Republic of the Philippines

ILOILO SCIENCE AND TECHNOLOGY UNIVERSITY

Miagao Campus
Miagao, Iloilo

UNIT III

ECONOMIC PLANNING AND ECONOMIC DEVELOPMENT

1. The Need for Economic Planning

2. Objectives of Economic Planning

3. Economic Development

4. Economic Development Measurement

5. Factors Influencing Economic Development

6. Problems of Underemployment

7. Classic Theories of Economic Development: Four Approaches

8. Economic Growth Models

9. Contemporary Models of Development and Underemployment

I. The Need for Economic Planning

The factors, which emphasis the need for economic planning in India, are as follows:

1. To attain steady economic development in a free market economy.

2. To remove unemployment, poverty and inequalities among people.

3. To provide infrastructural facilities such as banking, power, water, transport and

communications.

4. To allocate resources properly between present and future needs.

5. To attain balanced regional development.

II. OBJECTIVES OF ECONOMIC PLANNING

The aims of economic planning are –improving the economic system, making the social
and moral upliftment of the people, and strengthening the country’ from the political point of view.

At present, economic planning is adopted by almost all economies of the world in some
form or the other so as to remove vicious circle of poverty. India has accepted economic planning
for its Central and State Governments.

1. Economic Development:

The main objective of Indian planning is to achieve the goal of economic development
economic development is necessary for under developed countries because they can solve the
problems of general poverty, unemployment and backwardness through it.Economic development
is concerned with the increase in per capita income and causes behind this increase.

In order to calculate the economic development of a country, we should take into

consideration not only increase in its total production capacity and consumption but also increase
in its population. Economic development refers to the raising of the people from inhuman elements
like poverty unemployment and ill heath etc.

2. Increase Employment

Another objective of the plans is better utilization of man power resource and increasing
employment opportunities. Measures have been taken to provide employment to millions of people
during plans. It is estimated that by the end of Tenth Plan (2007) 39 crore people will be employed.

3. Self-Sufficient:

It has been the objective of the plans that the country becomes self-sufficient regarding
food grains and industrial raw material like iron and steel etc. Also, growth is to be self sustained
for which rates of saving and investment are to be raised. With the completion of Third Plan, Indian
economy has reached the take off stage of development. The main objective of the Tenth Plan is to
get rid of dependence on foreign aid by increasing export trade and developing internal resources.

4. Economic Stability:

Stability is as important as growth. It implies absence of frequent end excessive

occurrence of inflation and deflation. If the price level rises very high or falls very low, many types
of structural imbalances are created in the economy.
 Economic stability has been one of the objectives of every Five year plan in India. Some
rise in prices is inevitable as a result of economic development, but it should not be out of
proportions. However, since the beginning of second plan, the prices have been rising rather
considerably.

5. Social Welfare and Services:

The objective of the five year plans has been to promote labour welfare, economic
development of backward classes and social welfare of the poor people. Development of social
services like education, health, technical education, scientific advancement etc. has also been the
objective of the Plans.

6. Regional Development:

Different regions of India are not economically equally developed. Punjab, Haryana,
Gujarat, Maharashtra, Tamil Nadu, Andhra Pradesh etc. are relatively more developed. But U.P.,
Bihar, Orissa, Nagaland, Meghalaya and H.P. are economically backward. Rapid economic
development of backward regions is one of the priorities of five year plans to achieve regional
equality.

7. Comprehensive Development:

All round development of the economy is another objective of the five year plans.
Development of all economic activities viz. agriculture, industry, transport, power etc. is sought to
be simultaneously achieved. First Plan laid emphasis on the development of agriculture. Second
plan gave priority to the development of heavy industries. In the Eighth Plan maximum stress was
on the development of human resources.

8. To Reduce Economic Inequalities:

Every Plan has aimed at reducing economic inequalities. Economic inequalities are
indicative of exploitation and injustice in the country. It results in making the rich richer and the poor
poorer. Several measures have been taken in the plans to achieve the objectives of economic
equality specially by way of progressive taxation and reservation of jobs for the economically
backward classes. The goal of socialistic pattern of society was set in the second plan mainly to
achieve this objective.

9. Social Justice:

Another objective of every plan has been to promote social justice. It is possible in two
ways, one is to reduce the poverty of the poorest section of the society and the other is to reduce
the inequalities of wealth and income. According to Eighth Plan, a person is poor if the spends on
consumption less than Rs. 328 per month in rural area and Rs. 454 per month in urban area at
1999-2000 prices. About 26 percent of Indian population lives below poverty line. The tenth plan
aims to reduce this to 21%.

10. Increase in Standard of Living:

The other objective of the plan is to increase the standard of living of the people. Standard
of living depends on many factors such as per capita increase in income, price stability, equal
distribution of income etc. During the period of Plans, the per capita income at current prices has
reached only up to Rs. 20988.

II. ECONOMIC DEVELOPMENT

Economic development planning has been considered an essential part of development

policy in many developing countries. It has become article of faith that planning is a useful way to
lay down the course of future development. Many developing countries prepare development plan
partly to secure and consolidate doing and partly to justify large part of financing from abroad.

In general economic growth of developing countries are still not common pattern. Despite
the term developing countries there is a large segment of the world in which growth and
development is still in a rudimentary stage. There are fast growing economies and there are middle
l income developing nations, like the Philippines. But the bulk of the third world of developing
nation is only awakening of the possibilities of development.

IV. ECONOMIC DEVELOPMENT MEASUREMENT

1 GNP

2 PCRI

3 PQLI

4 HDI

5 Human Capabilities

Gross National Product (GNP)

Gross National Product (GNP) measures the economic output of a given nation. GNP can be used
to measure the increase in real national income over a given period of time.

Criticisms of GNP
1. Real national income excludes price changes. A short period rise in national income during an
upswing of an economic cycle does not constitute economic development.

2. GNP does not factor in a change in the population of a given nation.

3. GNP does not reveal or factor in the negative externalities such as pollution.

4. GNP tells nothing about the distribution of a societies income.

5. Does not factor in other forms of measurement such as illegal markets, services, etc.

Per Capital Real Income (PCRI)

Per Capital Real Income (PCRI) is a measurement of income which also factors in
population.

Criticisms of PCRI

1. PCRI Fails to measure changes in output due to changes in price lend.

2. Does not show whether any increase in income goes to the rich or the poor.

3. International comparisons of real GNP per capita are inaccurate due to exchange rate
considerations of different currency's into one standard currency.

4. PCRI fails to take into account problems associated with basic needs like nutrition, health,
sanitation, housing, education, etc.

Physical Quality of Life Index (PQLI)

According to Morris D Morris: Physical Quality of Life Index (PQLI) is a measurement of

the most basic needs of the people. It factors in a wide range of indicators such as health,
education, water conditions, nutrition and sanitation.

PQLI is determined by taking 3 measurements,

1. Infant Mortality Rate (IMR) 2. Life Expectancy at age one 3. Literacy rateand averaging these
three factors giving equal value to each.

Criticisms
1. PQLI is a limited measure of basic needs

2. Many societal and psychological factors like security, justice, human rights, etc are excluded.

3. Does not explain the changing structure of economics and societal development.

4. Arbitrary weights are given to each determining factor.

5. PQLI does not measure economic development and total welfare.

6. There is no unanimity among the economists as to the number and type of items to be included
in such an index.

Human Development Index (HDI)

Human Development Index (HDI) is a quality of life index prepared by the United Nations
Development Program. It is a composite index of life expectancy, adult literacy and years of
schooling. It also considers P.C.I. (real). HDI is a composit index of a long and healthy life,
knowledge and a descent standard of living. Human development is the process of enlarging
people’s choices and raising the level of well-being.

Calculation of HDI 1. Longevity 2. education (2/3) Educational attainment of adult literacy, (1/3)
gross enrollment ratio (GER) for primary, secondary and tertiary levels. 3. Standard of living,
Purchasing Power Parity in terms of dollars.

Human Capabilities

Human capabilities is the measurement of freedom of choices. At the core of human well-
being is freedom of choice by enhancing peoples capabilities for attaining higher standards of
health, knowledge, self-respect and the ability to participate actively in community life.

V. Factors Influencing Economic Development

1) Capital Formation

The strategic role of capital in raising the level of production has traditionally been
acknowledged in economics. It is now universally admitted that a country which wants to
accelerate the pace of growth, has m choice but to save a high ratio-of its income, with the
objective of raising the level of investment. Great reliance on foreign aid is highly risky, and thus
has to be avoided. Economists rightly assert that lack of capital is the principal obstacle to growth
and no developmental plan will succeed unless adequate supply of capital is forthcoming.

2) Natural Resources

The principal factor affecting the development of an economy is the natural resources.
Among the natural resources, the land area and the quality of the soil, forest wealth, good river
system, minerals and oil-resources, good and bracing climate, etc., are included. For economic
growth, the existence of natural resources in abundance is essential. A country deficient in natural
resources may not be in a position to develop rapidly. In fact, natural resources are a necessary
condition for economic growth but not a sufficient one. Japan and India are the two contradictory
examples.

3) Marketable Surplus of Agriculture

Increase in agricultural production accompanied by a rise in productivity is important from

the point of view of the development of a country. But what is more important is that the marketable
surplus of agriculture increases. The term ‘marketable surplus’ refers to the excess of output in the
agricultural sector over and above what is required to allow the rural population to subsist.

4) Conditions in Foreign Trade

The classical theory of trade has been used by economists for a long time to argue that
trade between nations is always beneficial to them. In the existing context, the theory suggests that
the presently less developed countries should specialize in production of primary products as they
have comparative cost advantage in their production. The developed countries, on the contrary,
have a comparative cost advantage in manufactures including machines and equipment and
should accordingly specialize in them.

5) Economic System

The economic system and the historical setting of a country also decide the development
prospects to a great extent. There was a time when a country could have a laissez faire economy
and yet face no difficulty in making economic progress. In today’s entirely different world situation,
a country would find it difficult to grow along the England’s path of development.
B) Non-Economic Factors in Economic Development:

From the available historical evidence, it is now obvious that non- economic factors are as much
important in development as economic factors. Here we attempt to explain how they exercise
influence on the process of economic development:

1) Human Resources:

Human resources are an important factor in economic development. Man provides labour
power for production and if in a country labour is efficient and skilled, its capacity to contribute to
growth will decidedly be high. The productivity of illiterate, unskilled, disease ridden and
superstitious people is generally low and they do not provide any hope to developmental work in a
country. But in case human resources remain either unutilized or the manpower management
remains defective, the same people who could have made a positive contribution to growth activity
prove to be a burden on the economy.

2) Technical Know-How and General Education:

It has never been, doubted that the level of technical know-how has a direct bearing on the
pace of development. As the scientific and technological knowledge advances, man discovers
more and more sophisticated techniques of production which steadily raise the productivity levels.

Schumpeter was deeply impressed by the innovations done by the entrepreneurs, and he
attributed much of the capitalist development to this role of the entrepreneurial class. Since
technology has now become highly sophisticated, still greater attention has to be given to
Research and Development for further advancement. Under assumptions of a linear homogeneous
production function and a neutral technical change which does not affect the rate of substitution
between capital and labour, Robert M. Solow has observed that the contribution of education to the
increase in output per man hour in the United States between 1909 and 1949 was more than that
of any other factor.

3) Political Freedom:

Looking to the world history of modern times one learns that the processes of development
and under¬development are interlinked and it is wrong to view them in isolation. We all know that
the under-development of India, Pakistan, Bangladesh, Sri Lanka, Malaysia, Kenya and a few
other countries, which were in the past British colonies, was linked with the development of
England. England recklessly exploited
4) Corruption:

Corruption is rampant in developing countries at various levels and it operates as a

negative factor in their growth process. Until and unless these countries root-out corruption in their
administrative system, it is most natural that the capitalists, traders and other powerful economic
classes will continue to exploit national resources in their personal interests.

The regulatory system is also often misused and the licenses are not always granted on merit. The
art of tax evasion has been perfected in the less developed countries by certain sections of the
society and often taxes are evaded with the connivance of the government officials.

VI. Problems of Underemployment

What is Underemployment?

Underemployment is when a worker has a job, but the job they have underutilizes their capabilities
and time. A recent working paper published by the NBER has begun to investigate the growing,
hidden problem of underemployment and its impact on productivity and wage growth.

Anecdotally, this problem manifests itself as the barista with a master’s degree or the Uber driver
with a PhD. Said another way, there is an increasing population of highly educated workers that
are underemployed in lower skilled jobs because the current labor market does not provide ample
mobility to move into the increasing number of high skilled jobs becoming available. This trend is
particularly noticeable in the tech industry, where there is a constant shortage for talent to meet the
demand for digital system designers and builders (illustrated below).

Diagram of tech worker bottleneck due to complex digital tools and a tech labor shortage

Left unchecked, this misalignment creates greater inequality. A growing pool of underemployed
workers compete heavily for lower skilled jobs, driving down their wages, and a smaller pool of tech
workers compete for a growing number of tech jobs, which drives their wages up. This asymmetry
is fueled by 2 larger social issues:
1) A Lack of Diverse Educational Paths

The common path for employment in the U.S. is go to college, choose a major, study it for 4 years,
graduate and then get a job. However, this system is increasingly becoming a bad fit for society.
Students are graduating with skill sets that don’t match what employers are looking for and are
saddled with increasing amounts of debt. This results in a workforce that is highly educated,
underpaid and severely in debt.

2) Complexity of Digital Tools and Technologies

As data and processes in organizations become increasingly digital, organizations demand more
workers that can design, build and maintain systems that generate insights, automate processes or
increase productivity. But the tech labor market is still extremely polarized, you are either technical
or not, an engineer or not. However, just because a job centers around building and maintaining
digital systems, it doesn’t necessarily mean that you need a degree in computer science to deliver
the solution. The barrier here is a lack of appropriate tools that enables the labor market to provide
a greater spectrum of tech workers with varying degrees of technical abilities. A greater spectrum
of technical workers allows employers to focus traditional software engineers on harder problems
while meeting other needs with workers from different educational backgrounds.

VII. Classic Theories of Economic Development: Four Approaches

A. The Linear- Stages of-Growth Model

  

The theorists of 1950s and early 1960s viewed the process of development as a series of
successive stages of economic growth through which all the advanced nations of the world had
passed. As all the modern industrial nations of the world were once undeveloped peasant agrarian
economies.

Accordingly, their historical experience in transforming their economies from poor agri.
subsistence societies to modern industrial giants had important lessons for backward countries of
Asia, Africa and Latin America. In this respect, we discuss the Rostow's stages of economic
growth.
 

Linear Stages of Economic Growth:

W.W. Rostow was an American economist who presented 'Stages of Growth' model of

development. According to Rostow, the process whereby all the developed industrial nations of the
world transformed themselves from backwardness to prosperity can be described in terms of a
series of stages. These stages of economic growth are:

(1) Traditional society, (2) Pre-conditions to take-off, (3) Take-off, (4) Drive to maturity, (5) High
mass consumption. They are discussed below:

1. Traditional Society

The traditional society is one whose production functions are based up pre-Newton

science and technology. This unchanging technology places a ceiling on productivity. In this
society a higher proportion of resources is devoted to agriculture. Man is valued on family basis,
not on the basis of his capabilities. Long Fatalism prevails in such society. The range of
possibilities for a grand children are the same what they were for grandfather. The society is ruled
by those who owned or controlled land. These landlords used to have a long chain of servants and
soldiers. This society was available during the Medieval Ages in Europe.

2. Pre Conditions to Take Off:

It is a period of transition where the conditions for take-off are developed. Historically, it

was due to invasion of advanced societies which destroyed the culture of traditional society. This
paved the way for the emergence of new ideas. In this way, when the new ideas develop people
start thinking about economic progress which could provide a better life for the present and future
generation. Once the changes set in, they feed on themselves. It is the education which broadens
the mental out look of the people, and it induces the people to accept new challenges. In this way,
the new entrepreneurs come forward to take risks.

3. Take Off Stage

The take-off stage is a break-through in the history of the society. The take-off stage
remains for more than two or three decades. In this stage three conditions must be satisfied:
4. Drive to Maturity Stage:

According to Rostow 40 years after the take-off stage there is a long interval. During this
interval the economy experiences a regular growth and modern technology is extended over to a
bulk of resources. On the basis of entrepreneurial and technological development everything is
produced which is desired. There may be a shift in emphasis from coal, iron and heavy engineering
to machine tools, chemicals and electrical equipments.

Germany, France, UK and US passed through this period during the end of 19th century.
10% to 20% of GNP is ploughed in investment and output grows more than increase in population.
The goods which were earlier imported now they are produced at home. In short, the economy
becomes a part of international economy.                 

5. Age of High Mass Consumption Stage

According to Rostow as societies achieved maturity in 20th century, real incomes rose and the
people became aware of as well anxious to have a command over the consumption of the fruits of
mature economy. The leading sectors of the economy produce consumer durables like TV, fridges
and automobiles etc. Here the society pays more attention on social welfare and social security
than on economic growth. US passed through this stage in 1913-14, and then in the post war
period of 1946-56.

B. Theories and patterns of structural change

a. Lewis Theory of Economic development

Prof. Lewis developed a very systematic theory of economic development with unlimited supplies
of labour. The theory focuses on structural transformation of subsistence of the economy into
modern industrial economy.

Lewis Two Sector Model

 Lewis Two Sector Model became the general theory of development process in surplus
labour.Economic development takes place when capital accumulates as a result of wwithdrawal of
surplus labour from subsitence sector (capitalist sector).

Lewis two-surplus model]

Surplus labour can be used instead of capital in the creation of new industrial investment
projects, or it can be channeled into nascent industries, which are labour-intensive in their early
stages. Such growth does not raise the value of the subsistence wage, because the supply of labor
exceeds the demand at that wage, and rising production via improved labour techniques has the
effect of lowering the capital coefficient. Although labour is assumed to be in surplus, it is mainly
unskilled. This inhibits growth since technical progress necessary for growth requires skilled labor.
But should there be a labor surplus and a modest capital, this bottleneck can be broken through
the provision of training and education facilities.
The utility of unlimited supplies of labour to growth objectives depends upon the amount of
capital available at the same time. Should there be surplus labour, agriculture will derive no
productive use from it, so a transfer to a non agriculture sector will be of mutual benefit. It provides
jobs to the agrarian population and reduces the burden of population from land. Industry now
obtains its labour. Labour must be encouraged to move to increase productivity in agriculture. To
start such a movement, the capitalist sector will have to pay a compensatory payment determined
by the wage rate that people can earn outside their present sector, plus a set of other amounts
includes the cost of living in the new sector and changes in the level of profits in the existing
sector. 

b. Structural Change and Patterns of Development

In Structural Change and Pattern of Development, in addition to the accumulation of capital,

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

These structural changes involve 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.
 C. The International-Dependence Revolution

When the existing theories of development largely failed to bring any changes in the lives of
the developing country people, the growing discontent among the developing country economists
led to the emergence of new theories of development. These theories which became popular
among the developing country economists in the 70s, came to be identified as the International-
Dependence Revolution.

The principal idea behind the International-Dependence Revolution is that the third world
countries are caught up in a dependence and dominance relationship with the rich countries, and
the rich countries either intentionally or unintentionally contributes so that this relationship
perpetuates and the status quo is maintained. The ideas that developed under the broad heading
of International-Dependence Revolution (more commonly known as the Dependence Theories),
can be further classified in to the following three sub groups.

a. The Neocolonial Dependence Model: 

This is an indirect outgrowth of Marxist thinking. People who believe in this theory are
more radical than the people who belong to the other two sub-groups. According to this doctrine,
third world underdevelopment is viewed as the result of highly unequal international capitalist
system or rich country-poor country relationships. It is viewed that the rich countries through their
intentionally exploitative or unintentionally neglectful policies hurt the developing countries. The rich
countries and a small elite ruling class in the developing countries, who serve as the agent of the
rich countries, are responsible for the perpetuation of underdevelopment in the developing
countries. Unlike the Stage Theories or the Structural Change Models, which considered
underdevelopment as a result of internal constraints such as insufficient savings, investment or
lack of infrastructure, skill or education, the proponents of the Neocolonial Dependence model saw
underdevelopment as an externally induced phenomenon. The remedy, according to those who
preached these ideas, was to initiate revolutionary struggles to topple the existing elite of the
developing countries and the restructuring of the world capitalist system to free the third world
nations from the direct and indirect control of their first world and domestic oppressors.

b. The False Paradigm Model:

 The people who are behind this theory are less radical in nature. They believe that
although the developed countries have good intentions of helping the developing countries, their
policy advises are simply inappropriate in the context of developing countries mainly because they
fail to incorporate the unique social, cultural and institutional characteristics of the developing
countries. As a result those policies do not produce any end results.
 c. The Dualistic-Development Thesis: 

This is an extension of the dualism concept widely discussed in development economics.

In simple words it says that the relationship between the rich and the poor countries is just a global
version of the dualism that we see in every aspect of life. The interrelations between the superior
and inferior elements are such, be it in a global sense or in a local sense, that the superior
elements does little or nothing to pull up the inferior element. In fact it may actually serve to push it
down.

D. THE NEOCLASSICAL, FREE MARKET COUNTERREVOLUTION

a. Free Market Analysis

The free market is an economic system based on supply and demand with little or no
government control. It is a summary description of all voluntary exchanges that take place in a
given economic environment. Free markets are characterized by a spontaneous and decentralized
order of arrangements through which individuals make economic decisions. Based on its political
and legal rules, a country's free market economy may range between very large or entirely black
market.

Free Market Analysis

A Comparative Market Analysis (CMA) involves collecting information on real estate

activity in your area so you can arrive at a fair market value or listing price for your home. It is a key
service your realtor provides to help you price your home competitively in the market. Most notably
it would include looking at recent sales of properties similar to yours, though looking at recent
expired listings and other properties offered for sale is also important to determine what price may
be too high and what the competition is looking like.

b. Public-Choice Theory (New Political Economy Approach)

Public choice, or public choice theory, is "the use of economic tools to deal with traditional
problems of political science". Its content includes the study of political behavior. Since voter
behavior influences the behavior of public officials, public-choice theory often uses results from
social-choice theory. Public choice theory focuses on people's decision making process within the
political realm. Buchanan used both the fields of economics and political science to help develop
Public Choice. ... Buchanan argues that by analyzing the behaviors of voters and politicians that
their actions could become easily predicted.

One of the chief underpinnings of public choice theory is the lack of incentives for voters to monitor
government effectively. Anthony Downs, in one of the earliest public choice books, An Economic
Theory of Democracy, pointed out that the voter is largely ignorant of political issues and that this
ignorance is rational. Even though the result of an election may be very important, an individual's
vote rarely decides an election. Thus, the direct impact of casting a well-informed vote is almost nil;
the voter has virtually no chance to determine the outcome of the election. So spending time
following the issues is not personally worthwhile for the voter. Evidence for this claim is found in the
fact that public opinion polls consistently find that less than half of all voting-age Americans can
name their own congressional representative.

c. Market Friendly approach

The market-friendly approach, which suggests that, while markets work, they sometimes
fail to emerge, and a government has an important role in compensating for three main market
failures: missing markets, imperfect knowledge and externalities.

E. Other Theories in Economic Development

a. Trickle- Down Theory

Trickle-down economics, also called trickle-down theory, refers to the economic

proposition that taxes on businesses and the wealthy in society should be reduced as a means to
stimulate business investment in the short term and benefit society at large in the long term.Trickle-
down economics is a theory that claims benefits for the wealthy trickle down to everyone else.
These benefits are tax cuts on businesses, high-income earners, capital gains, and dividends. All
of this expansion will trickle down to workers. They will spend their wages to drive demand and
economic growth.
 b. Theory of Vicious Circle of Poverty

A less developed country is caught in the vicious circle of poverty. The vicious circle
argument holds that conditions in LDCs are such that economic development is impossible. ... It
assumes that people of less developed countries save little or nothing since they are poor. Since
savings are low, investment is low.

According to Prof. Nurkse: "It is the vicious circle of poverty (VCP) which is responsible for
backwardness of UDCs". Vicious circle of poverty: "Implies a circular constellation of forces tending
to act and react in such a way as to keep a country in the state of poverty".

c. The Debt Trap Theory

Debt traps are circumstances in which it is difficult or impossible for a borrower to pay back
money that they have borrowed. These traps are usually caused by high interest rates and short
terms, and are a hallmark of a predatory lending.

How does a Debt Trap work?

Any time a person borrows money from a professional lender—whether it’s a loan or a line
of credit—there are two basic elements to the loan agreement. First, there is the loan principal: the
amount of money that the person has borrowed. Second, there is the interest: the amount of
money that the lender charges on the principal.

Paying back borrowed money means paying back both the principal and the interest. Paying back
the principal is especially important because it’s the only way that a borrower makes progress
towards paying off the loan in full. Many installment loans come with amortizing structures, which
means that the loan is designed to be paid off in a series of regular, fixed payments; each payment
applies toward both the principal and the interest.

A debt trap occurs when a borrower is unable to make payments on the loan principal; instead,
they can only afford to make payments on the interest. Because making payments on the interest
does not lead to a reduction in the principal, the borrower never gets any closer to paying off the
loan itself. It’s pretty similar to a hamster on its wheel: running and running but staying in the same
place.

d. Balanced Growth Theory

 The balanced growth theory is an economic theory pioneered by the economist Ragnar
Nurkse (1907–1959). The theory hypothesises that the government of any underdeveloped country
needs to make large investments in a number of industries simultaneously.

e. Import Substitution Theory

Import substitution industrialization (ISI) is a trade and economic policy which advocates
replacing foreign imports with domestic production. ISI is based on the premise that a country
should attempt to reduce its foreign dependency through the local production of industrialized
products.

f. Man Power Development Theory

Manpower development is a process that seeks to optimize an organization's usage of its

human resources. It requires an integrated approach that addresses multidimensional aspects of
employees, ranging from enhancing technical and interpersonal skills to creative thinking and
leadership.

g. Sustainable Development Theory

Sustainable development is the organizing principle for meeting human development goals
while simultaneously sustaining the ability of natural systems to provide the natural resources and
ecosystem services based upon which the economy and society depend.

VIII. ECONOMIC GROWTH MODELS

A. Solow Neoclassical Growth Model

Robert Solow and Denison have attempted to study the relative importance of the various
sources of economic growth by using the concept of production function. The rate of economic
growth in an economy and differences in income levels of different countries and also their growth
performance during a period can be explained in terms of the increase in these sources of
economic growth.
 An important issue in growth economics is what contributions of different factors, namely,
capital, labour and technology make to economic growth? In other words, what is the relative
importance of these different factors as sources of economic growth.

It will be recalled that the production function describes that the amount of total output produced
depends on the amount of different factors used and the state of technology.

B. Romer Endogeneous Growth Model

Prof. Romer, in his Endogenous Growth Theory Model, includes the technical spillovers which
are attached with industrialization. Therefore, this model not only represents endogenous growth
but it is closely linked with developing countries also. Moreover, in Homer's model, just the
technological spillovers are considered ignoring the determinants of savings and the problems of
general equilibrium.

According to Romer, the processes of production are derived at the level of a firm or industry.
Each firm individually operates under perfect competition. In this way, this model coincides with
perfect competition, and up till here, this model is close to the assumptions of Solow model. But
Romer deviates Solow when he assumes that the stock of capital in economy (K) influences the
level of output positively at the level of industry. This situation leads to generate increasing returns
at the industry level.

Romer includes the level of knowledge in firm's stock of capital. The knowledge part of the
stock of capital is essentially a public good (as it has been shown with A in the Solow model). This
knowledge or information shift over to the other firms rapidly in the form of a jump. Hence, this
model wants to promote learning by investing. Accordingly, in Homer's model, the investment in
learning or knowledge determines the economic growth, while in the H-D model, it is the physical
investment which determines the rate of economic growth.

C. Kaldor Growth Model

Nicholas Kaldor, Baron Kaldor was one of the foremost Cambridge economists in the post-war
period. He developed the famous “compensation” criteria called Kaldor-Hicks efficiency for welfare
comparisons, derived the famous cobweb model and argued that there were certain regularities
that are observable as far as economic growth is concerned.
 D. The Harrod- Domar Growth Model

The Harrod-Domar models of economic growth are based on the experiences of advanced
economies. They are primarily addressed to an advanced capitalist economy and attempt to
analyse the requirements of steady growth in such economy.

E. The Ricardian Growth Model

As an analytical engine, economics provides an apparatus through which actual economic

problems are analyzed.Ricardo’s greatest contribution to economics is the provision of engine of
analysis. By using the technique of deductive or abstract reasoning, he constructed a rigorous
model in which some selected economic variables were systematically placed to form a logic. Such
a theoretical model helps to understand how a system works and how the change in variables
affects the working of the system.

Ricardo propounded no theory of development. He simply discussed the theory of distribution.

This theory is based on the marginal and surplus principles. The marginal principle explains the
share of rent in national output and surplus principle explains the division of the remaining share
between wages and profits.

F. Theories on Population Growth

Economics as a science is, on the one hand, a body of knowledge and on the other hand, an
engine of analysis. As a result of knowledge, it contains generalizations about the working of
economic system. Prof. Ricardo added little to the economic knowledge gathered by Smith.

a. Thomas Malthus and The Theory of population

Malthus's early writings were pamphlets that addressed economic and political issues of
his time. In opposition to the popular 18th century European view that society was constantly
improving, he wrote about the dangers of excessive population growth.

In his 1798 work, An Essay on the Principle of Population, Malthus examined the
relationship between population growth and resources. From this, he developed the Malthusian
theory of population growth in which he wrote that population growth occurs exponentially, so it
increases according to birth rate.
For example, if every member of a family tree reproduces, the tree will continue to grow with each
generation. On the other hand, food production increases arithmetically, so it only increases at
given points in time. Malthus wrote that, left unchecked, populations can outgrow their resources.
According to Malthus, there are two types of 'checks' that can reduce a population's growth rate.

Preventive checks are voluntary actions people can take to avoid contributing to the population.
Because of his religious beliefs, he supported a concept he called moral restraint, in which people
resist the urge to marry and reproduce until they are capable of supporting a family. This often
means waiting until a later age to marry. He also wrote that there are 'immoral' ways to check a
population, such as vices, adultery, prostitution, and birth control. Due to his beliefs, he favored
moral restraint and didn't support the latter practices.

Positive checks to population growth are things that may shorten the average lifespan, such as
disease, warfare, famine, and poor living and working environments.

b. The Microeconomic Household Theory of Population

The carrying capacity of the earth is continually increasing, due to technology

enhancements and advances in gene selection, such as the Green Revolution of the 1970s. The
earth can carry much more people than was thought by Thomas Malthus, who assumed that
populations grow at a rapid rate unless checked by limited supplies of food and other subsistence
goods. The notion that subsistence goods increase arithmetically and population increases
exponentially needs to say something about the increase in the carrying capacity which in turn
increases the human populations which are able to scavenge the earth.

Jan van der Veen’s work (drawing on other work) shows that population is now increasing
at a decreasing rate since the 1985—1990 period. Moreover, there is a 15% probability that in a
hundred years population will be less than that of today.

Population growth has some obvious positive impacts on the economy. First of which is

the contingent growth in the labor supply, and the even more contingent growth in gross domestic
product. Labor supply growth is merely a means to economic growth, which is merely a means to
rising standards of living. At each point there are contingencies involved, and we should be
doubtful about any “necessary” connections implied in the pro-natalist argument. There is also the
argument that each person added to the population has the potential for genius, and that increases
in population increases the number of baby-geniuses in the world.
 On the other hand there are profound negative macroeconomic consequences of the
microeconomic decisions made in the sphere of the family. The economics of the family can for
example give rise to environmental degradation problems, strains on public services such as health
and education, decreasing savings rates, and various other externalities on, say, negative
externalities on other members of the totem or joint family, negative externalities on members of
the community, and wage depression due to an overabundance of labor. And to state the obvious,
children necessarily consume resources, drawing on the family’s income and societies’ natural
capital. These points make clear that the family’s private cost and benefits do not match up with
social and natural costs and benefits.

c. Economic Theory of Fertility

The economic theory of fertility, in its current state,is a product of two broad strands of
influence. One such strand can be found in the works of Becker,1 Mincer2 and Willis.3 The other
strand winds its way through the works of Eastr1in.4 The Becker— and Easterlin—type
approaches are fundamentally quite distinct, not in the least part because of the differences in what
the authors try to accomplish. The main thrust of Becker's work (and that of his followers) is to
show how economic models may be used to aid our understanding of fertility variations and
differentials. The spirit of the Becker—typeanalysis, is the spirit of the economic theorist who is
demonstrating the strength and breadth of the analytical framework by showing how it may be used
to analyze a complex and unresolved problem. Easterlin came to the study of fertility with a quite
different background, that of an economic historian. The problem for Easterlin was to understand
fertility variations within a historical context. Thus, for Easterlin, the main problem was to provide a
framework in which to comprehend the available information on the variations in fertility over time.
The spirit of the Easterlin—type analysis is the spirit of the economic historian who finds himself
compelled to modify economic models and concepts for the purpose of understanding some
observed behavior.

IX. CONTEMPORARY MODELS OF DEVELOPMENT AND UNDEREMPLOYMENT

A. Coordination failures

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 I This may occur even when all agents are fully informed about the preferred alternative
equilibrium I Because people hold different expectations or because everyone is better off waiting
for someone else to make the first move. When complementarities are present, an action taken by
one firm increases the incentives for other agents to take similar actions. These complementarities
often involves investments whose returns depends on other investments being made by others.

• A newer school of thought on problems of economic development

• Coordination failures occur when agents’ inability to coordinate their actions leads to an
outcome that makes all agents worse off.

• This can occur when actions are complementary, i.e.,

• Actions taken by one agent reinforces incentives for others to take similar actions

B. Multiple equilibrium

Derived from the Latin, the word equilibrium means “equal weight” or “balance” as illustrated by

an equal-armed scale. Physically, a body acted upon by two or more forces in a state of equilibrium
maintains a stationary position. This state is known as static equilibrium, as distinct from dynamic
equilibrium, in which the body’s position may change over time but maintains a state of static
equilibrium at any given instant. The orbital motion of planets exemplifies dynamic equilibrium.
Along with the notion of equilibrium comes that of stability, the tendency of a system to return to an
equilibrium position after experiencing small perturbations of parameters influencing its prior
equilibrium state. In the late nineteenth century, these concepts were adapted to economics and
later game theory. In economics, the aim was, in part, to address the central question of prices that
coordinate supply and demand.

• Often, these models can be diagrammed by graphing an S-shaped function and the 45º
line

• Equilibria are

– Stable: function crosses the 45º line from above

– Unstable: function crosses the 45º line from below

C. Big Push Theory of Economic Development | Economics

The theory of ‘big push’ first put forward by P.N. Rosenstein-Rodan is actually a stringent
variant of the theory of ‘balanced growth’. The crux of this theory is that the obstacles of
development are formidable and pervasive. The development process by its very nature is not a
smooth and uninterrupted process. It involves a series of discontinuous ‘jumps’. The factors
affecting economic growth, though functionally related with each other, are marked by a number of
“discontinuities” and “hump.”
 Therefore, any strategy of economic development that relies basically upon the philosophy
of economic “gradualism” is bound to be frustrated. What is needed is a “big push” to undo the
initial inertia of the stagnant economy. It is only then that a smooth journey of the economy towards
higher levels of productivity and income can be ensured.

Unless big initial momentum is imparted to the economy, it would fail to achieve a self-
generating and cumulative growth. A certain minimum of initial speed is essential if at all the race is
to be run. A big thrust of a certain minimum size is needed in order to overcome the various
discontinuities and indivisibilities in the economy and offset the diseconomies of scale that may
arise once development begins.

• Sometimes market failures lead to a need for public policy intervention

• The Big Push: A Graphical Model, 6 assumptions

– One factor of production

– Two sectors

– Same production function for each sector

– Consumers spend an equal amount on each good

– Closed economy

– Perfect competition with traditional firms operating, limit pricing monopolist with a
modern firm operating

• Conditions for Multiple Equilibria

• A big push may also be necessary when there are:

– Intertemporal effects

– Urbanization effects

– Infrastructure effects

– Training effects
 D. Michael Kremer’s O- ring Theory of Economic Development

The O-Ring Model

a. Production is modeled with strong complementarities among inputs

b. Positive assortative matching in production

Implications of strong complementarities for economic development and the distribution of

income across countries

E. ECONOMIC DEVELOPMENT AS SELF-DISCOVERY

• Hausmann and Rodrik: A Problem of Information

• Not enough to say developing countries should produce “labor intensive products,”
because there are thousands of them

• Industrial policy may help to identify true direct and indirect domestic costs of potential
products to specialize in, by:

• Encouraging exploration in first stage

• Encouraging movement out of inefficient sectors and into more efficient sectors in the
second stage

F. The Hausmann- Rodrik- Velasco Growth Diagnostic Framework

Growth Diagnostics approach developed by Hausmann, Rodrik and Velasco. The

approach suggests an analytical framework to identify the most binding constraints that hamper
economic growth in a specific country at a specific point in time. Aiming at higher-order principles
of neoclassical economics, Growth Diagnostics allows policymakers to creatively develop policy
designs which address the most binding constraint while taking into account relevant factors of
their country’s economic, political and social context. Most importantly, it considers both orthodox
and heterodox policies as possible solutions to ignite growth. Against the backdrop of changing
economic policy advice from the big push idea to the augmented Washington Consensus, the
authors analyze the reasoning behind the Growth Diagnostics approach. Criticisms by academics
and practitioners serve as a basis for a discussion on the approach’s possible shortcomings. The
authors conclude that Growth Diagnostics is a useful tool to inform growth strategies in developing
countries, whereas the new framework’s flexibility is discerned as both its essential strength and its
main weakness. Among the approach’s most important contributions are its explicit renunciation of
economic rules of thumb in favor of fact-based diagnosis and context-specific policy design, its
ability to identify reform priorities based on expected impact as well as its caution with respect to
potentially adverse second-best interactions between different policy reforms.

• Focus on a country’s most binding constraints on economic growth

• No “one size fits all” in development policy

• Requires careful research to determine the most likely binding constraint

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https://www.google.com/url?
sa=t&source=web&rct=j&url=https://bizfluent.com/13364956/what-is-the-meaning-of-
manpower-development

Topic Discussants:

Natar, Roslyn P.
Saquine, Hannah Jane
Garalda, Erman

Prof. Vic Bonda

Instructor
Subject: Comparative Economic Planning (SSE114)