MACRO T7 - DEVELOPMENT

What is the difference between Growth and Development?

What is the difference between Growth and Development?

EG - A sustained rise in a country’s productive capacity

An increase in real value of GDP / GNI per capita

Increases in the productivity of factors of production

ED - Progress in expanding economic freedoms

Sustained improvement in economic and social opportunities

Growth in personal and national capabilities

What are some advantages of using HDI?

Relatively easy data to collect and compare

As objective as possible – it could be difficult, for example, to come up with an accurate/reliable measure of more qualitative factors such as freedom of speech

Measures such as longevity and education levels are indicative of other development factors

People tend to live longer if there is better access to doctors and healthcare, access to good sanitation and housing etc

What are some disadvantages of using HDI?

The standard HDI measure does not take account qualitative factors, such as cultural identity and political freedoms (human security, gender opportunities and human rights)

The GNI per capita figure – and consequently the HDI figure – takes no account of income distribution.

If income is unevenly distributed, GNI per capita will be an inaccurate measure of people’s well-being

PPP values used to adjust GNI data change quickly and can be inaccurate

Higher GNI may result in more spending on aspects that could reduce living standards e.g. polluting power stations rather than green energy production, or armaments

Explain Primary Product Dependency.

Countries in early development stages typically export a limited range of products, many focusing on primary commodities.

These economies are vulnerable to global price volatility and face significant risks from over-specialization, as increased supply coupled with inelastic demand can lead to substantial price drops and reduced revenue.

Resource-rich countries may suffer from the natural resource curse, where extractive rents fuel corruption, inequality, and wasteful consumption, leading to the depletion of natural resources.

High commodity prices can cause currency appreciation and result in Dutch Disease or de-industrialization.

Often, resource revenues are not used productively to diversify the economy or improve human development indicators like education and healthcare.

Consequently, many resource-rich developing countries experience slow GDP growth and poor development outcomes.

What is the Prebisch-Singer Hypothesis?

Suggests that, over the long run, prices of primary goods such as coffee and cocoa decline in proportion to prices of manufactured goods such as cars and washing machines.

There is likely to be a long-term decline in real commodity prices.

In part this is because the income elasticity of demand for commodities is lower than for manufactured goods

This then worsens the terms of trade for primary exporters over time

In this situation, countries might be better off focusing on import substitution policies which encourage rapid industrialisation and improved export diversification designed to make a country more resilient to price shocks

Why has the pessimistic projection of the Prebisch-Singer hypothesis not happened?

Labour-intensive manufactured goods are now significantly cheaper because of globalisation, technological improvements, and the exploitation of economies of scale

Rising global population and increasing per capita incomes have seen a hefty increase in the world prices of many primary commodities. For example, the prices of rare earths used in manufacturing smartphones

Many primary commodity exporters in developing countries have seen their terms of trade rise

What is Dutch Disease?

The adverse impact of a sudden discovery of natural resources on the national economy via the appreciation of the real exchange rate and the decline in export competitiveness.

If natural resources are found and extracted and if the world price of them is rising, then export revenues will increase and there will be increased investment into that sector.

But the risk is that there is a corresponding loss of investment into other industries such as manufacturing businesses.

And the surge in export incomes can cause an appreciation of the exchange rate which then makes other sectors trying to export less competitive in overseas markets.

A worst-case scenario is when manufacturing industries in developing countries start to shrink well before it has reached middle-income status. This is known as premature de-industrialisation.

What are strategies for reducing Primary Product Dependency?

Better government – including more transparency & accountability to taxpayers so that it is clear how natural resource revenues are being spent

Sovereign Wealth Fund – to fund human capital and infrastructure or to inject money into an economy when aggregate demand dips

Higher taxes of natural resource profits - extracting resource rents and then reinvesting in the domestic economy to increase a country’s supply-side capacity

Buffer stock schemes – these are designed in principle to reduce some of the effects of price volatility although most less developed countries have limited ability to influence the world prices of their key exports

Diversification – including shifting resources into processing, light manufacturing & tourism – giving higher value added and making the economy less susceptible to external shocks

What is the savings gap?

The savings gap refers to the shortfall between the level of domestic savings and the amount needed for investment to achieve economic growth.

Causes: Low income levels lead to insufficient savings. High levels of consumption relative to income.

Consequences: Limited funds for investment in infrastructure, industry, and other growth-promoting activities. Reliance on external financing to bridge the gap.

What is the Harrod Domar Model of Growth and how is it impacted by the savings gap?

HDMG - A model that emphasizes the importance of savings and investment for economic growth.

[Formula: Growth Rate (G) = Savings Rate (S) / Capital-Output Ratio (K).]

Implications: Higher savings rates lead to higher investment, which drives economic growth.

Lower capital-output ratios imply more efficient use of capital, enhancing growth.

It assumes constant returns to scale and fixed capital-output ratio. and does not account for technological change or productivity improvements.

The savings gap directly impacts the HD model, as insufficient savings limit investment and economic growth.

Demonstrate the importance of capital investment for developing countries.

Injection of demand for capital goods industries

Creates positive multiplier effects

Increased capital stock can increase rural productivity and therefore per capita incomes and consumption in rural areas

Investment in new machinery and factories supports economies of scale especially in new / infant industries

It can help achieve export-led growth because of the increase in productive capacity

What is capital flight?

The rapid movement of large sums of money or capital out of a country to another country or financial market, usually to escape economic instability or political risk etc.

Investors perceive economic, political, or financial risks in the home country (e.g., inflation, political instability, devaluation of currency).

To protect their assets, investors decide to transfer their capital to a safer environment.

Capital is moved through various means such as bank transfers, purchasing foreign assets, or investing in foreign financial markets.

The outflow of capital leads to a reduction in available funds for investment, depreciation of the local currency, and potential financial instability.

Greece (2010s): Sovereign debt crisis and fears of a potential exit from the Eurozone.

Significant capital outflows, leading to banking sector instability and the need for capital controls.

What are the opportunities of rapid population growth?

Contributes to an expanding population of working age which can increase long-run aggregate supply (LRAS) causing an outward shift of the PPF.

Providing per capita incomes are rising, then population growth increases the size of domestic markets - encouraging economies of scale and increased capital investment spending by businesses

More people in work leads to a widening of the tax base to help government finances

Population growth and urbanization tend to go together - population growth increases density and, alongside rural-urban migration can lead to benefits from agglomeration economies. Urbanisation has been linked to stronger innovation and it also stimulates demand for new infrastructure which in turn creates jobs and creates positive multiplier effects.

What are the risks and drawbacks of rapid population growth?

Must provide sufficient jobs in the formal economy to prevent a large increase in youth unemployment.

Fast-growing population holds back the annual growth of per capita incomes. Income is spread more thinly across large households which makes it harder to satisfy everyone’s basic needs and wants

Rapid population growth puts increasing pressure on the natural environment including demand for water and energy and can also threaten bio-diversity

High rates of rural-urban migration can lead to problems associated with urban density such as crime, the spread of disease and increased inequalities of income and wealth.

What is the Brain Drain Effect?

Describes the movement of highly skilled or professional people from their own country to another country where they can earn more money. Brain drains can lead to de-population.

he ageing Japanese population is forecast to shrink by nearly six million people from 2015 to 2030.

What are the disadvantages from a brain drain?

Loss of human capital – this damages long-run supply-side potential and is a barrier to development

Loss of enterprising younger workers who might have started up businesses at home

Skills shortages affect HDI outcomes e.g. the emigration of skilled doctors, teachers & engineers

Risk of a fall in aggregate demand because of a smaller population

Depopulation make the country less attractive to inflows of foreign investment

What are the possible advantages from a brain drain?

Remittances from emigrants flow back to increase a nation’s gross national income (GNI)

People living overseas (the diaspora) may be able to help finance private-sector capital projects in the future

Acquisition of human capital by working & studying in other countries e.g. learning languages, and earning degrees – possibly leading to brain gains if they return to their country of origin

May help to offset the risks from rapid natural growth of population such as higher inflation and pressure on the built environment and natural resources

What are the risks with a developing country increasing the scale of external debt?

Returns on investment might fall short of expectations especially if investment goes on projects not subject to a proper cost-benefit analysis

If a country experiences a depreciation of their exchange rate, the real value of the debt will increase making it harder to repay

A recession can make it harder to meet the interest payments on debt since government tax revenues shrink

If international investors become nervous about the ability of a government to repay external debt, then a country may suffer a credit-rating downgrade which will increase the interest rate needed to finance new loans

How can infrastructure gaps limit growth and development?

Increase supply costs for businesses – this causes higher prices – therefore hitting real incomes for consumers

Reduces geographical mobility of labour causing higher structural unemployment (a labour market failure)

Damages export competitiveness and limits intra-regional trade (trade within a cluster of countries)

Can make a country less attractive to foreign direct investment (FDI) which might then slow economic growth

Makes an economy vulnerable to climate change/natural disasters

Have a direct impact on basic human development – e.g. having access to basic water and sanitation services

What is human capital?

Human capital is the skill, knowledge, talent, experience and ability of workers.

Can be increased through investment in education & training.

Poor human capital hits labour productivity and ability to harness/adapt to new technologies. Low productivity keeps wages down.

Human capital deficiencies are closely linked to malnutrition. Better basic health care and nutrition helps to unlock improved human capital by avoiding brain impairment and the effects of stunted growth.

Why are property rights important for development?

Rights to own land and to establish businesses are seen as crucial for wealth creation e.g. private plots to farm

Protection of property rights is a major barrier to corruption

Property rights are important to tackle gender inequalities

Community ownership / husbandry of natural resources can help overcome threats to eco-systems

Laws on patents are important to secure investment in research industries 6. Common rules encourage trade & investment between countries by reducing trade friction costs

How is corruption a barrier to growth and development?

Corruption is defined broadly as the misuse of public power for private benefit.

Deters foreign direct investment by increasing the cost of doing business

Leads to allocative inefficiency / i.e. diverting public resources for private gain, there are numerous extreme examples of extravagant wealth in economically less developed countries

Government decisions are often unduly influenced by lobbying

Contributes to income & wealth inequality and reduced progress in cutting the incidence of extreme poverty

Causes a loss of trust - i.e. a breakdown of social capital

This leads to poorer development outcomes because governments are not collecting sufficient tax revenues

What are examples of market-led policies that promote economic development?

Fiscal discipline – emphasising greater control of government spending, budget deficits and national debt

Reallocating state spending away from subsidies (e.g. minimum prices to farmers) towards health care, education & infrastructure

Tax reforms – including widening the base of taxation and encouraging lower tax rates to raise enterprise and work incentives as a means of creating wealth

Liberalizing market interest rates – i.e. letting financial markets allocate capital among competing uses

Trade liberalisation via reductions in import tariffs and fewer forms of protectionism such as import quotas and other non-tariff barriers

Privatisation – i.e. moving state enterprises into the private sector

What is trade liberalisation?

Involves a country lowering import tariffs and relaxing protectionism. Makes an economy more open to trade and investment so that it can then engage more directly in the regional and global economy. Argued that developing countries can specialise in the goods and services in which they have a comparative advantage. 

Micro effects: Lower prices for consumers / households which then increases their real incomes

Increased competition / lower barriers to entry attracts new firms

Improved efficiency – both allocative & productive

Might affect the real wages of workers in affected industries

Macro effects: Multiplier effects from higher export sales

Lower inflation from cheaper imports – causing an outward shift of short run aggregate supply

Risk of some structural unemployment / occupational immobility

May lead initially to an increase in the size of a nation’s trade deficit