Chapter 36

Problems of developing countries

David Begg, Stanley Fischer and Rudiger Dornbusch, Economics,

6th Edition, McGraw-Hill, 2000
Power Point presentation by Peter Smith
Some key issues
■ Less-developed countries (LDCs)
– countries with low levels of per capita output
■ Why have LDCs remained poor?
■ The potential roles of:
– comparative advantage
– industrialization
– international debt
– structural adjustment
– aid

36.2
The world distribution of income

■ In 1998 there were 3.5 billion people

living in low-income countries
■ with average annual income of about
£313 per person.
■ In 1998, there were 0.9 billion people
living in high-income countries
■ with average annual income of about
£15,367 per person.

36.3
Welfare indicators by country group

Adult illiteracy 1997 Infant mortality

50 100
40 per 80
30 1,000 60
% live 40
20
births 20
10
0
0 LIC MIC HIC
LIC MIC HIC

Male Female 1980 1997

36.4
Problems of LDCs (1)
■ Resource scarcity
Population growth
– LDCs lack natural resources
– or the means to exploit them
5
4
■ Capital
3
– few domestic resources
% p.a. available for investment
2
– multinationals may repatriate
1
profits, rather than
0 reinvesting.
LIC* MIC HIC

1980-90 1990-98

36.5
Problems of LDCs (2)
■ Social investment in infrastructure
– LDCs may not be able to achieve scale economies in
■ power generation
■ roads
■ telephone systems
■ urban housing
■ Customs and ideology
– in SOME cases, traditional attitudes may inhibit
development
– but this argument is often over-stated

36.6
Problems of LDCs (3)
■ Human capital
– LDCs lack resources to invest in
■ health
■ nutrition
■ education
■ industrial training
– so workers in LDCs tend to be less productive than workers
using the same technology in HICs.
■ Low productivity agriculture
– Many LDCs have a high proportion of their labour force engaged
in low productivity agriculture.

36.7
Possible paths to development?

■ Trade in primary products

■ Industrialization
■ Borrowing
■ Structural adjustment
■ Aid

36.8
Development:
through trade in primary products?
■ Primary products are agricultural goods and
minerals.
■ Comparative advantage suggests that LDCs
should specialize in primary production, BUT:
– some evidence suggests the terms of trade have been
moving against primary products and towards
manufactures
– prices of primary products tend to be volatile
– export concentration can be destabilizing

36.9
 Commodity price stabilization
A buffer stock is an organization aiming to stabilize a
commodity market. SS1
SS2

Price
If there is a bumper
harvest at SS1,
buffer stock buys AB P C A B

Exports are 0Q at price P.

If there is a poor harvest
at SS2, buffer stock sells CA. DD
Exports are still 0Q at price P.
0 Q Quantity
The buffer stock stabilizes prices and export earnings
… but requires resources to buy and store.
36.10
Development:
through import substitution?
■ Import substitution is a policy of replacing
imports by domestic production
– under the protection of high tariffs or import
quotas
– in the short run this involves inefficient use of
resources
– in the long run, domestic market may not be large
enough to allow scale economies
– and it fosters an inward-looking attitude
– and promotes activities in which the country begins
with a comparative disadvantage

36.11
Development:
through export promotion?
■ Export-led growth stresses production and
income growth through exports rather than
the displacement of imports
■ The most successful economies of the last
3 decades have followed this route
– especially countries in South East Asia
■ But for other countries to follow, co-
operation is needed from the industrial
countries to avoid over-protectionism

36.12
Development:
through borrowing?
■ LDCs have traditionally been borrowers in world
markets
– funds used to import capital goods to supplement
domestic investment
– borrowing finances a current account deficit
■ Borrowing increased after the first OPEC oil-
price shock of 1973/74
– notably borrowing by non-oil developing countries ...

36.13
Development:
through borrowing? (2)
■ Countries were reluctant to borrow from the IMF
under stringent conditions
■ so borrowed from commercial sources
– often at variable interest rates
■ high real interest rates in the early 1980s created
debt servicing problems for many borrowers
■ raising the possibility of default
■ the HIPC initiative of the late 1990s attempted to
tackle the debt burden which many LDCs found
unsustainable

36.14
Development:
through structural adjustment?
■ Structural adjustment programmes
– the pursuit of supply-side policies aimed at
increasing potential output by increasing
efficiency, e.g.:
– reductions in government subsidies to industry
– privatization
– trade liberalization
– price reforms
– monetary and fiscal discipline

36.15
Development:
through aid?
■ Aid is an international transfer payment
from rich countries to poor countries.
– takes many forms:
■ subsidized loans
■ gifts of food or machinery
■ technical help

– justified on grounds of equity?

– but may create dependency
– allowing freer trade is an alternative

36.16
 The distribution of world population
and GNP, 1998
100%

90%

80%

70%

60%

50%

40%

30%

20%

10%

0%

Population GNP

LIC MIC HIC

36.17