Chapter 20Chapter 20

Economic DevelopmentEconomic Development

How to classify economiesHow to classify economies

• The World Bank (an economic development institution affiliated with the UN) estimates gross national income (GNI)– GNI measures the market value of all goods and

services produced by resources supplied by the countries’ residents and firms, regardless of the location of the resource.

– It measures both the value of output produced and the income that output generates.

GNI continueGNI continue• It measures income per capita, then adjusts

figures across countries based on the purchasing power of that income in each country.

• The World Bank then sorts into three major groups:– High-income economies

• About one-sixth of the world’s population produces three-fourths of the world’s output

– Middle-income economies• About 64% of the world’s population and account for about

25% of the world output– Low-income economies

• About 20% of the world’s population and account for only 1% of the world output

GNI continueGNI continue

http://www.nationmaster.com/graph/eco_gro_nat_inc-economy-gross-national-

income

Developing and Industrial EconomiesDeveloping and Industrial Economies

• Developing countries: the low- and middle-income economies– 50% of their labor force in agriculture

• Industrial Economies: the high-income economies– 84% of the world’s population in 2007 but

produce only 26% of the output

Health and NutritionHealth and Nutrition

• Malnutrition– In the poorest countries they consume only half

the calories of those in high-income countries.– Contributes to more than half of the deaths of

children under the age of 5 in low-income countries.

– Safe drinking water is often hard to find; thus, causing many diseases

Health and NutritionHealth and Nutrition

• Infant Mortality– The rate is much greater in low-income countries

than in high-income countries.

High Birth RatesHigh Birth Rates

• Developing countries also have high birth rates

• This year, more than the 80 million of the 90 million births will be added to developing countries.– WHY??

Women in Developing CountriesWomen in Developing Countries

• Poverty is greater among women than men, this is true for the world as a whole (on the average that is)

• Women in developing countries tend to be less educated than men.– WHY???

Why are poor countries poor?Why are poor countries poor?

• The simple answer:– They are poor because they produce few goods

and services.

Low Labor ProductivityLow Labor Productivity

• Labor Productivity: output measured by worker

• Labor Productivity tends to be low in developing countries.– WHY??• Quality of the labor• Capital• Natural resources

What to do?What to do?

• Invest in Capital:– How?• Foreign Aid• Private Investment in Capital

Technology and EducationTechnology and Education

• Education helps people make better use of the resources available.

• It also makes people more receptive to new ideas and methods

Inefficient Use of LaborInefficient Use of Labor

• Developing countries use labor less efficiently than do industrial nation.– Underemployment and Unemployment– Low productivity= Low Income= Less Saving= Less

Investment in human and physical capital• Creating a “cycle of poverty”

Natural ResourcesNatural Resources

• Many developing countries have little in natural resources.– The exceptions are the oil-rich countries

Financial InstitutionsFinancial Institutions

• An important source of funds for investment is the savings of household and firms

• In some developing countries, the people have little confidence in the country’s currency– Governments finance a large fraction of outlays by

printing money• Hyperinflation

– Zimbabwe

Capital InfrastructureCapital Infrastructure

• Roads• Bridges• Airports• Harbors• Reliable Mail Service• Telephone Communication• Clean Water• Electricity

Entrepreneurial AbilityEntrepreneurial Ability

• Entrepreneurs are needed to bring together resources and take the risk of profit or loss in order for development to get off the ground

• Sometimes government officials create what they believe the free market can do– Favors for friends and relatives of the government

Rules of the GameRules of the Game

• Laws• Customs• Conventions• Property Rights

Social CapitalSocial Capital

• Social capital consists of the shared values and trust that promote cooperation in the economy– Lower economies typically have poorly defined

property rights, and less social capital– Bribery is often commonplace– Government corruption in everyday practice

Trade Problems for Developing Countries

Trade Problems for Developing Countries

• What makes up exports for developing countries?– Agricultural goods and other raw materials (about

half compared to about 20% from high-income countries)

– Problem with this?• Fluctuates in prices= cut in imported capital items

Migration and the Brain DrainMigration and the Brain Drain

• Migrants send money home to invest in their country– $238 billion in 2008– Problems?• “Brain Drain” from their home country

Import Substitution Versus Export Promotion

Import Substitution Versus Export Promotion

• An economy’s progress:– Agriculture to manufacturing to services

• Import Substitution: a development strategy that emphasizes domestic manufacturing of products that had been imported– Tariffs and quotas

Import Substitution Versus Export Promotion

Import Substitution Versus Export Promotion

• Why do this?– The “What to Produce” question is answered– To protect “Infant Industries”– Favored domestic industries

• Problems?– Erases specialization and comparative advantage– Replace low-cost foreign goods with high-cost

domestic goods– Often domestic production failed to be successful

when shielded from foreign competition

Import Substitution Versus Export Promotion

Import Substitution Versus Export Promotion

• Export promotion concentrates on producing for the export market.– The emphasis is on comparative advantage and

trade expansion rather than on trade restriction.– The force is on producers becoming more efficient

in order to compete in world markets

Foreign AidForeign Aid

• Foreign aid is any international transfer made on concessional terms for the purposes of promoting economic development– Grants– Loans• Concessional Loan- low interest rates, longer

repayment periods, or grace periods during which repayments are reduced or even waived • Bilateral: Country-to-Country aid• World Bank: multilateral infrastructure• IMF: multilateral balance of payments

Does Foreign Aid Promote Economic Development?

Does Foreign Aid Promote Economic Development?

http://www.youtube.com/watch?v=CNWzYy186W8

ORhttp://www.youtube.com/watch?v=8Y-E6sQ9DvI

Does Foreign Aid Promote Economic Development?

Does Foreign Aid Promote Economic Development?

• It does provide additional purchasing power, but it is unclear if it supplements domestic saving, thus increase investment!

Transitional EconomiesTransitional Economies

• Types of Economic Systems• Enterprises and Soft Budget Constraints– Soft budget constraint: the budget condition faced

by socialist enterprises that are subsidized if they lose money• Inefficient uses of resources, non-responsive to

demand and supply changes, changes in prices by central planners and not the market forces

Institutions and Economic DevelopmentInstitutions and Economic Development

How do they work?http://www.youtube.com/watch?v=XxERamRMt24

The Big Bang Versus GradualismThe Big Bang Versus Gradualism• Gradualism ( the bottom-up approach): an

approach to moving gradually from a centrally planned to a market economy by establishing markets at the most decentralized level first, such as on a small farms or in light industry– China

• Big Bang Theory: the argument that the transition from a centrally planned to a market economy should be broad and swift, taking place in a matter of months

PrivatizationPrivatization

• Privatization is the process of turning public enterprise into private enterprises.– Cannot be accomplished overnight