factors of production of all kinds can be combined to produce goods and services

Human Capital refers to the resources expended transmitting this understanding to the labour force.

Note: Both of these are produced by “investment:”– Education, training & learning of all sorts; and – R&D

Technological Change: a “dynamic” factor:–Embodied tech in capital equipment–Embodied in Consumer Goods–Scientific & tech journals, texts and

publications–Patents, intellectual property–Process technology–Embedded in people’s brains and capabilities– In established enterprises

Can raise the productivity of Labour and Capital and can economize on resources.

Relevance for Developing Countries– Existence of a “backlog” of knowledge:

A broad range of newer technologies is awaiting implementation

Investment in new technologies via R & D is expensive and out of reach

“The Advantages of being a Latecomer” “Leap-frogging” and catching up

– Transfer of Tech embedded in capital goods requires high levels of Investment and Savings and/or large role for MNC. Therefore S & I are doubly important

– The possibility of “catching up” (applying newer technologies to a broad range of activities)• Via purchases of capital equipment;• Via purchases of new consumer goods

(telephones, computers, drugs & medications, new plant varieties…..)• Via learning from books, manuals etc…….• Via tech transfer in enterprises or purchases of

process systems

The Production FunctionIncome depends upon Labour, Physical Capital, Human

Capital and Natural Resources: or: Y = Af(L, K, H, N)

where “A” is a variable that reflects production technology

Constant Returns to Scale: a doubling of inputs causes output to double as well. Then: xY = Af(xL, xK, xH, xN)

Then if we set x = 1/L, then:Y/L = Af(1, K/L, H/L, N/L)

Meaning? Output per worker depends upon capital per worker, education etc per worker, and natural resources per worker.)

Factors of Production: 5. EntrepreneurshipEntrepreneurship:

- performs a central role in an economy - largely ignored in economic theory

An entrepreneur: - perceives and seizes an opportunity for the

achievement of an objective, - visualizes and plans how the objective can be

achieved, - undertakes to do everything necessary to

implement the vision,” - brings together all of the other factors of

production;

Factors of Production: 6. Social Capital• “Social Capital:” increasingly recognized as an

additional “factor of production” as well as being of significance from a political science or governance perspective.

• Various analysts emphasize the importance of “social capital” in an economy, and as a factor that can promote economic development and for the reduction of poverty.

[See the World Bank Web Site on social capital: http://www1.worldbank.org/prem/poverty/scapital/home.htm]

What is Social Capital?

• “..the institutions, relationships, and norms that shape the quality and quantity of a society's social interactions..

• Social capital is not just the sum of the institutions which underpin a society – it is the glue that holds them together.”– [Source: the above-mentioned World Bank Web Site]

Beyond the Neo-Classical Approach“The Santiago consensus”?

Sustainability focused approaches?

Aspirations but not theories