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Growth, Trade, and
Development
CHAPTER 20
Reinert/Windows on the World Economy, 2005
Introduction

In 2000, per capita GNP in Ghana was only
US$350
 Malaysia and Thailand were $3,400 and $2,000,
respectively


Ghana has slipped behind
Ghana’s 1998 human development index was
0.548, ranking 129th in the world
 Reflects a relatively low life expectancy and
unsatisfactory educational attainment


How can Ghana “get somewhere” rather than “go
nowhere?”
What roles might trade, education, and health play
in this process?
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Old Growth Theory


Why was Ghana’s 2000 per capita income $350 rather than
$1,350 or $10,350?
A first attempt to answer such questions was provided by
Nobel Laureate Robert Solow (1956)
 Now known as the “old” growth theory
• Begins with an intensive production function which relates two economic
variables


Per capita income or per capita output (y)
Capital-labor ratio (k)
 Positive relationship between capital-labor ratio and per capita income
 For example, as capital-labor ratio increases and each worker has
more physical capital to work with, per capita income increases
 Known as capital deepening
 Relationship is decreasingly positive
 Result of diminishing returns to labor and capital
 Thus, increases in k at lower levels add more to per capita income than
increases in k at higher levels
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Figure 20.1. The Intensive Production
Function and Capital Deepening
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Sources of Per Capita Income
Increases
Capital deepening
 Technological change
 Improvements in technology shift graph upward
 How fast can increases in capital-labor
rations or improvements in technology make
economies grow?
 Most economies grow only a few percentage

points each year
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Figure 20.2. Technological Change in
the Intensive Production Function
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Table 20.1. How Fast Do
Economies Grow?
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Old Growth Theory

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
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Increases in k require increases in the capital stock that
more than offset any increases in population
Increases in capital stock require investment
Investment requires saving
 Domestic Investment = Domestic Savings + Foreign Savings
Increases in per capita incomes through capital deepening
require investment
 Investment has two sources
• Domestic savings (household and government)
• Foreign savings


In the absence of technological improvements these are the only sources of
growth in per capita incomes
Increases must be large enough to increase capital stock sufficiently so it
more than offsets any increase in population
 If they are not k and y will fall even though capital stock increases
through investment
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Figure 20.3. An Open Economy with
Government, Savings, and Investment
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Old Growth Theory

Increasing domestic savings is often a matter of making
institutions available to households of economy
 Institutions should be as broad-based as possible
• Accessible to rich and poor, rural and urban

Increasing government savings is a matter of decreasing
government expenditures and increasing government tax
revenues
 Caveat—some types of government expenditures (e.g. education)
can positively affect level of technology
 Some government investments are complementary to private
investments

Increasing foreign savings is a matter of increasing capital
account surplus on balance of payments
 Pay attention to form and magnitude of capital account surplus
• Large capital account surpluses based on short-term investments are
risky and could be damaging in long run
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Old Growth Theory
Leaves a lot to be explained
 Solow residual
 Amount of unexplained growth in per capita

incomes
 In practice residuals can be quite large

How can we begin to account for this
unexplained growth?
 Question that “new” growth theory attempts to
answer
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New Growth Theory and Human
Development

A number of new growth theory models emphasize
role of human capital in addition to labor and
physical capital
 Acknowledges that labor is more than just hours worked


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• Reflects skills, abilities, and education
Appears to be a direct link between human capital and
technological efficiency
Greater levels of education and training allow an
economy to operate in a state of greater technical
efficiency
Technology is now an endogenous variable that
can be influenced by education and training
policies
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Figure 20.4. Unexplained Growth
in Per Capita Incomes
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Figure 20.5. Human Capital and Unexplained
Growth in Per Capita Incomes
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New Growth Theory and Human
Development

Inclusion of human capital in a growth model
suggests there might be some important
relationships among components of human
development index (HDI)
 Education has a direct impact on HDI through its onethird weight
• Can also have an indirect impact via its impact on human capital

And on per capita income through intensive production function
 Health also has a direct impact on HDI through its onethird weight
• Might also contribute to human capital and therefore have an
indirect impact on HDI via per capita income
• Educated persons (particularly women) contribute to healthy
children who are more likely to become educated
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Figure 20.6. Education, Health,
Growth, and Human Development
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Trade, Education, and Growth


Many economists suggest that countries’ openness to
international trade has a positive impact on growth in per
capita incomes and human development
 Might be a way forward for countries such as Ghana
Idea is technological efficiency responds to two impulses
 Domestic innovation and accumulation of human capital through
education positively affects domestic innovation
 Absorption of new technology from the rest of the world
• Thought that openness to trade, particularly exports, facilitate this
•
absorption of technology
Exports generate additional technology gains on supply side of the
economy

Has caused a number of international economic institutions (especially
World Bank) to call for export promotion as an important development
strategy
 Contrasts with import substitution in which domestic industrialization
occurs in response to tariff and quota protection
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Trade, Education, and Growth


Edwards (1998) used statistical techniques to show
that the more open countries are to international
trade, the faster their growth in per capita incomes
All exports do not necessarily generate positive
technological externalities
 Levin and Raut (1997) showed these externalities are
notably absent in primary product exports
• Characterize many developing countries, including Ghana

Some agreement that accumulation of human
capital is an important prerequisite to absorption of
technology from abroad
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Trade, Education, and Growth

Some empirical evidence to support conclusion that
human capital and manufactured exports interact
positively in supporting growth of per capita
incomes
 Levin and Raut’s (1997) evidence shows contribution of
human capital depends on level of manufactured exports
• Contribution of manufactured exports depends on level of human
capital
• Trade and education can contribute to increases in per capita
incomes and, thereby, to HDI both directly and indirectly

Interaction is restricted to manufactured exports
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Figure 20.7. Export Externalities
for Ghana
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Education


Given the obviously limited nature of educational resources, it is often
important to distinguish among primary, secondary, and tertiary (higher)
education
Evidence suggests primary education plays a particularly important role
in development process
 Psacharopoulos (1985) and (1994) has shown that the social returns on
investments in primary education exceed social returns on investments in
secondary or tertiary education
• Suggests that primary education should be a first priority in development
strategies

Significant gender aspect to educational levels
 Often educational levels (and therefore literacy rates) are lower for girls and


women than for boys and men
Increased educational levels for women have important implications in
health and population
Psacharopoulos (1994) and Schultz (2002) have shown social returns to
education for women are higher than those for men
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Table 20.2. Education Indicators
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Health and Development


Contributes to effectiveness of labor in both its
hours-worked and human capital dimensions
Per capita income perspective views health as well
as education as a means to economic development
 In contrast, human development perspective views
health as an end

Improved health contributes directly to human
development via life expectancy component of HDI
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Health and Development

Quantitative indicators of the health of a
country’s population include
 Demographic indicators such as life expectancy
and infant and child mortality
• May not fully reflect health of surviving population
 Morbidity indicators
• Difficult to collect
 Health service indicators
• Ignore quality measures
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Health and Development
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Interdisciplinary field involving economists,
sociologists, anthropologists, health professionals,
and public policy professionals
Agreement that child morbidity and mortality are
important indicators of general state of health in a
country
Leading contributors to child morbidity and mortality
 Diarrhea
 Respiratory infections (e.g. pneumonia)
 Undernourishment
 Vaccination-preventable diseases (e.g. measles)
 Violence in certain countries
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Health and Development

Educational levels of women contributes
positively and significantly to child health
 Mediating factors
• Hygiene
• Nutrition
• Child-care factors
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Table 20.3. Health Indicators
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Population Issues


Interdisciplinary field in which economists, sociologists,
anthropologists, health professional, and public policy
professionals are all involved
Important variables in study of population and development
are
 Crude birth rate (rb)
• Number of live births per 1,000 population
 Crude death rate (rd)
• Number of deaths per 1,000 population
 These rates together determine natural rate of population growth (a
percentage measure)
• Important because, along with rate of growth of physical capital, it
determines level of capital-labor ratio, k


In turn, determines level of per capita income, y
The higher is the natural rate of population growth, the less likely will
increases in investment translate into increases in per capita income
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Population Issues


Causal chain determining natural rate of population growth
Primary factors
 Socio-cultural factors such as availability of birth control and role of
women
• More favorable is a society to full participation of women, the lower the
total fertility rate
 Level of per capita income is also important
• Higher the level, the lower the total fertility rate
 Higher the level of women’s education, the lower the total fertility rate
• Total fertility rate contributes positively and directly to crude birth rate
and, in turn, positively to natural rate of population growth


Health policies can contribute to level of child mortality
Higher the level of women’s education, the lower will be
child mortality
 Child mortality contributes positively and directly to the crude death
rate and, in turn, negatively to the natural rate of population growth
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Figure 20.8. Explaining the Natural
Rate of Population Growth
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