Economic Development Theory
"The real differences are not quantitative,
but qualitative. Egypt's inability to raise its standard of living
has more to do with its social, political, and economic institutions and
with its perceptions of past, present, and future than with any lack of
effort or personal talents" Fred Gottheil, Principles of Macroeconomics
3e, p. 426.
stages of economic growth
The Stages of Growth: A Non-Communist
Manifesto, Walt Whitman Rostow, 1960.
The theory is intended as a direct counter
to the Marxist stage theory of capitalist development. The basic
proposition is that all countries are located in one of a hierarchy of
In stages four and five nations achieve stable
conditions for self-sustaining growth and wealth creation. This notion
presents a direct challenge to the Marxist argument of a violent end to
the capitalist system.
transitional stage: the preconditions for
drive to maturity
high mass consumption
The launching platform for development
is in the preconditions stage.
The critical stage is the take-off stage.
At this time the rate of investment increases sharply. Leading economic
sectors emerge and create investment opportunities in other parts of the
economy. This ensures the self-sustained growth of the drive to maturity
and high mass consumption stages.
Agriculture moves more toward market orientation
in which food and raw materials become available to other sectors of the
economy. The agricultural sector develops beyond subsistence with
production for the market.
Transportation and other social infrastructure
Export expansion is necessary in order to
finance the increased capital imports needed for a strong foundation for
Profile less developed countries (LDCs)
using as many of the 10 criteria given in the lecture as you feel are necessary
to provide an adequate picture of life in a LDC.
Harrod, R. F. (1939), "An Essay in Dynamic
Theory," Economic Journal, Vol. 49, No. 1.
Domar, D. (1946), "Capital Expansion, Rate
of Growth and Employment," Econometrica, Vol. 14.
Neither of the articles was concerned with
developing countries. Each dealt with conditions for stable growth
in more developed countries. Nevertheless the articles have had a
great impact on economic development theory.
Aggregate demand and supply would be in balance
when investment (It) in any period equaled the change in national
income (Yt -Yt-1) times the capital to output ratio
(k). The capital to output ratio indicates the value of capital required
to produce one unit of output in a single time period.
At equilibrium in a closed economy intended
investment would equal intended savings (St), which gives the
initial equilibrium condition.
The rate of growth is determined jointly
by the national savings
ratio and national capital to output ratio.
The more a nation can save and invest the quicker it can grow!
e.g. assume k = 3, s = 6%
but, if one can increase national savings from 6%
This helped Rostow to define the "take-off"
stage. If a country could just save 15% to 20% it could develop and
grow at a much faster rate than those who saved less. This growth
would be self-sustaining.
primary policy implication is
that the needed investment resources could be met through foreign
Describe the Harrod-Domar Growth Model
including equations and policy implications.
The two-gap model is an extension of the
Harrod-Domar growth model. The second "gap" (in addition to the savings
gap) is found by introducing foreign trade and rephrasing the model
savings gap -- domestic savings are inadequate
to support the level of growth which could be permitted given the import
purchasing power of the economy and the level of other resources
foreign exchange gap -- import purchasing
power conferred by the value of exports plus capital transfers may be inadequate
to support the level of growth permitted by the level of domestic saving
The two-gap theory purports that investment
and development are restricted by level of either domestic saving or import
vicious circle of poverty
The vicious circle of poverty is perpetuated
by the lack of capital.