Introducing the concepts of economic growth and national income convergence'

1
Lecture 3

• Introducing the concepts of economic growth and
  national income convergence.
• Starting to review the four classic theories of
  economic development
• Linear stage growth models
• Structural change and pattern approach
• Dependency theories
• Neo-classic counter revolution

2
Economic Growth

• Recap A raised per capita income level increases
  average living standards in a country
• In the long run, economic growth spurs economic
  welfare if the economic growth rate exceeds the
  population growth rate.
• Does economic growth matter even if it is low?
• An annual economic growth rate of 2 doubles the
  national income in 35 years time.

3
Per Capita Income Convergence

• There needs to be slow growth in rich countries
  and fast growth in poor countries for poor
  countries to catch up.
• Convergence requires that economic growth is
  decreasing with per capita income.

4
Per Capita Income Convergence

• The US GNI/cap (PPP adjusted) was 36.110 USD in
  2002
• Ghanas GNI/cap (PPP adjusted) was 2.080 USD in
  2002.
• If the GNI/cap annual growth rate in Ghana were
  10, it would take Ghana approximately 30 years
  to get to the current US level of GNI/cap.

5
Economic growth

• Recap Economic growth is due to
• Physical capital accumulation
• Human capital accumulation
• Technological development
• Labour force growth
• But increased national endowments dont
• necessarily lead to economic growth !

6
Economic Growth

• The reason is that a country may not use its
• productive resources effectively. (FIG A2.1)
• Developing countries often have a labour surplus.
• With a labour surplus in the economy, labour
  force growth (due to population growth) may
  reduce the per capita income.
• An effective use of productive resources is
• assumed in standard growth theory.

7
Linear-stages-of-growth theory

• Evolved in the 1950s and 1960s.
• Claim Countries go through the same development
  stages in the growth process.
• Suggests that there is a recipe for growth that
  can be learned by analysing prior developing
  stages in rich, industrialised countries.
• Theory points to physical capital accumulation as
  a prerequisite for economic growth.
• Economic development is based on investment.

8
Linear-stages-of-growth theory

• Rostow introduced the linear-stages-of-growth
  concept.
• Harrod-Domar model formalised it.
• The Harrod Domar model (derived p.105-106)
• Predicts that the economic growth rate (?Y/Y) is
• increasing in the national savings ratio (S/Y)
  and
• decreasing in the capital-output ratio (K/Y).

9
The Harrod-Domar model

• Implication The more countries can save and
  invest, the more they will grow.
• The main obstacle to economic development is low
  levels of new capital formation in developing
  countries.
• Raising capital investments to create growth was
  a strategy used in the former Soviet Union.
• Development aid post WWII was provided in the
  form of capital and technical assistance.

10
The Harrod-Domar model

• Main criticisms
• Savings and investment are necessary but not
  sufficient requirements to generate economic
  growth.
• Countries are not closed units success of
  investment strategies depend on international
  factors.

11
Structural change and pattern theory

• Developed in the 1950s.
• Motive to identify mechanisms of structural
  changes required to acheive economic development.
• Using economic theory and statistical evidence.
• Examining structural change from production
  heavily dependent on agriculture to diversed
  industrialised production.

12
The Lewis Model

• Leading development model during the 1960s and
  1970s.
• There are two production factors in the economy
  capital and labour.
• There are two sectors in the economy
• A traditional traditional (agricultural) rural
  sector and
• a modern (industrialised) urban sector.
• The traditional sector is overpopulated with a
  zero marginal labour productivity.
• Labour can be drawn from the traditional sector
  without any output loss.

13
The Lewis Model

• Profits in the modern sector is reinvested in
  modern sector production.
• Enables self-sustaining growth in the modern
  sector.
• Since labour productivity is higher in the modern
  sector, it pays higher wages than the traditional
  sector.
• The modern sector can continue to draw labour
  from the traditional sector as ouput in that
  sector is expanded over time.
• Model graphically displayed in FIG 3.1.

14
The Lewis Model

• Note that
• Factor mobility plays a key role for economic
  development.
• Physical capital accumulation is supported by
• a labour surplus in the sector with low labour
  productivity.

15
The Lewis Model

• Main criticisms
• Capital owners may reinvest profits in new
  sophisticated labour-saving production
  techniques.
• Concentrates the growth gains amongst
  capital-owners and does not create economic
  development in the country as a whole.

16
The Lewis Model

• Main criticisms (contd.)
• Surplus labour in rural areas and full employment
  in urban areas is often not true in developing
  economies.
• A labour surplus may not keep down wages paid to
  workers in the modern sector (and thereby
  generate reinvestment and self-sustained growth).
• Modern sector production is often characterised
  by increasing (instead of diminishing) returns to
  production factors.

17
Patterns-of-Development Analysis

• Empirical approach taking account of numerous
  factors that may affect economic structural
  changes in the development process.
• Domestic as well as international determinants
  are considered.
• The national resource endowment, the countrys
  physical and population size and its
  institutional constraints.
• Access to external capital, technology and
  international trade.

18
Patterns-of-Development Analysis

• Chenery et al. (1975) is the best-known study in
  the field.
• Their paper identifies the following typical
  features of the economic development process
• A shift from agricultural to industrial
  production.
• A steady accumulation of physical and human
  capital.
• A change in consumer demands from agricultural
  goods and basic necessities to diverse
  manufactured goods and services.
• A labour movement from rural to urban regions.
• A decline in family size and population growth.