Chapter 20 : Strategies to promote economic growth and economic development
20.1 : International Trade Strategies
Import substitution: manufacture simple consumer goods to promote domestic industry (
shoes, textiles, beverages, electrical appliances)
- Dependent on protective measures such as tariffs and quotas which prevent entry of
imports that compete with domestic producers
- Example: Latin American countries adopted this strategy in 1930s : attractive
because most currently developed countries had used import-substituting policies in
the initial phases of their industrialisations – justification based on infant industry
argument.
Advantages of import Disadvantages of import substitution
substitution
- Increase employment - Allocative inefficient : welfare loss; high levels
- Lead to job of protection of domestic firms, inefficiency
creation and resource misallocation
- Lead to job creation - Lack of competition led to high costs
- Infant industry argument and inefficiency in private and public
protect infant industries sector industries, high prices for
from imports consumer goods
- Overvalued Exchange rates : set at higher
level than free market level reducing the price
of imports and increasing price of exports
- Allow firms to import capital intensive
production methods, unemployment
and growth of informal economy in
urban areas
- Made agricultural exports more
expensive, worsening rural poverty
- Too much government intervention (such as
protectionism measures, subsidised credits,
tax allowances, price controls, extensive
public ownership of firms, overvalued
exchange rates etc.) led to serious resource
misallocation and inefficiencies.
- Neglect of agriculture
- Failure to make agricultural
investments, increase need for food
imports
- Worsening of Balance of Payments
- Increasing imports of capital
equipment as inputs in production
- Increased need for food imports
- Outward flow of financial capital due to
profit repatriation of foreign
multinational corporations (profits
taken to home country)
- Encouragement of capital-intensive
production methods
, - Rapid growth; no effort to provide
support for small entrepreneurs more
likely to use labour-intensive
techniques
- Negative impacts on employment and income
distribution
- contributed to growth of the informal
economy.
- Limited possibilities for growth in the longer
term
- serious inefficiencies and high cost of
production.
- Higher export competitiveness
- Decrease export competitiveness
- Low income households
- 1970s and 1980s, import substituting industrialisation has not lived up to its
expectations and many economies moved to export promotion strategy
Example: Made in China 2025, making semiconductor chips and computer chips instead of
importing
Export promotion : country attempts to achieve economic growth by expanding exports;
strong govt intervention, necessary to help countries develop a strong manufacturing sector
oriented towards exports
Typical policies
- Financial assistance to targeted key industries
- Targeting industries for export: increasingly higher skill and technological
levels
- Provision of incentives for private sectors r and d : encourage development of
domestic skills and technologies
- Industrial policies to support export industries: investment grants, production
subsidies, exemptions from tariffs of imported inputs, tax exemptions, export
subsidies, and special benefits for export oriented multinational corporations
- Strong government intervention in the economy
- State ownership and control of financial institutions ( banking and insurance) :
provide subsidised credit to industries being promoted, lower interest rates
and favourable borrowing
- Large public investments in key areas: education and skills, r and d,
expansion and modernisation of transport and communications
- Requirements imposed on multinational corporations : maximise benefits of FDI,
promotion of R & D, transfer of desired and targeted technologies into domestic
economy, training of domestic workers, use of local inputs
- Exchange rate management: undervalued currencies that encourage exports while
making imports more expensive
Advantages of export promotion Disadvantages of export promotion
, - Expansion into foreign markets - Overly dependent on exports :
- Benefits of diversification recession may cause exports to fall
- Major investments in human capital leading to AD drop with recession
- Appropriate technologies - Maintain low wages to keep labour
- Increased employment costs low: make exports more
- Export earnings avoided BOP competitive; workers may not benefit
problems from growth that exports make
- Allocative efficiency (comparative possible
advantage) - Strong exports over long period of
time lead to trade surplus
corresponding to trade deficits, trade
protection by trading partners who
feel threatened by excessive imports
- Tariff escalation: higher tariffs on
higher value added commodities
- Cost-push inflation : capital goods
imported increase, hence higher
cost of production
Undervalued currencies to promote exports
Price of exports decrease, exports increase
Price of imports increase, imports increase
Want to overvalue currency, reduce the price of capital goods, price of imports decrease
Diversification
X grow, AD grow, firms increase output, higher employment, lower income inequality, x up,
avoid BOP problem
→ help in the short term, but will not be sustainable in the long term
Economic integration: Trading blocs give rise to the possibilities of enjoying the benefits of
free trade, by-passing obstacles created by rich country trade protection while maintaining
some benefits of trade protection (towards non-members)
Growth of preferential trade agreements
- Bilateral and regional trade agreements around the world
- WTO reported 20 in 1990 to 270 in 2019
Regional Free Trade Agreements
- Regional agreements
- Geographical closeness
- Similar level of development and tech capabilities
- Shared commitment to co-operation
- Similar market sizes
→ expand market and achieve EOS
→ diversify production and exports
→ increase domestic and FDI
, → no unfair competitive advantages as similar level of development
→ joint investment in infrastructure, tech development and environment interests
Bilateral Free Trade Agreements
- Developing countries make matching cuts in tariffs and other barriers : put at
competitive disadvantage as they are forced to compete with lower cost developed
country
- Developing countries form FTAs with same developed country : advantages may be
lost as they compete with each other in developed country market hence exports
limited
- Increase imports and small increase in exports : trade deficits, BOP problems,
foreign debt, greater unemployment, worsening income distribution and increased
poverty
- Bilateral FTA put developing countries at a disadvantage due to weak bargaining
power (hence may have to agree to requirements not in their interests) compared to
multilateral negotiations where developing countries join together and put their
interests as one.
- Bilateral FTA divide developing countries by creating different interests.
RCEP : take advantage of economies of scale : greater output, exports increase
As output increases, specialised according to area of competitive advantage, increase
efficiency, long term average costs decreases
Increase investment: Tariff-free access, FDI enters, exchange of ideas, r and d
Increased Competition: shift production away from inefficient domestic producers to efficient
low cost producers → allocative efficiency, decreased welfare loss
Low YED, free trade, higher income growth, developed countries grow faster
Developed countries advantaged when they open to foreign competition
Exports grow, imports grow → trade deficits, BOP problems, foreign debt, greater
unemployment, worsening income distribution and increased poverty
20.2 : Diversification and social enterprise
Diversification : Involves a reallocation of resources into new activities that broaden the
range of goods and services produced
- Importance of expanding into high value-added production
- Value of a good that is added in each step of a production process
- Adding value allows for
- More varied production activities
- Creating more employment
- Establishing new firms involved in manufacturing
- Requiring higher skill and technology
Over specialisation versus diversification
- Higher income elasticity of income : price volatile
- Resource rich countries : heavily dependent on primary commodities which short
term volatility of export revenues, resort to external borrowing and accumulation of
large debts and BOP difficulties
20.1 : International Trade Strategies
Import substitution: manufacture simple consumer goods to promote domestic industry (
shoes, textiles, beverages, electrical appliances)
- Dependent on protective measures such as tariffs and quotas which prevent entry of
imports that compete with domestic producers
- Example: Latin American countries adopted this strategy in 1930s : attractive
because most currently developed countries had used import-substituting policies in
the initial phases of their industrialisations – justification based on infant industry
argument.
Advantages of import Disadvantages of import substitution
substitution
- Increase employment - Allocative inefficient : welfare loss; high levels
- Lead to job of protection of domestic firms, inefficiency
creation and resource misallocation
- Lead to job creation - Lack of competition led to high costs
- Infant industry argument and inefficiency in private and public
protect infant industries sector industries, high prices for
from imports consumer goods
- Overvalued Exchange rates : set at higher
level than free market level reducing the price
of imports and increasing price of exports
- Allow firms to import capital intensive
production methods, unemployment
and growth of informal economy in
urban areas
- Made agricultural exports more
expensive, worsening rural poverty
- Too much government intervention (such as
protectionism measures, subsidised credits,
tax allowances, price controls, extensive
public ownership of firms, overvalued
exchange rates etc.) led to serious resource
misallocation and inefficiencies.
- Neglect of agriculture
- Failure to make agricultural
investments, increase need for food
imports
- Worsening of Balance of Payments
- Increasing imports of capital
equipment as inputs in production
- Increased need for food imports
- Outward flow of financial capital due to
profit repatriation of foreign
multinational corporations (profits
taken to home country)
- Encouragement of capital-intensive
production methods
, - Rapid growth; no effort to provide
support for small entrepreneurs more
likely to use labour-intensive
techniques
- Negative impacts on employment and income
distribution
- contributed to growth of the informal
economy.
- Limited possibilities for growth in the longer
term
- serious inefficiencies and high cost of
production.
- Higher export competitiveness
- Decrease export competitiveness
- Low income households
- 1970s and 1980s, import substituting industrialisation has not lived up to its
expectations and many economies moved to export promotion strategy
Example: Made in China 2025, making semiconductor chips and computer chips instead of
importing
Export promotion : country attempts to achieve economic growth by expanding exports;
strong govt intervention, necessary to help countries develop a strong manufacturing sector
oriented towards exports
Typical policies
- Financial assistance to targeted key industries
- Targeting industries for export: increasingly higher skill and technological
levels
- Provision of incentives for private sectors r and d : encourage development of
domestic skills and technologies
- Industrial policies to support export industries: investment grants, production
subsidies, exemptions from tariffs of imported inputs, tax exemptions, export
subsidies, and special benefits for export oriented multinational corporations
- Strong government intervention in the economy
- State ownership and control of financial institutions ( banking and insurance) :
provide subsidised credit to industries being promoted, lower interest rates
and favourable borrowing
- Large public investments in key areas: education and skills, r and d,
expansion and modernisation of transport and communications
- Requirements imposed on multinational corporations : maximise benefits of FDI,
promotion of R & D, transfer of desired and targeted technologies into domestic
economy, training of domestic workers, use of local inputs
- Exchange rate management: undervalued currencies that encourage exports while
making imports more expensive
Advantages of export promotion Disadvantages of export promotion
, - Expansion into foreign markets - Overly dependent on exports :
- Benefits of diversification recession may cause exports to fall
- Major investments in human capital leading to AD drop with recession
- Appropriate technologies - Maintain low wages to keep labour
- Increased employment costs low: make exports more
- Export earnings avoided BOP competitive; workers may not benefit
problems from growth that exports make
- Allocative efficiency (comparative possible
advantage) - Strong exports over long period of
time lead to trade surplus
corresponding to trade deficits, trade
protection by trading partners who
feel threatened by excessive imports
- Tariff escalation: higher tariffs on
higher value added commodities
- Cost-push inflation : capital goods
imported increase, hence higher
cost of production
Undervalued currencies to promote exports
Price of exports decrease, exports increase
Price of imports increase, imports increase
Want to overvalue currency, reduce the price of capital goods, price of imports decrease
Diversification
X grow, AD grow, firms increase output, higher employment, lower income inequality, x up,
avoid BOP problem
→ help in the short term, but will not be sustainable in the long term
Economic integration: Trading blocs give rise to the possibilities of enjoying the benefits of
free trade, by-passing obstacles created by rich country trade protection while maintaining
some benefits of trade protection (towards non-members)
Growth of preferential trade agreements
- Bilateral and regional trade agreements around the world
- WTO reported 20 in 1990 to 270 in 2019
Regional Free Trade Agreements
- Regional agreements
- Geographical closeness
- Similar level of development and tech capabilities
- Shared commitment to co-operation
- Similar market sizes
→ expand market and achieve EOS
→ diversify production and exports
→ increase domestic and FDI
, → no unfair competitive advantages as similar level of development
→ joint investment in infrastructure, tech development and environment interests
Bilateral Free Trade Agreements
- Developing countries make matching cuts in tariffs and other barriers : put at
competitive disadvantage as they are forced to compete with lower cost developed
country
- Developing countries form FTAs with same developed country : advantages may be
lost as they compete with each other in developed country market hence exports
limited
- Increase imports and small increase in exports : trade deficits, BOP problems,
foreign debt, greater unemployment, worsening income distribution and increased
poverty
- Bilateral FTA put developing countries at a disadvantage due to weak bargaining
power (hence may have to agree to requirements not in their interests) compared to
multilateral negotiations where developing countries join together and put their
interests as one.
- Bilateral FTA divide developing countries by creating different interests.
RCEP : take advantage of economies of scale : greater output, exports increase
As output increases, specialised according to area of competitive advantage, increase
efficiency, long term average costs decreases
Increase investment: Tariff-free access, FDI enters, exchange of ideas, r and d
Increased Competition: shift production away from inefficient domestic producers to efficient
low cost producers → allocative efficiency, decreased welfare loss
Low YED, free trade, higher income growth, developed countries grow faster
Developed countries advantaged when they open to foreign competition
Exports grow, imports grow → trade deficits, BOP problems, foreign debt, greater
unemployment, worsening income distribution and increased poverty
20.2 : Diversification and social enterprise
Diversification : Involves a reallocation of resources into new activities that broaden the
range of goods and services produced
- Importance of expanding into high value-added production
- Value of a good that is added in each step of a production process
- Adding value allows for
- More varied production activities
- Creating more employment
- Establishing new firms involved in manufacturing
- Requiring higher skill and technology
Over specialisation versus diversification
- Higher income elasticity of income : price volatile
- Resource rich countries : heavily dependent on primary commodities which short
term volatility of export revenues, resort to external borrowing and accumulation of
large debts and BOP difficulties
