Transcript Chapter 1

Chapter 1.
FOUNDATIONS OF DEVELOPMENT
ECONOMICS
1.1 Welfare Concept
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Human Development Index (HDI) of the United
Nations
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Welfare cannot be measured only by income per capita:
Saudi Arabia and Russia are rich because of natural
resources but they are not really “developed”
HDI: life expectancy, education (years of education per
capita), income per capita
Figure 1.1 in Akın (2007): Compare GDP per capita and
HDI in Republic of South Africa, Turkey, Chile
Table 1.2 in Akın (2007): countries with highest HDI:
Norway, İceland, Luxembourg, Canada, etc.
1.1 Welfare Concept
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Human Development Index
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Table 1.3: countries with lowest HDI: Niger, Sierra
Leone, Burkina Faso, Mali, Chad, etc..
Compare Norway vs. Niger:
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Life Expectancy: 79.4 vs. 42.1
Literacy Rate: 100% vs. 18%
GDP per capita (purchasing power parity):
40,000 USD vs. 900 USD.
1.1 Welfare Concept
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Economist Intelligence Unit’s Quality of Life
Index (2005): Significant Factors Are:
[http://www.economist.com/media/pdf/quality_of_life.pdf]
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Income (GDP) per capita
Life Expectancy at Birth (health),
Political Stability and Security
Family Life (divorce rate per 1000 pop.),
Community Life (church attendance or union mem.)
Climate and Geography (latitude)
Job Security (unemployment rate)
Political Freedom (political and civil liberties)
Gender Equality (ratio of male/female earnings)
1.1 Welfare Concept
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EIU does not find following variables
significant over and above the other factors’
impacts:
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Education Levels,
Rate of Real GDP growth,
Income Inequality (GINI)
Income Inequality
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Surprisingly, many other authors think Income
Inequality is Important for Long-run Growth:
(Engerman and Sokoloff 1994)
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Countries with unequal income distribution grows slowly
because absence of the middle-class prevents
development of aggregate demand. (Ex: Latin America)
Gini Coefficient: Best:0, Worst:1.
Table 1.6 in Akın (2007) compares countries.
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Turkey and US: 0.4, Germany: 0.28, Denmark: 0.24,
Argentina: 0.59 Brazil: 0.52 . Western Europe is better than
the rest, Latin (South) America is the worst.
Income Inequality in Turkey
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How did Income Inequlity evolve in Turkey? There is a gradual improvement
between 1963-2003. Deniz Gökçe quotes TÜSİAD`s study by S.Gürsel,
H.Levent and R.Selim in 2000 states that:
(http://www.tumgazeteler.com/?a=677512)
Lowest %20 Second %20 Third %20 Fourth %20 Fifth %20 GİNİ Coeff.
1963
4.5 8.5 11.5 18.5 57.0 0.55
1968
3.0 7.0 10.0 20.0 60.0 0.56
1973
3.5 8.0 12.5 19.5 56.5 0.51
1978
2.9 7.4 13.0 22.1 54.7 0.51
1983
2.7 7.0 12.6 21.9 55.8 0.52
1986
3.9 8.4 12.6 19.2 55.9 0.50
1987
5.2 9.6 14.1 21.2 49.9 0.43
1994
4.9 8.6 12.6 19.0 54.9 0.49
2002
5.2 9.7 14.0 20.8 50.2 0.44
2003
5.5 10.0 14.4 20.9 49.3 0.43
Income Inequality in Turkey
Turkey GINI index
0,6
0,5
0,4
0,3
0,2
0,1
0
1963
1968
1973
1978
1983
1986
1987
1994
2002
2003
1.2 Determinants of Development
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Development is a relative concept: Share of sectors
in GDP changes as a country develops:
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Share of agriculture in GDP: low income countries %35,
high income countries: %4 (Figure 1.2 in Akın). In Turkey,
%32,6.
Share of services sector in high income c.: %61, low
income c.: %41.
Manufacturing sector in high income: %30, low income:
%24.
In development process, share of agriculte in GDP falls,
share of services increases.
1.2 Determinants of Development
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Technological development:
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Causes share of agriculture to fall. Increases overall
productivity. Provides “sustainable development” in the
long-run.
If technology is behind, labor-intensive production
dominates the economy. In a labor-intensive environment,
productivity=output per labor hour is low, so real wage is
low. Competition among workers is high: surplus of labor.
How to measure technology?
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R&D expenditures/ GDP: Fig. 1.3 in Akın
Number of researchers / million pop.: Fig. 1.4 in Akın
# of Patents registered / year. Pp. 613 in Kepenek &
Yentürk
# of İnternet users / 1000 pop.. Pp. 613 in Kepenek &
Yentürk
1.3 Economic Policies for Development
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Authors such as Weber (2001) states that
“White Protestant Ethic” helped Northern
Europe to develop.
But other parts of the world with different
culture, religion, language and ethnicity also
have developed: Catholic Europe, Southeast
Asia, Turkey etc.
If correct economic policies are followed,
there is no (or is there do you think?)
negative effect of culture on development.
1.3 Economic Policies for Development
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What are correct economic policies?
Building physical and human capital
Establishing free market institutions
Correcting income inequality: social security
networks
Promoting international trade
Active & strategic intervention of the
government to the economy: incentives
1.3 Economic Policies for Development
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Getting rich (high income per capita) and
development are not the same: (Sala-i Martin
and Subramanian 2003):
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High income per capita due to rich natural
resources creates dependency and increases rent
incomes, which creates corruption and bribery.
This prevents rule of law and institutionalization.
Increases income inequality. Ex: Russia and
Brazil, gulf oil states, central asia.
Reduces technological and human capital
investments.
1.3 Economic Policies for Development
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Building physical and human capital:
Physical capital: increase production of capital goods and
intermediate goods. Ex: Instead of cement, produce ready-mixed
concrete, the idea is to increase value-added. Increase productivity
and automation: multi-head electronic textile machines. (output
surplusunemployment)
Measuring Physical capital: Table 1.7 in Akın from Artadi and Sala-i
Martin (2003): prices of capital goods: Africa:123, OECD:70.
Human Capital: 3 Measures for education & health
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Primary school enrollment: Africa:42%, OECD:97%
Life Expectancy: Africa:42, OECD:68
Contagious diseases index: Africa:80%, OECD:0%
Objective: Increase productivity = output per labor hour.
1.3 Economic Policies for Development
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Establishing free market institutions
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Adam Smith (1776): Specialization and
division of labor has been the foundation of
development since the Industrial Revolution.
(Ex: Smith’s “needle factory”
http://www.anst.uu.se/larsoest/pmwiki.php?n=Res
earch.NeedleIndustryExample).
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Everyone specializes in producing the good
that she has comparative advantage in, and
purchases all of her other needs from other
people.
1.3 Economic Policies for Development
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Necessary conditions for Free market institutions
to work:
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The market has to be sufficiently wide: urbanization.
Wide enough to sell my surplus output and find all of
the goods that I need. Optimum country (market) scale
and the EU?
The market cannot be established if there is no Rule
of Law (Sachs 2005). When there is no rule of law,
decisions are made arbitrarily by a particular person or a
political group (party). This is an indicator of weak
institutionalization.
1.3 Economic Policies for Development
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Institutionalization:
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Rules of the game must be very clear, simple, certain, and
easy to follow.
Regulators must find low-cost ways to punish those who
violate rules.
From the perspective of players, the benefit of violating the
rules must be greater than following them. Example: taxes
must be low and easy to pay, but the penalties of tax evasion
must be very high: high enough to discourage tax evasion (Ex:
Al Capone).
How is it in Turkey? If you want to be 100% straight with
taxes, it is impossible to do business! So complex and heavy.
1.3 Economic Policies for Development
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Free markets does not only mean free prices. Need 5
Supporting Institutions for free markets to work:
1. Strong Property Rights. Terminate mafia. Ex: Illegal forces in
Russia. Is it easy to sell lemon in neighborhood vegetable
bazaar or sell toys on İstiklal Street?
2. Institutions that are responsible for complete disclosure,
transparency, regulation, supervision and monitoring of
economic units: firms, banks, govt’s etc. Ex: Banking Regulation
and Supervision Agency after the 2001 financial crisis of TR.
3. These institutions must be objective, free from ideology
and politics. Ex: Central Bank, The Council of Higher
Education, Constitutional Court, etc. Do we all know what these
institutions are responsible for? What is the scope of their
authority? Can the citizens hold them accountable for their
decisions?
1.3 Economic Policies for Development
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Supporting Institutions for free markets (cont’d)
4. Institutions such as Social security, unemployment
insurance, deposit insurance must work. In US, social
securtiy system started after great depression. Life-long
job security system in Japan
5. Enhance social peace: reduce ethnical, religious,
ideological conflicts. Participatory democracy, nongovernmental organizations (NGO), freedom of language,
minority representation in parliament, independent justice,
promoting social aid to poor. OBJECTİVE: Limiting the
riches of the very rich and limiting the losses of the very
poor.
1.3 Economic Policies for Development
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If institutionalization is not established:
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Individuals do not plan long-term investments because they
fear that their property could be stolen or confiscated
anytime. Short-term investments and speculation is most
popular. Short-term investments increase fragility in the
economy. (Ex: Do you think more capital will flow to Turkey
after the “wher did you find” law abolished?)
How frequently do laws change? Are they enforced?
Do heads of institutions like central bank, etc. change
everytime the government changes?
Confidence, decreases, uncertainty increases, instability
increases
1.4 Development Strategies and the Role
of Government
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Import-substitution policies
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Production structure depends on domestic demand. Closed
to international trade and competition, domestic industry
protected by tariffs: “infant industry hypothesis”:
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Growth is limited because:
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Domestic industry must be protected until it reaches a certain
scale. Why? Because average costs decrease by scale:
Assuming increasing returns to scale.
domestic demand is limited,
insufficient domestic competition, limited quality growth
Government chooses and invests in certain industries BUT
is this efficient?
1.4 Development Strategies and the Role
of Government
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Export-led Growth (SE Asia)
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Depends on Global demand
Increases competition and quality
Requires the government to promote exports by
affordable credit (Eximbank), low-cost raw materials,
energy, land, support for imports of capital-goods, etc.
Increases sensitivity to global demand and exchange
rates. Might create “balance of payments” or “currency”
crisis, consequently “financial crisis” and finally “real private
sector” crisis. This happened in Asia 1997-98, Mexico
1994, Russia 1998, Turkey and Argentina 2001 among
others.
1.4 Development Strategies and the Role
of Government
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Designing economic policies & strategies and
applying them.
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Import-substitution can be applied but only
temporarily. In SE Asia, traditional industries are
liberalized and opened to global competition, but
new industries are protected until they reach a
certain scale. After that, they are also liberalized.
After World War II, Africa ve SE Asia had the
same income per capita. In 50 years, SE Asia
showed miraculous growth. Africa, Middle East
and Latin America did not grow. Why?
1.4 Role of Government
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Because government institutions are controlled
by minority elites, political liberties and democracy
are weak.
Establish Coordination between universities and
industry’s human capital needs:
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where can a nuclear or agriculture engineer work in
Turkey?
shortage of intermediate technical personnel: must
everyone get a university degree?
1.4 Role of Government
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Regional Inequalities and convergence across
regions:
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In some regions (east of TR, west of China),
government and private sector does not want to work.
Economy is backwards.
Govt. gives wage and other incentives for the East, but
are these sufficient?
Do investment incentives work?
Do farm subsidies work? Does the govt. supervise
whether they work? Most people think they don’t.
Does the govt. prevent subsidy abuse?