Economic Development and Poverty

2. Economic Development: Population and Poverty Economic analysis deals with the problem of making choices under conditions of scarcity, and the problem of satisfying people’s wants and needs is as real for Somalia and Haiti as it is for the United Kingdom, Germany, and Japan. We argue that certain eternal economic truths and principles apply universally everywhere and for all time and this makes world economic problems solvable. For example, scarcity is what makes economic analysis relevant to all nations, regardless of their level of material well-being or political ideology and trade will produce gains for all. Redistribution of income and wealth always boosts growth because the marginal propensity to consume of the poor is so much greater. Even though economic problems and the policy instruments available to tackle them vary across nations, economic thinking about these problems can be transferred easily from one setting to another. Ours is the social science of hope.

3. Life in the Developing Nations: Population and Poverty While the developed nations account for only 25% of the world’s population, they are estimated to consume 75% of the world’s output. This leaves the developing countries with 75% of the world’s people but only 25% of the world’s income. Indicators of Economic Development Country Group Population, 2006 Gross National Income per Capita, 2006 (dollars) Literacy Rate (percent over 15 years of age) Infant Mortality, 2006 (deaths before age 5 per 1,000 births) Internet Users per 1,000 People, 2005 Low-income 2.4 billion 650 60.8 114 44 Lower middle- income 2.3 billion 1,778 88.9 39.8 86 Upper middle- income 810 million 5,913 93.1 29.9 194 High-income 1.0 billion 36,487 98.7 6.9 523

4. Economic Development: Sources and Strategies The Sources of Economic Development Capital Formation vicious-circle-of-poverty hypothesis Suggests that poverty is self-perpetuating because poor nations are unable to save and invest enough to accumulate the capital stock that would help them grow. capital flight The tendency for both human capital and financial capital to leave developing countries in search of higher expected rates of return elsewhere with less risk.

5. Economic Development: Sources and Strategies The Sources of Economic Development Human Resources and Entrepreneurial Ability brain drain The tendency for talented people from developing countries to become educated in a developed country and remain there after graduation. Social Overhead Capital social overhead capital Basic infrastructure projects such as roads, power generation, and irrigation systems.

6. Corruption It is one of our eternal economic truths that corrupt countries cannot grow as fast because the transaction costs are too high (bribery is needed). It also leads to the less efficient firms producing the goods and services in the society. Investment funds are also skimmed off into foreign bank accounts. The chart shows the World Bank’s rating of corruption levels in a number of countries around the world. The countries are ranked from those with the strongest controls on corruption—Germany and France—to those with the lowest controls—Pakistan and Nigeria.

7. Economic Development: Sources and Strategies Strategies for Economic Development Governments or Markets? International Monetary Fund (IMF) An international agency whose primary goals are to stabilise international exchange rates and to lend money to countries that have problems financing their international transactions. World Bank An international agency that lends money to individual countries for projects that promote economic development. industrial policy A policy in which governments actively pick industries to support as a base for economic development.

8. Economic Development: Sources and Strategies Strategies for Economic Development Agriculture or Industry? The Structure of Production in Selected Developed and Developing Economies, 2008 Country Per-Capita Gross National product (GNP) Percentage of Gross Domestic Product Agriculture Industry Services Tanzania $ 440 45 17 38 Bangladesh 520 19 29 52 China 2,940 11 49 40 Thailand 3,670 12 44 44 Columbia 4,620 9 36 55 Brazil 7,300 7 28 65 Korea (Rep.) 21,530 3 37 60 Japan 38,130 1 29 70 United States 47,930 1 22 77

9. Economic Development: Sources and Strategies Strategies for Economic Development Exports or Import Substitution? import substitution An industrial trade strategy that favours developing local industries that can manufacture goods to replace imports. export promotion A trade policy designed to encourage exports.

10. Economic Development: Sources and Strategies Strategies for Economic Development Microfinance In the mid 1970s, a young economist, Muhammad Yunus, created the Grameen Bank in Bangladesh to introduce microfinance—a practice of lending very small amounts of money with no collateral and accepting very small savings deposits—to the developing world, even lending his own money to poor households with entrepreneurial ambitions. Thirty countries now have microfinance lending copied from the Grameen model. Relative to traditional bank loans, microfinance loans are much smaller, repayment begins very quickly, and the vast majority of the loans are made to women (who, in many cases, have been underserved by mainstream banks).

11. Economic Development: Sources and Strategies Two Examples of Development: China and India While low per-capita incomes still mean that both countries are typically labelled developing as opposed to developed countries, many expect that to change in the near future. In the 25-year period from 1978 to 2003, China grew, on average, 8 percent per year, a rate faster than any other country in the world. While India’s surge has been more recent, in the last 5 years, it too has seen annual growth rates in the 8 to 9 percent range. Many commentators expect India and China to dominate the world economy in the twenty-first century. Both have embraced free market economics and remain densely populated. In terms of sector, most of China’s growth has been fuelled by manufacturing while services, particularly in the software industry, have led growth in India.

12. Development Experiments Random and Natural Experiments: Some New Techniques in Economic Development random experiment (Sometimes referred to as a randomised experiment.) A technique in which outcomes of specific interventions are determined by using the intervention in a randomly selected subset of a sample and then comparing outcomes from the exposed and control group. natural experiment Selection of a control versus experimental group in testing the outcome of an intervention is made as a result of an exogenous event outside the experiment itself and unrelated to it.

13. Development Experiments Education Ideas As we move from traditional agrarian economies to more diversified and complex economies, the advantages to an individual from education rises. If we want a nation’s poor to benefit from growth, improving their educational outcomes is key. Unfortunately, absenteeism—both teacher and student— is a serious problem throughout the developing world. While many reform ideas have proven helpful in improving educational outcomes in different developing countries, it has proved hard up to now to find simple answers that work across the globe. Nevertheless, new techniques appear to offer considerable promise as a way of tackling issues of improving education for the poor of the developing world. Health Improvements Poor health is a second major contributor to poverty. In the case of many interventions to improve health, human behaviour plays an important role, and here is where development economics has focused. As with the area of education, much remains for development economists to understand in the area of health and human behavior.

14. Development and Population Population Issues The populations of the developing nations are estimated to be growing at about 1.7 percent per year. For poor nations, rapid population growth can strain infrastructure and may impede development. For this reason, population control has been part of the development strategy of a nations like China. The Growth of World Population, Projected to A.D. 2020 For thousands of years, population grew slowly. From A.D. 1 until the mid 1600s, population grew at about .04 percent per year. Since the Industrial Revolution, population growth has occurred at an unprecedented rate.

15. The Transition to a Market Economy Six Basic Requirements for Successful Transition Economists generally agree on six basic requirements for a successful transition to a market-based system: 1. Macroeconomic stabilisation. 2. Deregulation of prices and liberalisation of trade. 3. Privatisation of state-owned enterprises and development of new private industry. 4. Establishment of property and contract laws and accounting systems. 5. A social safety net to deal with unemployment and poverty. 6. External assistance.

16. The Transition to a Market Economy Six Basic Requirements for Successful Transition Macroeconomic Stabilisation To achieve a properly functioning market system, prices must be stabilised. To do so, the government must find a way to move toward a balanced budget and to bring the supply of money under control. Deregulation of Prices and Liberalisation of Trade An unregulated price mechanism ensures an efficient allocation of resources across industries. Ultimately, as the theory of comparative advantage suggests, liberalised trade will push each country to produce the products it produces best.

17. The Transition to a Market Economy Six Basic Requirements for Successful Transition Privatisation Private ownership provides a strong incentive for efficient operation, innovation, and hard work that is lacking when ownership is centralized and profits are distributed to the people. tragedy of commons The idea that collective ownership may not provide the proper private incentives for efficiency because individuals do not bear the full costs of their own decisions but do enjoy the full benefits. In addition to increasing accountability, privatisation means creating a climate in which new enterprises can flourish and that many protected enterprises unable to compete at world prices will go out of business.

18. The Transition to a Market Economy Six Basic Requirements for Successful Transition Market-Supporting Institutions The capital market, which channels private saving into productive capital investment in developed capitalist economies, is made up of hundreds of different institutions. Social Safety Net Transition to a free labour market and liberalisation of prices means that some workers will end up unemployed and that everyone will pay higher prices for necessities. As more and more people experience unemployment, popular support for reform is likely to drop unless some sort of social safety net is erected to ease the transition. This social safety net might include unemployment insurance, aid for the poor, and food and housing assistance.

19. The Transition to a Market Economy Six Basic Requirements for Successful Transition External Assistance Very few believe that the transition to a market system can be achieved without outside support and some outside financing. Shock Therapy or Gradualism? shock therapy The approach to transition from socialism to market capitalism that advocates rapid deregulation of prices, liberalisation of trade, and privatisation. Advocates of a gradualist approach believe the best course is to build up market institutions first, gradually decontrol prices, and privatise only the most efficient government enterprises first.

20. Key terms • brain drain • capital flight • export promotion • import substitution • industrial policy • International Monetary Fund (IMF) • natural experiment • random experiment • shock therapy • social overhead capital • tragedy of commons • vicious-circle-of-poverty hypothesis • World Bank