Welcome to the Development Dynamics Chapter!
Hi everyone! This chapter is crucial because it moves beyond just measuring how rich a country is (economic growth) and focuses on the complex, real-world challenges of improving people's lives (economic development).
Understanding the factors that help or hinder development gives us the tools to analyze why some countries thrive while others struggle. Don't worry, we'll break down these powerful concepts into clear, manageable chunks!
3.4.3.2 Factors that Affect Economic Development
A. Physical and Financial Foundations of Development
1. Capital, Saving, and Investment (The Engine Room)
Development requires accumulating the resources necessary for future production.
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Stock of Physical Capital, including Infrastructure:
This refers to the existing machinery, factories, roads, communication networks, and power grids in a country. Higher capital stock generally means higher productivity.
Analogy: Think of infrastructure as the skeleton of the economy. A strong skeleton (good roads, reliable electricity) allows the body (firms and households) to operate effectively. -
Flow of Saving and Investment:
Savings (unspent income) must be converted into investment (spending on new capital goods). If a country has low savings rates, it struggles to finance the necessary investments for growth and development.
2. The Harrod-Domar Model: A Basic Blueprint
The Harrod-Domar model is one of the earliest models attempting to explain why investment is so vital for growth in Less Economically Developed Countries (LEDCs).
The Principles of Harrod-Domar:
The model suggests that the rate of economic growth depends on two things:
- The National Saving Rate (s): How much of national income is saved?
- The Capital-Output Ratio (k): How much capital is needed to produce one extra unit of output? (A lower 'k' means capital is used more efficiently).
The core idea is simple: Higher saving leads to higher investment, which increases the capital stock, leading to faster economic growth.
Memory Aid (Harrod-Domar): More Saving + better use of Kapital = Faster Growth.
Limitations of the Model (Why it doesn't always work):
- It assumes LEDCs can easily increase their saving rate, which is difficult if incomes are already very low (the poverty trap).
- It ignores non-economic factors like institutional quality and corruption.
- It assumes the capital-output ratio (k) is fixed, but in reality, technological progress improves the efficiency of capital (lowering k).
Key Takeaway (Section A): Financial resources, driven by high savings and effective investment in physical capital, are the essential ingredients for starting and sustaining economic growth, though models like Harrod-Domar show that simply adding capital isn't enough.
B. Human, Social, and Environmental Capital
3. The Role of People and Knowledge (Human Capital)
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Education, Skills, and Investment in Human Capital:
Education improves productivity, increases innovation, and allows workers to adapt to new technologies. Investment in human capital (training, education) is often considered more vital for development than physical capital alone. -
Health Care and Access to Services to Meet Basic Needs:
A sick population cannot be productive. Access to basic services like clean water, sanitation, and affordable healthcare is fundamental. High infant mortality rates often indicate a failure in basic development. -
Access to Financial Services:
Development is hindered if the poor cannot access formal banking or insurance. Microfinance schemes, which offer tiny loans to entrepreneurs (often women), are a successful way to promote local development and increase opportunity.
4. Environmental and Demographic Challenges
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The Natural Environment, Climate, and Access to Raw Materials:
Geographical factors matter. Landlocked countries may face higher trade costs. Countries reliant on favourable climates (e.g., for agriculture) are vulnerable to climate change. Access to valuable raw materials can boost export earnings, but may also lead to conflict (resource curse). -
Demographic Factors:
This relates to population structure and growth. A high birth rate and a large youth dependency ratio put strain on education and health systems. Conversely, an aging population (common in many MEDCs) strains public finances through pension and healthcare costs.
5. Inequality and the Environment
Inequalities in Income, Wealth, and Opportunity:
High inequality is a major barrier to development. It limits access to credit and education for the poor, reduces overall aggregate demand, and can lead to political instability.
The Environmental Kuznets Curve (EKC)
The Environmental Kuznets Curve (EKC) hypothesis suggests an inverted U-shape relationship between economic development and environmental degradation:
- In the early stages of development (low income), environmental damage is low.
- As industrialisation begins (medium income), environmental degradation increases rapidly (e.g., pollution from factories).
- At high levels of development (high income), degradation falls as services replace industry, and people demand and can afford better environmental protection and technology.
Critique: The EKC is often criticized because some forms of degradation (like carbon emissions or loss of biodiversity) may not fall significantly even in high-income countries. Development must be sustainable—improving current well-being without compromising future generations.
Key Takeaway (Section B): Development relies heavily on improving human capabilities (health and education) and managing demographic and environmental factors responsibly. Inequality undermines these efforts.
C. Economic Structure, Trade, and External Factors
6. Primary Product Dependency and Trade
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Primary Product Dependency and Fluctuations in Commodity Prices:
Many LEDCs rely heavily on exporting raw materials (e.g., coffee, copper, oil). This makes their economies highly volatile because commodity prices fluctuate wildly on global markets (price instability). -
Importance of Foreign Trade:
Trade is generally positive, enabling specialisation, transfer of technology, and accessing larger markets (economies of scale). However, the terms of trade can be detrimental (see Prebisch-Singer).
The Prebisch-Singer Hypothesis
This hypothesis argues that the price of primary commodities (LEDC exports) tends to decline relative to the price of manufactured goods (MEDC exports) over the long run.
Why does this happen?
- The income elasticity of demand for manufactured goods is high, while for basic commodities (like food), it is low. As global incomes rise, people spend proportionally more on manufactured goods.
- Technological substitution: MEDCs find substitutes for raw materials (e.g., plastics instead of metals).
Consequence: LEDCs have to export increasing amounts of primary products just to afford the same quantity of manufactured imports, hindering development.
7. Industrialisation and Urbanisation
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Industrialisation and Urbanisation:
Moving from agriculture to manufacturing (industrialisation) is historically key to development, as manufacturing often provides higher wages and greater productivity.
This shift leads to urbanisation (people moving to cities). If urbanisation is managed well, it boosts efficiency; if unplanned, it can create immense pressure on housing, infrastructure, and services.
Did You Know? The shift from agriculture to industry is often referred to as structural change, a necessary transition for sustained long-term development.
8. Public and Private Sector Debt
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Public Sector Debt:
This is debt owed by the government (often through budget deficits). In LEDCs, excessive public debt can lead to high interest payments, diverting crucial funds away from health and education, a problem known as debt servicing. -
Private Sector Debt:
This is debt owed by firms and households. While useful for investment, high private debt risks financial instability. - Arguments for/against budget deficits: Running a deficit (government spending > tax revenue) may be justified if the spending is on productive investment (like infrastructure or education) that boosts long-term growth. However, if deficits are sustained and used simply for consumption, the resultant rising national debt is unsustainable.
Key Takeaway (Section C): Economic structure matters. Dependency on volatile primary markets and accumulating unsustainable debt act as significant brakes on development.
D. Institutional and Political Factors
9. The Importance of Good Governance
Often, the most significant barriers to development are not economic, but institutional and political.
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Rule of Law and Property Rights:
Investors need confidence that their assets will not be seized or unfairly taxed. Strong property rights—the legal guarantee that you own and can profit from your assets—are essential for encouraging investment and entrepreneurship. Without the rule of law (everyone, including the government, must follow the laws), uncertainty deters business activity. -
Good Governance and Corruption:
Good governance means that a government is legitimate, transparent, and accountable. Corruption (the abuse of public office for private gain) diverts public funds, distorts incentives, and increases the cost of doing business, severely hampering development efforts. -
Political Instability, War, and Conflict:
Development requires stability. War destroys physical capital and infrastructure, causes mass migration (loss of human capital), and requires huge resources to resolve, potentially setting a country's development back decades.
Quick Review Box: Factors that Hinder Development (The "4 C's" and a "D")
- Corruption / poor Governance
- Climate / natural environment vulnerability
- Capital scarcity / low investment (Harrod-Domar issue)
- Commodity dependency (Prebisch-Singer issue)
- Debt (public or private)
Key Takeaway (Section D): Even with massive financial aid, a country cannot achieve development without strong, honest institutions that protect property rights and ensure political stability.
Don't worry if this seems tricky at first—remember that these factors are all interconnected. Low income leads to low saving, low investment, poor health, and poor education, trapping countries in a cycle of underdevelopment. Economists study these factors to find the right entry point for policy intervention!