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Saturday, January 3, 2009

WHAT EXPLAINS THE HUGE DIVERGENCE BETWEEN RICH AND POOR COUNTRIES?

Today's Buggy Topic

The subject title above captures only part of the topic --- prof bug's lengthy analytical commentary left at the Marginal Revolution in a thread that was started by the talented economist who runs that blog, Professor Tyler Cowen of George Mason University . . . an uncommonly flexible, open-minded libertarian free-market economist. 

The Solow Growth Model

More specifically, prof bug's comments deal with the utility of the most prominent and pioneer theory of long-term economic growth, created by a Nobel prize-winning economist, Robert Solow of MIT, back in the mid-1950s . . . anyway, to clarify the claim, the most prominent and original since the great work of Adam Smith and David Ricardo in the late 18th and early 19th century.  It's often called the "exogenous theory of economic growth" --- mainly because the major influence in keeping economies from falling into a a hypothetical "steady-state" of growth rates, owing to diminishing returns to cumulative capital, is technological change, something that the model draws attention to clearly, but without being able to "endogenize" the technological variable inside the formal modeling. 

Another name for the Solow modeled theory is the "neo-classical" theory of economic growth. 

The chief reason: neo-classical work, inspired mainly by some path-breaking economists in the late 19th century and continued right down to the present --- in effect, it's the basis of microeconomics today (with lots of modifications and some controversies) --- introduced the notion of marginalism into economics and used it to perfect our understanding of supply and demand in various individual markets: for labor, for capital, and land and natural resources.  Solow's work, as you'll see, was one of the first and certainly the most influential in using these concepts --- including the older Ricardian theory of diminishing returns, regarded as part of the classical tradition in economics until the neo-classicals focused on marginalism, opportunity-costs, supply and demand in individual markets, the price-system, and information and prices.

Click here for a good summary of classical and neoclassical theories.

The Prof Bug Commentary Ranges Much Wider

It shows how a fairly simple model that could be mathematically formulated --- irrespective of its "truth correspondence" to whatever people mean by "reality" (in this case, the "realities" of economic growth) --- could, thanks to its instrumental or pragmatic view of theories, be altered to make its explanations and predictions more useful over time . . . and even encourage what many regard as an alternative theory of "endogenous" growth.  And hence, as prof bug tries to show in schematic form, to make sense, say, of why the world is divided into rich and poor countries; why some poor countries that once lagged way behind Britain, Continental West Europe, and their offshoots like the US, Canada, and Australia --- think of Japan early in the last century, much later South Korea, Taiwan, and Singapore, more recently China and India --- have been able to close a large part of the gap in productivity levels and per capita income. 

And why, by extensionm the "augmented" Solow model or its variants --- which include technological progress, human capital, and social capital or institutional/cultural influences --- can predict with a certain high degree of likelihood that China's impressive and epochal growth since 1979 is likely to lead in the next decade or two, and maybe even sooner now in the global financial meltdown and recession, to enter a crisis-stage unless the CP monopoly of power and the vast and pervasive corruption, bureaucratic clumsiness, and huge inequalities across regions and between cities and the countryside as well as between social classes are radically altered . . . not to mention a far greater reallocation of resources and money to dealing with the high-pounding harm to the country's environment. 

Click here for the buggy comments.