development

Economic development implies an improvement in economic welfare through higher real GDP, but also through an improvement in other economic indicators, such as improved literacy, better infrastructure, reduced poverty and improved healthcare standards.

Policies for economic development could involve:

1. Improved macroeconomic conditions (create stable economic climate of low inflation and positive economic growth)
2. Free market supply-side policies – privatisation, deregulation, lower taxes, less regulation to stimulate private sector investment.
3. Government interventionist supply-side policies – increased spending on ‘public goods’ such as education, public transport and healthcare.

For developing economies, other issues could involve:

1. Export oriented Development – Reduction in tariff barriers and promoting free trade as a way to improve economic development.
2. Diversification away from agriculture to manufacturing as a way to promote economic development.

Policies for Economic Development

Macroeconomic Stability

Macroeconomic stability would involve a commitment to low inflation. Low inflation creates a climate where foreign investors have more confidence to invest in that country. High inflation can lead to devaluation of the currency and discourage foreign investment. To create a low inflationary framework, it requires:

• Effective monetary policy. E.g. given a Central Bank independence to control inflation through using monetary policy.
• Disciplined Fiscal Policy – i.e. avoid large budget deficits.
• For example, if you look at the current situation of China and India – they both have high rates of economic growth, but the concern is that their economies could easily ‘overheat’ and cause inflationary pressures. Therefore, to keep a lid on inflation is an important underlying factor in sustainable economic development.

A potential problem of macroeconomic stability is that in the pursuit of low inflation, higher interest rates can conflict with lower economic growth – at least in the short term. Sometimes, countries have pursued low inflation with great vigour, but at a cost of recession and higher unemployment. This creates a constraint to economic development. The ideal is to pursue a combination of low inflation and sustainable economic growth.

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Readers question: What is a ‘dual economy’?

A dual economy refers to the existence of two distinct types of economic segments within an economy. This involves:

1. A capitalist based manufacturing sector (geared towards global markets)
2. Labour intensive agricultural sector (low productivity, geared towards subsistence farming or local markets)

The British economist W. Arthur Lewis wrote an influential paper on the ‘dual economy’ in 1954. He observed that in many developing economies (usually a former colonial country) that the economy was split into these different two segments.

The bulk of the economy was a labour intensive agricultural sector producing primary products. Lewis observed that in the agricultural sector, productivity was often very low, and farmers often lacked the traditional profit incentive and dynamism usually found in a free market economy.

Alongside this agricultural sector was a smaller manufacturing sector, which tended to have higher productivity. Firms in the manufacturing sector were often set up by foreign colonial powers.

It was not just that developing economies had different sectors, but that the different sectors had different economic motivations. Labourers in the agricultural sector usually lacked education, access to capital and had poor prospects for income growth. Agriculture was also focused on meeting the needs of local markets or subsistence farming and was insular in outlook. In the other manufacturing sector of the economy, there was a greater dynamism and an incentive to increase profits through expansion and investment. The manufacturing sector also faced greater global competition which spurs efficiency growth.

The dual nature of the economy may have been heightened by the fact manufacturing firms were set up / managed by owners from developed capitalist economies in the northern hemisphere.

Lewis argued that given the disparity in productivity, developing economies could make substantial economic growth by encouraging labour to move from the unproductive agricultural sector to the more profitable and productive manufacturing sector. Developing countries which concentrated on just agriculture were doomed to low savings, low productivity and low growth.

Another issue with a dual economy was that there is a potential problem from concentrating on agriculture exports. Agricultural goods tend to have a low-income elasticity of demand and are price inelastic. If a developing economy increases the output of agricultural products, this increase in supply is likely to depress prices and lead to lower export revenue. Because demand is price inelastic, they would make more revenue by restricting supply and keeping prices high. This is another reason to diversify out of agriculture and not just concentrate on agricultural output.

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