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Past Issue • Jan-Mar 2014

(Mis)Understanding Economic Growth and Development

An accurate understanding of the process of economic growth is a prerequisite for intervention as well as abstention from interference by the government and civil society. The ultimate policy objective is economic development – a qualitative improvement in the lives of the populace. The benefits accruing to the populace depend on the nature of economic growth, which can be services-led, export-led, profitled, wage-led, manufacturing-driven, etc.

An accurate understanding of the process of economic growth is a prerequisite for intervention as well as abstention from interference by the government and civil society. The ultimate policy objective is economic development – a qualitative improvement in the lives of the populace. The benefits accruing to the populace depend on the nature of economic growth, which can be services-led, export-led, profitled, wage-led, manufacturing-driven, etc.

An Uncertain Glory emphasises the importance of intervention in education and health in accelerating economic growth. For authors Jean Drèze and Amartya Sen, the goal of any society should be the expansion of human capabilities. And, institutions such as markets and democracy are means to that end. Economic growth “generates resources”, which can be used to improve human capabilities. As they write in the preface, “the achievement of high growth must ultimately be judged in terms of the impact of that economic growth on the lives and freedoms of the people” (p viii). Human capabilities, as is to be expected, refer to a spectrum of endowments and the ability of the population to access all of them. They include, in no particular order, nutrition, education, health, clean environment, access to energy, transportation, communication and banking infrastructure. The ability to access them, however, is severely constrained by caste and gender. The authors criticise the Indian media for their “excessive focus on a relatively small part of the population whose lives and problems are much discussed” (p 261). This wide gap in the Indian public discourse underlies their motivation in writing this book: central to it is the “importance of enlightened public reasoning” (p 239).

What determines economic growth? According to neoclassical economics, it is physical capital, human capital (an educated and healthy workforce) and technological progress which generate economic growth. This is known as the supplyside view of economic growth. Drèze and Sen do not have theoretical dissatisfactions with mainstream economics (p 184). However, if one is convinced by this view of economic growth, the popular version of it being the Cobb-Douglas production function in various guises, then, theoretically, physical capital can be substituted with human capital. And, this would entail a very different method of attaining economic development than the one emphasised in An Uncertain Glory. Moreover, aggregate demand plays no role in this growth account; as the authors write in the preface, the “expansion of human capability… allows a faster expansion of resources and production, on which economic growth ultimately depends” (p x). That is, economic growth is entirely determined by the growth in aggregate supply, without considering the problems which can arise from a deficiency of aggregate demand.

The surplus generated from economic growth – “the fruits of growth”, need to be allocated intelligently – based on our physical, economic, environmental, social and cultural needs and aspirations. Despite the questions their growth account raises, the book is an excellent contribution to public discourse in India in so far as it provides an accessible introduction to several socio-economic concerns such as armed conflict, child mortality, corporate power, corruption, land ownership, minimum wages, nutrition, open defecation, pollution and sanitation.

The chief argument of Jagdish Bhagwati and Arvind Panagariya’s Why Growth Matters is “the centrality of growth in reducing poverty” (p 4). They start with the premise that economic growth entails an increase in employment opportunities and an improvement in income per person. This is also their conclusion. They write: “growth helps by drawing the poor into gainful employment” (p 23).

A simple question is sufficient to negate this view. Does the market create jobs after taking into account the abilities and skills of the poor? Of course not! If so, there would not be any unemployment or underemployment. A well-educated (and healthy) workforce is necessary to actually gain from the newly created employment opportunities. And, it is not necessary for employment opportunities to increase when the economy grows. Jobless growth is quite commonplace when surpluses are not used to create further jobs. Moreover, one is not just concerned with employment in quantitative terms, but with employment that provides good working conditions – including sick leave, maternity leave, overtime wages, etc.

According to Bhagwati and Panagariya, growth automatically and naturally generates higher incomes per person, thereby “directly pulling more of the poor above the poverty line.” Growth is not manna from heaven, the benefits of which accrue to everyone in equal measure. Instead, it is based on definite political, economic and social institutions and processes – wage bargaining, possibilities of reskilling, mobility of labour, gender, caste, family structure, social security nets (family-based or governmentsponsored) and so on. In this context, the authors rightly note the negative effects excessive licensing, government monopolies and protectionism can have on the growth of an economy (p xii).

A fundamental error underlies the authors’ belief that growth is an automatic process which takes place when the government frees the domestic markets, international commodity markets, and international capital from all regulations. This is labelled as Track I reforms while the distribution of the “fruits of growth” fall under Track II reforms. The authors note that “Track II reforms involve social engineering” (p xxi) whereas Track I reforms require no “social engineering”. Nothing could be further from the truth! A market is an engineered institution. Making commodity markets free (from both government and private monopolies) is certainly beneficial for economic growth as well as for wider socio-economic development. But, given the arbitrariness involved in the ownership of various forms of assets and the tendency of markets to favour the powerful, there is always a crucial role for the government and civil society to intervene in order to ensure social justice. After all, is this not what we mean by participatory democracy?

The authors’ conception of growth seems, at best, superficial and at worst, a misunderstanding of the dynamics of economic growth as well as development. The process of free markets generating growth with rising incomes per person is never automatic one. It requires visible hands; it is social engineering. It is indeed unfortunate to come across so many fundamental errors in a book like this, because growth does matter, although not at all in the manner Bhagwati and Panagariya stress in their book!

ABOUT THE AUTHORS

  • ISBInsight-Author

    Alex M Thomas

    PhD candidate at the School of Economics, University of Sydney, Australia
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