Economic Growth and Development

Hendrik Van den Berg

• Publisher: WSPC
• Year: 2016
• ISBN:
  9789814733359
• Edition: 3
• Topic: Naturwissenschaften
• Subtopic: Mechanik

This textbook covers the full range of topics and issues normally included in a course on economic growth and development. Both mainstream economic perspectives as well as the multi-paradigmatic, inter-disciplinary, and dynamic-evolutionary perspectives f

PART I

Thinking About Economic Development

In 1998, the Wall Street Journal ran a story about how economic growth had transformed a small Indonesian village named Begajah on the Island of Java in Indonesia. The writer of the article compared Begajah in 1998 to what he remembered from a previous visit in 1971:

People walked everywhere then. Of 768 families who lived here in 1971... fewer than one in five owned even a bicycle. They had a few battery-powered radios but no electricity, telephones, or TV. Warnings of fire, thieves, bad spirits and such were banged out on slit-log drums... They lived in houses made of woven palm fronds and bamboo, slept on mats on dirt floors, cooked on open wood fires, and washed in the river. Cholera, malaria, and dysentery thrived. Children died early and often.

... Today, nearly three decades later, Begajah is barely recognizable. Its footpaths are asphalt streets with names, fluorescent street lights and speed bumps. Bicycles now are child’s play: the 1,391 families who now call Begajah home own more than 550 motorbikes and motorcycles, and 54 automobiles and sport-utility vehicles.... Most houses are brick or stucco-covered, with teak doors and window frames and white porcelain floors. All have electricity. In their kitchens are Magic Jar electric rice cookers and Sanyo electric pumps that supply running water. Kerosene stoves have replaced wood fires. Begajahans own more than 700 television sets; they get five channels.¹

The article describes the tremendous improvements in nutrition, health, and education that Begajahans enjoyed in 1998, compared to 1971. A modern clinic had replaced the common practice of giving birth at home in unsanitary conditions, and infant mortality had dropped drastically. While only half of the village’s children attended any school before 1971, in 1998 full primary education was mandatory for all. Also before 1971, most children were infested with hookworm, an internal parasite that saps needed nutrition. Hookworm made 12-year-old children look no older than eight. “But nobody in Begajah noticed because every 12-year-old looked eight.”² During his 1998 visit to Begajah, however, the reporter wrote that “babies were so fat and healthy that visitors remarked that they looked bigger than their grandmothers.”³

In the case of Indonesia, gross national product (GDP) grew at close to 8 percent per year between 1971 and 1998. Even when Indonesia’s rapid population growth of around 2 percent per year is accounted for, GDP per capita grew at nearly 6 percent per year.⁴ These high annual growth rates, compounded year after year, quadrupled the average material wealth of Indonesians over the quarter century preceding the reporter’s visit to Begajah. No wonder things looked different since his earlier 1971 visit.

For development economists, stories such as this one on Begajah are inspiring. Indonesia had been one of the poorest countries in the world. In 1950, Indonesia’s per capita GDP was less than one tenth that of the United States.⁵ By the late 1990s, Indonesia’s per capita GDP had grown to more than one-ninth of U.S. GDP per capita in real terms. This may seem like a small relative improvement, but after nearly two centuries of very unequal economic growth, a reduction in relative disparity of income levels was seen as a significant accomplishment. Indonesia’s income per capita had declined from just half that of the United States 200 years ago to one-tenth in 1950, an outcome not uncommon among the less developed economies of Asia, Africa, and Latin America. The growth of Indonesia’s GDP in the latter part of the twentieth century reversed a long-running trend of growing income disparity.

Begajah in 1998

Of course, the story of Begajah does not end in 1998. Later in that year, the Indonesian economy suffered a sharp downturn as a result of a financial contraction triggered by the fall in the value of the Indonesian rupiah in the foreign exchange markets. After maintaining a stable currency value for many years, the collapse of the currency took the Indonesian economy by surprise.

Over the years prior to 1998, many of Indonesia’s banks, governments, and firms had borrowed heavily in the international financial markets to finance the housing, infrastructure, and business expansion in the thousands of cities and towns like Begajah throughout the country. This meant that much of Indonesia’s debt was denominated in U.S. dollars, Japanese yen, or other foreign currencies. In 1998, when Indonesia’s currency, the rupiah, depreciated by about two-thirds relative to the U.S. dollar and Japanese yen, Indonesia’s foreign debt in terms of rupiahs suddenly became three times as large. Many Indonesian firms were surprised to find that their liabilities exceeded their assets, and they often stopped servicing their loans to Indonesia’s banks. Many Indonesian banks had themselves also borrowed overseas to make more loans to domestic firms in the booming economy. Thus, banks’ liabilities also rose in value while their assets lost value, and many banks found themselves with insufficient reserves to support their loans and other investments. To protect their remaining capital reserves, they stopped lending. As a result, investment plummeted and the Indonesian economy fell into a deep recession.

Indonesia’s real GDP per capita fell by 15 to 20 percent in late 1998, reaching a low point in 1999. Unemployment soared in Indonesia’s cities, and families in small towns like Begajah experienced a sharp decline in income. Housing construction stopped, some of the motorcycles and appliances purchased on credit were repossessed, and even school attendance dropped because children were forced to seek work to support their families. The residents of Begajah and all other Indonesians, who had come to see the growth of income and material consumption as the normal course of events asked, “How could this suddenly happen?”

According to economists, the rupiah lost value in the foreign exchange markets in 1998, in part, because of the economic policies of another Asian economy, China. Just a few years earlier, China had intentionally devalued its currency, the yuan, in order to give Chinese exporters a competitive edge in world markets. Other East Asian economies like Indonesia suddenly found it more difficult to keep their exports growing at the same rate as they had for much of the previous 25 years. Many people began to realize that countries like Indonesia would eventually have to also let their currencies decline in value, so many holders of rupiahs began to shift their wealth to assets denominated in other currencies. This speculation against the rupiah increased the supply of rupiahs on the foreign exchange market, depressing the value of the currency. The Indonesian central bank initially tried to neutralize the speculation by using its holdings, or reserves of dollars to demand those extra rupiahs and thus keep the exchange rate from falling. But, as fears grew that the rupiah would soon have to be allowed to fall in value, the shift to foreign assets turned into a mad rush. The Indonesian central bank soon ran out of dollar reserves, and the feared depreciation occurred sooner rather than later.

As the residents of Begajah saw their economic circumstances deteriorate, they felt betrayed. The sudden end to their good fortune seemed rather unfair. What did they do to deserve such a sudden and large decline in income? Who caused this economic disaster? It would take eight years for real per capita GDP to recover its 1997 level. The Prime Minister of Malaysia, a neighboring East Asian country that suffered a similar currency depreciation and financial crisis in 1998, publicly blamed international currency speculators and called them the “highwaymen of the global economy.” He failed to mention that the speculators were mostly ordinary citizens and businesses who noticed that their national currency had become somewhat overvalued and, fearing a future depreciation, shifted their wealth overseas to protect themselves from possible losses. But, who was to blame for Begajah’s economic downturn? Was it China’s devaluation?

It was indeed tempting for Indonesians to blame China. Indonesians noticed that while Indonesia and many other East Asian economies were experiencing bankruptcies and economic stagnation in 1998, China’s per capita real GDP continued to grow at annual rates exceeding 8 percent right on into the early 2000s. Mobs in several Indonesian cities burned and plundered businesses owned by Chinese-Indonesians, a relatively wealthy ethnic minority that had achieved a privileged economic position under the protection of the Dutch East India Company and subsequently the Dutch colonial government that ruled Indonesia for nearly four centuries before it regained its independence after World War II.

China’s impressive economic growth

China’s rapid economic growth in terms of GDP per capita has been widely touted as the major economic development success of the last 25 years. Beginning with a sharp shift in economic policy, effectively reducing the role of central planning in favor of markets in many parts of its economy, China has since the late 1970s reported annual economic growth rates of over 8 percent. Chinese per capita income was doubling every ten years. It had quadrupled in less than one generation. Given that China contains one-fifth of the world’s population, its rapid growth in material output suggests that a large portion of the world’s poor people have experienced substantial improvements in their standards of living.

In reality, the changes in China are more complex than the simple compounding of annual growth rates of GDP suggests. The town of Jinfeng, situated along the lower Yangtze River in China, provides an interesting example of the complexities of recent Chinese economic growth.⁶ By the early twenty-first century, every morning more than 30,000 of Jinfeng’s workers walked or bicycled to an array of industries paying wages equal to about US$0.50 per hour. Compared to working on small farms in their villages, these wages constituted a substantial increase in real income. This gain in income was why so many workers were flocking to cities like Jinfeng. Among Jinfeng’s many industrial firms, there was the Shagang steel mill, which opened in 2002 after being transported, piece by piece, from Dortmund in the Ruhr Valley of Germany.

The Ruhr Valley was the center of Germany’s steel industry. In the early 2000s, the German steel conglomerate ThyssenKrupp AG faced strong foreign competition as well as new local environmental regulations. It therefore began selling off many of its ageing steel manufacturing plants. But it did not sell the plants to new owners who would continue operating the plants in Germany. Rather, the plants were sold to bargain-hunting Chinese entrepreneurs, who sent work crews to dismantle the equipment and pack it off to China, where labor costs were a tiny fraction of Germany’s.

An interesting side note to this story is that Shagang sent its own work crew to Dortmund to dismantle and ship the plant. ThyssenKrupp had estimated it would take three years to dismantle the plant, but the Chinese work crews finished the job in one year. They worked seven days a week for many more hours per day than German labor law allowed but, somehow, the German government looked the other way.

The old plant produces steel at much lower cost in Jinfeng, and this steel is used to produce the many Chinese products that are shipped all over the world, including the wealthy German market. Because of the relocated steel plant in Jinfeng and dozens more like it throughout the country, China is now the world’s biggest steel producer, well ahead of the once-dominant German steel industry.

So is Jinfeng, like Begajah, a development success story? The full story of Jinfeng must include the fact that China’s steel mills have produced more t...