Development Economics III Prof. Dr. Hans H. Bass Jacobs University, Spring 2010

Feb. 18, Development Economics Agenda Feb Causes of and Strategies for Development: Traditional Creating preconditions for take-off Stages of growth Harrod/Domar growth model 1.2 Structural change and modernization Dual labor market model Patterns of development 1.3 Overcoming dependency 1.4 Getting the prices right and New

Feb. 18,  historical analogy 1. traditional society 2. pre-conditions for take-off into self-sustaining growth 3. take-off 4. drive to maturity 5. age of high mass consumption  “These stages are not merely descriptive. [...] They have an inner logic [...]” (W. W. Rostow 1960)  “Theory of Economic Growth” 1 Causes of and Strategies for Development: Traditional 1.1 Creating preconditions for take-off Stages of growth Stages of Economic Growth

Feb. 18, Causes of and Strategies for Development: Traditional 1.1 Creating preconditions for take-off Stages of growth Take off (Rostow)  I / GNP* > 10 %  I = S domestic + S external Example Japan 1880  1930: 12%  25%  At least one leading sector (  unbalanced growth with linkages) above average growth of demand and supply  income elasticity of demand ε D,Y and... supply ε S,Y both > 1 significant share in the economy transmittance of technological key innovations to other industries strong backward and forward linkages Example Japan: railways, textiles (cotton)  Establishing the political, social and institutional framework conditions for a modern industrial society

Feb. 18, Causes of and Strategies for Development: Traditional 1.1 Creating preconditions for take-off Harrod-Domar growth model Harrod-Domar growth model national income Y = f (K, L), g Y = ∆Y / Y savings  investment (Y=C+S and Y=C+I) savings S = s Y (attitudinal relation) net investment I = ∆K capital-output ratio k = K / Y (technical relation) or: k = ∆K / ∆Y or: ∆K = k ∆Y S = I or: S = s Y = k ∆Y = ∆K = I or: s Y = k ∆Y ∆Y / Y = s / k

Feb. 18, Harrod-Domar growth model In order to grow, economies must save and invest a certain proportion of their GNI g Y = s / k  The more they can save and invest, the faster they can grow  However, the actual growth rate for any level of savings and investment is determined by 1/k (the inverse of k, i.e. capital productivity!) Example: s = 6%, k = 3, g Y = 2%  take-off: s = 15%, k = 3, g Y = 5% 1 Causes of and Strategies for Development: Traditional 1.1 Creating preconditions for take-off Harrod-Domar growth model

Feb. 18, Harrod-Domar growth model in practice The savings gap can be filled by foreign aid, FDI, or loans (  Marshall Plan II) or forced saving (!) However, capital accumulation necessary, but not sufficient condition (Marshall plan II ≠ Marshall plan I)  economic myopia 1 Causes of and Strategies for Development: Traditional 1.1 Creating preconditions for take-off Harrod-Domar growth model

Feb. 18, Dual labor market model  W. Arthur Lewis + Fei / Ranis, 1960s / early 1970s  Two sectors: I) traditional, overpopulated rural subsistence, zero marginal productivity of labor (“surplus labor”), wage rate according to average product, unlimited supply of labor II) modern industrial sector, profit-maximizing behavior of enterprises, wage rate according to marginal product, perfectly wage elastic supply of rural labor (supply curve: subsistence wage plus premium) all profits being reinvested  upward spiral of self-sustaining growth until modernization completed 1 Causes of and Strategies for Development: Traditional 1.2 Structural change and modernization Dual labor market model

Feb. 18, Criticisms  no labor saving technology considered: possibility of anti- developmental economic growth (increased inequality)  often no surplus labor in rural areas  until 1980s: tendency of urban wages to rise in spite of open modern-sector unemployment  diminishing returns in the modern sector questionable (  New Growth Theory, external effects, but complementary state investment in infrastructure etc. necessary) 1 Causes of and Strategies for Development: Traditional 1.2 Structural change and modernization Dual labor market model

Feb. 18, Dual labor market model in practice  neglect of agriculture  neglect of urban informal sector 1 Causes of and Strategies for Development: Traditional 1.2 Structural change and modernization Dual labor market model

Feb. 18, Patterns of development analysis  Hollis Chenery et al. (late 1970s, early 1980s)  Similarity to simple stage models: development = sequential process, S↑ I ↑ necessary  Difference: S↑ I ↑ not sufficient!  Structural changes in socio-economic factors necessary  In practice: struggling for the right mix of policies  Criticism: lack of theoretical rigor can lead to wrong intervention in assumed causal chains 1 Causes of and Strategies for Development: Traditional 1.2 Structural change and modernization Patterns of Development

Feb. 18, Dependency Theory  1970s, 2000f. (anti-globalization movement)  Causes for under-development: neo-colonial dependence, intentionally exploitative or unintentionally neglectful attitude of First World to Third World  Underdevelopment externally induced  In practice: De-linking, state-owned enterprises, and industrial nationalism (import substitution industrialization strategy ISI) / collective self-reliance  Criticism: Experiences all negative 1 Causes of and Strategies for Development: Traditional 1.3 Overcoming Dependency

Feb. 18, Market Fundamentalism  1990s  Causes for under-development: incorrect pricing policies  too much state intervention, poor resource allocation New Political Economy  minimum government is best  Under-development internally induced  In practice I: Privatization, reduction of state intervention, integration into the world economy according to static comparative advantages  In practice II: “Market-friendly approach”, non-selective interventions, suitable climate for private enterprises  Criticism: Positive development examples were non-fundamentalist during take-off (Germany, USA, Japan... Taiwan, South Korea, China) and developed dynamic comparative advantages by state involvement 1 Causes of and Strategies for Development: Traditional 1.4 Getting the Prices Right

Feb. 18,  each approach has its strengths and weaknesses (see case study on ROK and Argentina)  no universally accepted paradigm  traditional approaches have informed new, eclectic approaches Causes of and Strategies for Development Conclusion