Study Notes on Development Policymaking and the Roles of Market, State, and Civil Society

ECONOMIC DEVELOPMENT: THIRTEENTH EDITION

CHAPTER 11 Development Policymaking and the Roles of Market, State, and Civil Society

Chapter 11 of Todaro and Smith's Economic Development examines the evolving roles of the state, the market, and the citizen sector (NGOs) in the development process. It moves from traditional economic planning to contemporary debates on governance, corruption, and decentralization.

11.2 Development Planning: Concepts and Rationale (Page 1)

Verbatim Definition

Economic planning: A deliberate and conscious attempt by the state to formulate decisions on how the factors of production will be allocated among different uses or industries, thereby determining how much of total goods and services will be produced in one or more ensuing periods.

11.2.1 The Planning Mystique

Following World War II and decolonization, development planning was universally accepted as the most direct route to progress. Until the $1980s$, national planning was seen as the essential institutional mechanism for overcoming obstacles and ensuring high growth. While the planning record often failed to meet expectations, a comprehensive policy framework remains vital for growth, poverty reduction, and human development goals.

11.2.2 The Nature of Development Planning (Page 2)

Development planning involves governmental attempts to coordinate long-run decision-making and influence key economic variables (income, consumption, saving, investment, exports, imports, etc.) to achieve predetermined objectives.

Key Definitions

• Economic plan: A written document containing government policy decisions on how resources will be allocated among various uses so as to attain a targeted rate of economic growth or other goals over a certain period of time.

• Comprehensive plan: An economic plan that sets targets to cover all the major sectors of the national economy.

• Partial plan: A plan that covers only a part of the national economy (e.g., agriculture, industry, tourism).

• Planning process: The procedure for drawing up and carrying out a formal economic plan.

Proponents argue that planning is necessary to rectify issues in uncontrolled market economies, such as:

• Economic dualism.

• Unstable markets.

• Low investment in key sectors.

• Low levels of employment.

• Failure to mobilize resources for structural change.

11.2.3 Planning in Mixed Developing Economies (Page 2)

Mixed economies feature both private ownership and public sector influence. The private sector typically includes:

1. Subsistence sector: Small-scale private farms and handicrafts.

2. Small-scale urban formal and informal sectors: Family-owned businesses.

3. Medium-size commercial enterprises: Locally owned agriculture, industry, and trade.

4. Large manufacturing and mining: Jointly or foreign-owned, catering to foreign markets.

5. Large domestic firms: Locally managed/owned, often listed on stock markets (common in BRIC countries: Brazil, Russia, India, China).

Principal Components of Planning in Mixed Economies (Page 3)

1. Public Investment: Using domestic saving and foreign finance for infrastructure (railways, schools, hydroelectricity) and import-substituting or export projects.

2. Economic Policy: Using taxation, licensing, tariffs, quotas, wages, interest rates, and prices to stimulate or control private activity.

11.2.4 The Rationale for Development Planning (Page 3)

Market Failure

Markets in developing economies are often badly organized and prices are distorted, meaning signals do not reflect social costs. There are three general forms of market failure:

1. The market cannot function or does not exist.

2. The market exists but leads to inefficient resource allocation.

3. The market produces undesirable results relative to social objectives (e.g., poor income distribution).

Specific Examples of Market and Coordination Failures (Page 4)

• Public Goods: Characterized by non-excludability and "free riders."

• Externalities: When firms or consumers do not pay the full cost of their actions or receive all benefits.

• Coordination Failures: When agents would be better off cooperating, but fail to do so without state intervention.

• Market Power: Monopolies resulting from increasing returns to scale.

• Information Asymmetry: Common in capital markets.

• Merit Goods: Entitlements like health and education that serve as social goods.

Resource Mobilization and Allocation (Page 4-5)

Developing nations cannot afford to waste limited financial or skilled human resources. Planning ensures projects are chosen based on external economies and long-term objectives. Markets may focus on consumption for the rich rather than social priorities.

Attitudinal or Psychological Impact (Page 5)

A national plan can rally a fragmented population to work together toward building the nation and overcoming sectionalism, traditionalism, or poverty.

Foreign Aid (Page 5)

Detailed plans are often a prerequisite for receiving bilateral and multilateral foreign assistance.

11.3 Development Planning Models (Page 5-6)

Planning usually follows a three-stage approach:

1. Aggregate Growth Models: Macroeconomic estimates of required variables.

2. Multisectoral Models: Input-output or computable general equilibrium (CGE) models determining production and resource implications.

3. Project Appraisal: Micro-level evaluation of specific investments.

11.4 Government Failure and the Shift Toward Markets (Page 6)

11.4.1 Problems of Plan Implementation and Failure

Results have been generally disappointing, leading to disillusionment. Factors include:

• Theory vs. Practice: Governments often fail to reconcile private and social valuations; they may exacerbate divergences through policy, leading to government failure.

• Factor Price Distortions (Page 7): Policies that raise wages above scarcity value (minimum wage legislation) or drop capital costs below social costs (low interest rates, overvalued exchange rates) encourage inefficient capital-intensive production.

• Overvalued returns to education: Subsidies for higher education lead to private demand exceeding social payoff.

• Deficiencies in Plans: They are often overambitious, vague, or lack specific policies.

• Unreliable Data (Page 7): Weak statistical foundations diminish the accuracy of quantitative plans.

• Economic Disturbances (Page 8): Vulnerability to international trade shifts, oil price shocks (e.g., the $1970s$), and private capital flows.

• Institutional Weaknesses: Separation of planning agencies from decision-making; incompetent civil servants; corruption.

• Lack of Political Will: Absence of courage to challenge elites or vested interests.

11.4.2 The 1980s Policy Shift (Page 8-9)

Influenced by President Ronald Reagan's "magic of the marketplace," most developing countries moved toward liberalization, export promotion, and reduced public sector involvement. International organizations like the IMF and World Bank pushed for market liberalization as conditions for credit.

11.4.3 Government Failure Specifics (Page 9-10)

Government failures include:

• Rent-seeking: Special interest groups benefiting from regulation.

• Decentralized Information: Individuals often know their preferences better than the state.

• Mistake Correction: Markets can self-correct more easily than rigid government plans.

• Case Contrast: The Pohang Steel Company in South Korea was publicly operated and highly efficient, whereas the Steel Authority in India was inefficient.

11.5 The Market Economy (Page 10-11)

12 Sociocultural Preconditions and Economic Requirements

1. Clearly established and demarcated property rights.

2. Commercial laws and an independent judiciary.

3. Freedom to establish businesses without excessive licensing.

4. Stable currency and banking system.

5. Supervision of natural monopolies.

6. Adequate market information for buyers and sellers.

7. Autonomous tastes (protection from producer influence).

8. Public management of externalities and provision of public goods.

9. Instruments for stabilizing monetary and fiscal policies.

10. Safety nets (unemployment, disability).

11. Encouragement of innovation (patents/copyrights).

12. Security from violence.

11.6 The Washington Consensus (Page 11-13)

Developed by John Williamson, this reflected the free-market approach of the IMF and World Bank during the $1980s$ and $1990s$.

The 10 Points of the Washington Consensus

1. Fiscal discipline.

2. Redirection of public expenditure priorities.

3. Tax reform.

4. Unified and competitive exchange rates.

5. Secure property rights.

6. Deregulation.

7. Trade liberalization.

8. Privatization.

9. Elimination of barriers to DFI.

10. Financial liberalization.

Critiques and South Korea/Taiwan Examples (Box 11.1)

Both South Korea and Taiwan achieved high growth but heavily restricted DFI and utilized significant public enterprise and government control, which contradicts the Washington Consensus.

11.6.1 Toward a New Consensus (Page 13-14)

The New Consensus focuses on poverty alleviation and shared growth (targeting the bottom $40\%$). It recognizes that markets do fail and governance must be improved.

Elements of the New Consensus (Box 11.2)

• Development must be market-based, but recognizing failures.

• Government stays out of direct production.

• Broad role in: Infrastructure, health, education, technology transfer, ecological protection, and reducing inequality.

• Helping the private sector overcome coordination failures.

11.7 Development Political Economy (Page 15)

Theories of Policy Formulation

• Neoclassical Counterrevolution: Views bureaucrats as selfish agents who lack the market's restraint.

• Rationality Standard: People oppose changes if they personally lose.

Mathematical Example of Concentrated Losers vs. Diffuse Gainers (Page 16)

Suppose $9$ people gain $100$ each and $1$ person loses $300$. Total net gain is $600$. If the cost of political engagement is $200$:

• The $9$ gainers will not engage because gain ($100$) < cost ($200$).

• The loser will engage because net loss avoided ($300$) > cost ($200$), resulting in a net gain of $100$. The reform is blocked.

11.7.1 Understanding Voting Patterns (Page 17)

Raquel Fernandez and Dani Rodrik demonstrated status quo bias.

• Example: $60\%$ gain $100$; $40\%$ lose $80$. Expected gain: $0.6(100) - 0.4(80) = 28$.

• If no one knows the winners, it passes.

• If $40\%$ know they are winners, the remaining $60\%$ calculate a higher risk of being losers and vote no.

11.7.2 Institutions and Path Dependency (Page 18)

Douglass North defines institutions as "formal and informal rules of the game."

• "If the institutional matrix rewards piracy, then [only] piratical organisations will come into existence."

• Path dependency: Past conditions affect future conditions. Inability to enforce contracts at low cost is a primary source of stagnation.

11.7.3 Democracy vs. Autocracy (Page 19-20)

Which facilitates faster growth?

• Lee Thesis: Dictatorship is a "necessary" phase for development (associated with Lee Kuan Yew).

• Amartya Sen: Freedom and development are complements. Famines are unlikely where there is a free press.

• Global Evidence: The relationship is not robust; studies are divided: one-third find a positive effect, one-third neutral, one-third negative.

11.8 The Development Role of NGOs (Page 21)

NGOs rely on voluntary efforts and value-based incentives. The UNDP defines them as non-profit, voluntary citizens' groups at local, national, or international levels.

11.9 Trends in Governance and Reform (Page 22)

11.9.1 Tackling Corruption

Corruption: The appropriation of public resources for private profit through the use/abuse of official power.

• It acts as a regressive tax on the poor.

• In Ecuador, bribe costs as a share of revenue are much higher for micro-firms than large firms, and bribe costs as a share of income are higher for low-income households ($9\%$) than high-income households (Figure 11.4).

11.9.2 Decentralization (Page 24-25)

The principle of subsidiarity suggests decisions should be made at the most local level feasible.

• Brazil: Devolution intensified after the $1989$ constitution.

• Mexico: Decentralization began in the late $1980s$ after the debt crisis.

• Bolivia: The $1994$ decentralization recognized peasant and indigenous organizations.

• Senegal: $1996$ reforms made rural council presidents more accountable.

11.9.3 Development Participation (Page 25-27)

Participation is a "chief end of development." Genuine participation (citizen control) is often resisted by elites or NGO staff who feel beneficiaries lack skills.

• Case Study (Philippines): An NGO blocked a local group from interacting directly with donors.

• Case Study (Burkina Faso - Save the Children): Participants had to donate time/labor, leading to resentment of "planner-centred participation."

The Three-Legged Stool: Success requires the improved functioning and coordination of the public, private, and citizen sectors.