ECON303 Tutorials

Give examples of corruption and poor infrastructure in The Economist article "The road to hell is unpaved" What evidence is there that this has impeded economic development?

- Bridges collapse - Roads wash away - Children are tasked with preparing potholes - Roads are littered with wreckage - Less than a 10th of roads are paved - 20 hour journey took 4 days - 47 stops most of which required a bribe - Food, cargo, cash, etc. - Made up laws and permits - Waiting 3 hours to receive a receipt This makes it difficult for business to run. Increases costs but up to 15%. Reduces incentive for new businesses to start up. Makes costs for those more rural almost double.

Why is it Rational for Ms Nyero to have had eight children?

- Children die in Niger and children are supposed to take care of you in old age - Having children raises you value as a woman (cultural/ societal) - Children provide an extra pair of hands to earn income and help with household activities

What arguments are there to suggest that societies with higher levels of truest and civic norms will have higher levels of economic performance?

- Less transitions costs for small transactions (incentive to transact) - Enforceable property rights (incentive to innovate) - Higher returns to education and human capital - Government policies are more credible - People will trust banks and governments - Collective action solves issues - Eliminates rent seeking activities - Employers trust employees (incentive to innovate) - Less funds spent on protection against theft - Micro credit works better providing a way for LDCs to do business - Farmers are willing to pool resources

What are to potential benefits of closing a gender gap? What evidence is there that gender gaps acts as a brake on economic development?

- More productive and earn higher incomes - Fewer children, lower population, higher GDP per capita - Healthier better educated children leading to higher rates of economic growth when they enter the workforce There was found to be a negative correlation between GDP per worker and educational gender gaps. Rates of return are highest for females because of the difference in wages from one level of schooling to the next, i.e., there is a greater marginal benefit from education women. Less abled boys are educated at the expense of more abled girls.

According to The Economist Article "Africa's Hopeful Economies: The Sun Shines Bright" why has Africa done well economically in the decade prior to writing the article and what challenges lie ahead?

- Rising labour productivity - Increase in trade between Africa and the rest of the world - Greater control over inflation - Rising age of the population putting the bulk of population in their most productive years - Lots of foreign investment - Immigrants setting up new companies - Less reliance on commodities - Less regulation and trade barriers - Increased political stability The challenges that lie ahead include the prices of commodities tanking, a lack of skills for upcoming jobs, and feeding the nation as they are a net food importer.

Outline the reasons given in Gugerty (2007) as to why people join ROSCAs. Which reasons does Gugerty think is most important and what evidence is there to back this up?

- Save sooner than can save on their own (if only reasons will collapse structure) - Pay to have choice constrained - Renders savings illiquid - less vulnerable to theft or loss and protected from household demands - Bind themselves to a particular savings pattern different from husbands preferences (evidence husbands are supportive of ROSCAs) - Insurance (must be a bidding ROSCA) - Finding the strength to save by saving with others (38% difficult to save at home, 28% difficulty to save alone, 11% household conflict, theft, or demand by kin)

According to Gugerty (2007), why might someone join more than one ROSCA?

- To separate savings into streams for different uses - To meet savings goals if one ROSCA is not enough - To spread risk so that not all savings are locked into one ROSCA

What are the four distinctive features of the SK economic model in "South Korea's Economy: What do you do when you reach the top?

1. A stakhonauite workforce - workers working longer hours means women won't joint the work force. 2. Powerful Conglomerates - push economic development but can collapse if the wrong person takes over. 3. Relatively weak smaller firms - not competition fro conglomerates but are inefficient 4. High Social Cohesion - currently an equal society due to high population in productive years. In the future the raging population will cause a huge dependency burden.

What policy options are available to governments of developing countries wishing to reduce the fertility rate? How effective are these different policies likely to be?

1. Persuasion - changes demand for children 2. Birth control - does not change demand for children 3. Coercion - effective but morally repugnant and difficult to administer 4. Manipulation of economic incentives - making the cost of having children greater reduces demand for children 5. Improving education and job opportunities for females - provides favourable conditions to delay marriage and lower marital fertility. No policy measure will be successful in controlling fertility unless efforts are made to raise the social and economic status of women.

Which of the four methods of redistributing income is the most effective and why?

1. Progressive taxes - concern that rich can die assets or that capital gains/ business profits are harder to tax 2. Transfers - cash, free lunch, free health care. Can disincentives people from working 3. Redistribution of assets - hasn't worked for land, but can work for human capital (subsidising education) 4. Remove factor price distortion - interest rates are too low and firms invest in labour savings technologies. Wages are too high causing unemployment.

What happens to the Steady State level of output in the Solow Model when savings rate falls?

A Steady State occurs where savings (investment) is perfectly equal to depreciation and labour force growth rate. The concave nature of the curves is due to diminishing marginal returns to capital. The savings curve will shift down when the savings rate falls relative to the production function. This causes a decrease in the steady state levels of capital and output and the economy will contract. This contraction is only temporary as eventually the economy will reach the new steady state and growth will slow to zero.

How would we interpret the following regression equation? IMR = 165.8 - 0.094(Y/P) - 13.9FED - 0.29IMM R2 = 0.67

A regression equation is a mathematical relationship that shows us how different variables relate to each other. The coefficients show us how an increase in one factor will alter the Infant Mortality Rate. For example, income per capita is negatively correlated with IMR, i.e., for every dollar increase in Y/P we would expect to see IMR fall by 0.094 deaths per 1000 births. The t-statistics show us whether we can be confident our coefficients are different from zero, i.e., statistically significant. For example, as the t-statistic for Y/P is greater than 2 we can be at least 95% confident that income per capita's true value is statistically significant (non-zero). The R2 value shows us how well the regression fits the data. For example, and R2 of 0.67 shows us that 67% of the variation in IMR can be explain by the variables in the regression.

"Rather than the government having to initiate a Big Push for economic development, the job could be done by a super entrepreneur" Why is this unlikely to happen in reality?

A super entrepreneur is an individual with a lot of money and resources who will attempt to set up multiple industries at once. - No super entrepreneurs in LDCs - Lack of expertise and skills to set up multiple industries - Agency costs as no time to run yourself - Lack of communication if attempting to coordinate between other entrepreneurs

What are the weaknesses of the Lewis Model of Economic Development?

As seen in the previous question, it is likely capitalists will reinvest their profits in labour saving technologies which breaks down the predictions of the model. It assumption that there are surplus workers in agriculture is also unrealistic as more often there are surplus workers in cities rather than in rural areas. Wealthy capitalists are also often multinational corporations making it more likely that profits will be returned to investors overseas (capital flight) rather than being reinvested. The assumption that workers are happy to move to manufacturing is also unrealistic as wages may only be $1 per day higher. The cost of living in the city is also much dearer eroding the incentive to move to manufacturing. Transferring too many workers from agriculture to manufacturing can also cause famine as food production goes down.

Why do education gaps persist in many developing countries?

Benefits from female education are often not perceived as high by parents of girls. Even when education is free there are indirect costs such as travel or textbooks which discourages parents from sending children to school. Opportunity cost of sending kids to school who could be working. Parent may prefer to have girls helping out around the house. Educating sons may offer future benefits because sons take care of parents in old age. Husbands family reaps the benefits of female education.

Discuss the strengths and weaknesses of each of the poverty measures.

Both HI and NPG don't take into account the effect of regressive transfers making them weaker measures than FGT. However, both measures are much easier to comprehend by the average person that FGT. Although FGT is a stronger measure, the intuition behind it can be difficult to understand. The HI doesn't take into account how far below the poverty line people are. This is bad for policy reasons as money can be given to those just below the poverty line to increase the measure. However, HI is the most commonly used measure as the intuition behind it is the easiest to understand.

Assume that the capital to output ratio is 5 and savings rate is 10%. According to the Harrod-Domar model, what is the rate of economic growth?

Change in Y/Y = s / (K/Y) Change in Y/Y = 0.1 / 5 = 0.02 or 2% The rate of economic growth will be 2%

What are the weaknesses of the Harrod-Domar Model of economic growth?

Capital and Labour are assumed to be in fixed proportions, i.e., they are assumed to be perfect compliments. This creates a knife edge problem as there is no substitutability between workers and machines. The implication of this model is that savings policies are a growth tool as they are used to fuel investment. This creates diminishing returns to a fixed factor of production when the other is increased.

If the capital to output ratio is 4, what savings rate will be required to achieve economic growth of 5%

Change in Y/Y = s / (K/Y) 0.05 = s / 4 s = 0.2 or 20% A 20% savings rate is needed to achieve economic growth of 5%

Under what circumstances do you think child labour should be banned in developing countries?

Child labour prevents kids from attending school, stunts development, and subjects kids to abuse. But without work a child may become severely malnourished and may not even end up in school. A household where there is sufficient income will not need to send children to work. A child labour ban should raise wages enough. 1. Child labour is a symptom of poverty - reduce poverty first 2. CCT incentives to send kids to school 3. Child labour is inevitable - reduce abuse and provide support 4. Ban child labour in its most abusive form

Explain the difference between conditional and unconditional convergence.

Convergence is the idea that countries move toward the same steady state where economic growth is zero and they have the same level of output and capital. Conditional convergence occurs when countries who have the same savings rate, depreciation rate, and labour force growth rate have the same steady state. Conditional convergence implies that poor countries will grow faster than rich countries toward the same steady state. Unconditional convergence occurs where poor countries grow faster than rich countries toward the same steady state but there are no conditions attached.

How convincing do you find the arguments put forward by the neo-Marxist school of economic development?

Dependency Theory - Poor nations were once subject to exploitation by colonial powers and are now subject to exploitation by MNCs. True for many countries but not all. Many have are stuck in substance culture, have had their resources depleted, and been left with poor infrastructure and education. MNCs that focus on resource extraction do exploit countries but MNCs that move way from commodities toward technologies likely help economic development. False Paradigm Model - Agencies such as IMF and the World Bank had given countries well intentioned but very bad advice on how to go about economic development. This is impeding economic development rather than helping it.

According to Jared Diamond the world income distribution can largely be explained by geographic factors. How convincing do you find his argument?

Diamond implies that economic success is due to geography, immunity to germs, food production, domestication of animals, and use of steel. - Fertile crescent didn't spread to Africa - Poor soil fertility - Tropical diseases and heat - Landlocked countries - Ability for other countries to spend time developing instead of food production. A lot of these arguments are relatively plausible.

List the major assumptions made in the Solow Model of economic growth. How realistic do you think these assumptions are? If the assumptions were relaxed, then what would this mean for the policy implications we have derived from the model?

Diminishing marginal returns to capital. Without this assumption we do not have convergence. This is a realistic assumption. All countries have the same production function. Just because countries have access to the same technology does not mean they can use it. Not a realistic assumption. Inputs are exogenous to the model, i.e., don't trigger changes in other inputs. Unrealistic as increases in output can trigger labour force growth. Closed economies. Capital can't flow between countries. Unrealistic assumption as most countries don't have capital controls. Would cause capital to flow to poorer countries (higher MPk) and implies convergence.

Is Income Per Capita a Good Measure of Economic Development?

Economic development is the process of improving all human life including wellbeing and standard of living. Income per capita only measures a country's economic wellbeing. The measure fails to to tell us about the quality of other measures of wellbeing such as health, education, equality, rights, etc. It is argued that income per capita is correlated with these things but just because there is an improvement in income per capita doesn't mean there will be an increase in economic development as a whole. Income per capita also does account for PPP or illegal transactions. However, it is useful for making comparisons across countries.

Why has fertility decline slowed in Africa? Why is this likely to be temporary?

Fertility decline in Africa was recently smaller than expected due to a reduction in spending on education in the 1990s meaning many women born is the 1980s received much less education than previous generations. As the decline in education had reversed, this should allow fertility to resume its downward slide. It this were a long term trend and not a blip we would expect population to be much larger today.

Explain the spill over model of endogenous growth where K is the externality.

For an individual firm we assume constant returns to scale due to the elasticities summing to one. For the economy we assume increasing returns to scale as the elasticities sum to greater than one. This is due to the externality produced by aggregate capital. Individual firms can't influence the aggregate level of output but all firms can. This implies a role for the government to subsidise the factor producing spill overs to internalise the externality.

According to Berg, Ostry, and Tsangarides, what is the effect of redistribution and inequality on growth?

Growth = f(inequality, redistribution, and other control variables) Berg et al measure redistribution by looking at the difference between Gini coefficient for Gross income and for net income. They predict that large amounts of redistribution can negatively affect growth but that most countries have enough scope to redistribute more before negatively affecting growth. They also found that inequality negatively affected growth.

Give the equations for headcount index, normalised poverty gap ratio and foster-greet-throrbecke ratio.

HI = H/N (the number of people below the poverty line divided by the total population) NPG = 1/N x sum(Yp - Yi/Yp) (sum of everyone below the poverty line divided by the poverty line) FGT = 1/N x sum (Yp - Yi / Yp)^a

What is HDI and what does it attempt to measure?

Human Development Index (HDI) is an. alternative measure of economic development to income per capita. The HDI is a measure of national socioeconomic development, based on combining measures of education (literacy and numeracy), health (life expectancy), and adjusted real income per capita. It is measured on a scale from zero to one with zero being the worst. Education Index = 2/3 x literacy + 1/3 x enrolment Life Expectancy Index = (Actual LE - Worst LE) / (Best LE - Worst LE) Income Index = Log (actual income - Log (worst income) / Log (best income) - Log (worst income)

What happens in the Solow Model when the labour force growth rate slows? Does this mean the government should reduce the labour force growth rate?

If the labour force growth rate decreases, he curve will falter and pivot downward. This means that for a period of time, savings and investment will be greater than capital destruction and this causes the capital stock to grow. We will see positive economic growth as both capital and output increase. Eventually growth will slow to zero once the new steady state is reached. Creating unemployment is not an ideal way to decrease the labour force growth rate. Unemployment has other negative effects on an economy despite being good for economic growth. Instead, the government should look toward slowing down population growth as this will feed into a lower labour force growth rate and will eventually result in economic growth.

Outline the key assumptions of of the Lewis Model and explain how it suggests economic development takes place.

In the Lewis model there are assumed to be two sectors; manufacturing and agriculture. We also assume that capital is fixed in the agricultural sector (as there is a finite amount of land) and there are also surplus workers in this sector. We assume workers in the agriculture sector are paid the marginal product of their labour as output is shared equally. We assume diminishing returns to capital in the manufacturing sector but do not assume capital is fixed. The marginal product of labour in manufacturing is positive but zero is agriculture. The supply curve in the manufacturing sector is perfectly elastic because people will move to manufacturing as the wage is higher. People will continue to move from agriculture to manufacturing till demand and supply intersect. We also assume that capitalists reinvest their profits which allows the production function to rise and the labour demand curve shift to the right. This will continue until there are no longer any surplus workers in a agriculture.

"The Solow Model predicts that, in the long-run, the growth rate of output per worker is independent of savings rate. Therefore, government policies to increase the rate of savings are pointless." Do you agree with this statement?

It is true that in the long run growth rate will be zero and therefore independent of savings rate. Or the growth rate will be equal to the level of technological growth. However, an increase in savings rate will produce short run economic growth as an economy moves to a new steady state. The new steady state will have a permanently higher level of output and capital. This short term growth is good for the economy. Therefore, government policies to increase savings are not pointless as it will result in temporary economic growth and permanently higher levels of output and capital.

Explain how Multidimensional Poverty Index (MPI) is calculated.

MPI is a poverty measure that identifies the poor using a number of deprivations. It takes into account the negative interaction effects of multiple deprivations. 1. Health made up of if a child has died and if any adult or child is malnourished 2. Education made up of household members who completed 5 years of schooling and whether any school aged child is out of school between grades 1-8 3. Living standard made up of lack of electricity, insufficient safe drinking water, inadequate sanitation, inadequate flooring, unimproved cooking fuel, and a lack of assets Individuals are described as being multidimensionally poor when they are deprived by a sum of 0.3 or more. Limitations - des not distinguish between past and present conditions or between people within the household. Proxies aren't perfect and if data is missing a household is labelled non-deprived.

"The Solow model suggests all economies will have the same level of output per worker and the same growth rate of output per worker. This is clearly at odds with real world evidence" Do you agree with this statement?

No. The model only suggest that countries with the same savings rate and labour force growth rate will have the same level of output per worker, i.e., it predicts conditional convergence. Countries with different levels of output or growth rates are either growing at different rates because they are not yet at the same steady state, or have different steady states. In the long run, all countries should have a growth rate of zero.

What are the equations for range, ratio of income share, and Gini coefficient?

Range = Max - Mix / M Ratio = Share of income held by top quintile / share of income held by bottom quintile Gini Coefficient = 1/2n^2 M x sum of income differences

Which model of economic growth do you find more realistic: Solow model or the Endogenous Growth model?

Solow model predicts diminishing marginal returns which is realistic otherwise we would have to assume that capital and labour are perfect substitutes. However, EG model still assumes diminishing returns for an individual firm just not for economy as a whole. It is because of spill overs that the economy doesn't have diminishing returns which is a realistic assumption. EG assumes that a persons skills are part of human capital not labour which is realistic especially in modern sectors where less physical labour is used. EG predicts constant growth where as Solow predicts conditional convergence. EG could be deemed to be unrealistic as there is typically a limit to how high savings can go.

If the number of children per family in developing countries were to fall immediately, population growth would still remain high for some time. Why is this?

The hidden momentum of population growth- population continues to increase after a fall in birth rates because large existing youthful poplin expands the base of potential parents (population pyramid). Even if each family is having less children, there are more families so more children overall and population continues to grow.

How would the Lewis Model differ if capitalists profits were reinvested in labour saving technologies?

The marginal product of labour curve will steepen to reflect that new levels of capital need less labour. This makes the MPL of the first few workers high but much lower for additional workers. This will cause the whole process of labour transfer to come to a halt as we need much less labour than previously when we increase capital.

What evidence to Knack and Keefer present to suggest that societies with higher levels of trust and civic norms perform better economically?

The paid provide two figures which help to illustrate this relationship. They find a positive correlation between trust an the level of economic growth. They also find a positive correlation between trust and investment/GDP.

What is the "replacement rate" and why is it not equal to two?

The replacement rate is the number of children needed by each set of parents to replace the population. The replacement rate is 2.1 which is more than 2 because not every child grows up to be able to have their own children.

How do Knack and Keefer measure trust and civic norms? Do you think there proxies accurately measure what they set out to?

Trust - "Generally speaking , would you say most people can be trusted, or that you can't be too careful in dealing with people?" Trust measure is some what ambiguous as trust is often context dependent. Useful as a comparative measure but not the most accurate tool. Civic Norms - measured by questions followed by "Can always be justified, never justified, or something in between?" a. Claiming government benefits which you are not entitled to b. Avoiding a fare on public transport c. Cheating on taxes if you have the chance d. Keeping money that you have found e. Failing to report damage you've done accidentally to a parked vehicle More context specific and more options than the trust measure. But allows opportunity for significant measurement error.

Explain why if two Lorenz curves cross, we cannot conclude with certainty which of the two distributions is the most equal.

When two Lorenz curves cross, we can get from one distribution to the other by performing one regressive and one progressive transfer. The regressive transfer makes the distribution more unequal and the progressive transfer makes the distribution more equal. By saying one is more unequal that the other we implicitly put weighting on the redistributions. In theory we can calculate the Gini Coefficient but in this case, to do so would be to make a valued judgement.

What would happen to each of the absolute poverty measures if we perform a regressive transfer?

Within both the headcount index and the normalised poverty gap there will be no change to the outcome of the measure when we perform a regressive transfer. Therefore, both methods do not follow the transfer principle. The FGT measure will increase when we perform a regressive transfer meaning it does follow the transfer principle. We effectively put more weight on the observations further away from the poverty line.