[MUSIC] Having discussed the four major elements of growth and development, lets now come to better understand why some developing countries like Chili, Costa Rica and the Philippines enjoy relative prosperity. While others like Chad, Senegal and Gabon stagnate. Basic problem is the vicious circle of poverty that some countries fall prey to, as illustrated in this figure. The center of this circle is rapid population growth. This leads to low per capital income that leads to both a low level of savings and a low level of aggregate demand. This in turn leads to low levels of investment in both physical and human capital. The result is low productivity and low per capital income and the circle continues. Other elements of poverty are likewise reinforcing because poverty is accompanied by low levels of education, literacy and skill. These in turn prevent the adoption of new and improved technologies. Over coming the barriers of poverty often requires a concerted effort on many fronts. And some development economist recommend a big push forward to break the vicious circle. If a country is fortunate, simultaneous steps to invest more improve health and education, develop skills and curb population growth. Can break the vicious cycle of poverty. And stimulate a virtuous circle of rapid economic development. But, which countries will be the fortunate ones and why? Economists, historians and social scientists have long been fascinated by these questions. And the obvious differences in the pace of economic growth among nations. Some early theories stressed a hospitable climate noting that all advanced countries lie in the earth's temperate zone. Others have pointed to custom, culture or religion as a key factor. Max Weber, for example, emphasized the Protestant ethic as a driving force behind capitalism. More recently, Mancur Olson has argued that nations begin to decline when their decision structure becomes brittle and interest groups or oligarchies prevent social and economic change. No doubt, each of these theories has some validity for a particular time and place but they do not hold up as universal explanations of economic development. Faber's theory leaves unexplained why the cradle of civilization appeared in the near East and Greece while the later dominant Europeans lived in caves, worshiped trolls and wore bear skins. Where do we find the Protestant ethic in bustling Hong Kong? How can we explain that a country like Japan with a rigid social structure and powerful lobbies has become one of the world's most productive economies? The failure of these early theories to fully explain economic development has spawned more modern views. Here's just a sampling of the debate over what the best strategy is for a country to break out of the vicious cycle of poverty and begin to mobilize the factors of economic development. Let's begin with the issue of relying upon an industrial or agricultural economy. One of the most important choices the leaders of a developing country can make is whether to pursue a strategy of rapid industrialization to achieve growth as opposed to simply expanding and improving their agricultural base. In the past, such a choice was typically resolved in favor of industrialization as developing countries sought to mimic the successes of the industrialized nations. Today however, the lesson of decades of attempt to accelerate industrialization at the expense of agriculture has led many analysts to rethink the role of farming. Here's the problem. Industrialization is captial intensive. It attracts workers into crowded cities and it often produces high levels of unemployment. On the other hand, raising productivity on farms typically requires far less capital while providing productive employment for surplus labor. Indeed, if Bangladesh could increase the productivity of its farming by just 20%. That advance would do more to release resources for the production of comforts. Then we're trying to construct a domestic steel industry to displace imports. The second major issue in development strategy is whether a country is better off relying upon a state-run versus market-oriented economy. The important elements of a market oriented policy include, an outward orientation and trade policy. Low tariffs and few quantitative trade restrictions, the promotion of small business and the fostering of competition. Moreover, markets work best in a stable macroeconomic environment. One, in which taxes are predictable and inflation is low. However, the problem here is that the cultures of many developing countries are hostile to the operation of markets. Often competition among firms or profit seeking behavior is contrary to traditional practices, religious beliefs or vested interest. Yet decades of experience suggest that extensive reliance on markets provides the most effective way of managing economy and promotoing rapid economic growth. Still a third issue, development strategy has to do with the openness of an economy to international trade. For example, should a developing country pursue a strategy of import substitution by replacing most imports with domestic production? Or should a country pursue a strategy of openness or outward orientation? That is, should it strives to pay for its imports by improving efficiency and competitiveness, developing foreign markets and keeping trade barriers low? Historically policies of import substitution were often popular in Latin America until the 1980s. And indeed the policy most frequently used toward this end was to build high tariff walls around manufacturing industries, so that local firms could produce and sell goods that would otherwise be imported. In contrast, in age show countries like Taiwan, South Korea and Singapore have preferred an openness strategy. Such a policy keeps trade barriers as low as practical by relying primarily on tariffs rather than quotas. And other non-tariff barriers. It minimizes the interference with capital flow and allows supply and demand to operate in financial markets. It avoids a state monopoly on exports and imports. It keeps government regulation to bare necessities for an orderly market economy. Above all, it relies primarily on a private market system of profits and losses to guide production, rather than depending on public ownership and control or the commands of a government planning system. Now, what is perhaps most interesting here is that just a generation ago, Taiwan, South Korea and Singapore all had per capital incomes one-quarter to one-third of those in the wealthiest Latin American countries. Yet, by saving large fractions of their national incomes and channeling these to high-return export industries, these countries overtook every Latin American country by the late 1980s. Secret to success was not a doctrinaire laissez-faire policy but the government in fact engaged in selective planning and intervention. Rather, the openness and outward orientation allowed the countries to reap economies of scale and the benefits of international specialization. And thus to increase employment, use domestic resources effectively, enjoy rapid productivity growth and provide enormous gains in living standards. This figure drives home the point that open economies generally do better than closed ones. You can see in the left-hand figure that closed economies, like Angola, Mozambique and Ghana grow slowly while in the right-hand figure, countries like Thailand, Malaysia and Indonesia have done much better. So what's the bottom line for successful strategies of economic development. Decades of experience in dozens of countries have lead many development economists to this of nine suggstions to enhance economic growth. These range from, establishing the rule of law, opening economies to international trade. And controlling population growth to establishing independent central banks to avoid hyper inflation, establishing realistic exchange rate policies to prevent major currency shocks, and privatizing state industries to improve efficiency and promote entrepreneurship. At the same time it is clear that the industrialized nations of the world can play a very constructive role in helping the developing countries grow. One way is to provide more foreign capital, both public and private. And to better target such aid to the poorest developing countries. In this regard, the United States and many other industrialized nations already assist the developing countries with substantial foreign aid in the form of both loans and grants. A second way for the industrialized nations to spur economic development in the developing countries would be to further reduce their own trade barriers. This would allow developing countries to expand their national incomes through increased trade. But such a step can be politically controversial because it raises the specter of industrialized workers having to compete against people willing to work for a dollar or less a day. Still a third way the industrialized nations can help is to provide debt relief. The problem here is that the current debt load of many developing countries is so large that monies which would otherwise go to investment in the countries has to be used for servicing these debts. The fourth way the industrialized nations might help is by addressing an issue we raised earlier. The so called brain drain. The problem here is that many of the best and brightest workers int he developing countries come to the industrialized nations temporarily to get and education but wind up staying permanently to work. Rather than returning to help build the economies of their homelands. This brain drain contributes to the deterioration in the overall skill level and productivity of labor forces often least able to suffer such losses. A final way to help developing countries grow is to discourage arms sales to them. While such sales create jobs and profits in the industrialized nations, they also divert precious public expenditures from infrastructure and education. [MUSIC]
