CLASSIC THEORIES OF ECONOMIC GROWTH AND

DEVELOPMENT

INTRODUCTION
EVERY NATION STRIVES FOR DEVELOPMENT But economic progress is not the only
component DEVELOPMENT > material & financial Widespread realization = national context +
international economic + social system.

FOUR APPROACHES
Post World War II
● Linear stages of growth
● Theories and patterns of structural change
● International-dependence revolution
● Neo-classical, free market counterrevolution

POST WORLD WAR II

● Struggle to rebuild
● Postwar economic boom
● Demand for consumer goods
● Flowing foreign aid to countries like PH
● PH context: Bell Trade Act (no import duties for US products)

I. LINEAR STAGES THEORY

DEVELOPMENT AS GROWTH
Post-war interest on poor nations
● Economists had no conceptual apparatus for largely agrarian countries w/o modern
economic structures

Strands of thought
● Marshall Plan: US financial and technical assistance to war-torn European countries
● All modern industrial nations were once underdeveloped agrarian societies

Rostow’s Stages of Growth

● Developed countries have already passed all stages. Underdeveloped in traditional and
preconditions stage should just follow rules of dev’t to self-sustaining economy.

The Harrod-Domar Growth Model

 ● The rate of growth of GDP ( Y/Y) is determined jointly by the net national savings ratio,
s, and the national capital-output ratio, c.
● To grow, economies must save and invest
● Other components: labor force growth & technological progress
● Sample: • Countries able to save 15% to 20% would develop faster
PROBLEM: relatively low level of new capital formation in most poor countries
ANSWER: through either foreign aid or private foreign investment (justified Marshall plan
for developing world)

PROBLEMS:
Mechanisms of development embodied in the theory DOES NOT ALWAYS WORK

WHY:
● More savings and investment are not sufficient
● Worked for Europe because of necessary structural, institutional, and attitudinal
conditions

II. STRUCTURAL CHANGE MODELS

2-SECTOR SURPLUS MODEL/ LEWIS THEORY OF DEVELOPMENT

● Structural transformation of a subsistence economy •
● Presence of 2 sectors: overpopulated rural sector w/ zero marginal labor productivity and
a high-productivity industrial sector
● Transfer of labor from traditional to modern, growth of product output

STRUCTURAL CHANGE LEWIS THEORY OF DEVELOPMENT

● Growth until surplus labor is absorbed by industrial sector
● Lewis turning point: declining labor-to-land ratio (marginal product of rural labor no
longer 0) = labor supply curve positively sloped as modern-sector wage & employment
grow

CRITICISMS:
1. Assumes labor transfer & employment creation proportional to capital accumulation.
But what if profits invested in labor- saving equipment?

2. Contemporary research show little surplus labor in rural areas (except in some
countries like China)

3. Urban surplus labor

4. Wages increase amid unemployment

STRUCTURAL CHANGE PATTERNS OF DEVELOPMENT ANALYSIS
● Economic, industrial and institutional structure of an economy transformed to permit new
industries as engine of growth
● Capital accumulation + changes in economic structure needed
● Constraints (affect level of dev’t): Internal - resources, population size, government
policies; External – access to capital, technology, trade (countries as part of internatl
system)
● Empirical work of Harvard economist Holllis Chenery and his colleagues, cross-sectional
and time-series studies of countries at diff. levels of per capita income, identified
characteristic features of the development process:

● Shift from agri to industrial production

● Steady accumulation of physical and human capital
● Change in consumer demand from basic necessities to diverse manufactured goods
● Growth of cities and urban industries
● Decline in family size and overall population
● Proponents of structural change model prefer “facts to speak for themselves” unlike
theories such as stages of growth

STRUCTURAL CHANGE CONCLUSIONS

● Major hypothesis: development is an identifiable process of growth and change with
features similar in all countries.
● Problem: The model does not recognize differences, factors influencing the development
process.
● Limitations of emphasizing patterns over theory. May draw wrong conclusions about
causality.
● Optimistic that “correct” mix of policies will generate beneficial patterns

III. INTERNATIONAL- DEPENDENCE REVOLUTION

INTERNATIONAL-DEPENDENCE REVOLUTION 1970s

● International-dependence models gained support because of disenchantment w/ stages
and structural-change models
● Resurgence in various forms in the 21st century Developing countries caught in a
dependence and dominance relationship with rich countries because of institutional,
political and economic rigidities = difficulty for poor nations to be self-reliant and
independent

NEOCOLONIAL DEPENDENCE MODEL

● Indirect outgrowth of Marxist thinking
● Underdevelopment as result of historical evolution of highly unequal international
capitalist system of rich country-poor country relationships
 ● Regardless if intentional, nations are under unequal power relations between the center
and the periphery
● Small elite ruling class (landlords, entreps, military rulers, merchants, public officials,
etc.) interests (knowingly or not) to perpetuate the international capitalist system of
inequality
● The elite serve or are rewarded by international special- interest power groups tied by
allegiance or funding to wealthy capitalist countries
● Elites’ viewpoints inhibit genuine reform efforts and may lead to even lower levels of
living and perpetuation of underdevelopment
● External-induced against internal constraints
● Revolutionary struggles or major restructuring of world capitalist system required to free
dependent nations
● Theotonio Dos Santos: Dependence as conditioning situation ; Expand based on
expansion of dominant countries; Dominant countries w/ technological, commercial,
capital and sociopolitical predominance can exploit and extract local surplus;
● Dependence as based on the international division of labor – industrial development in
some and restricted in others
● Pope John Paul II: One must denounce the existence of economic, financial, and social
mechanisms which, although they are manipulated by people, often function almost
automatically, thus accentuating the situation of wealth for some and poverty for the rest.
These mechanisms, which are maneuvered directly or indirectly by the more developed
countries, by their very functioning, favor the interests of the people manipulating them.
But in the end they suffocate or condition the economies of the less developed countries.

FALSE-PARADIGM MODEL
● less-radical
● Underdevelopment as result of faulty and inappropriate advice by well-meaning, though
uninformed or biased advisers from developed country agencies and orgs
● Inappropriate policies merely serving vested interests of existing power groups (domestic
and international)
● Intellectuals, economists, civil servants trained in alien and “irrelevant” Western concepts

DUALISTIC-DEVELOPMENT THESIS
● Dualism – divergence between rich and poor nations, rich and poor peoples on various
levels

KEY ARGUMENTS
● Different sets of conditions coexist: rich and poor, modern and traditional (Lewis model),
elites and masses, powerful industrialized nations and impoverished peasant societies
● Chronic coexistence (not temporary) of wealth and poverty will not be rectified in time.
● Degrees of superiority or inferiority show no signs of diminishing and instead increases
 ● Superior element does little to pull up or “trickle down” to the inferior element, may even
push it down
● IDR models, amid ideological differences, all reject the emphasis on traditional
neoclassical economic theories
● Question validity of the Lewis-type models, reject Chenery observation of “well-defined
empirical patterns” that should be followed by poor countries
● Emphasis on international power imbalances and need for economic, political and
institutional reforms (internal & world)
● Expropriation of private assets w/ expectation that public asset ownership and control
will help address poverty & unemployment

WEAKNESSES:
● Appealing explanation but no insight on how countries initiate and sustain development
● Actual economic experience of developing countries that pursued revolutionary
campaigns of industrial nationalization and state-run production has been mostly
negative
● *Based on dependency theory, countries could pursue a policy of autarky or inwardly
directed development & trade w/ other developing countries

IV. NEOCLASSICAL COUNTERREVOLUTION

Neoclassical counterrrevolution

● Challenges statist models in favor of free markets, public choice & market-friendly
approaches
● Developed nations: favored supply-side macroeconomic policies, rational expectations
theories and privatization of public corporations
● Developing countries: freer markets and dismantling of public ownership, statist planning
and government regulation

Context

● Emerged in the 1980s during political ascendancy of conservative governments of US,

Canada, Britain and West Germany
● Neoclassicists on the board of powerful international agencies World Bank and
International Monetary Fund as influence of International Labor Organization, United
Nations Development Program and United Nations Conference on Trade and
Development eroded

Argument
 ● Underdevelopment resulted from poor resource allocation because of incorrect pricing
policies and state intervention (corruption, inefficiency, lack of incentives, etc.)
● State intervention slows economic growth
● Neoliberals: economic efficiency and growth will be stimulated by free markets,
privatizing state enterprises, export expansion and eliminating government regulation
and price distortions
● Allow “magic of the marketplace” and “invisible hand” to guide resource allocation and
stimulate economic dev’t

3 component approaches

1. Free-market approach - markets alone are efficient; competition is effective,

technology and information freely available and costless; gov’t is counterproductive

2. Public choice approach - new political economy approach; governments do nothing

right because of selfish interests; misallocation of resources

3. Market-friendly approach – imperfections in economy and need gov’t for

market-friendly interventions (social services and climate for private enterprise); acceptance of
market failures

Traditional Neoclassical Growth Theory Liberalization

● Opening up of markets, draw investment and increase rate of capital accumulation

Solow neoclassical growth model
● economies to converge to same income level if same rates of savings, depreciation,
labor force and productivity growth.
● Source of output growth: labor quantity and quality, increase in capital and technology
improvement Openness – encourages access to foreign production ideas, technological
progress

CONCLUSIONS

● Finger-pointing between dependence theorists (many from developing countries, seeing

underdevelopment as externally induced phenomenon) and neoclassical revisionists
(most from Western economies, blame gov’t intervention and bad economic policies)
● Market price allocation may do a better job than state intervention but developing
economies have very different structures:
● Competitive free markets generally do not exist, information is limited, markets
fragmented, etc.
 ● Invisible hand often lifts those already well-off, failing to offer opportunities for upward
mobility of the majority
● Lessons from supply-and-demand analysis to arrive at “correct” prices
● “In an environment of widespread institutional rigidity and severe socioeconomic
inequality, both markets and governments will typically fail.”

RECONCILING DIFFERENCES

● Each approach has strengths and weaknesses

● Controversies – ideological, theoretical or empirical – makes the study of economic
development challenging
● Evolving patterns of insights and understandings
● CONSENSUS? Significance from each approach:
● Linear stages: crucial role of savings and investment
● Two-sector model: transfer of resources from low to high
● productivity activities, linkages between traditional & modern
● Dependence theory: importance of world economy and decisions of developed world
affecting developing economies
● Neoclassical: efficient production, proper price systems