MEANING OF DEVELOPMENT

There is no agreement on the meaning of development. It may

mean different things to different people. The only thing on which
everyone agrees is that development is necessary.

Traditional Economic Meaning/Measure of Development

• In strictly economic terms, development has traditionally

meant the capacity of a national economy to generate and sustain
an annual income in its gross national product (GNP) at rates –
5% to 7% or more.

• A common alternative economic index of development has

been the use of rates of growth of income per capita or per capita
GNP to take into account the ability of a nation to expand its
output at a rate faster than the growth rates of its population.

• Levels and rates of growth of “real” per capita GNP

(monetary growth of GNP per capita minus the rate of inflation)
are normally used to measure the overall economic well-being of
a population – how much of real goods and services is available
to the average citizen for consumption and investment.

• Economic development in the past has also been typically

seen in terms of the planned alternation of the structure of
production and employment so that agriculture’s share of both
declines and that of the manufacturing and service industries
increases.

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• Finally, these principal economic measures of development
have often been supplemented by casual reference to non-
economic social indicators: gains in literacy schooling, health
conditions and services, and provision of housing, for instance
etc.

• On the whole, therefore, prior to the 1970s, development

was nearly always seen as an economic phenomenon in which
rapid gains in overall and per capita GNP growth would either
“trickle down” to the masses in the form of jobs and other
economic opportunities or create the necessary conditions for the
wider distribution of the economic and social benefits of growth.

The New Economic View of Development

• Dethronement of GNP and the elevation of direct attacks on

widespread absolute poverty, increasingly inequitable income
distributions, and rising unemployment.

• During the 1970s, economic development came to be

redefined in terms of the reduction or elimination of poverty,
inequality, and unemployment within the context of a growing
economy.

• Development must therefore be conceived of as a

multidimensional process involving major changes in social
structures, popular attitudes, and national institutions, as well as
the acceleration of economic growth, the reduction of inequality,
and the eradication of poverty.

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• Development, in its essence, must represent the whole
gamut of change by which an entire social system, tuned to the
diverse basic needs and desires of individuals and social groups
within that system, moves away from a condition of life widely
perceived as unsatisfactory toward a situation or condition of life
regarded as materially and spiritually better.

Development May also Mean

• Increase in material things which the society can afford.

• Increase in services – education, health – which the society

can afford.

• Increase in cultural activities which make human life rich –

rich family life, community feeling, art, music, etc., depending on
individual interests and preferences.

• Safety, freedom and opportunity; and also sense of

participation in local, regional and national affairs.

Amartya Sen on Development

• “Economic growth cannot be sensibly treated as an end in

itself. Development has to be more concerned with enhancing the
lives we lead and the freedoms we enjoy.” Sen argues that the
“Capability to function” in what really matters for status as a poor
or non-poor.

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 Sustainable Development

• Pattern of development that permits future generations to

live at least as well as the current generation.

Human Development

• National socioeconomic development, based on measures of

life expectancy at birth, educational attainment, literacy, and
adjusted real per capita income.

Three Core Values of Development

• Sustenance: The Ability to Meet Basic Needs.

• Self-Esteem: To Be a Person.
• Freedom from Servitude: To Be Able to Choose

Three Objectives of Development

• To increase the availability and widen the distribution of basic

life-sustaining goods such as food, shelter, health, and protection.

• To raise levels of living, including, in addition to higher

incomes, the provision of more jobs, better education, and greater
attention to cultural and human values, all of which will serve not
only to enhance material well-being but also to generate greater
individual and national self-esteem.

• To expand the range of economic and social choices

available to individuals and nations by freeing them from
servitude and dependence not only in relation to other people and
nation-states but also to the forces of ignorance and human
misery.

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Cross Country Comparison of Development

 Cross country comparison of development is very

difficult.

 Definitions of important concepts (such as literacy

and what constitutes a household) vary from country to
country, data collection and reporting methods and skills
differ, and government record keeping is not uniform.

 Standardization of data across countries – a

necessary basis for comparisons – is extremely difficult,
especially when countries have different cultural values;
for example, literacy is hard to measure in countries with
strong oral and weak written educational traditions.

 Most systematic index of measuring development,

perhaps, is the Human Development Index (HDI),
devised by the United Nations Development Programme.

 The HDI is a summary measure of human

development. It measures the average achievements in a
country in three basic dimensions of human
development:

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 • A long and healthy life, as measured by life
expectancy at birth.

• Knowledge, as measured by the adult literacy rate

(with two-thirds weight) and the combined primary,
secondary and tertiary gross enrolment ratio (with
one-third weight).

• A decent standard of living, as measured by GDP per

capita (PPP US$).

 Although the components of HDI – income, health,

and education – are somewhat correlated, relations
among them re not uniquely defined: Achievements
along these dimensions do not necessarily move together.

 The HDI does not capture all aspects of individual

and social welfare. China and India have nearly identical
per capita incomes ($350 and $340, respectively), but
after these are adjusted for purchasing power parity (per
capita real GDPs are $2656 and $910) and health and
education factors are considered, China’s HDI (.612) is
considerably higher than India’s (.297).

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 Further, the HDI does not measure political
freedom: India is the world’s most populous democracy;
China is the world’s most populous authoritarian regime.

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1.0 Common Characteristics Of Developing Nations

i. Low levels of living, characterized by low incomes,

inequality, poor health, and inadequate education.

ii. Low levels of productivity.

iii. High rates of population growth and dependency

burdens.

iv.Substantial dependence on agricultural production and

primary – product exports.

v. Prevalence of imperfect markets and limited information.

vi.Dominance, dependence, and vulnerability in

international relations.

2.0 Classical and neo-classical theories of development

Post world war II literature on economic development has been

dominated by four major and sometimes competing strands of
thought as under:

A. The linear stage of growth model:

• Theorists/economists of the 1950s and early 1960s

viewed economic development as a series of successive
stages of economic growth through which all countries must
pass.

• Primarily an economic theory of development – its

requirements include:

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 - right quantity and mixture of savings,
investment and foreign aid.

• If the requirements were fulfilled, the developing

countries could imitate the economic growth path that
historically had been followed by the more developed
countries.

• Development, by these theories was equated with

rapid, aggregate economic growth. More specifically, this
approach to development relied on historical experiences of
Marshall plan implemented after the second world war.

• As the linear stage approach gave utmost importance

on the central role of accelerated capital accumulation, it is
often dubbed as ‘capital fundamentalism.’

• This approach’s most influential and outspoken

advocate was Walter W. Rostow who identified five stages
as under:

a) the traditional society;

b) pre-conditions for take-off into self-sustaining growth;
c) the take-off;
d) the drive to maturity;
e) the age of mass consumption.

• One of the principal strategies of development

necessary for any take-off was the mobilization of domestic
and foreign savings in order to generate sufficient
investment to accelerate economic growth.

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• Countries that were able to save 15% to 20% of GNP
could grow (develop) at a much faster rate than those that
saved less.

• To meet domestic savings gap/deficit, seek foreign aid

or private foreign investment.

Note: The economic mechanism by which more investments leads

to more growth can be described in terms of Harrod-
Domar growth model; a functional economic relationship
in which the growth rate of GDP (g) depends directly on
the national savings rate (s) and inversely on the national
capital-output ratio (k), that is g = s/k

Stages Theory
1.0 Adam Smith

a) Hunting
b) Pastoral
c) Agricultural
d) Commercial
e) Manufacturing

2.0 Marx

a) Primitive Communism
b) Feudalism
c) Capitalism

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 d) Socialism
e) Communism

3.0 Rostow

a) Traditional Society
b) Preconditions for take off into self-sustaining growth
c) Take-off
d) Drive to maturity
e) The age of high levels of mass consumption

Preconditions for Take-off

a) Abolition of an archaic framework in agricultural

organisation or an increase in agricultural productivity.

b) Creation of an influential modern elite which is materially or

ideally interested in economic change.

c) Provision of social-overhead capital in physical form.

d) Existence of a value system that favours progress.

e) Existence of effective entrepreneurial groups basking in the

sun of social approval.

Take-off

Requirements:

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a) A rise in the rate of productive investment from, say, 5% or
less to over 10% of national income (or net national product);

b) The development of one or more substantial manufacturing

sector, with a high rate of growth; and

c) The existence or quick emergence of a political, social and

institutional framework that exploits the impulses to expansion in
the modern sector and the potential external economy effects of
the take-off and gives to growth an ongoing character.

• Criticisms of the stages model.

- the mechanisms of development

embodied/stated in the theory of stages did not always
work.

• Saving and investment is a necessary condition, but not

a sufficient condition.

• Most developing countries lacked the sufficient

condition covering a wide range of things like managerial
competence skilled labour, ability to plan and administer a
large variety of projects.

• More fundamentally, developing countries are caught

in a highly integrated and complex international system in
which even the best and most intelligent development

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 strategies can be frustrated/nullified by external forces
beyond their control.

B. Structural-Change Models:

The structural change theory focuses on the mechanism by which

underdeveloped economies transform their economic structure
from a heavy emphasis on traditional subsistence agriculture to a
modern, more urbanized and more industrialially diverse
manufacturing and service industry.

- Two well-known representative examples of structural

changes are:

a) the two-sector surplus labour theoretical

model of W. Arthur Lew, and

b) the patterns of development empirical

analysis by Hollis B. Chenery and his co-anthers.

B.1 Lewis Theory: (Mid 1950s)

Lewis theory focused on the structural transformation of a

primarily subsistence economy. Lewis theory was later modified,
formalized and extended by John Fei and Gustav Rains.

• Lewis two sector model became the general theory of

the development in surplus labour third world nations during
most of the 1960s and early 1970s. It still has many
adherents to-day, especially among American development
economists.

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• In the Lewis model, the underdeveloped economy
consists of two sectors:

i. A traditional sector, over populated rural

subsistence sector characterized by Zero marginal
labour productivity – a situation that permits Lewis to
classify this as surplus labour, in the sense that it can
be withdrawn from the agriculture sector without any
loss of output.

ii. And a high productivity modern urban industrial

sector into which labour from the subsistence is
gradually transferred.

iii. The primary focus of the model is on both the

process of labour transfer and the growth of output and
employment in the modern sector.

iv. Both labor transfer and modern sector-

employment growth are brought about by output
expansion.

v. The speed with which this expansion occurs is

determined by the rate of industrial investment and
capital accumulation in the modern sector.

vi. Such investment is made possible by the excess of

modern-sector profits over wages on the assumption
that capitalists reinvest all their profits.

vii. Finally, the level of wages in the urban industrial

sector is assumed to be constant and determined as a

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 given premium over a fixed average subsistence level
of wages in the traditional agricultural sector.

viii. Lewis assumed that urban wages would have to

be at least 30% higher than average rural income to
induce workers to migrate from their home areas.

ix. Lewis assumes that in the traditional sector there

is surplus labor in the sense that MPLA is zero, and all
rural workers share equally in the output so that the
rural real wage is determined by the average and not
the marginal product of labour (as will be the case in
the modern sector).

x. This process of modern-sector self-sustaining

growth and employment expansion is assumed to
continue until all surplus rural labour is absorbed in the
new industrial sector.

xi. Thereafter, additional workers can be withdrawn

from the agricultural sector only at a higher cost of lost
food production because the declining labour-to-land
ratio means that the marginal product of rural labour is
no longer zero.

xii. The structural transformation of the economy will

have taken place, with the balance of economic activity
shifting from traditional rural agriculture to modern
urban industry.

Criticisms of the Lewis Model

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Although the Lewis two-sector development model is simple and
roughly reflects the historical experience of economic growth in
the West, four of its key assumptions do not fit the institutional
and economic realities of most contemporary developing
countries.

a) First, the model implicitly assumes that the

rate of labour transfer and employment creation in the
modern sector is proportional to the rate of modern-sector
capital accumulation. The faster the rate of capital
accumulation, the higher the growth rate of the modern
sector and the faster the rate of new job creation. But what if
capitalist profits are reinvested in more sophisticated
laboursaving capital equipment rather than just duplicating
the existing capital as is implicitly assumed in the Lewis
model?

b) The second questionable assumption of the

Lewis model is the notion that surplus labor exists in rural
areas while there is full employment in the urban areas.
Most contemporary research indicates that there is little
general surplus labour in rural locations.

c) The third unreal assumption is the notion of

a competitive modern-sector labour market that guarantees
the continued existence of constant real urban wages up to
the point where the supply of rural surplus labor is
exhausted. A striking feature of urban labour markets and
wage determination in almost all developing countries was
the tendency for these wages to rise substantially over time,
both in absolute terms and relative to average rural incomes,

16
 even in the presence of rising levels of open modern-sector
unemployment and low or zero marginal productivity in
agriculture.

d) A final concern with the Lewis model is its

assumption of diminshing returns in the modern industrial
sector. Yet there is much evidence that increasing returns
prevail in that sector, posing special problems for
development policymaking.

B.2 Structural Change and Patterns of Development

a) Like the earlier Lewis model, the patterns-

of-development analysis of structural change focuses on the
sequential process through which the economic, industrial,
and institutional structure of an underdeveloped economy is
transformed over time to permit new industries to replace
traditional agriculture as the engine of economic growth.

b) However, in contrast to the Lewis model and

the original stages view of development, increased savings
and investment are perceived by patterns-of-development
analysis as necessary but not sufficient conditions for
economic growth.

c) In addition to the accumulation of capital,

both physical and human, a set of interrelated changes in the
economic structure of a country are required for the
transition from a traditional economic system to a modern
one.

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d) These structural changes involve virtually all
economic functions, including the transformation of
production and changes in the composition of consumer
demand, international trade, and resource use as well as
changes in socioeconomic factors such as urbanization and
the growth and distribution of a country’s population.

e) Empirical structural-change analysts

emphasize both domestic and international constraints on
development. The domestic ones include economic
constraints such as a country’s resource endowment and its
physical and population size as well as institutional
constraints such as government policies and objectives.
International constraints on development include access to
external capital, technology, and international trade.

f) However, it is the international constraints

that make the transition of currently developing countries
differ from tat of now industrialized countries.

g) To the extent that developing countries have

access to the opportunities presented by the industrial
countries as sources of capital, technology, and
manufactured imports as well as markets for exports, they
can make the transition at an even faster rate than that
achieved by the industrial countries during the early periods
of their economic development.

h) Thus, unlike the earlier stages model, the

structural-change model recognizes the fact that developing

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 countries are part of a highly integrated international system
that can promote (as well as hinder) their development.

i) The best-known model of structural change

is the one based largely on the empirical work of the late
Harvard economist Hollis B. Chenery and his colleagues,
who examined patterns of development for numerous
developing countries during the postwar period.

j) Several characteristic features of

development included:

- The shift from agricultural to industrial

production;

- The steady accumulation of physical and human

capital;

- The change in consumer demands from

emphasis on food and basic necessities to desires for
diverse manufactured goods and services;

- The growth of cities and urban industries as

people migrate from farms and small towns;

- The decline in family size and overall population

growth as children lose their economic value and parents
substitute child quality (education) for quantity;

- With population growth first increasing, then

decreasing in the process of development.

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k) Proponents of this school often call for
development specialists to “let the facts speak for
themselves,” rather than get bogged done in the arcane of
theories such as the stages of growth. This is a valuable
counterbalance to empty theorizing, but it also has its own
limits.

l) One limitation to keep in mind is that by

emphasizing patterns rather than theory, this approach runs
the risk of leading practitioners to draw the wrong
conclusions about causality, in effect, to “put the cart before
the horse.” Observing developed-country patterns such as
the decline of the share of the labour force in agriculture
over time, many developing-country policymakers have
been inclined to neglect that vital sector.

Again observing the important role of higher education in

developed countries, policymakers may be inclined to
emphasize the development of an advanced university
system even before a majority of the population has gained
basic literacy, a policy that has led to gross inequities even
in countries at least nominally committed to egalitarian
outcomes, such as Tanzania.

The structural-change analysts are basically optimistic that

the “correct” mix of economic policies will generate
beneficial patterns of self-sustaining growth.

C. International-Dependence Revolution

a) During the 1970s, international-dependence

models gained increasing support, especially among

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 developing-country intellectuals, as a result of growing
disenchantment with both the stages and structural-change
models.

b) Essentially, international-dependence
models view developing countries as beset by institutional,
political and economic rigidities, both domestic and
international, and caught up in a dependence and dominance
relationship with rich countries.

c) Within the above general approach are three

major streams of thoughts:

- the neo-colonial dependence model;

- the false-paradigm model; and
- the dualistic development thesis.

C.1 The Neocolonial Dependence Model

a) It is an indirect outgrowth of Marxist

thinking. It attributes the existence and continuance of
underdevelopment primarily to the historical evolution of
highly unequal international capitalist system of rich
country-poor country relationships.

b) Whether because rich nations are

intentionally exploitative or unintentionally neglectful, the
coexistence of rich and poor nations in an international
system dominated by such unequal power relationships
between the center (the developed countries) and the
periphery (the LDCs) renders attempts by poor nations to be

21
 self-reliant and independent difficult and sometimes even
impossible.

c) In short, the neo-Marxist, neocolonial view

of underdevelopment attributes a large part of the
developing world’s continuing and worsening poverty to the
existence and policies of the industrial capitalist countries of
the Northern Hemisphere and their extensions in the form of
small but powerful elite or comprador groups in the less
developed countries.

d) Underdevelopment is thus seen as an

externally induced phenomenon, in contrast to the linear-
stages and structural-change theories’ stress on internal
constraints such as insufficient savings and investment or
lack of education and skills.

e) Revolutionary struggles or at least major

restructuring of the world capitalist system are therefore
required to free dependent developing nations from the
direct and indirect economic control of their developed-
world and domestic oppressors.

C.2 The False-Paradigm Model

a) A second and a less radical international-dependence

approach to development, which we might call the false-
paradigm mode, attributes underdevelopment to faulty and
inappropriate advice provided by well-meaning but often
uninformed, biased, and ethnocentric international “expert’
advisers from developed-country assistance agencies and
multinational donor organizations.

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b) Because of institutional factors such as the central and
remarkably resilient role of traditional social structures
(tribe, caste, class, etc.), the highly unequal ownership of
land and other property rights, the disproportionate control
by local elites over domestic and international financial
assets, and the very unequal access to credit, these policies,
based as they often are on mainstream, Lewis-type surplus
labor or Chenery-type structural-change models, in many
cases merely serve the vested interests of existing power
groups, both domestic and international.

c) In addition, according to this argument, leading university

intellectuals, trade unionists, high-level government
economists, and other civil servants all get their training in
developed-country institutions where they are unwittingly
served an unhealthy dose of alien concepts and elegant but
inapplicable theoretical models.

d) Proponents argue that desirable institutional and structural

reforms, many of which we have discussed, are neglected on
given only cursory attention.

C.3 Dualistic-Development Thesis

a) Dualism is a concept widely discussed in development

economics. It represents the existence and persistence of
increasing divergences between rich and poor nations and
rich and poor peoples on various levels.

23
 i) Different sets of conditions, of which some are “superior”
and others “inferior,” can coexist in a given space.

ii) This coexistence is chronic and not merely transitional.

iii) Not only do the degrees of superiority or inferiority fail

to show any signs of diminishing, but they even have
an inherent tendency to increase.

iv) The interrelations between the superior and inferior

elements are such that the existence of the superior
elements does little or nothing to pull up the inferior
element, let alone “trickle down” to it. In fact, it may
actually serve to push it down – to “develop its
underdevelopment.

Implications

Dependence theories have two major weaknesses:

a) First, although they offer an appealing explanation of why

many poor countries remain underdeveloped, they offer little
formal or informal explanation of how countries initiate and
sustain development.

b) Second and perhaps more important, the actual economic

experience of LDCs that have pursued revolutionary
campaigns of industrial nationalization and state-run
production has been mostly negative.

D. The Neoclassical Counterrevolution: Market Fundamentalism

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a) In the 1980s, the political ascendancy of conservative
governments is the United States, Canada, Britain, and West
Germany brought a neoclassical counterrevolution in
economic theory and policy.

b) In developed nations, this counterrevolution favored

supply-side macroeconomic policies, rational expectations
theories, and the privatization of public corporations.

c) In developing countries it called for freer markets and the

dismantling of public ownership, statist planning, and
government regulation of economic activities.

d) The central argument of the neoclassical counterrevolution

is that underdevelopment results from poor resource
allocation due to incorrect pricing policies and too much
state intervention by overly active developing-nation
governments.

e) The neoliberals argue that by permitting competitive free

markets to flourish, privatizing state-owned enterprises,
promoting free trade and export expansion, welcoming
investors from developed countries, and eliminating the
plethora of government regulations and price distortions in
factor, product, and financial markets, both economic
efficiency and economic growth will be stimulated.

f) The neoclassical challenge to the prevailing development

orthodoxy can be divided into three component approaches:
the free-market approach, the public choice (or “new
political economy”) approach, and the “market-friendly”
approach.

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g) Free-market analysis argues that markets alone are efficient
– product markets provide the best signals for investments in
new activities; labour markets respond to these new
industries in appropriate ways; producers know best what to
produce and how to produce it efficiently; and product and
factor prices reflect accurate scarcity values of goods and
resources now and in the future.

h) Public-choice theory, also known as the new political

economy approach, goes even further to argue that
governments can do nothing right. This is because public-
choice theory assumes that politicians, bureaucrats, citizens,
and states act solely from a self-interested perspective, using
their power and the authority of government for their own
selfish ends.

The net result is not only a misallocation of resources but

also a general reduction in individual freedoms. The
conclusion, therefore, is that minimal government is the best
government.

i) The market-friendly approach is the most recent variant on

the neoclassical counterrevolution. It is associated
principally with the writings of the World Bank and its
economists, many of whom were more in the free-market
and public-choice camps during the 1980s. This approach
recognizes that there are many imperfections in LDC
product and factor markets and that governments do have a
key role to play in facilitating the operation of markets
through “nonselective” (market-friendly) interventions.

26
j) The market-friendly approach also differs from the free-
market and public-choice schools of thought by accepting
the notion that market failures are more widespread in
developing countries in areas such as investment
coordination and environmental outcomes.

In summary, each of these approaches to under standing of

development has something to offer.

27
 CONTEMPORARY MODELS OF DEVELOPMENT AND
UNDERDEVELOPMENT

A.The New Growth Theory: Endogenous Growth

New growth theory

Also known as endogenous growth theory an extension and

modification of the traditional growth theory designed to explain
why long-run equilibrium growth can be positive and divergent
among countries and why capital tends to flow from poor to rich
countries despite the former’s low capital-labour ratios.

• Models of endogenous growth discard the neoclassical

assumption of diminishing marginal returns to capital
investments, permitting increasing returns to scale in
aggregate production, and frequently focusing on the role of
externalities in determining the rate of return on capital
investments.

• By assuming that public and private investments in

human capital generate external economies and productivity
improvements that offset the natural tendency for
diminishing returns, endogenous growth theory seeks to
explain the existence of increasing returns to scale and the
divergent long-term growth patterns among countries.

28
• Whereas technology still plays an important role in
these models, it is no longer necessary to explain long-run
growth.

Romer endogenous growth model

An endogenous growth model in which technological spillovers

are present; the economy-wide capital stock positively affects
output at the industry level, so that there may be increasing
returns to scale at the economy-wide level.

Shortcomings of endogenous growth model

• An important shortcoming of the new growth theory is

that it remains dependent on a number of traditional
neoclassical assumptions that are often inappropriate for
LDC economies. For example, it assumes that there is but a
single sector of production or that all sectors are
symmetrical. This does not permit the crucial growth-
generating reallocation of labor and capital among the
sectors that are transformed during the process of structural
change.

• Moreover, economic growth in developing countries is

frequently impeded by inefficiencies arising from poor
infrastructure, inadequate institutional structures, and
imperfect capital and goods markets. Because endogenous
growth theory overlooks these very influential factors, its
applicability for the study of economic development is

29
 limited, especially when country-to-country comparisons are
involved.

• Finally, empirical studies of the predictive value of

endogenous growth theories have to date offered only
limited support.

B. Underdevelopment as a Coordination Failure

Put simply, a coordination failure is a state of affairs in which

agents’ inability to coordinate their behavior (choices) leads to an
outcome (equilibrium) that leaves all agents worse off than in an
alternative situation that is also an equilibrium. This may occur
even when all agents are fully informed about the preferred
alternative equilibrium: They simply cannot get there because of
difficulties of coordination, sometimes because people hold
different expectations, sometimes because everyone is better off
waiting for someone else to make the first move.

C.Multiple Equilibria:

Multiple equilibria

A condition in which more than one equilibrium exists. These

equilibria may be ranked, in the sense that one is preferred to
another, but the unaided market will not move the economy to the
preferred outcome.

D.Starting Economic Development: The Big Push

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Big push

A concerted, economy-wide, and probably public policy-led,

effort to initiate or accelerate economic development across a
broad spectrum of new industries and skills.

• Perhaps the most famous coordination failure model in

the development literature is that of the “big push,”
pioneered by Paul Rosenstein-Rodan, who first raised some
of the basic coordination issues.

• The big push is a model of how the presence of market

failures can lead to a need for a concerted economy-wide
and probably public policy-led effort to get the long process
of economic development underway, or to accelerate it. Put
differently, coordination failure problems work against
successful industrialization, a counterweight to the push for
development. A big push may not always be needed, but it is
helpful to find ways to characterize cases in which it will be.

31
 Foreign Aid: Definition

– In principle all governmental resource transfers from one

country to another country should be included in the
definition of foreign aid.

– However, there is problem in this definition: this may

include real resource transfers from developed to developing
countries in the form of implicit capital/resource transfer:

• through, e.g. the granting of preferential tariffs.

Such transfers are not considered as foreign aid.

• further, private capital inflow should not also

be included in the foreign aid. Commercial
flows of private capital are not a form of foreign
assistance, even though they may benefit the
developing countries.

– Economists therefore, define foreign aid as any flow of

capital to LDCs that meets two criteria:

32
 • its objective should be non-commercial from
the point of view of the donor.

• it should be characterized by concessional

terms – that is , the interest and repayment
period should be softer.

– Even the above definition can be inappropriate because it

could include military aid, (which is both non-commercial and
concessional) which is normally excluded from international
economic measurements of foreign aid flows.

– The concept of foreign aid that is now widely used and

accepted, therefore, is one that encompasses all official grants
and concessional loans, in currency or in kind, that are
broadly aimed at transferring resources from developed to less
developed nations on development or income distribution
grounds.

– Unfortunately, there often is a thin line separating purely

developmental grants and loans from sources ultimately
motivated by security or commercial interests.

33
 Problems in Measuring Foreign Aid

Three problems are –

First, we cannot simply add together the dollar values of grants

and loans; each has a different significance to both donor and
recipient countries. Loans must be repaid and therefore cost the
donor and benefit the recipient less than the nominal value of the
loan itself. Conceptually, we should deflate or discount the dollar
value of interest-bearing loans before adding them to the value of
outright grants.

Second, aid can be tied either by source (loans or grants have to

be spent on the purchase of donor-country goods and services) or
by project (funds can only be used for a specific project, such as a
road or a steel mill). In either case, the real value of the aid is
reduced because the specified source is likely to be an expensive
supplier or the project is not of the highest priority (otherwise,
there would be no need to tie the aid).

Finally, we always need to distinguish between the nominal and

real value of foreign assistance, especially during periods of rapid
inflation. Aid flows are usually calculated at nominal levels and
tend to show a steady rise over time. However, when deflated for

34
 rising prices, the actual real volume of aid from most donor
countries has declined substantially during the past decade. For
example, during the period 1960-1990, the nominal outflow of
foreign aid from the United States increased by 130%, but the real
value actually declined by nearly 30%.

Why Donors Give Aid

Two broad Categories of motivations:

– Political
– Economic

Political Motivations:

• Containing international spread of communism

• Contain Islamic insurgencies

Economic Motivations: Two-gap models and other criteria

• Savings investment gap

• Foreign exchange gap
• Growth and savings
• Technical assistance

Economic Motivations and Self-Interest

Some development assistance may be motivated by moral and

humanitarian desires to assist the less fortunate (e.g.,

35
emergency food relief program), but there is no historical
evidence to suggest that over long periods of time, donor
nations assist others without expecting some corresponding
benefits in return.

Why LDCs Accept Aid

First, for economic reason it is believed that aid is a crucial

and essential ingredient in the development process. It
supplements scarce domestic resources, it helps transform the
economy structurally, and it contributes to the achievement of
LDC takeoffs into self-sustaining economic growth. Thus the
economic rationale for aid in LDCs is based largely on their
acceptance of the donor’s perceptions of what the poor
countries require to promote their economic development.

Second, in some countries, aid is seen by both donor and

recipient as providing greater political leverage to the existing
leadership to suppress opposition and maintain itself in power.
The problem is that once aid is accepted, the ability of
recipient governments to extricate themselves from implied
political or economic obligations to donors and prevent donor
governments from interfering in their internal affairs can be
greatly diminished.

Finally, whether on grounds of basic humanitarian

responsibilities of the rich toward the welfare of the poor or
because of a belief that the rich nations owe the poor nations

36
conscience money for past exploitation, many proponents of
foreign aid in both developed and developing countries
believe that rich nations have an obligation to support LDC
economic and social development.

37
 Technological Transfer and Technical
Assistance

A) Technology

1. Very simply defined it is way of doing things;

2. Broader definition: all skills, knowledge and procedures

for making, using and doing useful things;

3. It includes the nature and specification of what is

produced – the product design, as well how it is produced;

4. Technology extends to services – administration,

education, banking, law – as well to manufacturing and
agriculture – it includes both hardware: mechanical process: and
software: managerial techniques and infrastructural services;

5. Technology consists of a series of techniques;

B) Inappropriate Technology

1. The actual technology is decided/limited/circumscribe by –

a) Nature of world technology;

b) Availability to the country;
c) Choice made among those.

2. A technology is inappropriate: because –

a) The world technology is inappropriate;

b) Because an inappropriate sub-set is available;
c) Or an inappropriate selection is made;
d) Or some combination of the above three.

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C) Characteristics of Technology
(Associated with set of activities)

a) The nature of the product;

b) The resource use (machinery, skilled and unskilled

manpower, management, material and energy inputs);

c) Scale of production;

d) Complementary products and services involved.

D) Country Applicability

1. Any or all of these characteristics may be important in determining

whether it is possible/or desirable to adopt a particular technique
in a particular country, and the implications of so doing.

E.1) Determinants of new technology (for a country):

a) Income levels;

b) Resource availability and costs;

c) System of organization of production;

d) The nature of technology in use.

E.2) In each of these aspects, advanced countries differ from the

poor countries.

E.3) So technology designed for developed countries tends to be

ill-adapted (or inappropriate) to the conditions of poor countries.

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F) Techniques designed for modern countries:

a) Tend to produce high income products;

b) High-capital intensity;
c) High level of education and skills;
d) Large scale production requiring sophisticated
management skill;
e) Linked with, through inputs and outputs, with the
rest of the advanced technology.

G) If they are transferred unmodified to LDCs, the consequence

will be:

a) A concentration of resources, of savings, and

expenditure on human resources and infrastructure of a small
part of the economy;

b) Income will tend to be concentrated in this area

leading to high income products the system produces;

c) Resources of the LDCs will be underutilized,

including raw materials as well as labour;

d) Dual economy characteristics will emerge:

1. Capital intensity of production techniques;

2. Heavy reliance on imported managers;
3. Skill deficiency;
4. Und-and-underemployment;
5. A relative deprivation of the economy outside the modern
sector;
H.1) Rapidly growing economies and which are selective can avoid
these consequence (Taiwan, South Korea).

H.2) Others like China have avoided dualistic tendencies by

protecting the non-modern sector.

40
 This is known as “Walking on two legs”.

I.1) This argument is challenged as simplistic Technological

Deterministic Argument.

I.2) ⇒ It is argued that in many industries there is a wide choice of

efficient technologies.
⇒ Pack (an Economist) argues choosing the most appropriate
technology, countries can make significant gains at the
macro-level in terms of:
a) Employment;
b) Output;
c) Saving.
J) Factors limiting the choice of labour intensive technology:
a) Products standard characteristics may rule out labour
intensive technology;
b) Lab. intrusive techniques are only economic at small scale;
c) Lack of information about the full range of technology
available may bias choice;
d) Not only relative price of capital and labour determines
choices other factors such as market, income distribution,
trading strategy etc. also influence choice;
e) Choices are not static – because shelf is moving/changing
as technical change proceeds.
K) Two types of appropriate technology:
a) Appropriate for modern sector – advanced country
technology adapted to LDCs’ situation;
b) Appropriate technology for traditional sector –
upgrading and improving traditional technology.

41
 L) Innovation assimilation – innovating on the top of imported
technology in the direction of using relatively more abundant
unskilled labour supply.

AID Conditionality

 Aid is conditional.

 When aid is given for strategic reasons, the

conditionality is self-evident

 When the ostensible purpose is to help economical

development especially the issue of conditionality is
considerably more delicate.

 In the 1950’s the conditionality was, to have large-scale

industrial development plans and inward looking import
substitution strategies.

 In the 1960’s and 1970’s this remained intact, but

additional conditionality introduced to ensure adequate
expansion of the social sectors and of agriculture, especially
small-farmer agriculture.

 In the 1980’s the conditionality swung to insist on

“market-friendly” reforms, including opening up the economy
to imports and foreign direct investment, privatization of state
owned enterprises, opening up of the international capital

42
 account, and maintaining fiscal balance through austerity in
public expenditures.

 In the 1990s the debate on conditionality focused on

which of these elements could form part of a successful
development strategy, which would include a broader set of
conditions, for example on public expenditure restructuring,
governance, etc.

 Conditionality does not seem to work because:

• The steady flow of aid is a source of income to many

interest groups in the donor country. Their dominant
concern is their income, not necessarily the well
being of the aid recipients. If conditionality is
violated, the short term interest of these groups is for
the aid to flow in any case (at least, that part of the
aid which flows back to them).

• There is a triadic relationship between the company

in the donor country which depends on contract
payments from the developing country, the
developing country government, and the donor
government or agency.

• Another line of argument focuses on the incentives

facing bureaucrats in aid agencies.

• Enforcing conditionality will inflict short term pain

on the very people the aid is meant to help. Of course

43
 such “tough love” may be best in the long run, but
this does not mitigate the short term temptation to
overlook the violation of conditionality.

DEBT RELIEF

A: The Need for Debt Relief

 There is growing consensus around the world that

debt is a major obstacle to the sustainable development of
poor countries.

 Some countries spend more than 75% of their

budget on debt payments, leaving them with little money for
developing the economy, or for social expenditures, like
education and health.

 The cost of debt payments, or servicing the debt,

can also suck up much of the foreign currency a country earns
with its exports, leaving little foreign currency to buy vital
imports.

B: Why Some Countries are in Debt Crises

 In the last 1970s and early 1980s, interest rates

soared, to unprecedented levels. With those increases in
interest rates, what were serviceable debt levels, suddenly
became unsustainable. In the late 1990s, interest rates to

44
 emerging markets soared again. Even when countries do not
have short term debt, there is a constant need to roll over debt,
and when it is rolled over, they face higher interest rates.

 Most debt is denominated in dollars or other hard

currencies, and accordingly, what is a manageable debt level
becomes unmanageable when poor countries’ currencies are
devalued or depreciate in relation to hard currencies.

 Many developing countries are dependent on

exporting commodities such as agricultural products, minerals
or metals, to earn money to pay off their debts. When export
prices collapse, the debt burden becomes unsustainable.

 Many of the very poor countries borrowed

extensively throughout the 1980s, hoping their economies
would start to grow by more than enough to repay the debt.
But for one reason or another, the growth did not materialize.

C: Debt Relief Negotiations

 To negotiate official debt Paris Club, a group rich

countries, needed to be consulted.

 To negotiate commercial debt, deal with London

Club.

45
 D: Process of Debt Relief

Stage – 1: Three Year Phase: At the end of this period a country

reaches its decision point, and have to carry out some
reforms to get partial debt relief.

Stage – 2: Three Year Phase: At this stage, the country will

reach completion point, it will carry out further
reform, and complete reforms to qualify for full
debt relief.

E: Criticism of World Bank & IMF Position

 Reluctant to go for debt relief on the pretext of

moral hazard.

 This is not fair. These official institutions, with their

greater sophistication, should be able to perform a full risk
analysis better than the borrowing countries, and should be
able to refuse to lend to countries that are overstretched.

 Officials at the Bank talk ominously of the damage

debt write-offs would cause to its credit AAA rating. Debt
write-offs would imply an acknowledgment that the Bank had
made mistakes in lending. This is position is also not
acceptable.

F: Things to Watch for Debt Relief

46
1. Pace of Debt Relief

 By mid-2001, only (2) of 41 HIPC (Bolivia and

Uganda) had reached completion point, and (23)
Decision pout.

 Why so small numbers of countries get debt relief:

Because they cannot meet the requirement.

2. PRSP

3. Government Expenditure

4. Growth Rate

5. The Case for Non-HIPCs

G: Debt Relief Status

47
 70 countries renegotiated debt

 Traditional mechanism of debt relief

• Delayed payments

• Reduced interest rate

• Extended repayment period

 Since late 1970, 50 countries got debt relief of US

$6.5 billion under traditional debt relief mechanism.

 This is too small in relation to total aid between US

$1.6 trillion to US $2.3 trillion.

 Under pressure IMF and World Bank in 1996

announced a new debt relief program known as Heavily
Indebted Poor Countries (HIPC) initiative.

 Jubilee 2000, an international civil society and

religions organization, advocated wholesale debt relief as a
gesture of debt relief to mark the new millennium.

 HIPC initiative not very successful.

DOFS AID WORK?

48
 Both right and left political spectrum commentators
criticize foreign aid.

 Right criticisms include, among, others:

• It delays self-reliance on the part of the recipient

country.

• It substitutes for domestic savings.

• It fosters dirigisme: Economic control and planning

by state/also state control of social matters.

• Encourages/allows the postponement of policy

reform.

• It leads to north-south confrontation, not its

solution.

• It promotes or exacerbate the politicization of life in

aid-receiving counties. Aid increases money,
patronage, and power of the recipient governments,
and thereby their grip over the rest of society. It thus
promotes the disastrous politicization of life in the
third world.

• Largely appropriated by corrupt bureaucrats, stalls

initiatives.

• Given birth to welfare mentality among recipients

49
 Left criticisms – include:

• Aid perpetuates dependence

• Creates urban-rural/Modern-traditional sector
disparity
• It props up authoritarian and repressive regimes
• It perverts domestic development
• It retards growth, it is anti-development
• It increases rich-poor gap.

 Empirical Evidence

A: A Former Director of DAC Notes:

• Record of performance is mixed.

• There have been major and spreading achievements.

Aid worked as catalyst, not the main force – to boost
food production in South Asia. In other cases – South
Korea and Taiwan, very heavy concentrations of
economic aid (in both cases, interestingly, for
strategic reasons) have helped lay the base for
burgeoning economic expansion.

• Aid has helped build such key development-

promoting institutions as agricultural universities,
technical institutes, and enterprise management
training establishments in many countries.

50
 • Directly and indirectly aid has contributed to the
downward trend in birthrate that has begun to appear
in certain countries, especially in Asia.

 A number of econometric studies have attempted to

estimate the effects of aid on domestic saving rates.

• A study by Weisskopf reached the most negative

conclusion: an estimate that about 23 percent of
foreign-capital inflows were offset by declines in
domestic savings.

• Other studies, however, show different results,

generally suggesting a positive marginal propensity
to save.

 The most extensive study of the contribution of aid

concludes that most aid does indeed “work.” It succeeds in
achieving its developmental objectives (where those are
primary), contributing positively to the recipient countries’
economic performance, and not substituting for activities
which would have occurred anyway. That is not to say that aid
works on every count. Its performance varies by country and
by sector.

 Aid agencies have also evaluated the effects of their aid

to projects. A Development Advisory Committee report
concluded that about 33 percent of aid’s capital projects are
highly successful, 33 percent “can be judged satisfactory,”
and 33 percent are disappointing. Of these last, about 10
percent of the total have to be regarded as “a total loss.”

 Evaluations of World Bank projects completed in the

1970s (130 projects representing $10 billion of total

51
 investment) showed that 94 percent achieved their major
objectives, including the minimum required economic rate of
return of 10 percent.

• The 49 agricultural projects evaluated averaged an

economic rate of return of 19.5 percent.

• Even for the soft loans of the International

Development Association (IDA), 80 percent of the
projects achieved a rate of return of 10 percent or
more.

 The Asian Development Bank and the Inter-American

Development Banks (IDB) have also concluded that 60
percent of samples of their loans fully met their objectives, 30
percent partially did so, and less than 10 percent were
marginal or unsatisfactory.

52
 Table – Schematic overview of main developments in the history of foreign aid

Dominant or rising institutions Donor ideology Donor focus Types of aid

1940s Marshall Plan and UN System Planning Reconstruction Marshall Plan was
(including World Bank) largely programme aid
1950s United States, with Soviet Union Anti-communist, but Community Development Food aid and projects
gaining importance from 1956 with role for the state Movement
1960s Establishment of bilateral As for the 1950s with Productive sectors (e.g. Bilaterals gave technical
programmes support for state in support to the green assistance (TA) and
productive sectors revolution) and budget support; multilaterals
infrastructure. supported projects
1970s Expansion of multilaterals Continued support for Poverty, taken as Fall in food aid and start
especially World Bank, IMF state activities in agriculture and basic of import support
and Arab-funded agencies productive activities and needs (social sectors).
meeting basic needs
1980s Rise of NGOs from mid-1980s Market-based adjustment Macroeconomic reform. Financial programme aid
(rolling back the state) and debt relief
1990s Eastern Europe and FSU Move back to the state Poverty and then Move toward sector
become recipients rather than toward end of the decade governance (environment support at end of the
donors; emergence of and gender passed more decade.
corresponding institutions quickly)
Note: Entries are main features or main changes, there are of course exceptions
Source: Reproduced from Hjertholm and White (2000), P 81, Table 3.1

53
 Seven Deadly Sins:
Reflections on Donors’ Failings
– Nancy Birdsall 1

1.0 Growing need for increased aid to meet the continuing

development challenges of the world’s poorest countries.

2.0 Equal attention is needed to reform of the aid business

itself, that is, the practices, processes, procedures and
politics of aid.

3.0 Seven of the worst failings or sin of the donors are:

Sin-1 Impatience (with institution building):

 First several postwar decades the aid emphasized

physical capital or hardware.

 Emphasis now has been shifted to software: the

institutions, customs, laws, social cohesion governance.

 Dev. now seen as a process of creating and

sustaining the economic and political institutions that support
equitable and sustainable growth.

 Dev. assistance is more likely to be effective in

settings where there is evidence that the process has started
already.

1
President of the Centre for Global Development, Washington.

54
 However, over the last three or more decades, the
donors achieved limited success in supporting institutional
development.

 Donor impatience avoids and even undermines the

challenge of building institutions.

 The important impatience’s include:

• Impatience for results

• Impatience to disburse money

• Impatience for project implementation (create

special project management unit avoiding
institutional changes).

• Impatience for policy change

Sin-2 Pride (failure to exit):

 By exit is meant discontinuing new large grants and

loans, and not withdrawing from continuing engagement
through dialogue, technical advice and even small transfers
for training and technical assistance.

 Impatience is accompanied by an inability and

unwillingness to exit from programs and countries where their
aid is not helping.

Sin-3 Ignorance (failure to evaluate):

55
 In 50 years of postwar foreign aid systematic
evaluation has been rare.

 Questions that research findings raise:

• Does the existence of an alternative source of

revenue make it difficult for citizen, voters,
parliaments, civil society groups, to hold central
governments accountable?

• Do aid inflows undermine local governments,

by making them more dependent on transfers
from the centre?

• Does aid create some of the same problems of

concentration of unchecked power that result
from oil and other mineral resources?

 From cross country studies it is concluded that aid

increases growth in countries with a good policy environment
(and presumably reasonably sound political and economic
institutions to manage good policy.

Sin-4 Sloth (pretending “participation” is sufficient for

“ownership”):

 In principle the logic of widespread participation in

setting reform agenda makes sense.

 But it would be wrong to delude oneself that

participation creates or indicates ownership.

Sin-5 Envy (collusion and coordination failure):

56
 The donors are neither competing nor collaborating.
They are in effect colluding – something easy to do for
supplies in the absence of a competitive market.

 The proliferation of colluding donors (i.e. the

tendency of donors to operate in many countries and in many
sector of within countries) creates what is now called donor
fragmentation, the flip-side of donor proliferation, with the
measure of fragmentation rising with the number of donors
and the smaller their aid shares.

Sin-6 Greed (stingy, and worse, unreliable transfers):

 It is odd to accuse donors of stinginess, since by

definition they are providing resources voluntarily, and any
amount might be viewed as generous.

 On the other hand, given the claims of “partnership”

(for example in the context of the Millennium Development
Goals), the donors as a group are “stingy” relative to their
commitments, and worse are so unreliable and unpredictable
that the value of their transfers is greatly reduced.

Sin-7 Foolishness (underfunding of regional public

goods):

 Donors direct almost all of their resources to

individual recipient countries, as opposed to regional
groupings and global public goods.

57
 What to Do (Fixes)

1.0 Impatience (with institution building): A first step would

be for the donor community to acknowledge its overall
past failure, and undertake a collective assessment of
how to address that failure, in close and constant
consultation with wise people from the developing
countries.

2.0 Pride (failure to exit): Exit should be established as the

norm, not as punishment or judgment, but as a natural
response to signs that investments being financed will
not yield adequate returns.

3.0 Ignorance (failure to evaluate): A minimum number of

major donors could make a collective agreement to self-
finance a fully independent evaluation entity, which
would in turn contract third-party evaluations of selected
donor-financed projects and programs, and of donor
behaviours and modalities.

4.0 Sloth (pretending participation is sufficient for ownership):

Donors need to end their apolitical approach to
ownership, and engage instead in assessment to the
interests of politically powerful stakeholders, the record
of existing governments on difficult reforms, and
governments vulnerability to an ouster if it takes certain
steps.

58
 Ultimately, it may be that only when developing country
recipients have more voice (and votes) in the major
institutions will they assume real “ownership” of pro-
poor economic and political reforms altruistic donors
wish to support.

5.0 Envy (collusion and coordination failures): Minor fixes

could include agreement to the bilateral donor
governments to increase the portion of their total
assistance spending that goes to multilateral institutions
and programs; agreement to the concept of lead donors in
highly aid-dependent countries, and the financing
through DAC of grants to developing country policy
groups to report on in-country performance of the
individual donors.

6.0 Greed (inadequate and unreliable transfers): Instruments

that build in less volatile and more predictable financing
are needed, as well as larger aid budgets.

7.0 Foolishness (underfunding of regional public goods):

Financing of regional public goods, especially in Africa,
needs a champion – probably the British or the France,
who would push for a revamping of the singular country
focus that now prevails.

59
East West University of Dhaka
Economics for Development
Course ID-501

60