Transcript To Grow or Not to Grow: That is the Question

To Grow or
Not to Grow:
That is the
Question
Thorvaldur Gylfason
Outline
I. Pictures of growth
II. Determinants of growth
1.
2.
Saving and investment
Efficiency
a)
b)
c)
d)
Liberalization
Stabilization
Privatization
Diversification
III. Empirical evidence of growth
National economic output
Economic growth:
The short run vs. the long run
Economic growth
in the long run
Potential output
Actual output
Upswing
Downswing
Business cycles
in the short run
The crisis of 1997-98
is irrelevant to Asia’s
long-term growth potential.
Time
Economic growth:
The short run vs. the long run
To analyze the movements of actual output
from year to year, viz., in the short run
Need short-run macroeconomic theory
Keynesian or neoclassical
To analyze the path of potential output over
long periods
Need modern theory of economic growth
Neoclassical or endogenous
National economic output
Growing together,
growing apart
West-Germany : East-Germany
Austria : Czech Republic
Economic system
Finland : Estonia
Taiwan : China
South Korea : North Korea
Rapid growth
Botswana : Nigeria
Kenya : Tanzania
Thailand : Burma
Economic policy?
Tunisia : Morocco
Spain : Argentina
Mauritius : Madagascar
Slow growth
Time
Growing
apart
Divide into 72 by the growth
rate to find the number of
years it takes of income per
head to double
Country B: 2% a year
Output per capita
 Efficiency
 Economic system
 Economic policy
Threefold
difference after
60 years
Country A: 0.4% a year
0
60
Years
Sources of growth:
Investment and education
Growth
+
Investment
+
+
Education
denotes a positive effect in the direction shown
Sources of growth:
Investment and education
Adam Smith knew this, and more, as did Arthur Lewis
Growth
+
Investment
+
+
Education
denotes a positive effect in the direction shown
More sources of growth
Arthur Lewis: x is trade, stable politics, good weather
But Solow carried the day: long-run growth is exogenous
Growth
+
Investment
+
+
x
denotes a positive effect in the direction shown
+
Education
3500
Botswana
3000
Nigeria
2500
Current US$,
Atlas method
2000
1500
1000
500
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
19
64
0
19
Case 1
Botswana and Nigeria: GNP per
capita 1964-99
500
450
Kenya
400
Tanzania
350
Uganda
300
250
Current US$,
Atlas method
200
150
100
50
19
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
0
19
64
Case 2
Kenya, Tanzania, and Uganda:
GNP per capita 1964-99
700
Burma
600
500
400
Thailand
Local currency,
1988 prices,
1960 = 100
300
200
100
0
19
60
19
63
19
66
19
69
19
72
19
75
19
78
19
81
19
84
19
87
19
90
19
93
19
96
Case 3
Burma and Thailand:
GNP per capita 1960-97
10000
9000
Barbados
8000
Haiti
Dominican Republic
7000
6000
5000
Current US$,
Atlas method
4000
3000
2000
1000
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
19
64
0
19
Case 4
Barbados, Dominican Republic,
and Haiti: GNP per capita 1964-99
2500
Egypt
Morocco
2000
Tunisia
1500
Current US$,
Atlas method
1000
500
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
19
64
0
19
Case 5
Egypt, Morocco, and Tunisia:
GNP per capita 1964-99
16000
Argentina
14000
Spain
12000
Uruguay
Current US$,
Atlas method
10000
8000
6000
4000
2000
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
19
64
0
19
Case 6
Argentina, Uruguay, and Spain:
GNP per capita 1964-99
4500
Madagascar
4000
Mauritius
3500
3000
Current US$,
Atlas method
2500
2000
1500
1000
500
19
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
0
19
64
Case 7
Madagascar and Mauritius:
GNP per capita 1964-99
6000
Chile
5000
4000
Zambia
Current US$,
Atlas method
3000
2000
1000
19
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
0
19
64
Case 8
Chile and Zambia:
GNP per capita 1964-99
25000
Greece
20000
Ireland
15000
Current US$,
Atlas method
10000
5000
97
19
94
19
91
19
88
19
85
19
82
19
79
19
76
19
73
19
70
19
67
19
64
0
19
Case 9
Ireland and Greece:
GNP per capita 1964-99
More sources of growth
Arthur Lewis: x is trade, stable politics, good weather
But Solow carried the day: long-run growth is exogenous
Growth
+
Investment
+
+
x
denotes a positive effect in the direction shown
+
Education
Ireland and Greece:
Investment 1960-99 (% of GDP)
45
40
Greece
35
Ireland
30
25
20
15
10
5
19
60
19
63
19
66
19
69
19
72
19
75
19
78
19
81
19
84
19
87
19
90
19
93
19
96
19
99
0
Investment
is good for
growth, but
hardly
explains
the growth
differential
between
Ireland and
Greece
Ireland and Greece: Expenditure
on education 1960-96 (% of GNP)
8
7
Greece
6
Ireland
5
4
3
2
1
96
19
93
19
90
19
87
19
84
19
81
19
78
19
75
19
72
19
69
19
66
19
63
19
19
60
0
Education
is good
for growth
Ireland and Greece:
Exports 1960-99 (% of GNP)
100
90
Ireland
80
Greece
70
60
50
40
30
20
10
99
19
96
19
93
19
90
19
87
19
84
19
81
19
78
19
75
19
72
19
69
66
19
19
63
19
19
60
0
Foreign
trade is
good for
growth
The Neoclassical Theory of
Exogenous Economic Growth
Traces the rate of growth of output
per capita to a single source:
Technological progress
Hence, economic growth in the
long run is immune to economic
policy, good or bad.
“To change the rate of growth of real
output per head you have to change the
rate of technical progress.”
ROBERT M. SOLOW
The New Theory of Endogenous
Economic Growth
Traces the rate of growth of output per
capita to three main sources:
Saving
Efficiency
Depreciation
“The proximate causes of economic growth are
the effort to economize, the accumulation of
knowledge, and the accumulation of capital.”
W. ARTHUR LEWIS
Exogenous vs. endogenous
growth
The neoclassical view
that economic growth in the long run is merely a
matter of technology does not throw much light
on the spectacular growth performance of Asia
since the 1960s.
The new view
that long-run growth depends on saving,
efficiency, and depreciation is more illuminating.
Besides, it’s not really new, because Adam Smith
knew this (1776).
One crucial implication of
exogenous growth
The neoclassical view
If two countries are identical (same
saving rate, same population growth,
same technology), then their income
per head will ultimately be the same.
This means that poor countries must
grow faster than – catch up with! – rich
countries: “conditional convergence”
Endogenous growth theory does not have
this implication.
Enter initial income
Conditional
convergence
Growth
+
–
Investment
+
?
x
Education
+
Initial Income
+
–
Natural Capital
denotes a positive effect in the direction shown
denotes a negative effect in the direction shown
Absolute
convergence?
Growth of GNP per capita 1965-1998 (%)
10
Botswana
8
No sign
that poor
countries
grow faster
than rich
6
4
China
r = rank
correlation
r = -0.09
Korea
Indonesia
Thailand
2
0
0
2
4
6
8
-2
10
12
Conditional
convergence
does not
entail absolute
convergence
Nicaragua
-4
Log of initial GDP per capita (1965)
85 countries
Enter natural resources
Endogenous growth: x can be almost anything!
Growth
+
–
Investment
–
?
x
+
Education
+
Initial Income
+
–
Dutch
disease
and rent
seeking
Natural Capital
denotes a positive effect in the direction shown
denotes a negative effect in the direction shown
A simple model of
endogenous growth
Four building blocks:
 S=I
Saving equals investment in equilibrium.

S = sY
Saving is proportional to income.

I = K + K
Investment involves addition to capital stock.

Y = EK
Output depends on quality and quantity of capital.
A simple model of
endogenous growth
Implication:

g = sE - 
Rate of economic growth equals
 Saving rate
times

Efficiency (i.e., the output/capital ratio)
minus

Depreciation
Endogenous growth in the
Harrod-Domar model
You may recognize the
endogenous growth model as
a reinterpretation of the
Harrod-Domar model
where growth depends on
A. the saving rate
B. the capital/output ratio
C. the depreciation rate
Sources of endogenous
growth I
Saving
Fits real world experience quite well
No coincidence that, in East Asia, saving rates of 3040% of GDP went along with rapid economic growth
No coincidence either that many African economies
with saving rates around 10% of GDP have been
stagnant
OECD countries: saving rates of about 20% of GDP
Important implication for economic policy:
Economic stability with low inflation and positive real
interest rates spurs saving, which is good for growth.
Sources of endogenous
growth I
Income
per capita
400
East Asia
300
200
OECD
100
Africa
1965
1990
Growth and investment,
109
countries 1965-98
Growth per capita (% per year)
10
Each ten percentage point
increase in the investment
ratio is associated with an
increase in per capita
growth by 1½% per year.
8
6
Botswana
1½%
4
2
10%
0
0
-2
10
20
30
South Africa
-4
-6
Investment (% of GDP)
40
50
Growth and investment,
1965-98
10
Each ten percentage point
increase in the investment
ratio is associated with an
increase in per capita
growth by 1½% per year.
8
Growth per capita (% per year)
33 subSaharan
African
countries
6
4
2
0
0
10
20
30
-2
-4
-6
Investment (% of GDP)
40
50
Growth and investment,
11 MEFMI
countries 1975-1998
Growth Per Capita (Per Cent Per Year)
12
Each ten percentage point
increase in the investment
ratio is associated with an
increase in per capita
growth by 1½% per year.
10
8
Botswana
Swaziland
6
Uganda
4
Zimbabwe
Lesotho
Malawi
Namibia
2
Zambia
Tanzania
0
0
-2
10
20
30
Angola
-4
Investment (Per Cent of GDP)
40
50
Investment and economic
growth
Growth of GNP per capita 1965-1998, adjusted for initial
income (% per year)
6
An increase in investment by
4% of GDP is associated with an
increase in per capita growth by
1% per year.
4
2
Botswana
Thailand
0
0
5
10
15
20
25
30
35
-2
1%
-4
Jordan
4%
-6
r = 0.65
Nicaragua
-8
Gross dom estic investm ent 1965-1998 (% of GDP)
85 countries
Sources of endogenous
growth II
Depreciation
The effect of depreciation on growth is related
to that of saving and investment on growth.
Unprofitable investment in the past reduces
the quality of capital and makes it depreciate
more rapidly, necessitating more replacement
investment to make up for economic and
physical wear and tear.
The more national saving has to be set aside
for replacement investment, the less will be
available for the buildup of new capital.
Investment: Quantity and
quality
Compare Botswana and Tanzania:
In Botswana, the share of State-Owned
Enterprises in total investment fell from
16% in 1985-90 to 12% in 1990-97.
In Tanzania, the SOE share of investment
fell from 46% in 1985-90 to 23% in
1990-97.
This is probably a good sign.
Privatization helps improve investment.
Investment: Quantity and
quality
Investment quality, however, is not
only a question of public vs. private
enterprise.
Sound banking is also important.
It takes sound commercial banks,
usually privately owned banks
motivated by profit rather than by
political concerns, to channel
household savings into high-quality
investment.
Sources of endogenous
growth II
Efficiency
Also fits real world experience quite well
Technical progress is good for growth because it allows
us to squeeze more output out of given inputs.
And that is exactly what increased efficiency is all
about!
Thus, technology is best viewed as an aspect of
general economic efficiency.
Important implication for economic policy:
Everything that increases economic efficiency, no
matter what, is also good for growth.
Sources of endogenous
growth II
Five sources of increased efficiency
1. Liberalization of prices and trade increases
efficiency, which is good for growth.
2. Stabilization reduces the inefficiency associated
with inflation, which is good for growth.
3. Privatization reduces the inefficiency associated
with state-owned enterprises, which …
4. Education makes the labor force more efficient.
5. Technological progress also enhances efficiency.
The possibilities are virtually endless!
Sources of endogenous
growth II
This is good news.
If growth were merely a matter of technology,
we would not be able to do much about it …
… except to follow technology-friendly policies by
supporting R&D and such.
But if growth depends on saving and efficiency,
there are things that we can do, in the private
sector as well as through the public sector, to
foster rapid economic growth.
Because everything that is good for saving and
efficiency is also good for growth.
What to do to encourage
economic growth
Maintain strong incentives to save
Keep inflation low and real interest rates positive
Maintain financial system in good health
so as to channel saving into high-quality investment
Foster efficiency
1.
2.
3.
4.
5.
6.
Liberal price and trade regimes
Low inflation
Strong private sector
More and better education
Limited, or well managed, natural resources
Reasonable equality
1
Liberalization and economic
growth
Liberalization of prices means that markets,
not bureaucrats, are allowed to set prices.
Mixed market economy is more efficient than
central planning.

Compare former Soviet Union with the US and Europe
Liberalization of trade allows specialization
according to comparative advantage.
Free trade is more efficient than self-sufficiency.

North Korea and Cuba vs. Hong Kong and Singapore
Applies to trade in goods, services, capital.
Growth and trade,
105
countries 1965-98
Growth per capita (% per year)
10
8
Botswana
China
6
Korea
Singapore
Hong Kong
Each 50 percentage point increase
in the trade ratio is associated
with an increase in per capita
growth by almost 1% per year.
4
2
0
0
50
100
150
200
250
-2
United Arab Emirates
-4
-6
Trade (% of ppp-adjusted GDP)
NB: UAE, Hong Kong, and Singapore.
300
350
Growth and trade,
1965-98
10
Each 20 percentage point
increase in the trade ratio is
associated with an increase
in per capita growth by 1%
per year.
8
Growth per capita (% per year)
32 subSaharan
African
countries
6
4
2
0
0
20
40
60
-2
-4
-6
Trade (% of ppp-adjusted GDP)
80
100
Growth and trade,
11 MEFMI
countries 1975-1998
Growth Per Capita (Per Cent Per Year)
12
Each ten percentage point increase
in the trade ratio is associated with
an increase in per capita growth by
almost 1% per year.
10
8
Botswana
Lesotho
6
Uganda
Swaziland
Malawi
4
Namibia
Zimbabwe
2
Tanzania
Zambia
0
0
-2
10
20
30
40
Angola
-4
Trade (Per Cent of GDP)
50
60
Openness and growth
1965-98
Annual growth of GNP per capita 1965-98, adjusted for
initial income (%)
6
r = 0.40
4
Korea
2
Malaysia
Belgium
0
-40
-30
-20
-10
0
10
20
30
40
-2
Guinea Bissau
-4
-6
-8
An increase in openness by
14% of GDP is associated
with an increase in per capita
growth by 1% per year.
Actual less predicted exports 1965-98 (% of GDP)
Growth and foreign direct
100
countries investment, 1965-98
Growth per capita (% per year)
10
Each three percentage
point increase in the
FDI ratio is associated
with an increase in
per capita growth by
almost 1% per year.
8
6
Botswana
Singapore
4
2
0
0
2
4
6
8
10
12
14
-2
-4
Foreign direct investment (% of ppp-adjusted GDP)
Qualification: Relationship rests on Botswana and Singapore.
Growth and foreign direct
investment, 1965-98
10
Growth per capita (% per year)
31 subSaharan
African
countries
Each one percentage point increase in the
FDI ratio is associated with an increase in
per capita growth by almost 1% per year.
8
Botswana
6
4
2
0
0
2
4
6
-2
-4
Foreign direct investment (% of ppp-adjusted GDP)
Relationship depends on the inclusion of Botswana.
8
Growth and FDI,
11 MEFMI
countries 1975-1998
12
Each ten percentage point increase in the
FDI ratio is associated with an increase in
per capita growth by 1% per year.
Growth Per Capita (Per Cent Per Year)
10
Botswana
8
Swaziland
6
Uganda
Lesotho
Malawi
4
Zimbabwe
Namibia
2
Tanzania
Zambia
0
0
1
2
3
4
5
6
-2
Angola
-4
Foreign Direct Investment (Per Cent of GDP)
7
8
Annual growth of GNP per capita 1965-98, adjusted for
initial income (%)
Openness to FDI and
growth 1965-98
r = 0.62
6
Botswana
4
2
0
-4
-2
0
2
4
6
-2
-4
-6
An increase in openness to
FDI by 2% of GDP is
associated with an increase
in per capita growth by
more than 1% per year.
-8
Actual less predicted FDI 1975-1998 (% of GDP, ppp)
8
2
Stabilization and economic
growth
Stabilization of prices means that distortions
associated with inflation are reduced.
 Inflation distorts the choice between real and
financial capital by punishing money holdings,
and thus creates inefficiency in production.
 Inflation thus involves a tax, the inflation tax.
An inefficient tax compared with most other taxes.
 Inflation also creates uncertainly which tends
to discourage trade and investment.
 Inflation also tends to result in overvaluation
of currency, thus hurting exports and growth.
Money and inflation,
1990-1998
Money and Quasi-Money 1998 (Per Cent
of GDP)
45
A 10 percentage point
increase in annual inflation is
associated with a decrease
in money and quasi-money
by 3% of GDP.
Namibia
40
Lesotho
35
30
Swaziland
25
Zimbabwe
Botswana
20
Tanzania
15
Zambia
Malawi
Uganda
10
5
0
0
10
20
30
40
50
Inflation 1990-98 (Per Cent Per Year)
60
70
3
Privatization and economic
growth
Privatization means that profit-oriented
owners and able managers are allowed to
direct enterprises.
Profit motive replaces political considerations as
the guiding principle of business operations.
Profit-maximizing owners generally want to appoint
managers and staff on merit rather than on the
basis of political connections, for example.
Private enterprise is generally more efficient
than state-owned enterprises.
Same story time and
again
Free trade is good for growth
Reduces the inefficiency that results from
restrictions on trade
Price stability is good for growth
Reduces inefficiency resulting from inflation
Privatization is good for growth
Reduces inefficiency resulting from SOEs
Education is good for growth
Reduces the inefficiency that results from
inadequate education
Same story time and
again
Can describe this by simple arithmetic
The efficiency gain from eliminating an
economic distortion (trade restrictions,
inflation, unnecessary state intervention,
insufficient education) is directly
proportional to the square of the
distortion:
E = mc2
E stands for efficiency gain, m is a multiplicative
constant, and c is the distortion
E=
2
mc
If the distortion is substantial (severe
trade restrictions, high inflation, big SOE
sector, poor education), then reducing or
eliminating the distortion can increase
efficiency and growth a great deal.
We can see this by plugging appropriate
numbers into the formula and also by
econometric research, where the theory
is compared with experience (i.e.,
economic statistics).
4
Education and economic
growth
Education means a better trained and hence
more efficient work force.
 Need to provide primary and secondary
education to all, especially females
 Need to provide tertiary education to a greatly
increased number of people
 Need increased public commitment to education
 This requires both increased public expenditure
on education and probably also increased scope
for private sector involvement in education.
Growth and education,
86
countries 1965-98
An increase in
secondary-school
enrolment by 4%
of each cohort goes
along with an
increase in per
capita growth by
1% per year.
Growth per capita (% per year)
10
8
6
4
2
0
0
20
40
60
80
100
120
-2
-4
Secondary-school enrolment 1980-97 (% )
140
Growth and education,
1965-98
10
Growth per capita (% per year)
33 subSaharan
African
countries
Each two percentage point
increase in the education
expenditure ratio is associated
with an increase in per capita
growth by about 1% per year.
8
6
4
2
0
0
1
2
3
4
5
6
-2
-4
-6
Public expenditure on education (% of GNP)
7
8
Growth and education,
11 MEFMI
countries 1975-1998
Growth Per Capita (Per Cent Per Year)
12
Each two percentage point
increase in the education
expenditure ratio is associated
with an increase in per capita
growth by almost 1% per year.
10
8
Botswana
Lesotho
Swaziland
6
Uganda
Malawi
4
Zimbabwe
Namibia
2
Tanzania
Zambia
0
0
1
2
3
4
5
6
-2
Angola
-4
Public Expenditure on Education (Per Cent of GNP)
7
8
Growth and education,
1965-98
Per capita growth 1965-98, adjusted for initial
income (% per year)
6
An increase in secondary-school
enrolment by 25% of each cohort goes
along with an increase in per capita
growth by 1% per year
4
2
Thailand
Japan
Finland
0
0
20
40
60
80
100
120
-2
Jamaica
-4
-6
Ghana
r = 0.72
Positive but decreasing
returns to education
-8
Secondary-school enrolment 1980-97 (% of cohort)
5
Natural resources and
economic growth
Natural resources, if not well managed,
may turn out to be, at best, a mixed
blessing.
Three possible channels
 Dutch disease
 Rent seeking
 Education
What is the evidence?
Resource dependence
Natural resource abundance
and economic structure
Resource poor,
resource dependent
(Chad, Mali)
Resource rich,
resource dependent
(OPEC)
Resource poor,
resource free
(Jordan, Panama)
Resource rich,
resource free
(Canada, USA)
Resource abundance
Natural resources and
86
countries economic growth 1965-98
10
A ten percentage point
increase in the natural
capital share goes along
with a decrease in per
capita growth by nearly
1% per year.
Growth per capita (% per year)
8
6
4
2
0
0
10
20
30
40
50
-2
-4
Share of natural capital in national wealth (%)
Abundant natural resources, if not well managed,
appear harmful to growth.
60
Natural capital and
economic growth
A new
measure of
natural
resource
abundance
Confirms
results based
on other
measures
85 countries
Growth of GNP per capita 1965-1998, adjusted for initial
income (%)
What is the
empirical
evidence?
6
r = rank
correlation
Australia
An increase in the
natural capital share
by 8% goes along
with a decrease in
per capita growth by
1% per year.
20
30
4
8 Asian countries
I/Y = 0.32
2
0
0
10
40
50
-2
-4
-6
Venezuela
8 African countries
I/Y = 0.05
r = -0.64
-8
Share of natural capital in national wealth 1994 (%)
60
Natural capital tends to crowd out
Recent literature
Four main linkages:
1. Dutch disease
Hurts level or composition of exports
2. Rent seeking
Protectionism, corruption
3. Education
4. False sense of security
Poor quality of policies and institutions
5. Investment
Enter natural resources
Growth
+
–
–
?
Investment
x
–
Initial Income
+
Education
+
–
Natural Capital
Natural resource abundance hurts investment and
education, and hence also growth
Abundant
natural
resources
appear to
crowd out
human
resources.
Public expenditure on education (% of GNP)
Natural resources and
90
countries education
9
An 18 percentage point
increase in the natural
capital share is associated
with a decrease in public
expenditure on education
by 1% of GNP.
8
7
6
5
4
3
2
1
0
0
10
20
30
40
Share of natural capital in national wealth (%)
50
60
Secondary-school enrolment
and natural capital
Secondary-school enrolment 1980-97 (% of cohort)
120
Finnland
100
80
Uruguay
Congo
60
Increased
natural
resource
abundance
hurts
education
and growth
An increase in natural
capital by 5% of
national wealth goes
along with a reduction in
secondary-school
enrolment by almost
10% of each cohort
Vietnam
40
r = -0.66
20
Niger
0
0
10
20
30
40
50
-20
-40
Share of natural capital in national wealth 1994 (%)
60
Gross domestic investment 1965-1998 (% of GDP)
Natural capital and
investment
35
Congo
30
25
An increase in the
natural capital share by
10% is associated with a
decrease in investment
by 2% of GDP.
20
15
Mali
10
Sierra Leone
5
r = -0.38
0
0
10
20
30
40
50
Share of natural capital in national wealth 1994 (%)
60
85 countries
Natural capital and
financial depth
Money and quasi-money 1965-1998 (% of GDP)
120
r = -0.68
100
Portugal
80
Italy
60
New Zealand
40
20
0
0
10
20
30
40
50
Share of natural capital in national wealth 1994 (%)
60
85 countries
Financial depth and
economic growth
Growth of GNP per capita 1965-1998, adjusted for initial
income (% per year)
6
4
2
Japan
Indonesia
Switzerland
0
0
20
40
60
80
100
120
-2
Jordan
-4
-6
r = 0.66
-8
Money and quasi-money 1965-1998 (% of GDP)
85 countries
Natural resources and
45
countries corruption
10
New Zealand
9
Abundant
natural
resources
appear to
go along
with
corruption.
Corruption index
8
7
6
5
4
3
2
1
0
0
5
10
15
20
Share of natural capital in national wealth (%)
25
6
Inequality and
economic growth
Two views:
1. Inequality is good for growth
 Too much equality weakens incentives to
work, save, and acquire an education
2. Inequality is bad for growth
 Too much inequality reduces social
cohesion and creates conflict
What is the empirical evidence?
Gini coefficient: An index of
inequality
Gini
Gini
Gini
Gini
Gini
Gini
=
=
=
=
=
=
25
30
35
40
50
60






20/20
20/20
20/20
20/20
20/20
20/20
ratio
ratio
ratio
ratio
ratio
ratio
=
=
=
=
=
=
3
4
6
8
15
26
(Scandinavia)
(Germany)
(UK)
(USA)
(Nigeria)
(Brazil)
Gini coefficient and
the 20/20 ratio
Gini
Gini
Gini
Gini
Gini
Gini
=
=
=
=
=
=
25
30
35
40
50
60






20/20
20/20
20/20
20/20
20/20
20/20
ratio
ratio
ratio
ratio
ratio
ratio
=
=
=
=
=
=
3
4
6
8
15
26
(Scandinavia)
(Germany)
(UK)
(USA)
(Nigeria)
(Brazil)
Increase in Gini coefficient by 10 points
roughly doubles the 20/20 ratio
Gini coefficient and
the 20/20 ratio
Gini
Gini
Gini
Gini
Gini
Gini
=
=
=
=
=
=
25
30
35
40
50
60






20/20
20/20
20/20
20/20
20/20
20/20
ratio
ratio
ratio
ratio
ratio
ratio
=
=
=
=
=
=
3
4
6
8
15
26
(Scandinavia)
(Germany)
(UK)
(USA)
(Nigeria)
(Brazil)
Increase in Gini coefficient by 10 points
roughly doubles the 20/20 ratio
Gini coefficient and
the 20/20 ratio
Gini
Gini
Gini
Gini
Gini
Gini
=
=
=
=
=
=
25
30
35
40
50
60






20/20
20/20
20/20
20/20
20/20
20/20
ratio
ratio
ratio
ratio
ratio
ratio
=
=
=
=
=
=
3
4
6
8
15
26
(Scandinavia)
(Germany)
(UK)
(USA)
(Nigeria)
(Brazil)
Increase in Gini coefficient by 10 points
roughly doubles the 20/20 ratio
Gini coefficient and
the 20/20 ratio
Gini
Gini
Gini
Gini
Gini
Gini
=
=
=
=
=
=
25
30
35
40
50
60






20/20
20/20
20/20
20/20
20/20
20/20
ratio
ratio
ratio
ratio
ratio
ratio
=
=
=
=
=
=
3
4
6
8
15
26
(Scandinavia)
(Germany)
(UK)
(USA)
(Nigeria)
(Brazil)
Increase in Gini coefficient by 10 points
roughly doubles the 20/20 ratio
Gini coefficient and
the 20/20 ratio
Gini
Gini
Gini
Gini
Gini
Gini
=
=
=
=
=
=
25
30
35
40
50
60






20/20
20/20
20/20
20/20
20/20
20/20
ratio
ratio
ratio
ratio
ratio
ratio
=
=
=
=
=
=
3
4
6
8
15
26
(Scandinavia)
(Germany)
(UK)
(USA)
(Nigeria)
(Brazil)
Increase in Gini coefficient by 10 points
roughly doubles the 20/20 ratio
Growth and inequality,
1965-98
Per capita growth 1965-98, adjusted for initial income
(% per year)
6
y = -0.0799x + 2.1297
R2 = 0.1968 Korea
4
France
Thailand
2
An increase in Gini
index by 12 points
goes along with a
decrease in per
capita growth by
almost 1% per year
Lesotho
Brazil
0
0
-2
20
40
60
80
South Africa
Sweden
Central
African
Republic
-4
r = -0.50
-6
Gini index
No
discernible
sign that
equality
stands in
the way of
economic
growth
Inequality and natural
resource abundance
70
7 African countries
where investment is 5% of
GDP and per capita growth
is -1% per year
60
Gini index
50
40
r = 0.41
Mauritania
30
Rwanda
Norway
20
An increase in natural
capital by 3% of
national wealth goes
along with an increase
in Gini index by 1 point
Bangladesh
10
y = 0.3569x + 37.522
2
R = 0.1373
0
0
10
20
30
40
50
Share of natural capital in national wealth 1994 (%)
60
Increased
natural
resource
abundance
increases
inequality
and
reduces
growth
What is the upshot?
Economic growth responds to public policy.
In particular, by encouraging
 saving and investment of high quality
 foreign trade and investment
 education
 economic diversification
... the government can help foster rapid
economic growth.
Sir Arthur Lewis got it right
Since the second world
war it has become
quite clear that rapid
economic growth is
available to those
countries with
adequate natural
resources which make
the effort to achieve it.
W. ARTHUR LEWIS
(1968)
What else?
And too much inequality
also tends to impede
economic growth.
These lessons are borne out by experience
from around the world.
Additional lessons:
Too much inflation hurts saving, investment,
and trade — and thereby also growth.
Too much SOE activity hurts the quality of
investment and education — and growth.
Too much agriculture and, more generally,
natural resource dependence, if not well
managed, hurts education and trade — and
thereby also growth.
Too rapid population growth also tends to
impede economic growth.
Reservations
Even so, the question of rapid growth is, of
course, a bit more complicated.
We also need to address a host of political,
social, and cultural questions as well as
questions of natural conditions, climate,
and public health — which would take us
too far afield.
But the main point remains:
 To grow or not to grow is in large measure a
matter of choice.
 Many of the constraints on growth are manmade, and can be removed.
Conclusion: It can
be done
Economic growth makes a difference,
especially in poor countries.
A question literally of life and death
And not only in poor countries,
for there is poverty amid plenty in rich countries
Recall the main point of Gunnar Myrdal’s Asian
Drama (1968):
It was that the Asian economies were incapable of
rapid economic growth!
New growth theory suggests that similar claims
about Africa will also be proven wrong.
Conclusion: It can
be done These slides can be viewed on my website:
www.hi.is/~gylfason/lesotho.htm
To grow or not to
grow is in large
measure a matter
of choice.