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Economic Development

by: Elody Bogisich DDS

Economic Development ECG 540

Elody Bogisich DDS
GPA 3.78

Mitchell Renkow

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Mitchell Renkow
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This 78 page Class Notes was uploaded by Elody Bogisich DDS on Thursday October 15, 2015. The Class Notes belongs to ECG 540 at North Carolina State University taught by Mitchell Renkow in Fall. Since its upload, it has received 12 views. For similar materials see /class/223869/ecg-540-north-carolina-state-university in Economcs at North Carolina State University.

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Date Created: 10/15/15
NEOCLASSICAL GROWTH THEORY I T116 Aggregate Production Function Y f1lt L Properties 0 fK gt O fKK lt O 0 fL gt O fLL lt O o CRS gt fMlt XL Mag L gt Let k 1L k KL y YL gt y f191 II Growth Decomposition Basic form Y AfIlt L where A 2 technical knowhow Note Could add Land Other Factors 1 Totally differentiate Y A fIlt L dea YdKa YdLdA 6K 6L Evil k liidh a 6K Y 6L Y Y 2 Assume that r MPK and WZMPL ie perfect competition A rK A WL A A A A gt Y K La ltgt Y 2KK LLa Y Y Capital Labor Residual Share Share Points 0 Can decompose LK eg skilledunskilled L land machines etc Data on Y readily available 0 Data on capital stock less accessable especially in LDC s but investment data is usually available rK A gt substitute rI rdKY for K Y 0 9x1 2 total wages plus imputed wages of farmers 0 XK 2 interest income and pro ts incl all property land rental income 111 T be Residua a A Initially thought as a measure of exogenous technical change gt This is because it measures TOTAL FACTOR PRODUCTIVITY gt Underpins Growth Accounting work of Denison Solow 0 Movement from a to b gt TFP increase 0 Holding input levels constant TFP measures AQ Q1 Q0 0 In practice two points are observed a amp c B Broader Notion of the Residual Harberger AYZALiwi DiZAKJrj DJ a 1 J Residual now though of as a composite of the effects ofmany forces 1 Improvement in the quality of labor 2 Reallocation of resources from low productivity to high productivity uses ltgt allocative efficiency 0 Via normal market forces move onto the frontier andor 0 Via reduction of structural barriersdistortions 3 Exploitation of economies of scale 4Technique 2 ways of combining resources gt THE RESIDUAL IS THE SUM OF WHAT WE DON T KNOW ANDOR CAN T EXPLAIN C Introduction of Human Capital Mankiw Weill amp Romer Cobb Douglas prod function Y AIlt L1390c gt 0c rKY aK 1 oc wLY XL Problem Derive the fact that 0c 2 rKY 1 oc wLY Hint Max Output Y minus cost rK wL 0 Given plausible generally accepted measures of relative oc s L s and Y s for various counties these imply unbelievably large capital stocks or big differences in the residual a U3 Paz39zppi e Example 0c 4 1 oc 6 YUS 110YPH LUs 367LPH YUS 110AL3H Kg A3676 Lg X4KH 110 4 3676 gt Kus 18050 KPH but in fact KUs z 92Kph 0 However breaking K into K and H human capital seems to greatly improve the calibration of the Cobb Douglas to known parameters 0 H explains 80 of variation between developed and developing countries I V Cn39liquc Key assumptions that might be questionable in LDC s are 1 Perfectly competitive markets 2 Exogenous technological change Within a given country 3 Common technology across countrieseconomies CONVERGENCE I T be Aggregate Production Function agazn Y fK L Properties 0 fK gt O fKK lt O 0 fL gt O fLL lt O o CRS gt fMlt XL Mag L gt Let k 1L k KL y YL gt y fk 1 This is the intensive form of the prod Pn Assuming a constant savings rate s constant population growth n and a depreciation rate 5 i d K L 6K k 6k dZ sfk cgt L sf dk d LK KL39 K L K Use k M 2 dl dl L L L L gt w algebra Fundamental Insight of the Solow Model I 2 k 2 n 5 k k Steady State Condition 1 0 n 5 II Dmamz39cs ofMow39ng to a Steady State A k Steady State Condition k 0 gt y n 6 To the left of k sfkk lies above n 5 gt the growth rate of the capital stock is positive and k rises over time gt This growth rate declines over time as k k an artifact of the math underlying assumptions 2 It can also be shown that when I gt 0 then 3 gt 0 Heuristic Explanation When k KL is relatively low the marginal product of capital is relatively high as is the average product of capital fk Since 5 is a constant sfk k is also relatively large compared to n 5 III AbsoIHte Convergence 0 Assumes structurally similar economies with comparable values of s n and 5 0 Only difference between economies is difference in starting values of capital per person k0 gt same steady state values of k y for all economies Empirical Verification 0 Some support for developed countries eg OECD states of the US 0 No support for LDC s but this is hardly surprising given the strong assumptions regarding equal values of s and n 0 Handoutdiscuss Barro graphsscatter plots IV Conditional C011 vergcncc 0 Allows for heterogeneity across economies anything that cause crosssectional variation in the position and shape of the prod function eg differences in s n 5 education etc 0 Main idea is that an economy grows faster the further it is from its own particular steady state 0 This is much more reasonable more in the spirit of the underlying neo classical model according to Solow Here economies differ in 1initial capital stock kPoor lt kdch and 2 sayings rates sPoor lt snCh Barro also us es a sinewave looking graph to tell stories about lowlevel equilibrium traps This story is ad hoc to say the least Points 1 Changing s n or 5 change the location of k but not the steady state growth rates of k y or C all 2 zero 2 These are parameters that may be amenable to policy intervention 3 Continuous exogenous technical change will lead to a steady state growth rate gt O and equal to the rate of technical change Steady technical change amounts to a continuous shift of the production function 2 shifts savings curve to the right 0 This can be used to explain a persistent long run growth and differences between LDC growth and DC growth 0 But where does this tech change come from IV Empm39caI Evidence Levine amp 126116119 Motivation Test the robustness of empirical ndings regarding the conditioning variables in conditional convergence using a couple of big data sets for the period 1960 1989 Method 1 Start with the basic regression model A I y CY I iyo I zy I39 sn I39 AEd where B1 33 lt O lt B2 B4 2 Append three additional conditioning variables selected from a pool of 7 GovY ExportsY TE Credit growth C 0 0C of revscoups FISCAL TRADE MONETARY POLICY RISK POLITICS gt These are representative of the kinds of scal trade monetary uncertainty and political variables typically used in empirical studies of convergence Findings 1 Only IY ExportsY and Y0 have robust significant effect on 2 Other conditioning variables are not robust significance levels fragile wrt different combinations of indep variables gt Very difficult to isolate a strong empirical relationship between any particular macro policy indicator and long run growth 3 Support for conditional convergence over the entire 1960 1989 period but not for the 1974 1989 period NEW GROWTH THEORY I IMPULSES TO RETHINKING THE STANDARD MODEL 1 Nonconvergence and Different Longrun Growth Rates 0 While some LDC s have been catching up eg SE Asia others have not eg Africa 0 Even among DC s convergence appears to have been a pheonornenon of the post W WH years 0 There was a Neo classical counter revolution by Barro Mankiw et al others 0 Lucas If capital is mobile then why are laborers with high levels of Human Capital migrating from areas where it is scarce to areas where it is abundant gtThis led directly to work by Lucas and Romer his student that launched the New Growth revolution 2 Endogenous Technical Change 0 Romer noted that the growth rate of richer countries has been increasing over time 0 This can only happen in the neo classical model when exogenous technical progress accelerates Outcome 0 Models were developed that tried to explain why technical change might occur at different rates gt anary adaptation was to make technology A a function of the capital stock A AIlt gt In particular models focused on how success breeds success or Learning by Doing so that technology leaders might maintain or expand their relative advantage gt These models focused on human capital and knowledge gt Another vein here is the spillover effects of RampD esp publicly financed RampD and international spillovers 3 Abandoning Perfect Competition 0 Increasing returns to scale esp for capital linked to knowledge gt MPK gt r gt rents to capital accumulation gt Larger steady state values of K L than neo classical model predicts gt This app roach was facilitated by improvements in the ability to model imperfect competition notably StiglitzDixit model of monopolistic competition 0 Imperfect competition relates back to the endogenous technical change work by providing an underlying reason why spillovers might exist gt Each firm might be lucky enough to have access to monopoly rents from superior technical knowledge and this is enough of an incentive to guarantee that some firms will successfully innovate II NEOCLASSICAL VS NEW GROWTH MODELS Romer s 5 facts 1 Many firms in the economy 2 Information based discoveries are nonrival 3 Physical production is replicable ie characterized by CRS 4Technological change results from non random human activity 5 Many rmsagents hold market power and collect monopoly rents on discoveries Characterizing the variants 0 Neoclassical model captured facts 1 2 and 3 0 Endogenous tech change new growth models included fact 4 sometimes in violation of fact 2 0 Increasing returns new growth models included fact 5 sometimes in violation of fact 3 III IMPLICATIONS OF NEW GROWTH THEORY FOR LDC s 1 Departure from the convergence paradigm 0 Convergence no longer a necessary inevitable outcome 0 Corollary is that there may be a role for some form of policy government intervention 2 Greater emphasis on human capital development 0 Knowledge exchangeuse ofideas emerges as a critical element of aggregate growth gt potentially important role for policy 3 Governments can better stimulate growth via better targeting 0 Identify increasing returns industries ie knowledge producing and human capital intensive sectors 0 Provide incentives to rms in those sectors 0 In other words return to the kind of strategic complementarity and targeted growth approach that characterized the Big Push gt But it s still very dif cult to identify the key sectors and to coordinate and implement productive policies gt Also still need appropriate institutional underpinnings to make it work 4 Outward orientation can help facilitate exploiting knowledge spillovers 0 Avoid duplication of expensive RampD 0 Not inevitably helpful to LDC s though STRUCTURALISM 1 BASIC IDEA 1 Identify major features of resource mobilization and allocation that lead to economic growth 2 Identify systematic differences across countries gt Typologies of Development that speak to the impacts of different development strategies 3 Processes tend to follow an Sshaped pattern gt Slow change at low and high incomes relatively rapid growth in the middle gtLed to semi log form in the empirical analysis 4 Big Caveat The most that can be claimed is that the statistical analysis is helpful in diagnosing structural problems of a given country and in outlining suggesting feasible growth patterns gt This work is not useful for detailing policy prescriptions 5 Key Innovation Replaced the notion of a dichotomy between LDC s and DC s with the concept of development as a transition from one state to another II METHODOLOGY 0 Regression analysis of the following form X 2 CC BllnY 3amp1an B3N B4N2 Time Trend 0 Cross sectional tirne series data and analysis 0 Big study 1975 book 1950 1970 101 countries Updated study 1989 paper 1950 1983 108 countries 0 Table 3 For each characteristic X cornpute X at different levels of annual per capita income lt300 300 500 1000 2000 4000 gt4000 and assuming N 2 20000000 III CHARACTERISTICS ANALYZED Investment Government rev Education Demand Structure 1 2 3 4 5 Prod n Structure 6 Trade Structure 7 Labor Allocation 8 Urbanization 9 Demographic 10 Income Distrib I S Net Imports Total taxes Expenditure Enrollment C I and G shares Food Share Primary Industry Services Utilities Exports manu primary serv Imports By sector primary industrial service 00 of population in Cities Birth Rate Death Rate Top 20 Bottom 40 For each characteristic Cheneg and Syrguin investigate 1 Correlation of changes of Characteristic with If 2 Range ofincome over which change in Characteristic is largest 3 Effect of non income variables 4 Sources of differences in development patterns IV BASIC RESULTS FROM TABLE 3 PATTERNS AS Y GROWS 1 Final Demand Consumption falls Investment rises consistent W neoclassical theory 2 Food consumption declines consistent w Engel s Law 3 Trade gt Primary exports tend to decline Manu tends to increase gt Little change in imports composition gt Signif diffs across countries depending sometimes on strength of Import Substitution strategies 4 Production Ag falls dramatically Manu amp Services rise strongly 5 Labor force Same as for Production Ag l Manu amp Services T V PERFORMANCE OF DIFFERENT TYPES OF ECONOMIES A Stratifications 1 Large vs small based on 1965 population 2 Primary vs Manufactured Exporters relative to average 3 Outward vs Inward re1ative to average of Exports GDP for all countries B Growth bv TVDologV Table 8 Large Small All Iltgt IE Group No i No Prima 15 500 50 424 65 442 Inward 10 494 27 358 Outw d 5 512 23 501 Manuf 14 504 27 51 1 41 505 Inward 6 473 17 474 Outw d 8 526 10 573 Inward total 428 Outward total 522 C Key Findings 1 Signi cant positive relationship between outward orientation and growth 2 Manufacturing specialized countries tend to outperform primary specialized ones 3 Larger countries tend to outperform smaller countries gt Small countries are more specialized more subject to the commodity lottery VI STRUCTURALIST VS NEOCLASSICAL APPROACHES Neoclassical Assumes efficient allocation of resources gtReallocation of capital and labor takes place as economy expands gtAssumes equilibrium always holds Structuralist Assumes some resources not fully utilized gtMay be systematic differences in retums to speci c factors gtAssumes disequilibria occur gt Structural barriers to factor mobility Sources of disequilibrium in the structural approach 1 Dualism in labor market gt Elastic supply of labor especially concentrated in the agriculture and service sectors 2 Balance of payments deficits due to gt Excess import demand gt Distorted incentives to producers to enter new markets gt Import substitution policies WHEN EQUILIBRIUM IS NOT AXIOMATIC THEN THE QUESTION OF HOW MUCH REALLOCATION OF RESOURCES FROM ONE SECTOR TO ANOTHER OCCURS IS AN EMPIRICAL QUESTION Comparison Analysis of the Two Approaches Meier pp 9599 Chenery regressed X on 3 neoclassical and 4 structural variables Neoclassical Structural lY proxy for K Ag share shift from ag to ind N proxy for L Export Share Ed proxy for L quality Balance of Payments de cit Level of development Findings 1 Growth of capital important but less so when structural variables are included gt Capital growth captures the effects of other variables in part 2 Labor growth less signi cant not signi cant sometimes when structural variables included gt Consistent with labor dualism 3 Reallocation of labor from ag to other sectors accounts for 2000 of a 4 Export growth was an important contributor to 3 after 1964 HISTORY OF DEVELOPMENT ECONOMICS THOUGHT Genesis Modern interest began after WWII w concern for SE Europe and then newly independent former colonies Definition Key components of economic development are JH Economic growth increasing per capita income Evolution of the structure of the economy sectoral composition openness etc Factors contributing to the sustainability of economic growth human capital formation healthcare infrastructure income distribution Some Points to be made about Development Economics Can ti ore d namics in understandin dev gm Y g Can t ignore poverty and income distribution issues when studying the economics of underdeveloped countries Development economics is a diffuse field Specializations include gt Agricultural economics gt Trade gt Macroeconomics debt hyperin ation gt Environmental Economics esp sustainability gt Labor especially migration LowLevel Equilibrium Traps 0 Characterization of why some countries develop while others stagnate that centers on vicious circles 0 Led to many of the early analysesprescriptions for development The Big Push Balanced Growth Rosenstein Rodan Nurkse Unbalanced Growth Hirschmann 0 A quasistable equilibrium given a disturbance some variables return to the original level while others change In a low level equilibrium per capita income is one of the stable variables Exampk I Vicious wide of poverty Assume that in an economy with low per capita income a population grows when per capita income rises above the subsistence level and population shiinks when per capita income falls below the subsistence level gt a and imply that any shockdisturbance that moves the economy away from subsistence level per capita income is followed by a movement back toward subsistence gtResult hinges on the initial assumption oflow per capita income a doesn t hold at higher per capita incomes because mortality doesn t fall forever and preferences for family size change at higher income levels gt Carries with it the notion that some Big Push critical minimum effort can move the economy to a new higher level equilibrium Example 2 Supply Side Vicious Circle Capital Scarcity gt Low Income Low Income gt Limited Capacity To Save Invest Limited Saving Investment gt Capital Scarcity Example 3 Limited Markets Shoe Factory Example Individual producers face limited and inelastic demand gt not pro table to expand production even though total income would increase because there is not enough demand or price declines outweigh increased sales However if all producers expanded output simultaneously then there would be suf cient demand for product This is a story about limitations of the extent of the market which provided the analytical underpinnings of the Balanced Growth Doctrine which argues for spreading planned capital investment across all sectors in an economy 2 MODERNIZE ACROSS A BROAD FRONT All these examples hinge on the possibiligg of multiple eguilibria gt Third World development seen as the process of escaping the trap gt Xhirlpool effect of a low level equilibrium may explain why some economies remain underdeveloped for some persistent amount of time gt Multiple equilibria Cgt organizing principle for describingprescribing what it would take to move to a higher level equilibrium or steady state Definition Steamy State I a dynamic equilibrium in which growth rates of variables ofinterest eg income per capita remain constant In particular the last example the shoe factory example is a story about limitations of the extent of the market This kind of thinking is what underlay the Big Push doctrine and provided the analytical underpinnings of the Balanced Growth advocates Aside The shoe factory example is a story of increasing returns that highlights the critical minimum effort needed to achieve a new desired growth path for a developing country TWOSECTOR MODELS Popularized by WA Lewis seminal 1954 article entitled Economic Development with Unlimited Supplies of Labor Assumptions 1 One good g two goods but with fixed relative price 2 Two sectors modern and traditional Modern Sector s Features Usually thought of as industrial but could be mines plantations Reproducible capital Hired labor Wage premium over trad sector Sale of output for pro t Private or state owned enterprises Traditional Sector s Features Usually thought of as ag but be handicrafts informal sector Little or no capital No hired labor MPL low or zero Low subsistence wage APL MPL low or zero gt perfectly elastic supply oflabor to capitalists in the modern sector 3 Unlimitedness of labor from traditional sector attributed to 0 Natural increase population growth 0 Unde remployment 0 Increasing female labor force participation Note Underlying explanation story for unlimited supply is similar to the population subsistence income vicious circle story from last class H ANDOUT 1 The End of the Story 0 Traditional labor supply becomes limited gt MPL gt O 0 When traditional sector s MPL WMOD dual nature of the economy disappears The Schultz Natural Experiment In uenza in India 19181919 0 Rapid death rapid passing ofin uenza pandemic 9 short run negative population shock 0 Ho If surplus labor existed then area sown before and after the pandemic should be about the same A191617 z A191920 0 Findings a Rural population fell by 83 While area planted fell by 38 Provinces with highest death rate had largest declines in area planted o Inference No support for hypothesis that MPL I O 0 CAVEAT Flu hits kills households 9 all members die 9 Without land redistribution likely the case for the short time period covered you would expect Area to fall in the short run regardless of MPL INCONSISTENCIES IN THE LEWIS MODEL H Investment of modern sector profits shifts out labor demand If we allow for more than one good say food and shoes with exible prices then the optimizing condition becomes WMOD pXMPL not just MPL Relative price of food 1 p will rise as production declines as modern sector output rises relative to traditional ie with outrnigration from traditional sector gt Xhile investing pro ts will shift out MPL VMPL may move in the N other direction Capitalists invest all profits each and every period Given the above capitalists with any foresight may choose to consume some of their pro ts Herein lies the seeds of how Lewis like development might be aborted low level eguilibriumand Why urban unemployment might come to be This also highlightspointed up the importance of understanding What goes on in the traditional sector Implicaan of urban unemployment NEXT CLASS FALLOUT FROM TWOSECTOR MODELS A Encouraged Neglect of Agricultural Sector 0 Exacerbated by the stylized factempirical regularity that ag s share of GDP declines with development due to gt Engel s law 11 FOOD lt 13 naNDUSTRlAL GOODS gt 1 gt To the extent that labor productivity increased in ag sector more labor freed up for other sectors B Import Substitution Prebisch ECLA and Singer independently noted that the terms of trade favor manufactured industrial products over primary ag mine products gtDevelop policies to promote domestic industries typically via protection gt Generally led to distortions that arti cially pushed up urban industrial wages minimum wages and artificially depressed real interest rates subsidized credit in ation These in turn led to the unemployment financial crises of the 1980s C Linkages and Unbalanced Growth Hirschman argued that the best strategy is to favor Via policy those industries with the most linkages to other industries Backward linkages boost input demand Forward linkages boost output demand Attack on the Pro planning attitudes of the balanced growth school Hirscbman the superiority of manufacturing in creating stimulating linkages is crushing In contrast to Big Push Balanced Growth Hirs chman advocated unbalanced growth that concentrated policy stimulus on those industries with the biggest payoff Via linkages KRUGMAN S CRITIQUE OF HIGH DEVELOPMENT THEORY A What was right about it Despite not really being acknowledged the Two Sector models were really stories about strategic complementarity between industries sectors something currently of interest to macro trade guys External scale economies were viewed as driving the development process gtBoth are links to New Trade and New Growth Theories B What was wrong about it 0 Didn t have the tools necessary to model the processes being discussed The one approach that DID lend itself to the modeling technology available at the time Lewis relied on hopelessly unrealistic abstractions perfect competition and surplus labor dualism Likewise Hirschman s linkages notion caught on because of the apparent ease with which it could be translated into practical development policy making rather than the rigor of the ideas underlying it URBAN UNEMPLOYMENT Twosector models of the sort developed by Lewis maintain full employment in the modern sector But in reality 0 urban unemployment is widespread in LDC s 0 attempts to directly increase employment often give rise to higher unemployment Nairobi example TODARO MODEL SIMPLE FORM Todaro model is a shortrun model as opposed to Lewis which is long run in spirit Define 0 LU WU 2 modern sector urban employment wage 0 LR WK 2 traditional sector rural employment wage 0 L total labor in the economy Assume 1 WU WK LU and L are xed 2 WU gt WR and WU is downwardly rigid due to Labor tumover model Gob search costly for employers Political economy reasons need to keep urban labor happy Ef ciency wage model XM lt WSUBSISTENCE gt MPLM falls 3 Workers base their migration decision on expected income gt EYR 2 WR because there is certainty about nding rural job EY W gt U UL LR Solution Rural urban migration occurs as long as EYU gt EYR Equilibrium is reached when EYU EYR LU WU gt WU WRCgtLRL LU L LR WR 6LR WU 3 E Increasing urban employment by one worker reduces rural employment by more than one worker since WU gt WK The simple form of the model only allows LR to change The full model endogenizes LM and WR and looks like this TODARO MODEL GRAPH from Basu Ch 8 Shortcomings of the Todaro Model H N 9 P Simplistic lottery mechanism for probability of nding job ignores the link between job search and qualifications search time I fhuman capital Simplistic lottery mechanism for probability of nding job assumes everyone is fired and rehired each period overestimates prob nding a new job for newcomers Ignores urban informal sector even though that s a more common alternative to unemployment Ignores other important forces that determine whether or not a person migrates eg Family networks risk aversion portfolio motives basu belief that the complex issues behind the decision to migrate can be understood mfz re within the realm of economic analysis betrays either a naivete or a vacuously broad de nition of what constitutes economic analysis AGRICULTURE S CONTRIBUTION TO DEVELOPMENT Beginning in the 1960 s there was a counter rebellion by agricultural economists put off by the short shrift given to the ag sector s potential role in economic development not just a source of coolie labor I Johnston and Mellor 1961 Ag s Five Contributions Supplier of Food and raw materials Source of Foreign Exchange 1 2 3 Source of Labor Supply 4 Source of Investible Capital 5 Source of Final Demand for Industrial Products 1311117056 DEBUNK FALSE DICHOTOMY BETWEEN AG amp INDUSTRY 1 Food and raw materials Supply Let D 2 food demand Npopulation Pance Yincome o D NfPY 2 DN81377 gt N 15 3 per year gt n in developing countries gt n in developed countries maybe 5 6 vs 2 3 0 Demand for food has to be met somehow 0 There is the possibility of trade imports making up food shortfalls but this is often undesirable where foreign exchange constraints are binding industry and agriculture compete for scarce FX N S P Foreign Exchange eg Export crops like tea coffee sugar etc But remember the terms of trade argument of Prebisch amp Singer Labor Supply This is the Lewis story but remember the need to keep agriculture productive gt If too many people leave the ag sector prematurely then not enough food gt food prices high gt dVMPdLMOD lt O gt Technological change can nesse this situation Capital Formation Agricultural earnings as a source of investible funds domestic savings As the dominant industry in the economy agriculture is the most likely source of capital for non agricultural sectors especially early on in the development process A problem that arose from recognizing ag s potential in this regard was excessive taxation of agriculture that limits ag s ability to contribute both immediately and in the long run gt Example export taxes in Tanz Ghana explicit or via price policy gt Counter example Japanwhere taxing agriculture worked 5 Demand for Modern Sector industrial goods 0 Contrary to Lewis shortage of capital is only one constraint on industrialization Another is limited effective demand for industrial products gt This is akin to the big pushshoe store example Mobilizing Agriculture Question How to harness agriculture s potential Answer Make it more productive Initial Ag Development Efforts The Diffusion Model 0 Based on a dumb peasants assumption 0 American style extension effort 0 Attempted transfer of Western technology 0 Community Development Programs The Schultz Paradigm Diffusion model was basically unsuccessful because 0 Structural Institutional barriers in the form of land tenure arrangements and political powerasset ownership patterns 0 Growing evidence in the 1960s that farmers are in fact rational albeit poor Transforming Traditional Agriculture was a watershed 0 Peasants as rational actors measuring marginal costs and benefits of alternative techniques technologies gt Efficient allocation of factors of production subject to existing technology and institutions gtXhat poor farmers needed was new appropriate technologies and the skills needed to exploit them De nition Appropriate 2 scale neutral divisible able to be incorporated into existing farming systems C Green Revolution 0 Contemporaneous with the growing awareness of rationality of peasants was development of seed fertilizer technologies that greatly expanded crop yields 0 The new technologies appeared to directly resolve or address most of the contributions identi ed by Mellor andJohnston Expanded food supply Reduced import demand for food gt saved Foreign Exchange P Increased rural profits gt increased rural investment but in What Source of Final Demand for Industnal Products Freed up labor although some evidence that technologies were labor intensive 0 Serious questions about the distributional implications of technological change arose early in the Green Revolution these debates continue to this day gt Effects on smallholders and landless vs large landowners gt Geographic variation in the distribution of benefits and costs gt Impacts of mechanization esp wrt labor displacement gt Food price effects BROADENING OF DEVELOPMENT GOALS I Equity Concerns 0 Beginning around the early 1970s there was a shift away from a narrow conceptualization of economic development as equivalent to economic growth in large part to accommodate equity issues Three reasons 1 Criticism by radical and non radical liberal observers who took a more political economy View that weighted welfare changes of poorest populations more heavily than richer populations N Related to 1 observation of some countries in which rapid economic growth was accompanied by extreme social upheaval andor authontanan regimes 9 Trickle down was often a slow process gt widening income gaps All this leads to Meier s broader de nition of economic development Economic Development 2 Growth in income per capita Falling poverty Non worsening income distribution Tangible Effects on Research Agenda and Debates 1 Question of the Impact of Economic Growth on Income Distribution gt Size distribution vanance across entire population gt Functional distribution Laborers women farmers landowners 2 For agnculture resolving these issues required a much deeper understanding of how rural households behaved and responded to external factors eg policy Tangible results gt Ag Household Models gt Big micro data sets gt Labor market migration studies Employment Generation Potential of Alternative Policies Relative employment effects of promoting industry vs agriculture Relative employment effects of small farm friendly laborintensive technologies vs more capital intensive technologies II Output Employment Debate By the end of the 1960s it had become apparent that rapid aggregate growth had in many instances been accompanied by high unemployment Reasons included J p Distortions in factor prices eg import substitution policies that artificially cheapen capital relative to labor Remedy Increase PK 2 r Lack of labor intensive technologies Remedy Develop appropriate technologies Demographics Rural urban migration effectively shifts rural underemployment to urban areas gt parallel informal economy Remedy population control reduction in rural urban earnings gap Education Surplus of educated workers Remedy focus on primary education The Structural Adjustment Era of the 19805 0 Brought on by big debt problems largely among large oil importing LDCs 0 Import substitution Chickens came home to roost 0 SHORTTERM CORRECTION TO IMBALANCES IN BOP TOOK PRECEDENCE OVER LONGRUN DEVELOPMENT STRATEGIES BUT IGNORED POLITICAL RAMIFICATIONS OF SHORTTERM PAIN BROUGHT ON BY LONGTERM MEDICINE AGRICULTURAL HOUSEHOLD MODELS 1 MODEL BASICS 0 Ag HH s in LDC s make joint decisions over gt Consumption gt Production gt Work labor allocation ltgt leisure AG HH MODELS PROVIDE A FRAMEWORK FOR ANALYZING HH BEHAVIOR THAT INTEGRATES THESE THREE DECISIONS Key distinctions points addressed by Ag HH models gt Net selling vs net buying households for labor production gt Complete vs incomplete markets gt Backward bending supply curves Key Assumptions 1 Stylized Facts 1 Leisure is better termed home time It includes gt Family maintenance cooking cleaning gt Reproduction kid tending gt Social obligations religious cultural stuff gt Sleep gt Leisure 2 Unified decisionmaking unanimity consensus or dictatorship 3 HH generally includes only those living in one abode II LEISUREINCOME TRADEOFF Lei ure Income Y1 Y2 0 An increase in retums to a unit oflabor implicit OR explicit wage causes the income constraint AB to swivel out to AC 0 The optimum point moves from 1 yl to 2 yz 0 As drawn 2 gt11 gt income effect of increased wages outweighs the substitution effect change in the opportunity cost of leisure 2 BACKWARD BENDING LABOR SUPPLY III CHAYANOV MODEL A Features 0 Utility maximization 0 Product market but no labor market 2 Implicit wage marg rate of subst between Y and leisure 0 Household trades off consumption against the disutility of labor Ellis drudgery averse peasant 0 Demographic factors dominate outcome B The Model Max UYZ subject to YPfL TLZ YZYMN LsLMAX aUal Solution W PfL lt2 sublectrve equilibrium In ome 1 12 TVP Y2 Y1 L1 L2 Labor 11 gt 12 follows from increase in HH size wo an increase in the of workers per That is Ycap 3MUYTZgt subj wagexL Need to feed more HH membersgt HH more willing trade off more for an extra unit on 11 gt 12 CHAYANOV MODEL WITH LABOR MKT NET BUYER OF LABOR Output 10 W TVP B A W7 i Own Labor Hir d Labor LS L0 Labor gt lt Leisure Wage line ww opportunity cost of family labor gt The steeper the slope ofww the higher the wage rate gt Here wages are relatively low at slope Production occurs at point A where MPL WP but the household works only at LS and consumes leisure at point B where MRS WP gt L LS 2 amount of hired labor gt T LS leisure There is an unambiguous improvement in welfare compared to the old situation of no labor market gt No labor mkt gt LS 2 L0 and welfare is given by IO lt 11 CHAYANOV MODEL WITH LABOR MKT NET SELLER OF LABOR Output Leisure 1 Labor gt lt Leisure 0 Here ww is relatively steep gt high wage 0 Farm production occurs at L all HH labor 0 Off farm labor 2 LS L 0 Leisure is less than previous situation because the wage is high gt High Opportunity Cost of not working BOTTOM LINE Introducing a labor market renders consumption of leisure independent of production decision THE SEPARABLE AG HOUSEHOLD MODEL COMPLETE MARKETS NOTATION CF 2 Food consumption CNF Non food consumption Z 2 Leisure QF 2 Output L 2 Labor used in production both household labor and hired labor X Other input used Tquot Total time available to the household W Wage rate H 2 Household labor P1 Price of commodity i i F NFgt X H The Constrained Utiligg Maximization Problem Max UCF CNF Z subject to three constraints 1 Production Q fLgt X 2 Time Tquot H Z 3 Full Income PFQF CF WH L PXXPNFCNF f 1 mkt d surplus mkt d labor if net seller if net seller if net buyer if net buyer These three constraints can be combined into one full income constraint PFfL X PXX WL WXT 75 wa 1chF PNFCNF W H Farm profit 1t Full value of time II First Order Conditions 3U Z 1 aCF PF 0 2 APNF 0 Marg rate of subst 2 price ratio for any 3U 3 1W 0 a 1 two goods 6 4 1PF W 0 2 Value marginal product of labor wage aQF 5 PF PX 0 2 Value marginal product of input X PX 6 75 XTquot 2 PF CF PNF CNF W 2 Full income constraint Key Points 1 Production decisions over X and L affect consumption decisions Via farm pro ts 75 in the full income constraint N Consumption decisions do not affect production decisions In other words production is independent of separable from household preferences and income 9 In the Chayanov model effect ofincome on production was ambiguous HH might choose more leisureless output when returns T The key difference here is that the existence of a labor market means the household can now maximize profit using hired labor while still taking increased leisure III Comparative Statics A Food Demand At the optimum CF I CFPF PNF W PX Yquot Where Yquot PFQ PXX WL WW DEMAND DEPENDS ON PRICES AND INCOME AS USUAL BUT PRICES NOW HAVE AN ADDED EFFECT ON INCOME VIA PROFITS To see this totally differentiate CF Wrt PF aCF aY aPF 3P1 7rconstant 3Y 3P1 MM Standard Pro t Effect Slutsky Equation 2 QF CF aCF aPF U constant aY l M W HF lt 0 Ms or 7 gt0 Elasticity form 8P 2 SHICKS 131QF CFYnF Points 1 If HH is net buyer of food then dCdP is always negative 2 Profit effect at least reduces the usual negative relationship mar CtC SU 11S 1S at C CHOU Cl l 1 1 121 CtU turn 3 If k d rpl 39 1 g gh th 2 y ally F positive especially if income elasticity is large B Leisure Demand At the optimum l 1PF PNF W PX W Totally differentiating CF Wrt PF 5 5 3W 3W A quot 0 J Standard Slutsky Equation 1 6W AU0 a 6W AU0 lt0 Points al N aI aw 1 6Y 6W 3W An0 39TL J Pro t Effect al aw al aw TL HL NoteTHlgtT ZH 6Y F r J lvJ rnkfd gt0 surplus or 7 l H L lt O gt Net purchaser oflabor 3 gt 1s unambi ousl ne anve 6W gu Y g 2 However ifH L gt O gt Net seller oflabor eg landless gt a 39 may be positive depends on 3W the size of income elast ms C Marketed Surplus Start with the basic identity M QF CF Totally differentiating M Q dPF dPF dPF Q QFCF aCF dPF 5PF AU0 6Y F RH gt O or gt0 0 If M 2 QF CF is large enough then the household s consumption response may outweigh its output response 2 marketed surplus may actually m when price increases IV Advantages of Ag Household Models 1 Key empirical distinction of agricultural household models is that they account for the profit effect 0 Affects demands for all sorts of commodities including non agricultural ones and labor supply via cross price effects Potentially important for policy design and assessing the impact ofpolicies eg price policies 0 Where profit effects are greatest gt When pro ts are a large share of total income gt For commodities having relatively large income elasticities N Explicit linkage of production and consumption points out relationships ignored in standard models Ag household model gt W price of inputs should be in the demand functions 03 Ag household models are best used when Pro t effects expected to be large Pro ts are large share of income Income elasticities are relatively high No market failures or limited ones 39 0 Extensions Multiple crops Accommodates policy questions regarding export vs food crop interventions eg taxes price policies Accommodates differences in input usage across crops eg fertilizer Note that price policies for one crop will affect production of other crops Nutrition Modify model by adding set of relationships between consumption goods foods and nutrients or calories 2 Response of nutrients or calorie intake to price changes Health Related to nutrition Health production function H HCF CNF Z other stuff May affect production function eg efficiency wages D Intertemporal models Storage eg my stuff Saha s extension Bo rrowin g EMPIRICAL RESULTS OF INTEREST TO POLICY MAKERS 1 Lower market supply response when pro t effects are considered 2 Price policy or technological change boosts Labor demand AND tends to lessen labor supply Singh Squire and Strauss Table 15 which is good for landless and smallholders since it puts upward pressure on wages 3 Demand for non agricultural goods more strongly affected by an increase in the place of food because the income elasticity of nonfood is usually greater than that of food THE NONSEPARABLE AG HOUSEHOLD MODEL MISSING MARKETS I NONSEPARABLE MODELS When one or more market is incomplete then recursiveness breaks down 3 consumption variables determine production Sources of nonseparabiligg o Transactions costs gt Distance to market gt High transport costs gt Excessive mkting margins eg traders W monopoly power 0 Thin markets gt Covariate production gt Isolated or remote markets gt Not alot of buyers and sellers 0 Risk amp risk aversion Market Failure delanvgz Fafchamps amp Sadoulet De nition A market fails when the cost of a trans action through market exchange creates disutility greater than the utility gain that it produces such that no market trans action occurs 0 Non existence ofa market is an extreme case of mkt failure 0 More commonly a market eXists but some households won t participate because gains lt cost 0 Market failure is household specific not commodity speci c The Price Band Picture PBUYP t PSELL P T Price MC net purchaser MC no mkt exchange P Market purchase MC net seller Market sales X HH demand Quantity PBUY and PSELL are the boundaries of the household s price band depicted by the red lines If the households marginal cost supply curve crosses its demand curve Within the price band then the household does not participate in the market If the households marginal cost supply curve crosses its demand curve above the price band then the household is a net purchaser If the households marginal cost supply curve crosses its demand curve above the price band then the household is a net purchaser Price Bands Width depends on 1 Transport costs 2 Markups by merchants 3 Opp costs of time involved in transactions eg search 4 Risks associated with uncertain pricesavailability of goods ie certainty equivalent prices less than mkt price 2 Price band Widens with 1 Poorer infrastructure 2 Less competitive marketing system 3 Poorerinformation ow 4 Greater price risk For a given Width price band 0 Net Buyer Household is more likely to stay above the price band as supply uctuates the more elastic its demand 0 Net Seller Household is more likely to stay below the price band as demand uctuates the more elastic its supply In remote markets with covariate production risk price bands move W supply shift such that HHs tend to stay selfsufficient 0 Positive supply shift gt band moves down gt HH doesn t become net seller 0 Negative supply shift gt band moves up gt HH doesn t become net seller THE WORLD ACCORDING TO OMAMO Maximization problem Max UCF CNF Z st PF i TMF WH L PNF i ICNF PXX Solution for 1161 seller UF IPF r gt if 1T then UFi gt CFT a a PF 239 6Q w gt 1fthhen 6Q T gt QFi Solution for 1161 buyer UF lPFz39 gt ifrT then UFT gt CFi PFT6QF w gt if IT then aQF i gt QFT 3L 3L BOTTOM LINES 1 In both instances increased trans actions costs drive household toward autarky 2 Given no changes in production technology or land available increasing food production means deemphasizing cash crop production DEJANVRY FAFCHAMPS AND SADOULET MISSING MARKETS AND PEASANT BEHAVIOR SOME PARADOXES EXPLAINED I MOTIVATION Peasa tgnpc Scarcities of either household labor and food are the norm Labor is short when weather is good Food is scarce when weather is bad Gov tgnpe Peasants are unresponsive to price incentives and to technological opportunities in cash crop production Nora This issue is framed so that it is more relevant to Africa than Asia EXPLANATION MARKET FAILURE O Simulation Results assumes 2 goods food and other Change in the price of cash crops Small increase in cash crop output if no markets for food because household has to maintain its own food supply Evidence low cash crop supply elasticities in Africa Increases in spending on manufactured goods and fertilizer in the no markets case because there s nothing else to spend money on shadow prices of food and labor increase alot without markets because farmers perceive more serious labor amp food scarcities than external eg government viewers Increase in the price of manufactured good With market failure there s less incentive to generate cash grow more food less cash crop Devalorises cash income Monetary head tax Much more severe negative impact on monetized mkt goods consumption Production of cash crop increases when no food or labor markets exist D Productivigg gains in food crops ie technical change 1 No market failure Substitute from cash crop to food crop production MPL T more labor used Y T 9 more leisure more hiring in oflabor more consumption 2 Market failure Less resources esp labor needed to produce food for the family This frees up resources for cash crop production Em 0 Opening markets for food will lead to more emphasis on food crop production Interplay between market access technology adoption and cash crop production DISTRIBUTIONAL EFECTS OF TECHNICAL CHANGE I STYLIZED FACTS ABOUT THE GREEN REVOLUTION AGAIN A Increased labor demand and real wages in affected areas gt Mainly in harvesting threshing gt Also due to cropping intensity increases B Initial gains captured by large farmers early adopters with subsequent catching up by small farmers C More widespread adoption of improved technologies in favored production environments II SPECULATIONS ABOUT THE GREEN REVOLUTION A Lowered of food prices or dampened food price increases B Widened wage and income differentials between favored and marginal production environments III POTENTIAL IMPACTS OF SEEDFERTILIZER TECHNOLOGIES A Direct production Effects Increased yields Stabler yields Reduced production costs Shorter growing seasons Dd Indirect market Effects Producer and consumer prices Wage s Land rents and land prices IV KEY ISSUES IN EVALUATING TECHNOLOGICAL CHANGE A Impacts on production B Imp acts on farm profits C Impacts on farmers incomes D Impacts on wages and laborers incomes E Impacts on food prices and consumers incomes F Impacts on government finance V KEY DETERMINANTS OF THE INCOME EFFECTS OF REGIONALLY DIFFERENTIATED TECHNICAL CHANGE A Open vs closed economy B Net producers vs net consumers C Adopters vs nonadopters D Mobility of laborers E Government intervention into commodity and factor markets HANDOUT 12 PARTIAL EQUILIBRIUM ANALYSIS ASSUMING 0 Zero adoption in marginal production environments 0 Complete adoption in favored production environments 0 Marginal prod environment is net importer of food 0 Favored prod environment is net exporter excess supply A OPEN ECONOMY CASE Dd No price change Favored region producers big Winners National reduce import demand or increase exports CLOSED ECONOMY CASE National Price drops due to aggregate supply shift Consumers gain unambiguously due to price drop gtMarginal urban areas gain as they are net consuming regions Results are ambiguous for producers in adopting favored region gt price falls but output increases SEMISUBSISTENCE HOUSEHOLDS CLOSED ECONOMY Very similar to previous but substitute net consumer for net importer and net producer for net exporter National Price drops due to aggregate supply shift Net Consumers gain unambiguously due to P l Nonadopting net producers lose unambiguously due to P l Results are ambiguous for adopting net producers P l QT D LABOR MARKET IMPACTS o Favored LD T gt WF T gt WF gt WM gt Migration 0 New equilibrium Wages equalize at higher level Greater LF smaller LM VI CONCLUSIONS FROM PARTIAL EQUILIBRIUM ANALYSIS Open economies 0 Adopters are big winners 0 Direct productivity effects outweigh indirect wage effects 0 Zero output price effects Closed economies 0 Price drops gt Net consumers are big winners 0 Ambiguous welfare effects for adopting net producers 0 Adopting net consurners fare better than adopting net producers THE OPEN ECONOMY CASE IS PROBABLY MORE REALISTIC SYNTHESIS OF PARTIAL EQUILIBRIUM RESULTS Open Economy Closed Economy N az z39oml E em Consumers O T Food Price Foreign Exchange T O Adopzi gArm Net Producers T P Net Consumers Agricultural wages Nonadopting arm Net Producers Net Consumers Agricultural wages 2 due to wage effects II A H N EMPIRICAL EVIDENCE Product Markets Alot of empirical work in the 1970s and 1980s using the partial equilibrium framework for the output market eg Scobie amp Posada Hayarni amp Herdt This work essentially played around with demand and supply elasticities and different levels of supply curve shift K to assess impact of HYV s on welfare of different groups All assumed that markets were Closed Is this reasonable for widely traded tradable commodities like rice wheat and maize Labor markets Lots of farm management data supports shifting out of LD in favored adopting areas Little empirical evidence supporting wage increases Mainly stagnant or at best slightly increasing where rapid adoption occurred Pakistan Wages up by 8 between 1964 and 1969 but not in real terms Possible explanations for small wage increases consistent with the hypothesis that workers better off after adoption gt High initial unemployment or underemployment gt High rates of population growth gt Heavy in migration gt Changes in rural urban migration patterns see below 3 Migration 0 Signi cant in India Bihar Rajasthan gt Punjab with reduction in wage differentials 0 Otsuka and David work claims migration occurred in SE Asia but their methodology has the following problem gt They assume away the importance of rural urban migration gt This may dominate any rural rural migration effect both in terms of wage equalization and population growth rates man land ratios 0 Pakistan Lots of rural rural migration but mostly close to home data is limited by seems to indicate weak support for migration as having limited wage growth C Caveats about labor markets Transactions costs of moving 0 Migration will occur gradually over time not instantaneously 0 Labor more likely immobile in short run mobile in long run RuralUrban Migration 0 More important than rural rural migration quantitatively 0 If adoption narrows the gap between agricultural wages in adopting region and urban wages then adoption gt less rural urban migration gt dampened agricultural wage increases H MULTIMARKET MODELS PARTIAL VS GENERAL EQUILIBRIUM APPROACHES Partial equilibrium good for understanding impulses emanating from different markets General equilibrium need to sort out the multiple effects of a speci c technology or other shock This is particularly important in the context of LDC households because of their semisubsistence nature multiple hats BENEFITS OF GENERAL EQUILIBRIUM ANALYSIS Allow analyst to add up the indirect effects operating through different markets Synthesizing multiple markets in the analysis is superior to partial equilibrium analysis GE models need not be ternbly complex eg multimarket models strike balance between completeness and tractability Once operational they allow simulation of the impacts of various policies and exogenous events eg technology shocks govt policies III MULTIMARKET MODEL BASICS 1 Choose the key mkts classes of economic agents of interest Pak Example Focus on impact of technical A across region HH type 0 3 regions Favored Marginal Urban 0 2 commodities produced Wheat and other 0 2 inputs Labor and fertilizer 0 2 commodities consumed Wheat and other 0 3 rural HH types landless small landowner large landowner 0 2 urban HH types rich and poor N Write down set of behavioral equations describing HH economic activity Pak Example Production Q3 PNW W 1313 Z PNW W PF T Z PW PNW W PF T Z Pw PNW W PF T LdI Ld1PW PW W PF 1 etc W F11 PW PW W PF 1 etc Labor supply L5 NiI liSIOXO i 2 LL Sm Lg etc Consump tion NiOCiPW PO Yi i 2 LL Srn Lg sarne for RF Income Yi XLsiI iIR XER iLL srn lg sarne for RF Group speci c Price Index changes 13 Z 2i Hip Closure 1 ZLliD either nationally or regionally 2 G 2Q 2 2C nationally G net imports 3 Do proportional change algebra to each general equation to express everything in rateofchange form Example 1 QiW I QiWPw PNW W PF T becomes Qi 8W 13W SNWISNW 8L6V 811131 a Q39 ar W at at or A A QixZSW 15W SNWlstl39 SLW SFlSF E Example 2 Yi XLsiI HER XiIR becomes Ti HLi7Aflsi Hmfr HX139X 1 POINTS 1 These kinds of models compare snapshots taken at two different points in time Q They are also equilibrium models in that they assume market clearing in all markets 3 They can and should therefore be interpreted as comparing pre and postshock equilibria 4 They ignore possible disequilibria in initial shapshotll IV EMPIRICAL IMPLEMENTATION Two traditions H O N Binswanger and Quizon Estimate all producer consumer and factor market relationships to get elasticities More rigorous more data intensive Braverman and Hammer Pick plausible estimates from other studies Quicker dirtier more pragmatic Resolution Sensitivity analysis systematically A exog parameters EXAMPLES OF MULTIMARKET MODELS S amp DI O O O P o o o to Effect of public investment in India Quizon amp Binswanger Technological change Fertilizer subsidies Investment in irrigation infrastructure Tax and subsidy schemes Price Policies in Senegal Braverman and Hammer Producer subsidies Consumer subsidies Fertilizer subsidies Devaluation


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