Diversity, efficiency and Economic
Development
Pier Paolo Saviotti, UMR GAEL, Grenoble,
and CNRS GREDEG I2C, Sophia Antipolis,
France.
Acknowledgments



Andreas Pyka
Koen Frenken
Jackie Krafft
Econ Dev, Stylised facts

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
STF1) Economic development is
characterised by qualitative change.
STF2) The efficiency of existing
processes increases in the course of
economic development.
STF3) The diversity/variety of the
economic system rises during the
process of economic development.
Efficiency vs diversity


Efficiency grows when the same type of
output is produced with (a) decreasing
quantities of all inputs or (b) decreasing
costs of all inputs
What happens if the nature of the output
changes? Is a pair of shoes costing 100 €
produced five times less efficiently than a
pair of shoes costing 20 €?
Efficiency vs diversity



In a strict sense comparisons of
efficiency are only possible at constant
output
The 100€ pair of shoes has higher
quality
Efficiency at constant quality
Qualitative and Structural
Change



Qualitative change: emergence of new
entities, qualitatively different
(distinguishable) from the pre-existing ones.
Structural change: change in the structure of
the economic system (components +
linkages/interactions). Defined at the level
of aggregation of industrial sectors. But:
Structural change can occur at lower levels
of aggregation.
Qualitative and Structural
Change (2)



Structural change can occur for
activities and actors as well as for
outputs.
Thus also for knowledge, and
institutions.
Qualitative change broader than
structural change.
Importance of
qualitative/structural change.


They affect the composition of the
economic system. They are
determinants of system performance.
Economic development is a process of
transformation, involving both
quantitative/efficiency change at
constant composition and qualitative
change.
Variety


Definition: number of actors, activities
and objects required to describe the
economic system at a given time
Variable to represent analytically
changes in composition.
Diversity Stirling




Diversity overarching phenomenon with
three components:
Variety: number of distinguishable entities
in a system
Balance: distribution of distinguishable
entities in a system
Disparity: extent of difference between any
two distinguishable entities
Diversity



All else being equal, the greater the
variety the greater the diversity
All else being equal, the more even is
the balance the greater the diversity
All else being equal, the more
disparate are the represented
elements the greater the diversity
Modern phenomena



Most people could only purchase the
bare essentials to survive until the end
of the XIXth century, and many people
still do today
Diversity existed only for the rich
But in the XXth century change
Efficiency and Diversity
Two complementary forces/trajectories :



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
growing efficiency
growing diversity
Hypothesis 1: The growth in diversity is a
necessary requirement for long-term
economic development.
Hypothesis 2: Diversity growth, leading to
new sectors, and productivity growth in
pre-existing sectors, are complementary
and not independent aspects of economic
development.
Compensation


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At constant output  growing efficiency +
saturating demand  possibility to produce
all demanded output with declining fraction
of resources (labour force)  Marxian trap
Emergence of new sectors compensates for
the falling capacity of existing sectors to
create employment
Growing diversity avoids Marxian trap.
Economic development by the
creation of new sectors


A model in which the number of new
sectors varies endogenously during
economic development
Sector created by an important
innovation establishing an adjustment
gap (size of the potential market)
Model


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First entrepreneur enters the market (expectation of
a temporary monopoly) imitators enter  rising
intensity of competition  inducement for further
entry falls until exit starts dominating entry.
Innovation has become part of the ‘circular flow’
(Schumpeter, 1912-1934)
Sector  oligopoly or monopoly
Adjustment gap gradually closed (saturated market)
Industry life cycle
Decline of mature sectors induces entrepreneurs to
look for new opportunities of temporary monopoly, to
be found by exploiting new important innovations
leading to new niches and sectors.
Competition



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Both intra- and inter-sector:
Intra- sector:  density of product/output
population.
Inter- sector: different sectors can provide
comparable services.
Entrepreneur induced by expectation of
temporary monopoly to enter. If innovation
successful  imitation  increasing intensity of
competition  decreasing inducement to enter
 exit
Model equation
dNi
 k1 * FAi * AGi  ICi  MAi (3)
dt
Search activities


t
t

1
SE  1  k 1  exp(k D
)
i
4
5 acc, i 
Mergers and acquisitions
N  MC
MA  k
AG
t 1
t
i
i
9
t
i
t 1
i
Demand function
Yi * Yi
Di 
pi
Demand (2)
Yi 
1
1  exp( k14  k15 SEi )
Yi 
1
1  exp( k16  k17 SEi )
pi  1  exp( k18  k19 SEi )
Number of firms (2)
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

Life cycle: in each sector Ni first increases
rapidly, reaches a maximum, and then falls
(oligopoly, monopoly)
But, life cycle driven purely by dynamics of
competition and demand (See ILC models).
Shape of life cycle affected by several
variables (AGi, Di etc).
number of firms
50
45
40
35
30
25
20
15
10
5
1
101
201
301
401
Adjustment gap
Adjustment Gaps
1.8
1.6
1.4
1.2
1.0
0.8
0.6
0.4
0.2
1
101
201
301
401
t
Intensity of competition
Intensity of Competition
6
5
4
3
2
1
1
101
201
301
401
t
Employment
 li
= ki/Qia = ki/Qi/Ni = (ki*Ni)/Qi
 li
= Li/Qi
Aggregate employment
Aggregate Employment
100
90
80
70
60
50
40
30
20
10
1
101
201
301
401
t
Aggregate employment
100
75
50
25
0
1
251
501
751
Employment trend vs rate of
growth of services
Employment trend for variations of k 015
100
75
0.1
0.125
0.25
50
0.375
0.5
25
1
101
201
301
401
Demand experiments (2)

Increasing the rate of growth of Yi (level of
services supplied)
Speeds up development
 raises demand,
 increases AGi,
 Changes the shape of the ILC
 and leads to a more positive employment
growth path.

Compensation


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The emergence of new sectors
(growing variety) can compensate for
the falling ability of mature sectors to
create employment (Hypothesis 1)
Economic development can be
sustainable in the long run.
The internal dynamics of each sector
counts as well
Creative destruction

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Process of industrial mutation that-if I may
use that biological term- incessantly
revolutionizes the economic structure from
within, incessantly destroying the old one,
incessantly creating a new one ….
….essential fact about capitalism….(p.83)
….perennial gale of creative
destruction…(p. 84) (Capitalism, Socialism
and Democracy)
Interpretations
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Possible interpretations of creative
destruction
For every new innovation created a
previous one disappears (Aghion and
Howitt), considered by AH the true
Schumpeterian character of their model.
This implies: (i) Complete substitution of
old by new, (ii) constant output diversity
Diversity and creative
destruction
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They are not incompatible, but, if variety
grows there must be more creation than
destruction.
However, even old sectors which survive
are not unaffected by the creation of the
new. Old sectors/activities are transformed
by new ones.
Influence of competition on
system performance


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Two (ideal) (opposite) types of
competition (extremes of a range):
Schumpeterian: do what no one else
can do (radical innovation) 
temporary monopoly
Classical: do the same thing as other
competitors but better (i), (ii)


(i) more efficient  cheaper output
(ii) better quality
Intensity of competition
N i * N tot
ICi 
k 6 N i  k 7 N tot
ICi  k IC
N i * N tot
N i  RII N tot
Overall IC vs IC + Inter-intra
balance
intensity of competition
1
kIC
0.9
5
6
7
0.8
8
9
0.7
0.6
0
0.005
0.01
0.015
0.02
0.025
0.03
0.035
0.04
0.045
0.05
Rii
Rate of employment growth vs
balance inter-intra-sector
competition (Rii) for  values of kIC.
trend of employment
0,025
kIC
0,02
2
3
4
0,015
5
6
0,01
7
8
0,005
9
10
0
0
-0,005
0,02
0,04
0,06
0,08
0,1
Rii
Trade-offs
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Inter-intra: predominance of intra-sector
competition  higher probability of
temporary monopoly in niches elsewhere
than in established sectors.
If only Schumpeterian competition once
sector created no imitation
Classical competition  production of the
new good/service + efficient (cheaper) 
increased economic weight
Industry life cycle


In our model natural consequence of
the dynamics of competition and of
demand but not exclusive of other
cyclical influences
Different from other ILC models
(Process R&D, Dominant designs,
Refinement innovation)
Demand - Search activities
t
t

1


SE  1  k 1  exp( k D
)
i
4 
5 acc, i 
Demand - Search activities (2)
Yi 
1
1  exp( k14  k15 SEi )
Yi 
1
1  exp( k16  k17 SEi )
pi  1  exp( k18  k19 SEi )
Industry life cycle
90
90
80
80
70
70
60
60
50
50
40
30
40
30
20
10
20
10
-
1
251
k4 = 5
501
k4 = 7.5
k4 = 10
1
751
k4 = 12.5
k4 = 14
251
0.01
0.005
501
0.0075
751
0.025
1001
0.0125
140
120
120
100
100
80
80
60
60
40
40
20
20
-
1
251
k14 = 0.1
501
k14 = 0.5
k14 = 1
1
751
k14 = 1.5
k14 = 2
251
k15 = 0.1
k15 = 0.25
501
k15 = 0.5
751
k15 = 0.75
k15 = 1
Industry Life Cycle


The shape, duration and existence of
the industry life cycle is greatly
affected by parameters affecting
demand and search activities
In some cases the shake out virtually
disappears (existence)
Micro-Macro dynamics
120
90
80
70
60
50
40
30
20
10
100
80
60
40
20
1
0
1
251
0.01
501
0.005
0.0075
751
0.025
251
501
0.0125
k5 = 0.005
k5 = 0.0075
k5 = 0.0125
k5 = 0.025
60
55
50
45
40
35
30
1
751
1001
251
501
Linear (0.005)
Linear (0.0075)
Linear (0.01)
Linear (0.0125)
751
Linear (0.025)
1001
k5 = 0.01
Micro-Macro dynamics (2)


The shape and duration of the ILC affects
the macro-economic performance of the
economic system
Model parameters affecting demand and
search activities can affect



(i) the rate of creation of new sectors
(ii) the number of firms in each sector
(iii) the rate of growth of industrial concentration
Micro-Macro dynamics (3)


As consequence the effects of
parameters affecting demand and
search activities are often non-linear
Ex: trade-off between faster rate of
creation of new sectors and smaller
number of firms in each sector.
Efficiency vs diversity



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All these (and many other) phenomena are
made possible by the complementary
combination of efficiency and diversity
More creation than destruction vs growing
diversity
Trade-off Schumpeterian (Diversity)
classical (efficiency) competition
Influence of ILC (shape etc) on macro
dynamics  rate sectors + sector size