Chapter 3: Classical Theories of Economic Growth & Development

ECONOMICS OF GROWTH
& DEVELOPMENT
ECON F244

Dr. Rahul Arora (IC)

Assistant Professor,
Department of Economics & Finance,
BITS Pilani, Pilani Campus
rahul.arora@Pilani.bits-Pilani.ac.in
Mob: +91 – 7607481292

Background design is taken from the presentation slides of Salvatore:

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International Economics, 10th Edition © 2013 John Wiley & Sons, Inc.
Classic Theories of Economic
Development: Four Approaches

1. Linear stages of growth model

2. Theories and Patterns of structural change
3. International-dependence revolution
4. Neoclassical, free market counterrevolution

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1. Linear Stages of Growth Model

 Rostow’s Stages of Growth

 Harrod-Domar Growth Model

Criticism
 Necessary vs Sufficient conditions
 Model ignores the sufficient conditions of
development and assumed its presence in all
countries, irrespective of its type

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2. Theories and Patterns of structural change

 The Lewis two-sector model

 Empirical Patterns of Development by H.B. Chenery,
et al.

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Assumptions of the Lewis Model

 Two sectors – Traditional Agriculture sector (A) & Modern

Industrial sector (M)
 Sector A contains surplus labor with zero MP
 Sector B has scope of improvement of output and requires more
labor
 Labor is transferrable between the sectors
 Wages in sector B is higher than the subsistence average wage in
Sector A
 Speed of employment creation is proportional to rate of capital
accumulation in modern sector
 Capitalist reinvest their profits
 Labor supply is perfectly elastic at constant urban wage
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Addison-Wesley. All Rights
Reserved

Figure
3.1 The
Lewis
Model of
Modern-
Sector
Growth
in a Two-
Sector
Surplus-
Labor
Economy
Source:
Todaro &
Smith
(2019),
Ch.3 6
Criticism of Lewis Model

 The rate of labor transfer and employment creation

may not be proportional to the rate of modern-sector
capital accumulation – What if TP is labor-saving?
 Isn’t this anti-development?
 What about social welfare?
 What about inequality?

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 Criticism of Lewis Model

Figure 3.2:
The Lewis
Model
Modified by
Laborsaving
Capital
Accumulation
: Employment
Implications

Source: Todaro & Smith (2019), Ch.3

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Criticism of Lewis Model

 Surplus labor in rural areas and full employment in

urban – Is it so?
 Institutional factors ignored related to increasing
wages – wages are rising over the years?
 Assumption of diminishing returns in the modern
industrial sector – what about IRs?

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 Empirical Patterns of Development

Following patterns obtained from the empirical data:

 Switch from agriculture to industry (and services)
 Rural-urban migration and urbanization
 Steady accumulation of physical and human capital
 Population growth first increasing and then decreasing
with decline in family size

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 Patterns of Structural Change:
Critical Evaluation
 Structural changes models described the average pattern of
development

 The main tested hypothesis is: Development is an identifiable

process of growth and change whose main features are similar in all
countries

 However, the model does not recognize that differences can

arise among countries in the pace and pattern of development;
depending upon their particular set of circumstances (what
are those ?)

 Too much emphasis on pattern of development rather than

theory – the risk of putting the cart before the horse
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 3. The International-Dependence
Revolution
 During 1970s, these models gained importance among
intellectuals of developing countries – because of the
disappointment from earlier models

 As per these models, developing countries are badly affected

by institutional, political & economic rigidities, both domestic
and international, and caught up in a dependence and
dominance relationship with rich countries

 Within this general thought, there arise three main streams of

thought:
a. The Neocolonial dependence model
b. The False-paradigm model
c. The Dualistic development thesis
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 3.a The Neocolonial Dependence Model
 Indirect outgrowth of Marxist thinking

 The existence & continuance of underdevelopment is

primarily due to the historical evaluation of a highly unequal
international capitalist system of rich-poor country
relationships

 Underdevelopment is seen as externally induced

phenomenon, in contrast to the previous two approaches
which emphasized on insufficient savings and investments or
lack of education and skills

Solution
Revolutionary struggles or at least restructuring of world capitalist
system to free developing world from the control of developed countries
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 3.b The False-Paradigm Model
 It attributes underdevelopment to faulty and inappropriate
advice provided by the well-meaning but often un-informed,
biased and ethnocentric international expert advisors from
developed country assistance agencies but ultimately
misleading models of development that often lead to
inappropriate or incorrect policies

 Leading suggestion givers (intellectuals, trade unionist, high

level government economists & other civil servants) are all get
their training in developed country institutions

Solution
Desirable institutional & structural reforms are needed
But these are often neglected or given cursory attention
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 3.c The Dualistic Development Thesis
 These exist dual societies in the World
 Rich & Poor countries
 Handful of wealth with broad areas of poverty

 Dualism is defined as existence and persistence of substantial

and even increasing divergences between rich and poor
nations, and rich and poor peoples on various levels

 Dualism contains four key elements:

I. Superior and inferior conditions co-exist
II. Co-existence is chronic & not merely transitional
III. Degree of differences do not show any signs of diminishing
IV. Superior does little/nothing to pull up the inferior

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 4. The Neoclassical Counterrevolution
 During 1980s, Neoclassical counterrevolution occurred in
economic theory & policy
 This revolution favored supply side macroeconomic policies,
rational expectations theories and the privatization of public
corporations

 This counterrevolution can be divided into three component

approaches:
i. Free market approach
ii. The public-choice approach
iii. Market friendly approach

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 4. The Neoclassical Counterrevolution
 The central argument is – Underdevelopment results from:
• Poor resource allocation due to incorrect pricing policies
• Too much state intervention by overly active developing
nation governments
Other Main Arguments
 Denies efficiency of intervention
 Points up state owned enterprise failures
 Stresses government failures
 With diminishing returns, cannot sustain growth by
capital accumulation alone

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 Classic Theories of Development:
Reconciling the Differences
 Governments do fail, but so do markets; a balance is needed
 Must attend to institutional and political realities in
developing world
 Development economics has no universally accepted
paradigm
 Insights and understandings are continually evolving
 Each theory has some strengths and some weaknesses

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 Appendix 3.1: Components of Economic
Growth
 Capital Accumulation, investments in physical and human
capital – Increase capital stock
 Growth in population and labor force
 Technological progress – Neutral, labor/capital-saving,
labor/capital augmenting

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 Effect of Increases in Physical and Human
Resources on the Production Possibility Frontier

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 Effect of Growth of Capital Stock and Land on
the Production Possibility Frontier

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 Effect of Technological Change in the Agricultural
Sector on the Production Possibility Frontier

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 Effect of Technological Change in the Industrial
Sector on the Production Possibility Frontier

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 Appendix 3.2: The Solow Model

Already discussed in Growth Part of the course.

Please refer to the one sector Neoclassical model of economic growth

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Reference

Chapter 3 of: Todaro, M.P. and Smith, S.C. (2019). Economic

Development. 12th Edition, Pearson India Education Services Pvt. Ltd.

For Slide Material (figures): Copyright @ 2012 Pearson Addison-

Wesley. All Rights Reserved

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