Udviklingsøkonomi - grundfag 1

Lecture 4

Convergence?
Summing up: one-sector growth models 2

 Harrod-Domar (capital fundamentalism)

 Savings and population growth drive growth of national income
 There is constant returns to capital, and the capital-output ratio is constant
 Policy implications:
1. Domestic savings, s should be increased
2. Foreign capital can substitute if domestic savinsg are too low
3. Capital should be applied (invested) more efficiently (unfortunately this
was often forgotten…)

 Solow (neoclassical growth theory)

 Technological progress and population growth drive long run income growth
 Decreasing returns to capital mean that accumulation of capital is
insufficient
 Policy implications:
 Savinsg affect the level of income but not its rate of growth
 How to share in technological progress?
Why convergence? 3

Catching up (intuition):
1. Technology is a global public good – is spread among countries
2. Change from agriculture to industry has a higher pace in poor countries
3. Falling marginal returns to capital, (Solow model)

Convergence in the Solow model:

 All countries converge to a steady state growth path characterized by the
parameters s, n og 
 If all the parameters of the Solow model are the same across countries we
have converge to the same steady state – unconditional converge
 If the parameters of the Solow model are not the same, but the speed of
technical progress is the same, we have convergence to same rate of growth
– conditional converge
 Testing unconditional converge 4

regress
g = a + b log yt0 + e

Interpretation:
If b < 0 poor countries grow faster,
indicating unconditional converge
If b > 0 rich countries grow faster –
divergence
Two types of data:
1. Few countries, long time series
2. Many countries, short time series (fra
1960 eller 1970)
Results 5

1. Baumol (1986): 16 rich countries, 1870-1979

 Finds unconditional converge
 His countries differed in 1870, but are all rich and
alike today
 But there is ’selection bias’; these countries are
not selected randomly (”winners write
economic histrory”)

2. De Long (1988) adds 8 countries that (seen with the

eyes of 1870) should have caught up (eg Argentina,
Ireland, Spain)
 unconditional converge does not hold

3. In scatterplots of average growth versus initial income

we do not see convergence

Conclusion: unconditional converge does not hold!

Conditional converge 6

 Parameters (of the Solow model) may differ

 Each country converges towards its own steady state
 remember: g^* =  (technical progress)

 Assume  similar in all countries (knowledge is a

public good)
 Leads to convergence towards same rate of
growth
 But tests should condition on where the steady-
statecurve is
 Countries above their S-S curve grow slowly
 Countries below their S-S curve grow faster
 Econometrically testing conditional converge 7

Consider the Solow model:

(1  n)(1   )kˆ*  (1   ) kˆ *  sy
ˆ*
In steady-state
kˆ * s s
 
yˆ* (1  n)(1   )  (1   ) ( n     )
It can be shown that
 
ln y  ln E (0)  t ln(1   )  ln s  ln( n     )
1 1
Mankiw, Romer and Weil (1992) regress 1985 per capita GDP on s and
on (n+0.05) using cross-sections of countries. Find s and n to have large
explanatory power:
 s positive effect (+1.47)
 n negative effect (-1.97)
But the simple Solow model does not quite hold, because these
coefficients are 1) too large 2) not alike 3) cross country income
differences larger than predicted
 Summing up so far 8

 Unconditional  Neoclassical
The rest of this course
convergence growth models
focus on
will try to
rejected
1. Savings, 1. Assess the
 Conditional determinants of
investment
convergence savings, investment,
2. Population
(controlling for growth population growth
savinsg and and technical
3. Technological
population progress progress
growth)
2. Other factors that are
 Perhaps - Empirically also important
 Not completely important (environment,
unreasonable - But not explained poverty, inequality,
by the model (ie market efficiency etc)
the rate of growth
is determined
exogenously
outside the model)

Why doesn’t capital flow from rich to poor countries???

Human capital 9

Augmenting the Solow model with human capital can

improve its ability to explain cross country income
differences

Human capital = education, health, nutrition,

knowledge, experience

Why is this a form of ”capital”?

How is it treated in the national accounts?

A simple growth model with human capital 10

y  k h 1

k t1  k t  sy t h t1  ht  qy t

 Where h is human capital, and the economy saves in both

physical (s) and human capital (q)
 Constant returns to physical and human capital combined.
Ignore depreciation, land and unskilled labour.
 In steady state y, h and k all grow at the same speed
 In steady state h/k = q/s, and
 The rate of growth is

k t 1  k t h t 1  h t y t 1  y t  1
   s q
k t h t y t
Implications of the human capital model 11

1. No unconditional convergence (despite diminishing

returns to capital alone)
2. s and q affect both the level and the growth rate of
income; the rate of growth is determined endogenously.

 Why doesn’t capital flow from rich to poor countries???

 Developing countries lack both human and physical
capital. Return to capital is therefore not
(enormously) higher than in rich countries.
 For this and other reasons capital does not flow (soo
much) to the developing countries
NOTICE 12

Constant returns (all inputs can be Decreasing returns (one or more

accumulated) fixed inputs cannot be
accumulated)

Accuumulation Technical progress

drives growth required to explain
continuing growth
The simple human capital model had constant returns to scale in all inputs.
If there are fixed inputs such as land or unskilled labour, there will be
decreasing returns to the accumulated inputs and its results will no longer
hold
Next lecture 13

 Will look at the role of technical

progress
 What was most important for South-
East Asia’s ”Miracle” growth:
 technical progress, or
 Just rapid growth of human
capital???

 Read Ray chapter 4 to find out!