Chapter 18
Development
Economics
Economics, 7th Edition
Boyes/Melvin
Big Discrepancies
• The average life expectancy in Botswana is 39
years.
• 70 percent of the population in Cambodia has no
access to safe water.
• 45 percent of the population in Ghana exists on
less than $1 per day.
• Students in Chad average only 4 years of formal
education.
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Developing and
Developed Economies
• About ¾ of the world’s people live in less-developed
countries (LDCs) or Third World countries
characterized by low per capita GDP.
• “First World countries” are the highly industrialized
nations of western Europe and North America.
• “Second World countries” are eastern European
countries and the countries of the former Soviet Union.
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The World by
Stage of Development
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Poverty
• Considered in the absolute sense:
– In the U.S., the poverty level for a family of four in 2006 was an
annual income of $20,000 or less.
– The World Bank uses per capita GNP of $766 or less as its
criterion for a low-income country.
• Poverty is also a relative concept, making it difficult to
compare across countries.
– The income of many households in the U.S. who are considered
poor is substantially higher than the incomes of poor families in
other countries.
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Other measures
• Although economists disagree on a definition of basic
human needs, the general idea is to set minimal levels
of:
–
–
–
–
Caloric intake
Health care
Clothing
Shelter
• Physical quality-of-life index uses life expectancy,
infant mortality, and literacy standards but does not
account for justice, personal freedom, environmental
quality, or employment
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Political Obstacles to Growth
• Lack of Administrative Skills
• Political Instability and Risk: a country must be
able to guarantee private property rights with no threat
of expropriation to encourage private investment.
• Corruption: reduces growth most directly through
government investment in projects with low productivity.
• Good Economics as Bad Politics
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Corruption Perception Index
• Transparency International, a global coalition against
corruption, produces an annual Corruption Perception
Index report.
• A country’s CPI Score relates to perceptions of the
degree of corruption as seen by business people and
country analysts and ranges between 10 (highly clean)
and 0 (highly corrupt).
• In 2005, Iceland ranked as least corrupt while Chad
ranked as most corrupt.
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Social Obstacles to Growth
Lack of Entrepreneurs
– In developing countries, entrepreneurs tend to be
immigrants who have skills and experience that do
not exist in poor countries.
– In some societies, traditional values that do not
encourage high achievement may be an obstacle to
development.
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Social Obstacles to Growth (2)
Rapid Population Growth
– Capital shallowing occurs when growth reduces the
amount of capital per worker, lowering the productivity
of labor.
– Age dependency occurs when growth produces a
large number of dependent children, whose
consumption requirements lower the ability of the
economy to save.
– Investment diversion occurs when growth shifts
government expenditures from the country’s
infrastructure (roads, communication systems) to
education and health care.
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Population Growth in Less
Developed Countries
• World population is expected to rise 2.6
billion in the next 45 years.
• Nearly all of the growth will take place in
the less developed countries.
• Sub-Saharan Africa, the world’s poorest
region, is the fastest growing.
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Inward-Oriented
Strategies for Development
• Developing countries have a tendency to drift
toward exports of primary products (natural
resources, raw materials, or first-stage products)
to sell in in foreign markets.
• Inward-oriented strategies focus on
developing products that can be sold in
domestic markets, avoiding the need to import
manufactured goods. This is called import
substitution.
• Import-substitution policies are enacted by
countries seeking industrialization.
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Outward-Oriented
Strategies for Development
Export substitution is the use of resources to
produce manufactured products for export rather
than for the domestic market .
– Used in countries with abundant, high-quality
labor to produce labor-intensive goods.
– Efficient, low-cost production competes
effectively against producers in other nations.
– Tax breaks and loans are offered for
exporters, gov’t assistance in int’l marketing.
– Gov’t discourages domestic sales of
resources.
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Comparing Strategies
• In the 1950s and 1960s, many economists
argued that exports of primary products results
in deteriorating terms-of-trade: Over time,
exports would buy less and less imports.
• Countries moved toward inward-oriented
strategies in response to this argument.
• Critics argue that resources should be free to
move to their highest-valued use and that
market-driven resource allocation is unlikely to
occur in an inward-oriented economy.
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Comparing Strategies
• Some economists believe that developing
countries require active government intervention
and regulation of economic activity. They believe
that resources in these countries are unlikely to
move freely to their highest-valued use if free
markets are allowed.
• They focus on the structure of developing
countries in terms of uneven industrial
development. A single economy with industries
at very different levels of development is called a
dual economy.
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Foreign Savings Flow
Foreign Direct Investment (FDI): The purchase
of a physical operating unit that gives the
domestic firm more than a 10% control of the
foreign firm.
Portfolio investment: The purchase of
securities.
Commercial bank loan: A bank loan at market
rates of interest, often involving a bank
syndicate.
Trade credit: The extension of a period of time
before an importer must pay for goods or
services purchased.
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Benefits of FDI
• Jobs
– Often FDI is encouraged in industries in which
the country has inadequate capital or
technology.
• Technology
– Investment by firms from HDCs brings the
results of R&D in the form of advanced
technologies.
• Foreign Exchange Benefits
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Outsourcing creates Jobs for
Developing Countries
• The German firm Siemens recently moved
15,000 software programming jobs from the
United States and Western Europe to India,
China and Eastern Europe.
• Many Western countries farm out software
development and back-office work to India and
other countries, where wages are significantly
lower.
• India earns over $13 billion annually from the
outsourcing of such services.
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Foreign Aid
• These are gifts or low-cost loans made to
developing countries by another country.
• Bilateral Aid: one country gives aid to another
• Multilateral Aid: aid provided by international
organizations drawing on resources from many
nations (World Bank, etc.)
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Transition from Socialism
• Privatization
– converting state-owned enterprises (SOEs) to private
ownership
• Price Reform
– A market system requires that prices be free to
fluctuate to reflect supply and demand changes.
• Social Safety Net
– What about health care, unemployment, crime,
political unrest, etc.?
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Transition from Socialism (2)
•
•
•
•
Macroeconomic Issues:
Monetary Overhang (Forced Saving): money
accumulated by households because there was
nothing to buy
Currency convertibility: The ease with which the
domestic currency could be converted into foreign
currency at equilibrium rates of exchange
Money and Credit
Fiscal Policy: removing subsidies, fighting deficits,
allowing inefficient firms to die, establishing taxes on
an appropriate tax base.
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