Chapter Classic Theories of Economic Growth and Development Copyright © 2009 Pearson Addison-Wesley All rights reserved Class Theories of Economic Development – Four Approaches • Structural change model – Linear stages of growth – Saving-investment – Rural-urban migration • Neocolonial dependence theory – Dependence: Center vs Periphery – False Paradigm • Neoclassical theory – Market friendly approach – Dualistic approach – Public choice approach Copyright © 2009 Pearson AddisonWesley All rights reserved 3-2 Rostow’s Linear-Stages Model Traditional society Pre-condition to take-off Take-off Drive to maturity Age of high mass consumption Copyright © 2009 Pearson AddisonWesley All rights reserved 3-3 Rostow’s Linear-Stages Model Traditional society: slow economic and population growth Pre-condition to take-off: development of institutions, organizations, and infrastructure Take-off: large investment in selected industry (10 to 15% of GDP) Copyright © 2009 Pearson AddisonWesley All rights reserved 3-4 Rostow’s Linear-Stages Model Drive to maturity: sustained growth of the industry and economy Age of high mass consumption: production of consumer goods and services to serve an affluent society Copyright © 2009 Pearson AddisonWesley All rights reserved 3-5 Rostow’s Linear-Stages Model GDP Growth Economic Growth Post Take-off Take-off Pre Take-off t1 Copyright © 2009 Pearson AddisonWesley All rights reserved t2 Time 3-6 Harrod-Domar Growth Model S = sY S=Saving; Y=Real GDP; s=Saving Ratio I = ΔK I=Investment; ΔK=Capital Accumulation S=I Saving-Investment identity Define the Marginal Capital-Output Ratio as k = ΔK/ΔY Write ΔK = kΔY or I = kΔY From S = I, write sY = kΔY or Copyright © 2009 Pearson AddisonWesley All rights reserved ΔY/Y = s/k 3-7 Harrod-Domar Growth Model The source of growth is saving and investment in production of goods and services Accordingly, GDP growth rate = s/k s = national saving ratio; k = marginal capital-output ratio If s=6% and k=3, then GDP growth rate=2% Given k=3, to raise growth rate to 4%, we need to increase the saving Copyright © 2009 Pearson Addisonratio from 6% to 12% with 6% of foreign saving Wesley All rights reserved 3-8 Criticism of Investment Models • Many LDCs have not been able to takeoff or achieve maturity despite massive foreign investment • Many nations have neglected the development of institutions, organizations, and infrastructure required for industrialization Copyright © 2009 Pearson AddisonWesley All rights reserved 3-9 The Lewis Development Model • Rural agricultural sector – Low or even zero Marginal Product of Labor so that labor is a redundant factor and wage rate is at the subsistence level • Urban industrial sector – Rising demand for unskilled labor to be trained for industrial growth results in greater employment and more profits and higher wages • Rural-Urban migration – To find jobsPearson and earn higher wages Copyright © 2009 AddisonWesley All rights reserved 3-10 Approaches to Development • Public-choice approach: public officials and bureaucrats in the position of authority are “rent-seeking” citizens acting on self-interest rather than public-interest • Need a system of checks and balances to monitor the behavior of public officials and bureaucrats • Need a democratic system to let people choose public officials and bureaucrats for limited duration of authority Copyright © 2009 Pearson AddisonWesley All rights reserved 3-20 Appendix 3.1: Components of Economic Growth • Capital Formation – Physical capital formation: investment in tools, equipment, machinery, buildings – Social capital formation: investment in roads, dams, airports, railroads, bridges – Human capital formation: investment in education, training, health, nutrition – Political capital formation: investment is creating a secular and democratic government and free mass Copyright media© 2009 Pearson AddisonWesley All rights reserved 3-21 Determinants of Economic Growth • Physical Capital Formation – Increase in the amount of physical capital per unit of labor Copyright © 2009 Pearson AddisonWesley All rights reserved 3-22 Determinants of Economic Growth • Technological Advancement – Increase factor productivity (labor, land, capital) Copyright © 2009 Pearson AddisonWesley All rights reserved 3-23 Production Possibilities Curve • Maximum quantities of two good and services the economy can produce, assuming: – full employment / efficiency – fixed resources – constant technology Copyright © 2009 Pearson AddisonWesley All rights reserved 3-24 PPC Schedule Combination Radios Rice A B C E 100 90 50 0 40 80 100 Copyright © 2009 Pearson AddisonWesley All rights reserved 3-25 PPC Graph Combinations A, B, C, and E are attainable Combination D is unattainable given resources and technology Combination F is attainable, but inefficient Radios 100 90 50 A B F D C E 40 80 100 Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-26 Economic Growth Combination D becomes available with more resources and better technology Radios 100 90 50 A B D C E 40 80 100 Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-27 Economic Improvement Radios 100 90 50 Combinations G (or B or C) becomes efficient with more employment and/or improved efficiency A B G F C E 40 80 100 Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-28 Technological Advancement Neutral: proportional increase in the supply of Rice and Radios Radios Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-29 Technological Advancement Capital augmenting: greater increase in the supply of Radios Radios Copyright © 2009 Pearson Addison-Rice Wesley All rights reserved 3-30 Technological Advancement Radios Labor augmenting: greater increase in the supply of Rice Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-31 Technological Advancement Radios Advancement only in agricultural production Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-32 Technological Advancement Radios Advancement only in industrial production Rice Copyright © 2009 Pearson AddisonWesley All rights reserved 3-33 Factor Accumulation Accounts for Only a Fraction of Growth Copyright © 2009 Pearson AddisonWesley All rights reserved 3-34 ... Saving-Investment identity Define the Marginal Capital-Output Ratio as k = ΔK/ Y Write ΔK = k Y or I = k Y From S = I, write sY = k Y or Copyright © 2009 Pearson AddisonWesley All rights reserved Y/ Y = s/k 3-7... maturity: sustained growth of the industry and economy Age of high mass consumption: production of consumer goods and services to serve an affluent society Copyright © 2009 Pearson AddisonWesley All... increases the demand and employment for rural labor Employment Copyright © 2009 Pearson AddisonWesley All rights reserved 3-11 Criticisms of Lewis Model • Industrial technology is generally capital