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Chapter 11 Development Policymaking and the Roles of Market, State, and Civil Society
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
System of Economic Management Mixed economy • Private sector: profit maximizing business firms • Public sector: employment maximizing government agencies Economic systems • Capitalism: large private sector, but small public sector • Socialism: large public sector, but small private sector Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-2
Economic Role of the State • Protect private property and legal rights • Produce public goods • Improve market competition • Improve income distribution • Preserve the human environment
• Manage the economy
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-3
Development Planning Economic plan: managing economic activity • Specific set of quantitative targets
• Given time horizon (three or five years) • Stated strategies for achieving the targets • Comprehensive (the entire economy) or partial (a specific sector or industry) coverage Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-4
Component of Development Plan • Government uses domestic saving and foreign exchange to construct economic infrastructure • Government implements economic policy (taxation, industrialization, foreign exchange control, trade restriction)
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-5
Rationale for Planning Reduce market failure: • Income distribution • Monopoly power • Externalities of production and consumption • Insufficient information Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-6
Rationale for Planning • Resource mobilization and allocation • Psychological effect on achieving development goals (e.g., reducing poverty) • Foreign aid: a requirement to obtain loans and grants
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-7
Planning Characteristics • Governmental goals and objectives • Strategies for achieving goals and objectives • Government agency for planning implementation • Planning coverage: comprehensive or partial
• Planning horizon: medium or long-term
• Planning methodology (macroeconomic mode Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-8
Planning Methodology Aggregate growth model (Harrod-Domar) • Investment demand = National saving • Foreign aid and direct foreign investment to fill-in the saving gap
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-9
Planning Methodology Input-Output model • Outputs of industries serve as inputs of other industries • Optimal input mix to produce maximum output to satisfy the final demand
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-10
Project Appraisal • Weigh the costs of plans/projects against their benefits over the planning horizon • Discount the costs and benefits and compare their present values • Find an appropriate “discount factor” above the internal rate of return” • “Net” at which present value equal to zero Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-11
Project Appraisal Net present value, or NPV is given by
Bt Ct NPV t t (1 r ) Where Bt is the expected benefit at time t Ct is the expected cost at time t r is the government’s social rate of discount Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-12
True vs. Actual Market Value • True market value in the demand-supply price or scarcity value = shadow price reflecting social costs and benefits • Actual market value is the market exchanged price reflecting private costs and benefits or the controlled price
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-13
Reasons for Price Divergence • Inflation and currency control • Factor price distortions (prices, wages, interest rates, exchange rate) • Trade restrictions and import substitution
• Saving deficiency • Social vs. private rate of return Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-14
Planning Consequences • Factor price distortion, choice of technology and employment creation • Induced R-U migration • Demand for educational certification leading to employment problem
• Economic structure
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-15
Reasons for Failure of Planning • Deficiencies in plans and their implementations • External and internal disturbances
• Insufficient and unreliable data • Institutional weaknesses
• Lack of political will • Corruption of public servants Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-16
The Planning Mystique • In the past, few doubted the importance and usefulness of national economic plans • Recently, however, disillusionment has set • But, a comprehensive development policy framework can play an important role in accelerating growth and reducing poverty Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-17
Resurgent of Market Orientation • Failure of planning • IMF and World Bank policy requirements for foreign aid and direct foreign investment
• Joint ventures of domestic and foreign enterprises Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-18
Requirements for Market Orientation
• Trust • Law and order • Security of private property rights • Balancing between competition and cooperation
• Division of responsibility and diffusion of power • Social safety net Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-19
Requirements for Market Orientation
• Social mobility • Individualism and materialism • Deferring gratification to create private saving • Rationality and efficiency • Honesty of government • Competition of business • Availability and freedom of information Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-20
Need for Government Intervention • Income redistribution through progressive taxation and transfer payments • Excess market imperfection on behalf of domestic and foreign business • Substantial negative externalities (pollution and decay) • Investment in social and human capital • Structural transformation Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-21
Planning & Market Reconciliation • Must achieve “effective” cooperation • Must reduce market imperfections
• Must eliminate factor price distortions and price controls • Must reduce public ownership of economic enterprises • Must reduce corruption and red tape Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-22
Non-Government Organizations • Comparative advantages of NGOs in – – – – –
Innovative design and implementation Program flexibility Specialized technical knowledge Provision of targeted local public goods Common-property resource management design and implementation – Trust and Credibility – Representation and advocacy
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-23
Corruption and Planning • Corruption: Abuse of public trust for private gain • Good governance enhances capability to function
• Effects of corruption fall disproportionately on the poor • Good governance is broader than simply an absence of corruption
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-24
Corruption as a Regressive Tax: The Case of Ecuador
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-25
The Association between Rule of Law and Per Capita Income
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-26
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
System of Economic Management Mixed economy • Private sector: profit maximizing business firms • Public sector: employment maximizing government agencies Economic systems • Capitalism: large private sector, but small public sector • Socialism: large public sector, but small private sector Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-2
Economic Role of the State • Protect private property and legal rights • Produce public goods • Improve market competition • Improve income distribution • Preserve the human environment
• Manage the economy
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-3
Development Planning Economic plan: managing economic activity • Specific set of quantitative targets
• Given time horizon (three or five years) • Stated strategies for achieving the targets • Comprehensive (the entire economy) or partial (a specific sector or industry) coverage Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-4
Component of Development Plan • Government uses domestic saving and foreign exchange to construct economic infrastructure • Government implements economic policy (taxation, industrialization, foreign exchange control, trade restriction)
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-5
Rationale for Planning Reduce market failure: • Income distribution • Monopoly power • Externalities of production and consumption • Insufficient information Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-6
Rationale for Planning • Resource mobilization and allocation • Psychological effect on achieving development goals (e.g., reducing poverty) • Foreign aid: a requirement to obtain loans and grants
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-7
Planning Characteristics • Governmental goals and objectives • Strategies for achieving goals and objectives • Government agency for planning implementation • Planning coverage: comprehensive or partial
• Planning horizon: medium or long-term
• Planning methodology (macroeconomic mode Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-8
Planning Methodology Aggregate growth model (Harrod-Domar) • Investment demand = National saving • Foreign aid and direct foreign investment to fill-in the saving gap
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-9
Planning Methodology Input-Output model • Outputs of industries serve as inputs of other industries • Optimal input mix to produce maximum output to satisfy the final demand
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-10
Project Appraisal • Weigh the costs of plans/projects against their benefits over the planning horizon • Discount the costs and benefits and compare their present values • Find an appropriate “discount factor” above the internal rate of return” • “Net” at which present value equal to zero Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-11
Project Appraisal Net present value, or NPV is given by
Bt Ct NPV t t (1 r ) Where Bt is the expected benefit at time t Ct is the expected cost at time t r is the government’s social rate of discount Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-12
True vs. Actual Market Value • True market value in the demand-supply price or scarcity value = shadow price reflecting social costs and benefits • Actual market value is the market exchanged price reflecting private costs and benefits or the controlled price
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-13
Reasons for Price Divergence • Inflation and currency control • Factor price distortions (prices, wages, interest rates, exchange rate) • Trade restrictions and import substitution
• Saving deficiency • Social vs. private rate of return Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-14
Planning Consequences • Factor price distortion, choice of technology and employment creation • Induced R-U migration • Demand for educational certification leading to employment problem
• Economic structure
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-15
Reasons for Failure of Planning • Deficiencies in plans and their implementations • External and internal disturbances
• Insufficient and unreliable data • Institutional weaknesses
• Lack of political will • Corruption of public servants Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-16
The Planning Mystique • In the past, few doubted the importance and usefulness of national economic plans • Recently, however, disillusionment has set • But, a comprehensive development policy framework can play an important role in accelerating growth and reducing poverty Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-17
Resurgent of Market Orientation • Failure of planning • IMF and World Bank policy requirements for foreign aid and direct foreign investment
• Joint ventures of domestic and foreign enterprises Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-18
Requirements for Market Orientation
• Trust • Law and order • Security of private property rights • Balancing between competition and cooperation
• Division of responsibility and diffusion of power • Social safety net Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-19
Requirements for Market Orientation
• Social mobility • Individualism and materialism • Deferring gratification to create private saving • Rationality and efficiency • Honesty of government • Competition of business • Availability and freedom of information Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-20
Need for Government Intervention • Income redistribution through progressive taxation and transfer payments • Excess market imperfection on behalf of domestic and foreign business • Substantial negative externalities (pollution and decay) • Investment in social and human capital • Structural transformation Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-21
Planning & Market Reconciliation • Must achieve “effective” cooperation • Must reduce market imperfections
• Must eliminate factor price distortions and price controls • Must reduce public ownership of economic enterprises • Must reduce corruption and red tape Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-22
Non-Government Organizations • Comparative advantages of NGOs in – – – – –
Innovative design and implementation Program flexibility Specialized technical knowledge Provision of targeted local public goods Common-property resource management design and implementation – Trust and Credibility – Representation and advocacy
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-23
Corruption and Planning • Corruption: Abuse of public trust for private gain • Good governance enhances capability to function
• Effects of corruption fall disproportionately on the poor • Good governance is broader than simply an absence of corruption
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-24
Corruption as a Regressive Tax: The Case of Ecuador
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-25
The Association between Rule of Law and Per Capita Income
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.
11-26
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