ECONOMIC DEVELOPMENT
Another Secondary Factor: Importance of Sector Policies
AGRICULTURAL SECTOR POLICIES
In general, as industrialization proceeds, there is a tendency to pursue policies that
favor the industrial sector at the expense of agriculture. This is only natural since in
the initial stages of industrialization, taxes on agriculture make up the major source
of revenue for the government. The risk in following such a policy of taxing
agricultural exports and the agricultural sector in general, is that it is not a
sustainable long-term strategy because it results in the eventual strangulation of
that sector in general, a reduction in output growth, and stagnation of the rural
economy. Because the growth in industrial sector employment is never enough to
offset such a loss in income and employment, this type of policy will eventually
result in the collapse of aggregate demand and industrial stagnation, even if there is
a viable export market.
INDUSTRIAL POLICIES
The term “industrial policy” in the context of the development of the “miracle”
economies is taken to mean government policies that were designed to promote
particular subsectors, usually capital-intensive industries. These industrial policies
included subsidized credit and other policies designed to promote the industries so
that they could compete effectively in international markets. These policies became
an integral part of the policy apparatus. Only Korea and Taiwan adopted
comprehensive industrial policies. In the other economics, industrial policy was not
adopted in a systematic way nor was it particularly important in influencing the
evolution of industrial growth and concentration. There was government
intervention in most of the other economies but they were sporadic and not well
coordinated over time. In Malaysia, there was an effort to support heavy industry in
the 1980s and a high-tech push sponsored by the Minister of Industry, Dr. Habibi, in
the early 1990s. However, these efforts did not increase international
competitiveness and were interpreted by observers as political favors to supporters
and, as a result, arbitrary without any well formulated economic objective.
ASPECTS OF ECONOMIC PERFORMANCE IN THE “MIRACLE” ECONOMIES
High Growth Rates of Saving and Investment
Rates of saving and investment increased dramatically in many countries in Asia,
from paltry levels of 10 percent or less in Korea and Singapore, and somewhat
higher levels elsewhere in 1960, to over 30 percent by the 1990s. This achievement
is unprecedented in the annals of economic history.
CHRISTINE JANE FIGUEROA
Apart from the issue of efficiency, the rapidly growing rate of saving was
instrumental in providing the resources for the high growth rates achieved in the
Asian region in the past few decades. As investment rates were also high, the
resource gap among the Asian countries was insignificant.
Increased Productivity
Beyond the increases in saving and investment, it is likely that improvements in the
efficiency with which these resources were used also contributed significantly to the
growth in the Asian nations. For comparison purposes we will first examine
estimates of total factor production (TFP) for the industrialized nations. We begin
with a caveat that the estimates are sensitive to the accuracy of the variable inputs
measured. If the contributions of labor and capital to the growth process are
underestimated, then the value of TFP will be overestimated.
THE ASIAN CRISIS AND RECENT DEVELOPMENTS
• Steady growth of the Asian economies was abruptly interrupted by the financial
crisis that beset the region in 1997.
• Thai baht was attacked by currency hedge funds, July 1997
• Competing devaluations, Thai baht, Malaysian ringgit, Indonesian rupiah,
Philippine peso
• Australian dollar to Korean won, Hong Kong dollar
• Depreciation of equity indices
• Declines in the stock market values triggered by volatility in the foreign exchange
markets
• Restrictions imposed on the equities markets exaggerated the price declines.
WHY DID IT HAPPEN?
There are several explanations for the financial crisis but none of them is completely
satisfactory. A worrying aspect of the crisis is that no one anticipated its extent nor
its prolonged nature. However, if we look at history, this has always been the case.
The great stock market crash of 1929 was not anticipated by many nor was the
1987 Wall Street collapse. There were signs of disequilibrium build up in all the
Asian economies, particularly Thailand, which had been warned by the International
Monetary Fund (IMF) to take control of its ballooning external debt. However, the
fury of the currency speculation and the widespread collapse of financial markets
ECONOMIC DEVELOPMENT
took everyone by surprise. In this section three alternative and even
complementary explanations for the crisis are reviewed. The first is the stock
market, real estate, and bank credit bubble that had developed in the first half of
the 1990s. These developments, combined with a reliance on short-term external
borrowing and a belief that the US dollar to local currency parity would be
maintained, resulted in a highly leveraged and vulnerable financial sector that caved
in once currencies came under attack and confidence waned. The second is a series
of developments in the external sector that led to a rapid increase in the current-
account deficit, a real exchange-rate overvaluation, and a consequent decline in
export competitiveness and earnings. The third is the spillover or contagion effect
whereby pressure on the currency and financial markets spreads from country to
country, exacerbating the crisis and weaknesses in the financial sectors of the
various economies.
The Bubble Economy
All the countries in Southeast Asia grew very rapidly during 1994 and 1995. Export
performance in 1995 was spectacular and economic growth was generally higher
than expected. The huge inflow of foreign capital was channeled into both fixed
investment and equity portfolios. The current-account deficits widened and stock
markets boomed. Stock market exposure is relatively hard to document but it was
high, particularly in Malaysia and Korea where, as in Japan, shares were widely held
by business enterprises. This left them vulnerable to a shift in investor sentiment
and in a tenuous position if stock prices fell.Under the fixed exchange-rate regimes
followed by all these countries, the inflow of foreign capital was generally
translated into an expansion in money supply and lending growth. Bank credit to
the private sector, particularly in relation to gross domestic product (GDP) growth,
rose dramatically in most of these economies, with the exception of Korea.Inflation
also began to rise but because these economies were relatively open, price
increases were much more apparent in nontraded goods. Real estate prices rose
dramatically alongside similar increases in equity prices. Wages also began to rise in
the formal sector, accelerating further as these economies reached full
employment. There was also a buildup of short-term debt nominated in foreign
currency. While the extent of this debt was not exceedingly large as a proportion of
GDP, it created potential liquidity problems because it was dominated in foreign
currency and it was short term. The buildup in foreign debt, bank lending and asset
prices occurred against a backdrop of financial sector weakness. The financial sector
played a complementary role in the bull market bubble that developed in Southeast
Asia in 1995 and 1996. Factors in the financial sector which contributed to the
seventy of the Asian crisis include the following:
CHRISTINE JANE FIGUEROA
• Inadequate Fund Management System- unable to efficiently handle and disburse
the massive inflows of foreign funds
• Ineffective Sterilization of Capital Inflows- sterilization mechanism that could have
been used to choke off some of the excess demand generated by the influx of
capital was constrained by thin markets for government securities and a fixed rate.
• Restrictions on Foreign-does not encourage the entry of foreign firms providing
financial services, compared with other countries at similar levels of development.
Financial sectors were less “internationalized” in terms of competition from
financial providers based in other countries.
• Nonperforming Loans- banks made many risky loans. Supervision and regulation
of the financial systems in these countries were inadequate.
• High Costs of Financial Services- the combination of devaluation and stock market
collapse that exposed the financial sector to severe balance sheet problems.
• Balance Sheets- the extent of balance sheet troubles is difficult to measure
without careful country-to-country analysis.
External Sector Difficulties
• Rapid Growth in Current-Account Deficits-current –As the boom of the early
1990s progressed, account deficits also grew as offshore borrowing increased.
While exports were growing rapidly, these current-account deficits were viewed as
a positive sign that growth-enhancing and capacity-expanding investments were
taking place.
• Overvalued Exchange Rates-Prior to the crisis, the exchange rates for most Asian
currencies were loosely tied to the US dollar. The Philippine peso moved more but
not beyond a band of 25-27 pesos per US dollar.
• The Collapse in Exports-In 1996, export growth performance fell substantially,
particularly from 1995 when exports had been performing spectacularly.
Devaluation, rising wages, the decline of activity in the computer-chip market and
computer-peripheral markets in the industrial industries are the possible causes of
export collapse.
Contagion, Globalization, and Financial Integration
ECONOMIC DEVELOPMENT
The reversal of capital inflows and bank credit between 1996 and1997. There was
an enormous reversal of net private capital flows to the five crisis economies of
Indonesia, Malaysia, Korea, the Philippines, and Thailand between 1996 and 1997.
Globalization and international capital mobility were mainly related to the
interaction between these two phenomena. Globalization linked the East Asian
markets for goods and assets much more closely to the markets of other countries.
This linkage resulted from liberalization of trade in goods and capital in the East
Asian countries, which increased the size of the tradable goods sectors as measured
by the trade ratio, and the ratio of exports plus imports of goods to GDP. These
changes also increased the exposure of the economies of the region to shocks
originating in international trade. The liberalization of trade in capital similarly
increased the stock of foreign-owned capital and of foreign debt, such as corporate
bonds denominated in foreign currencies. This increased the exposure of
corporations in these economies to shocks in capital markets. However, the
financial markets of these Asian countries were less integrated into the world
economy because of restrictions on foreign entry to the financial sector and the lack
of development of the futures and derivatives markets. This contributed to the
crises and reduced the capacity of the financial sector in these countries to deal
with these stocks.
• Role of Institutional Investors-A more closely integrated world economy enables
institutional investors to have much more knowledge about other parts of the
world economy and to act quickly based on this knowledge. They have control over
vast amounts of financial resources which, when moved en masse, can introduce
volatility into the developing economies where markets are thin and
underdeveloped.
• How Strong Was This Contagion Effect?- One view of the contagion effect is that
Thailand served as a “wake-up call” to investors in the Asian region. No one saw it
coming since there were no warnings, and there were no changes in spreads
reflecting increased risks in the run up to the crisis. However, once it happened
there are two possible competing explanations for the spread to other countries.
First, the herd instinct or contagion effect is investors bailed out of all countries
without discrimination. The other explanation offers a more rational reason for the
pressure that was put on the other economies, arguing that other countries were
forced to undertake competitive devaluation to keep pace with Thailand as markets
recognized the need to remain competitive.
POST-CRISIS EXPERIENCE
CHRISTINE JANE FIGUEROA
The World Economy
Commentators from international institutions were initially quick to discount the
impact of the current crisis on the world economy. However, weaknesses in Korea
and Japan surfaced toward the end of 1997 and these tended to have wider
implications. However, when all was said and done, the Organization for Economic
Cooperation and Development (OECD) countries, with the exception of Japan and
Korea, were not appreciably affected by the crisis.
Economic Growth
The overall economic growth in the Asian economies did not immediately reflect
events in the financial sector and in foreign exchange markets. However, 1998 was
a bad year for most countries in the Asian region. Growth was negative in all the
five crisis countries. There was, however, a strong recovery in 1999, which
strengthened in 2000, particularly in East Asia and Malaysia.During the following
five years, the global economy recovered and so did the Asian economies. Between
2002 and 2007, economic growth in the Asian region accelerated. Living standards
rose and poverty fell. Domestic demand and foreign trade were both important
factors in the resumption of growth.
• Exchange Rates-exchange rates have strengthened from their lows in the first part
of 1998.
• Equity Prices- stock prices also rebounded. Stock markets elsewhere in Asia also
rebounded as funds from the rest of the world started to return. This served to
reinforce the optimistic feeling that was spreading throughout the region.
• Restructuring-Many weaker firms throughout the region went out of business
during the Asian financial crisis. Those that survived were operating more
efficiently. Banks started to become more stringent about lending and took greater
care to evaluate borrowers.
Economic Recovery
Recovery came through a revival of domestic demand supported by exports and a
restoration of investor confidence. Softer budget deficits and lower interest rates
also underpinned the recovery. The slowdown in the growth of the industrial
countries in 2001 initially served to moderate the recovery in Asia. However,
sustained growth in these countries later helped to reinforce the subsequent
recovery of Asia in 2002 until 2007. All the crisis economies have made a recovery,
although there are still difficulties in resolving nonperforming loans and weaknesses
ECONOMIC DEVELOPMENT
in the financial sectors of several crisis economies, particularly Thailand and
Indonesia, which retarded further recovery in 2003 and 2004. However by 2007, all
the trigger economies were in good financial shape.
Social Impact of the Economic Crisis
The crisis put extreme pressure on many sectors of the economies of five crisis
countries. The credit crunch made banks reluctant to lend and firms were starved of
working capital; currency depreciation made it difficult for firms to service external
debt; inflation accelerated and purchasing power fell as the price of imports
increased and government revenues came under strain when the tax base
contracted and incomes fell. The price of providing public services also increased,
while the ability to undertake compensatory spending was constrained by the crisis
itself. As a result, there was a fall in output, an increase in unemployment and the
incidence of poverty. As the crisis deepened and economic conditions worsened,
there was an increase in reverse migration as urban residents moved back to the
province. Fortunately, the agricultural sectors of the affected countries were not as
hard hit as the urban sectors, and the rural areas were able to absorb these
returning workers without much trouble. At least, they could provide subsistence
levels of food and housing.
LESSONS AND PROSPECTS FOR THE FUTURE
An Agenda for Reform
Based on the reform agenda prescribed by international banks and aid agencies
after the crisis, the following items could be helpful in speeding up reform in the
crisis-affected countries of Asia. This list makes sense and can be easily extended,
with some modifications, to global structural reform.
• Debt Restructuring • Private-Sector Credit Lines • Reform Exchange-Rate Regimes
• Capital Account Reform • International Portfolio Controls • Establish Minimum
International Standards of Financial Practice • Information and Transparency •
Global Surveillance • Reform of Financial Markets • Greater Competition •
Consolidation •Supervision and Regulation • Accounting and Disclosure • Stock
Markets • Trade Policies • Foreign Direct Investment • Human Capital • Better
Understanding of the Crisis Process • New Data. • New Analysis
Some Policy Implications
1. They could have cut back on growth
2. They could also have loosened the attachment of their currency in the US dollar
CHRISTINE JANE FIGUEROA
3. They could have put a tax on short-term capital inflows if there was a reluctance
to loosen the exchange-rate peg.
AGRICULTURE
Economic Development has often been equated with the change in the economy
where the importance of agriculture is increasingly diminished in favor of
manufacturing and service industries. Yet, agriculture is widely acknowledged as a
crucial element in the process of structural transformation.
AGRICULTURE AND ECONOMIC GROWTH
Agriculture plays a key role in the process of economic development. Most
developing countries must rely on their agricultural sector to produce the food
necessary to feed their people. The exceptions to this case are those few countries
with large natural resource –based exports, which provide them with the foreign
exchange necessary to import much of their food needs. In the initial phase of
industrialization, farmers must produce food not only to feed themselves, but also
to feed a growing urban population. The agricultural sector is a rich source of factor
inputs to feed the growing industrial and other modern sectors of the economy.
One such factor is labor. With 70 percent or more of the workforce in agriculture-
based employment in poor and medium-income economies, the agricultural sector
is virtually the only source of increased labor power for the urban sector.
Importation of labor resources is another option, but it can hardly be sufficient as a
short-term
solution. Another factor input is capital. Agriculture can also be a major source of
capital for modern economic growth. Capital comes from invested savings and
savings from income. In the early stages of development, capital may build up to
support the start of industries, but the rate of capital accumulation from this source
may be very slow. It is common for developing countries to import capital in the
form of aid or private investment to speed up the rate of capital accumulation, and
hence the growth of the economy. South Korea is a case in point, where foreign aid
was drawn upon to provide capital. In later years, the burgeoning industrial sector
assumed the dominant role as a source of capital for the economy. A third factor is
foreign exchange. In the early stages of growth, agricultural products serve as the
principal source of foreign exchange. As such, the agricultural sector’s ability to
supply foreign exchange enables the economy to import capital equipment and the
intermediate goods necessary for its continued growth. The availability of foreign
exchange also facilitates the inflow of technology and industrial management
expertise. Finally, the agricultural sector is also important in that it provides a rich
ECONOMIC DEVELOPMENT
market for the output of the modern urban sector. The extent to which the rural
population depends on products from the industrial sector is directly linked to the
type of income distribution currently in the economy. If income distribution is highly
uneven, the large majority of the rural population will be poor. Their expenditure
basket will necessarily be limited to food and other basic necessities, and their
demand for industrial products will therefore be low or even close to zero.
However, if there is a greater degree of equality in the distribution of income, the
living standards of rural families will be higher and this can increase demand for
products from the modern sector. If a large rural market exists, local industries can
continue to grow after the urban sector market has been saturated, until such time
that the industries are better able to compete in foreign markets. An economic
growth model that captures the transition of an economy from being mainly
agricultural to becoming mainly industrial-based is the Lewis-Ranis-Fei (LFR)
economic model of structural change. In this model, there are essentially two main
sectors of an economy- a modern economy sector and a traditional sector, where
the former is primarily based in cities and the latter in the countryside.
One aspect of agricultural development is the seemingly paradox that characterizes
agriculture as it relates to growth. The experience of a broad range of countries
indicates that the relative importance of the agricultural sector to the economy
diminishes with growth over time. In particular, the share of agriculture value-
added in gross domestic product (GDP) and as a source of employment consistently
declines over time, as income increases. Furthermore, the rate of decline is more or
less directly proportional to the rate of growth in total output of the economy.
Countries that grow very rapidly show a sharper decline in agriculture value-added
and employment than do countries that have grown more slowly.
THE MICROECONOMICS OF AGRICULTURE IN ASIA
Looking at the decision-making process at the farm level, the aim is to translate the
inputs of land, labor, fertilizer, pesticides, irrigation and mechanization into higher
levels of output. This process will depend upon the size of the holding and the
fertility of the soil, weather conditions, susceptibility to flooding and/or drought,
potential for natural disasters, land tenure arrangements, availability of storage and
marketing, transfer of technology through an agricultural extension system, and so
on. The list is not endless but very long.
What Worked?
The following are the three aspects of modern agriculture that have served to
increase agricultural productivity, both in output per unit in land area and per
CHRISTINE JANE FIGUEROA
worker. These are, firstly, the use of improved varieties (Green Revolution),
secondly, the extension of irrigation and the resulting double-cropping that took
place, and finally, the use of fertilizers, pesticides and herbicides.
• Green Revolution-the phenomena created by the development of new higher-
yielding varieties of rice.
• Application of Fertilizers, Pesticides and Herbicides-the yield effect of fertilizers
was by no means uniform.
• Irrigation-better irrigation and water management have contributed significantly
to agricultural development in Asia.
What Factors Have Not Helped Much?
• Farm Size-in traditional agriculture, it has been widely observed that there is an
inverse relationship between farm size and overall farm productivity.
• Changes in Land Tenure-There are a number of issues relating to land tenure. In
countries where land distribution is highly unequal, it is often argued that land
redistribution should be carried out on equity grounds.
MACROECONOMIC ASPECTS OF AGRICULTURAL DEVELOPMENT
The first thing to recognize when considering macroeconomic policies is that
agriculture in Asia is primarily intensive rather than extensive. Therefore, it is
important to employ appropriate labor-intensive technology. As labor moves from
the rural areas to the cities and incomes grow, the introduction of more extensive
capital-intensive technologies could be introduced. Nevertheless, throughout most
of the postwar period and particularly at the beginning phases of industrialization, it
was important to keep the currency exchange rate at an appropriate level to
discourage inappropriate use of capital for technology. A bonus from exchange rate
regimes that tended to undervalue the currency was that the terms of trade for
agriculture also improved. This was because agricultural products were, in a very
real sense, more tradable than industrial goods, which were often more protected
than agriculture in the early stages of development.Thus, the benefits of having an
undervalued exchange rate were twofold. It helped agriculture to maintain
appropriate terms of trade with industry so that it was not discriminated against,
and to promote appropriate labor-intensive production technology.
MODERNIZING AGRICULTURE AND RURAL WELFARE: LESSONS AND POLICY ISSUES
Mechanization and the Demand for Labor
ECONOMIC DEVELOPMENT
In the agricultural sector, the main concern is when and where mechanization
should be introduced. Rice is the staple crop and it requires a significantly higher
labor input than wheat, other grains, and most secondary food crops. Several
studies have shown that a shift to modern varieties has increased the amount of
labor input per hectare but probably decreased the amount of labor per ton of
production because of yield increases. A number of studies have also focused on
the impact of mechanization on labor demand, productivity, and profitability.
Technological Transfer, Growth and Equity
The introduction of new technology, be it higher-yielding varieties or new methods
of crop rotation and cropping systems, or improved irrigation and fertilization, has
been the major factor contributing to increased productivity in agriculture in Asia
during the past fifty years. The process of technological transfer must be continued
if agriculture is to remain viable and dynamic..
Genetic Engineering
Another issue is the impact of genetic engineering. Rice still remains the most
important food crop, and the sector employs the major part of the agricultural
population. In recent years, rice productivity growth has declined. It is now
necessary to implement ongoing technological developments that have taken place
in rice and in other food crops, horticulture, and livestock. There are also more
recent developments in genetic engineering that can be considered- even as there
are many associated issues with its implementation. Generally modified organisms
(GMOs) are produced by transferring a gene or set of genes conveying specific
desirable traits within or across species.
Zero Tillage
Zero tillage minimizes or eliminates tilling of the land and retains crop residues as
ground cover. Zero tillage saves on labor and energy required to overturn the soil,
conserves soil fertility, increases tolerance to drought, and reduces greenhouse gas
emissions. However, it requires more weeding and the occasional use of pesticides.
The system saves water, and reduces production costs and the incidence of weeds
and pests. Rates of return are reported to be high-as high as 50 percent or more.
Food Prices and the Linkages to Energy
In the past few years, there has been increasing volatility in the prices of primary
products and energy. With the onset of volatility in the financial markets and the
global recession in late 2007 and 2008, prices made an about turn. By the end of
CHRISTINE JANE FIGUEROA
2008, oil prices had fallen back to 2004 levels, and higher levels of production,
together with slower demand growth, have resulted in price declines for
commodities. Food prices did not fall as far although they declined by about 30
percent from their peak in the summer of 2008. This price roller-coaster aggravates
uncertainty in the agricultural sector and creates a climate of increased risk
aversion.
International Trade and Resource Transfer
The role of agricultural exports in earning foreign exchange was very important at
the beginning of the growth phase for these countries in the 1950s and 1960s. All
the Asian countries were primary product exporters. As development progressed,
agricultural exports diminished in importance as Asia became more specialized in
industrial exports. The structure of tariffs and the level of protection of agriculture
from international competition tend to vary inversely with the level of income. The
demand for agricultural protection increases as the share of agriculture in GDP
declines and per-capita incomes increase.
Shifts Out of Primary Grain Production
There has been a gradual shift in the mix of agricultural goods produced in Asia
from primary food grains, such as rice, wheat, and sorghum to secondary food
crops, such as livestock, tree crops, horticulture and fishing. These shifts have
occurred in line with changes in comparative advantage, relative prices, and
profitability which have encouraged the diversification of agriculture.
INDUSTRIALIZATION AND STRUCTURAL CHANGE
INDUSTRY AS A LEADING SECTOR
The main structural development that separates a modern high-income economy
from a traditional low-income economy is the rapid development of the industrial
sector. Broadly speaking, in the early stages of development, the industrial sector
comprises anything that is not agricultural in nature. It includes all non-agricultural
products. This process of industrialization has been very dramatic in many
developing countries and accounts for much of the dynamism of the East Asian
“miracle” countries and selected rapidly growing economies in Latin America. As a
matter of interest, large countries are likely to have a larger share of income
penetrated by the industrial sector because of economies of scale. Furthermore,
higher income per capita is closely associated with a higher level of industrialization
if we look at a broad range of developed and developing countries.
ECONOMIC DEVELOPMENT
A MODEL OF STRUCTURAL CHANGE
The Jamaican economist and Nobel Prize winner, W. Arthur Lewis developed the
first two-sector model which attempted to capture interaction between a
traditional agricultural sector and a modern industrial sector for a developing
economy. John Fei and Gustav Ranis built upon his work a decade later. The model
they developed is therefore often called the Lewis-Fei-Ranis (LFR) model. This
model has two sectors which can be defined as traditional and modern, agricultural
and industrial, or rural and urban. These are rather fuzzy definitions and we can
expect overlaps between different definitions. For example, there may be
traditional characteristics in the informal sector of the urban economy. Or there
may be modern agricultural processing industries in the countryside. The essence of
the model is to contrast traditional agricultural methods and rural social
organization, which revolves around family enterprises, with the modern industrial
sector where workers earn wages and industrial goods are produced.
BACKWARD AND FORWARD LINKAGES
The interaction between the industrial and rural sectors can be studied using the
concept of backward and forward linkages. If direct backward linkages are strong,
when an industry grows its suppliers also grow. The extent of this linkage can be
measured by subtracting the purchases from abroad and its own costs from the
value-added generated by the industry itself.
Indirect Backward Linkages
Indirect backward linkages are the secondary effects which growth in an industry
has its own suppliers. Industries that have strong backward linkages have low value-
added and a large input from local suppliers. General industries with strong
backward linkages include leather, clothing, textiles, food and beverages and paper.
The lowest backward linkages are in agriculture, public utilities, mining and services.
Labor-intensive manufacturing industries have the highest linkages, while primary
industries have the lowest.
Forward Linkages
Forward linkages tell us how a product is related as an input into the production of
a product at the next stage-textiles into apparel, for example, or petroleum into
plastics. Forward linkages are a good indication of the extent to which an economy
can upgrade its industrial base by using its existing expertise and resource base.
ASPECTS OF INDUSTRIAL DEVELOPMENT
CHRISTINE JANE FIGUEROA
Choice of Technology
As part of the process of industrialization, there will be a change in the production
process as relative prices of factors change. In the early stages of industrialization,
countries have limited capital and plentiful labor. Using simple production theory,
factor proportions are determined by the relative cost of capital and labor. Labor-
intensive technologies may be appropriate in a poor country with plenty of low-
skilled and cheap labor but because of market distortions, the choice of technology
may be more capital-intensive.
Economies of Scale
Economies of scale come into play when a country is exporting, or when production
is taking place on a large scale for the domestic market. This enables companies to
operate at the low point on their cost curves. In very small countries, it may be
difficult to reach a competitive plant size if production is intended for the domestic
market alone. The standard for measuring the efficiency of an industry is to use the
price of imports. Sometimes a protective tariff is imposed to keep out cheaper
foreign products through infant industry protection.
EFFICIENCY ISSUES
Economic Efficiency and Scale Production
Which firms are more efficient? Does firm size have a systematic impact on costs?
Given economies of scale, we might think that the larger the firm, the more efficient
it would be. This is not necessarily the case as size can introduce inefficiencies.
Efficiency depends upon a number of special factors. It may be that all firms can be
efficient if they have reached a viable size of production that takes full advantage of
economies of scale. It is true that there are more small firms in poorer countries but
that could just be because of lack of capital, or the fact that the market size is
limited. Better transport and communication also make it possible to have a
nationwide production, marketing and distribution strategy where goods are
produced in the cheapest locations and then shipped all over the country. In recent
years, with the development of information and computer technology, this strategy
has been extended internationally through the development of networks for
subcontracting and outsourcing.
FOREIGN TRADE
Exports are critical in explaining productivity gains in the Asian economies. Internal
competition does not seem to be sufficient to bring about high rates of productivity
ECONOMIC DEVELOPMENT CHRISTINE JANE FIGUEROA
increase. For example, in large countries with low industrial concentration ratios, the southern China provinces adjacent to Hong Kong. Yusuf and Evenett (2002)
efficiency rates are still low. The textile sectors in India and the Philippines are good examine in detail the concept of clustering. The main kinds of clusters are:
examples. Why? Perhaps it is because of licensing arrangements, or a lack of
1. Large metropolitan agglomerations that contain a mix of different industries; 2.
technological transfer as a result of taxes on imports. There is evidence that internal
Small groups of networked firms with similar but not identical interests, such as in
allocation of resources can add greatly to economic efficiency. Firms financed by
northern Italy, Brazil and India; 3. Clusters which have few main producers and their
foreign direct investment (FDI) are, other things being equal, more efficient than
suppliers, such as MNC plants with their component suppliers, like those existing in
their domestic counterparts. There may be many reasons for this but probably the
Penang, Malaysia and in Bataan and the region south of Manila in the Philippines. In
most important is the need to be competitive internationally. Strategies for
the United States, Korea, and China, there are clusters anchored by a major
international trade are important for studying the growth experience of developing
enterprise, such as automobile or steel plants, and their affiliates.Innovation and
countries.
technology transfer have taken place most often when capital equipment and
THE ROLE OF INNOVATION components are imported by export-oriented manufacturing firms. This is true for
both low- and middle- income countries in Southeast Asia and some countries in
Some mention should be made about the importance of innovation in the
East Asia. These kinds of technology transfer require a high level of external
industrialization process. We have already noted that education together with the
financing as well as some local funding, highlighting the importance of financial
expansion of the labor force played key roles in achieving economic growth in the
sector development as an enabler of innovative change. The business sector plays a
countries of East and Southeast Asia in the decades of the 1970s, 1980s and 1990s.
key role in both funding of R&D and implementing research innovation in new and
Growth in the labor force alone contributed about 20 percent of the total growth in
improved products.
income. In addition, Temple suggests that education may account for one-fifth or
more growth in gross output in the OECD countries.Much of the remaining growth EMPLOYMENT GROWTH AND INDUSTRIALIZATION
in income resulted from new innovations and the adaptation of innovation from
When technical progress is labor-intensive, it will help employment, and when it is
other countries. Innovation requires a creative process of abandoning old ways of
capital-intensive, it will retard the growth in employment. This is a simple yet
doing things and the adoption of new methods and processes. To do this effectively
powerful concept. It is also important that wages be flexible, otherwise labor can be
and dynamically requires the ability of the economic system to facilitate the exit of
priced out of the market and capital used instead.This is the risk that faces labor
inefficient companies and the entry of new and more productive ones. In East and
unions and other institutional factors that limit labor mobility. Employment growth
Southeast Asia, the barriers include not only the need to have sufficient capital, but
is directly related to output growth as well. Using the case of Asia, we observe that
also to satisfy the government requirements in terms of registration, labor and
no rapidly growing Asian economy has had an employment problem in the long
other regulations, including environmental and industrial codes. Entry costs are low
term, at least until the Asian crisis. This is partly because growth was so rapid that it
for small and medium-sized firms and exit is also generally easy by declaring
was easy to absorb the labor generated by rapid population growth. However, it
bankruptcy. For larger firms, rules and regulations vary widely. Exit is particularly
was also the result of selected production methods that were first labor-absorbing
difficult where large firms have a hold on government agencies or where large firms
at a low level of technology and later, partly labor-absorbing at a higher level of
have a hold on government agencies or where the fear of adverse employment
technology.
effects is great. For this reason, many inefficient state-owned enterprises (SOEs) are
kept in business in large companies. One method for facilitating entry is to set up A MODEL OF RURAL-URBAN MIGRATION
special economic zones (SEXs) within an economy where sites and services are
provided and regulatory and licensing requirements are minimized. The concept of To provide labor for a growing industrial sector, there has been significant migration
SEZs can be extended to the notion of an industrial cluster. Some of these clusters from the rural to the urban areas where industries are located. The basic building
have emerged naturally, with few explicit government incentives, such as the Silicon blocks for a model of urban-rural migration are already in place.
Valley in California, the northern Italian industrial complex, and the development of
ECONOMIC DEVELOPMENT
Productivity in the rural sector is low. It is higher in the urban sector. Therefore,
migration will take place. If markets are complete and competitive, this migration
will continue until the marginal products in the two sectors are equalized, since
workers are paid the value of their marginal products. The surplus labor will be
absorbed slowly or quickly, depending on the pace of capital formation in the
urban/industrial sector. There will be modifications of this model, depending upon
institutional restrictions, such as wage rigidity and/or market inflexibilities. Several
propositions have been put forward. The most convincing is the Harris-Todaro
model, which argues that migration will take place when the expected future
income stream in the rural areas. Such a model implies that a significant amount of
unemployment or underemployment can be experienced as long as the stream of
income expected in the long run is large.
INTRAREGIONAL AND INTERNATIONAL LABOR MIGRATION
International labor migration is often a neglected and sometimes misunderstood
subject. This is partly because there is much less freedom in people movement than
there is in the movement of capital and goods and services. The restrictions on
movements in labor are unlikely to be relaxed, as they present difficult social issues
that are not encountered in the movement of other factors of production or
international trade. Given these impediments, it is quite surprising that so much
international migration has taken place. Patterns of labor migration are most easily
understood by looking at the cycle of economic growth and unemployment. A
typical developing country starts with a low level of employment and much surplus
labor. As it progresses, its poverty level declines as employment increases along
with wage levels when workers’ productivity increases. Eventually, it reaches nearly
full employment. As it continues to grow, it experiences labor shortages. Depending
on the pattern of growth, these shortages could appear in skilled occupations, but
more often in unskilled occupations. Of course, there will be in- and out- migration
at the same time. There will also be a brain drain in some skilled occupations in
poor countries and some of the poorer sections of the economy may also migrate
even when incomes are generally high.
THE ROLE OF GOVERNMENT
Generally speaking, government policy in the industrial sector has adopted a hands-
off attitude in terms of providing direct incentives for individual industries.
Nurturing Growth in the Industrial Sector
CHRISTINE JANE FIGUEROA
Industrial sector growth was nurtured in many ways through the indirect effects of
government policy. Exchange rates were maintained in such a way that the
industrial sector was not penalized. Educational opportunities were enhanced
through a continual buildup of technological capacity. Furthermore, infrastructure
spending was maintained so that transport, communications, and information
technology could be used to enhance innovation and productivity Where policies
allowed for the free entry and exit of business firms, a flexible environment
conducive to rapid change and adaptation to new techniques and ideas flourished
and economic growth accelerated. Finally, labor market policies, even when unions
started to grow in the past decade, were flexible enough to allow firms to adapt to
changes in demand.In cases where such industrial policies were not followed,
industrial growth has been slower and less flexible. This has been particularly true in
those economies where SOEs have established a strong foothold.
Efficiency and Welfare
When markets work well, resources are allocated in an efficient manner. We have
seen that this has generally been the case in the evolution of rapid industrial growth
in East and Southeast Asia. There have been, however, cases when there was
market failure. Markets may also fail to allocate resources effectively in cases where
there may be elements of a natural monopoly, although recent developments in
public utility economics suggest that these elements are less widespread than
previously believed. There are also considerations of welfare that have to be taken
into account that go beyond the operation of simple market principles. The
provision of unemployment and retirement benefits is part of the fabric of industrial
policy in industrial countries. Yet, these are only now being developed in the Asian
economies. This area requires a growing share of resources as populations begin to
age. To some extent there is a trade-off between efficiency and welfare. The need
to recognize the necessity of planning for retirement and that a social safety net
should be provided for workers that are retrenched in periods of slack demand. In
the past when the region was experiencing unparalleled growth, these
considerations were less important. Now that growth has slowed and
unemployment has increased, these issues have become more pressing.