12.2 Theories of Economic Development and Modernization
4 min read•july 30, 2024
Economic development theories explore how nations progress economically, politically, and socially. From to , these models attempt to explain the complex journey from traditional to developed economies, highlighting factors like savings, investment, and structural changes.
Different approaches to economic development emphasize various strategies, such as or import substitution. While each theory has strengths and weaknesses, they all contribute to our understanding of how countries can foster growth and improve living standards for their citizens.
Theories of Economic Development
Economic Development and Modernization Theory
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- Economic development improves a nation's economic, political, and social well-being
- Measured by increases in GDP per capita income, poverty reduction, and quality of life improvements
- Modernization theory posits that societies progress through similar development stages as economies grow
- Move from traditional to developed by adopting modern practices socially, culturally and politically alongside economic advancement
Linear Stages and Structural Change Models
- The linear stages of growth model outlines five basic stages of economic growth
- Traditional society, preconditions for take-off, take-off, drive to maturity, and age of high mass consumption
- Progressing through stages requires increased savings and investment
- Structural change models focus on transforming underdeveloped economies
- Shift from heavy emphasis on traditional subsistence agriculture to more modern, urbanized, and industrially diverse manufacturing and service economy
Neoclassical Growth Theory and Dependency Theory
- Neoclassical growth theory emphasizes the importance of increasing quantity and quality of production factors
- Increases in capital goods, labor force, technology and human capital lead to economic growth
- Dependency theory argues that resources flow from underdeveloped "periphery" states to wealthy "core" states
- Enriches the "core" at the expense of the "periphery"
- Central argument of capitalism as a means of development
Approaches to Economic Development
Growth Models and Two-Sector Model
- emphasizes importance of savings and capital productivity for growth
- expands this to include technological change and allows for capital-labor substitution
- posits underdeveloped economies have two sectors
- Traditional, overpopulated rural subsistence sector with zero marginal labor productivity
- High-productivity modern urban industrial sector where subsistence labor gradually transfers
Investment Strategies and Trade-Based Approaches
- argues comprehensive large investment needed to jump-start development and break economic stagnation
- Contrasts with more gradual investment efforts
- Export-led growth strategies focus on developing production for export markets to drive growth
- Import-substitution strategies emphasize replacing imports with domestic production
- Market-based approaches rely on private investment and market forces
- involve state centrally coordinating development through planning and public enterprises
Strengths and Weaknesses of Development Theories
Linear Stages Model and Structuralist Approaches
- Linear stages model provides intuitive development "roadmap" but has limitations
- Assumes all countries follow same path, discounts country-specific factors, can promote reductive view
- Structuralist approaches highlight important development dynamics but have critiques
- Can discount market forces and incentives, surplus labor assumption challenged
Neoclassical Models and Dependency Theory
- Neoclassical models provide strong theoretical framework based on production functions
- Rely on assumptions like perfect competition that don't always hold in developing economies
- Sometimes seen as discounting sociopolitical factors
- Dependency theory describes dynamics perpetuating underdevelopment but has shortcomings
- Less clear on how countries break out of "periphery", overly deterministic view discounting agency
Export-Led and Import-Substitution Strategies
- Export-led models have driven growth in many economies (East Asian tigers)
- Can lead to balance of payments problems if imports not controlled
- Import-substitution often leads to inefficient industries behind protectionist walls
- Latin American countries struggled with this approach
Institutions and Policies for Development
Institutional Environment and State Capacity
- Stable property rights, contract enforcement, independent judiciary, efficient bureaucracies, transparent governance crucial for conducive investment and market activity environment
- Effective state capacity in providing public goods and addressing market failures important
- Should balance with avoiding excessive intervention that stifles private enterprise
- Developmental state model credits state planning for East Asian growth (Japan, South Korea)
Trade, Human Capital, and Macroeconomic Policies
- Trade openness policies, often with export-oriented strategies, associated with higher growth
- Caveats around managing balance of payments, ensuring domestic industry competitiveness
- Trade protection seen as ineffective long-term
- Human capital promotion through education and health investments builds productive workforce
- Addressing inequality important for economic and sociopolitical reasons
- Sound macroeconomic management (fiscal and monetary policies controlling inflation, deficits, debt) creates stable growth environment
- Exchange rate policy balances competitiveness with macro stability
Industrial and Foreign Investment Policies
- Effective industrial policy and incentives can foster domestic industries and technological upgrading (South Korea, Taiwan)
- Need to avoid capture and inefficiency
- Policies promoting FDI common for accessing capital and technology (Singapore)
- Potential for technology and knowledge spillovers to domestic firms
Key Terms to Review (20)
Big push model: The big push model is an economic theory that suggests that developing countries need a significant, coordinated investment in multiple sectors to overcome barriers to growth and achieve sustained economic development. This model argues that without such a substantial initial investment, the economy may remain stagnant due to the interdependence of different sectors and the presence of market failures.
Capital accumulation: Capital accumulation refers to the process of generating wealth through the investment of resources into productive assets that can generate income or profits over time. This concept is fundamental in understanding economic growth, as it highlights how reinvesting profits can lead to increased production capacity and overall prosperity within a society.
Dependency theory: Dependency theory is an economic and sociological concept that suggests that the economic development of countries is heavily influenced by their historical and structural relationship with more developed nations. It posits that resources flow from the periphery of poor, underdeveloped nations to the core of wealthy nations, creating a cycle of dependence that hampers the development of the poorer countries. This theory highlights the inequalities in global economic systems and seeks to explain why certain nations remain stagnant while others thrive.
Dirigiste policies: Dirigiste policies refer to a set of economic strategies where the state plays a central role in directing and controlling economic activity, often with the aim of promoting industrialization and modernization. These policies emphasize government intervention in the economy, guiding investment, and planning resources to achieve specific national objectives, particularly in developing countries. By shaping the economic landscape, dirigiste approaches seek to stimulate growth and reduce reliance on foreign powers or markets.
Export-led growth: Export-led growth is an economic strategy that emphasizes the importance of increasing a country's exports as a primary driver of economic growth. This approach suggests that by focusing on producing goods and services for international markets, countries can stimulate domestic production, create jobs, and enhance overall economic development.
Foreign direct investment: Foreign direct investment (FDI) refers to the investment made by a company or individual in one country in business interests in another country, typically through acquiring assets or establishing business operations. This type of investment is significant as it reflects economic globalization and the interconnectedness of national economies, often driving development and modernization efforts in emerging markets while influencing political-economic systems worldwide.
Global value chains: Global value chains (GVCs) refer to the various stages of production and distribution that are spread across multiple countries, where each stage adds value to the final product. This interconnected process allows companies to optimize their operations by sourcing materials and labor from different regions to reduce costs and enhance efficiency, highlighting the complex relationships between economies in a globalized world.
Harrod-Domar Model: The Harrod-Domar Model is an economic theory that describes how investment can lead to economic growth. It emphasizes the relationship between savings, investment, and the level of national income, suggesting that higher levels of investment will lead to greater levels of economic output. This model connects to broader theories of economic development and modernization by highlighting the importance of capital accumulation in driving growth.
Import Substitution Industrialization: Import substitution industrialization (ISI) is an economic policy aimed at promoting domestic industries by reducing reliance on imported goods. This approach encourages countries, especially in the Global South, to produce their own goods instead of depending on foreign products, thereby fostering local economic growth and self-sufficiency. ISI is often connected to theories of economic development and modernization that emphasize the need for developing nations to create their own industrial base to achieve sustainable growth.
Infrastructure development: Infrastructure development refers to the process of building and improving foundational systems that support economic activity, such as transportation networks, utilities, and communication systems. These enhancements are essential for facilitating trade, increasing accessibility, and promoting overall economic growth. The effectiveness of infrastructure development often determines how well a nation can modernize and compete in a global economy.
Lewis Two-Sector Model: The Lewis Two-Sector Model is an economic theory proposed by economist Arthur Lewis, which describes the dual economy found in developing countries. It illustrates the transition of labor from a traditional agricultural sector to a modern industrial sector, highlighting the differences in productivity and wage levels between these two sectors, and how this transition is crucial for economic development.
Modernization theory: Modernization theory is a concept in social science that suggests that societies progress through a series of stages toward modernity, often characterized by industrialization, urbanization, and the adoption of democratic governance. This theory posits that traditional societies can transform into modern ones by following a linear path of development, influenced by economic growth and technological advancements.
Neoliberalism: Neoliberalism is an economic and political philosophy that promotes free markets, deregulation, and minimal government intervention in the economy, emphasizing the importance of individual entrepreneurship and competition. This approach emerged in response to the perceived failures of welfare state policies and is often associated with globalization, advocating for open trade and investment across borders.
Political stability: Political stability refers to the endurance and consistency of a political system in maintaining order, governance, and effective functioning without significant disruptions or crises. A stable political environment fosters confidence in institutions, encouraging economic growth and social cohesion, which are crucial for development and modernization processes.
Postcolonial critiques: Postcolonial critiques refer to analytical frameworks that examine the cultural, political, and economic legacies of colonialism and imperialism. These critiques focus on how colonized societies have been impacted by their histories and the ways in which power dynamics continue to shape their development and modernization processes. They challenge traditional narratives that often overlook the voices and experiences of those from formerly colonized nations.
Rostow's Stages of Growth: Rostow's Stages of Growth is a linear model that outlines five stages of economic development that countries typically go through as they progress from traditional societies to modern economies. This model connects to theories of economic development and modernization by suggesting that all societies can develop economically through a series of predetermined stages, each characterized by specific economic activities and societal changes.
Social inequality: Social inequality refers to the unequal distribution of resources, opportunities, and privileges within a society. This concept encompasses disparities in wealth, education, healthcare, and social status, which often stem from systemic factors such as class, race, gender, and location. Understanding social inequality is crucial for analyzing economic development and modernization processes, as it highlights the challenges marginalized groups face in accessing the benefits of growth and progress.
Solow Model: The Solow Model is an economic theory that explains long-term economic growth based on capital accumulation, labor or population growth, and increases in productivity, often represented through technological advancement. It emphasizes the role of savings and investment in driving growth while highlighting diminishing returns to capital, suggesting that economies will converge over time to a steady-state level of output per worker.
Sustainable Development: Sustainable development refers to a model of growth that meets the needs of the present without compromising the ability of future generations to meet their own needs. This concept emphasizes a balanced approach to economic growth, social inclusion, and environmental protection, ensuring that development is equitable and resource-efficient. It connects closely with various theories of economic development and modernization by highlighting the importance of long-term viability and resilience in growth strategies.
Walt Rostow: Walt Rostow was an American economist and political theorist, best known for his model of economic development, which outlines a linear process through which all societies progress. His theory, known as the 'stages of growth,' identifies five distinct stages that economies pass through from traditional societies to modern industrialized nations, linking it closely to ideas of modernization and economic progress.