Welcome to Development Economics:

Microeconomic Approach
• Send an email (subject: DEM2024) to Donnie, your TA (osborne-
[email protected]), and he will invite you to the
course Dropbox where you can see/download the syllabus and
today’s slides.

• If you decide not to take the course after emailing Donnie, please let
him know by email.

• My website: https://sites.google.com/site/takasakiweb/

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 DEM2024
Class 1: Development
Yoshito Takasaki

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Model course sequence for master students

Term: S1S2 A1A2 S1S2 A1A2

Course offered: ADM DEM ADM DEM
EE EE
DEP1 DEP2 DEP1 DEP2
April admission Year 1 Year 2
October admission Year 1 Year 2
Model sequence
Public Policy 1 DEM DEP1 DEP2
2 DEP1 DEM
DEP2
Economics 1 DEM ADM

DEM: Development Economics: Microeconomic Approach

DEP1: Case Study (Development Economics and Policy I)
DEP2: Case Study (Development Economics and Policy II)
ADM: Advanced Develoment Microeconomics
EE: Environmental Economics

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Tips

• Do reading before class

• Work homework early: Stata

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Discovery of the Americas in 1492
Western Offshoots: United States, Canada, Australia, and New Zealand
Industrial revolution 1760-1820(40)
Second industrial (technological) revolution 1870-1914
World War I 1914-1918; World War II 1939-1945; Oil crisis 1973 8
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Fundamental Question

• “Most fundamental of questions with which we as development

economists are concerned, the persistence of massive differences in
standards of living and the means by which those differences may be
reduced” (Stiglitz)

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Evolution of Economics Thought

• Neoclassical economics (1940-)

• Perfect market: constant returns to scale; pure competition; perfect
information; insignificant transaction costs; insignificant externalities;
supposed institutional neutrality
• Market efficiency: We cannot make anyone better off without making some
else worse off.
• Game theory (1970-)
• Imperfect market
• Information & Institution
• Behavioral economics (1990-)

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Imperfect Information

• Unobservable type vs. action

• Adverse selection: One cannot know the quality of the partner, and
thus properly select only good partners.
• Labor market
• Credit market
• Moral hazard: Someone does not do what he is supposed to do using
the fact that this cannot be known or cannot be punished
• Insurance
• Monitoring and enforcement

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Institution

• “Institutions are the social rules, convention, and other elements of

the structural framework of social interaction” (Bardhan)
• Transaction costs: information, negotiation, monitoring, coordination,
enforcement
• Formal vs. informal
• Laws, the constitution, written contracts, recorded property rights, political
systems, corporate systems, economic systems, markets, organizations
• Customs, implicit codes of conduct, ideology, verbal contracts protocol,
informal property rights, social norms, values, belief
• Market vs. non-market institutions
• Impersonal exchange in a large-scale economy: High economies of scale and
high specialization vs. high transaction costs
• Personalized exchange in a small peasant community: Low economies of
scale and limited specialization vs. low transaction costs

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Efficiency vs. Equity

• Rich countries: seen as separate

• Grow the pie, then figure out how it gets divided up
• The first theorem of welfare economics
• Poor countries: usually not separated
• What people can do depends on what they have
• Credit
• Insurance
• Inefficient informal (non-market) institution?
• To abolish seemingly inefficient institutions may actually reduce efficiency
and worsen equity
• Government intervention may improve both efficiency and equity (not
tradeoff)

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Rationality

• Rational peasants (Schultz)

• Efficient but poor
• Improve his/her condition under given constraints
• Seemingly irrational behaviors may be actually rational
• Behavioral economics
• Nobel prize 2002: Kahneman “for having integrated insights from
psychological research into economic science, especially concerning human
judgment and decision-making under uncertainty”; Smith “for having
established laboratory experiments as a tool in empirical economic analysis,
especially in the study of alternative market mechanisms”
• Nobel prize 2017: Richard H. Thaler “for his contributions to behavioural
economics”
• Psychology of poverty

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Import Substitution Industrialization (ISI)
(1960s-70s)
• Encourage domestic industries by limiting competing imports
• Infant industry
• Involved costs and promoted wasteful (inefficient) use of resources
• Complex, time-consuming regulations
• High tariff rates, including those for imported inputs for their products
• Promoted inefficiently small industries

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Structural Adjustment (SAP) (1980s-mid-
1990s)
• Washington consensus targeted to growth
• Correct the government failures under the ISI regime
• Market-oriented reforms by developing countries as a condition for
granting loans
• Structural adjustment loans - adjustment with growth
• Tax reforms, restructuring public expenditure, privatization, trade reforms;
financial market reforms; other sectoral reforms
• Critiques
• Middle-income economies with relatively well-developed market systems vs.
“customary economies” with an underdeveloped market
• Not only failed to improve such economies, but often made them less
efficient with an increased incidence of market failures.

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% of poor

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Poverty alleviation and institution (later
1990s-)
• Post-Washington consensus targeted to equity
• Correct the market failures under the structural adjustment regime
• Poverty alleviation through redistribution of social income by
government intervention (programs)
• Institution
• Governance and corruption
• Empowerment and ownership
• Social capital
• Country-specific conditions (history)

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Millennium Development Goals (MDGs)

• Set by the UN in 2000 for 2015.

• Goals + development indicators → yardsticks to
measure development progress
• Goal 1: Halve the proportion of people whose
income is less than 1$/day in 1990-2015
• Goal 3: Eliminate gender disparity in primary
and secondary education
• Goal 4: Reduce by 2/3 the under-five mortality
rate in 1990-2015
• Goal 5: Reduce by 3/4 the maternal mortality
ratio in 1990-2015
• Goal 6: Have halted by 2015 and begun to
reverse the spread of HIV/AIDS

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Efficiency vs. equity

• Growth is necessary for poverty alleviation

• Income generation, production (infrastructure, technology, job)
• Broad-based growth of low-income economies is possible only when public
programs supply profitable production opportunities for poor people
• Sub-Saharan Africa

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Micro data

• Household survey data (mid-1980s-)

• World Bank Living Standards Measurement Study (LSMS)
• BREAD (Bureau for Research and Economic Analysis of Development)
• Empirical development microeconomics
• Econometrics: Cross-section, panel data
• Software: Stata
• Nobel prize 2015: Deaton “for his analysis of consumption, poverty,
and welfare”
• Data
• Big data, alternative data
• Phone, internet, COVID-19

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Program evaluation and field experiment

• Social program
• Program evaluation: identification of impacts
• Evidence-based policy making (EBPM)
• Randomized control trial (RCT) (2000-): field experiment, behavioral
• Abdul Latif Jameel Poverty Action Lab (J-PAL): established at MIT in 2003
• Nobel prize 2019: Banerjee, Duflo and Kremer "for their experimental
approach to alleviating global poverty“
• Experimental revolution
• “Creating a culture in which rigorous randomized evaluations are promoted,
encouraged, and financed has the potential to revolutionize social policy
during the 21st century, just as randomized trials revolutionized medicine
during the 20th.” (Duflo)

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Natural experiment

• Nobel prize 2021: Card, Angrist and Imbens

• Natural experiments help answer important questions for society
• “have provided us with new insights about the labour market and
shown what conclusions about cause and effect can be drawn from
natural experiments. Their approach has spread to other fields and
revolutionised empirical research.”
• Causal inference

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Development Economics

• Economic theory, development strategies/policies, and empirics/data

• Neoclassical (perfect market) → Information/institution (imperfect market),
behavioral → Empirical, data
• ISI → SAP → Poverty alleviation, MDGs → SDGs, ?
• Household survey → program evaluation, field experiment, natural
experiment → Big data

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Big vs. Small

World Development Report

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Development Economics

• Economic theory, development strategies/policies, and empirics/data

• Neoclassical (perfect market) → Information/institution (imperfect market),
behavioral → Empirical, data
• ISI → SAP → Poverty alleviation, MDGs → SDGs, ?
• Household survey → program evaluation, field experiment, natural
experiment → AI, big data

• Common themes
• Efficiency vs. equity
• Formal vs. informal institutions
• Iron triangle of development: Market, state, civil society

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Outline

• Course logistics
• Some data
• Development economics: background
• Economic theory
• Development strategies
• Data on development and empirics
• Dimensions of development

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Seven Dimensions of Development

• Income
• Poverty
• Inequality
• Vulnerability
• Basic needs
• Education, health, nutrition
• Sustainability
• Quality of life

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Quality of life

• Range of economic and social choices available to an individual and a

nation
• Political freedoms: fair elections, community and local decision-making,
participatory democracy
• Empowerment: participation, social inclusion
• Human rights: torture, disappearances, arbitrary detention, political
prisoners
• Freedom of expression: media censorship, freedom of speech
• Rule of law: impartial tribunals, fair and public hearings, protection from
corruption
• Congeniality: social tensions, security, stability, belonging (attachment to
place), cooperation, household stability

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Development Economics as problem solving

• “How best to design a policy or program to address a particular

development issue?”
• “How to design the impact evaluation of a development experience
to identify causality between intervention and outcomes?”
• “Design and identification are two fundamental skills that
development economists must acquire.”

• “Learning to think development and to translate development ideas

into practice is .. . the objective of this book.”

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Why should we be interested in Development
Economics?
1. A job in a booming field
2. An intellectual interest, with much to discover
3. A distinct field of economics
4. A social self-interest
5. An adventure
6. An act of solidarity and altruism
7. A moral responsibility at a planetary scale
• A world free of poverty (World Bank)
• Every life has equal value (Bill and Melinda Gates Foundation)

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