Summary of WP/92/91
“The Savings Trap and Economic Takeoff” by Carlos M. Asilis and Atish R. Ghosh
It has long been recognized that savings behavior influences economic development. Virtually without exception, countries that have achieved high savings rates have also enjoyed high levels and growth rates of per capita income--although the direction of causality between savings and income growth remains a matter of debate.
Time-series studies of specific countries reinforce the idea that economic development is associated with a discrete change in savings behavior. Indeed, a fairly clear pattern emerges from the various success stories of economic development: an initial period of low savings--perhaps 5 percent of GDP--and slow economic growth; the “takeoff” period during which, in just a few years, the savings rate increases dramatically to more than 10 percent, perhaps to as much as 20-30 percent of GDP; and the “mature economy” phase, marked by declining savings rates and growth rates. Breaking out of the initial phase may be the most important step toward economic development (Rostow, 1960).
This paper provides an analytical framework to account for the above-mentioned dynamics of economic development and to determine effective policy measures that may direct an economy onto a higher growth path. Specifically, it develops an overlapping-generations model of savings and investment in which “culture” and technology interact to determine the growth rate of an economy.
Investment is assumed to be subject to intermediation or to other costs that may, in each period, result in two possible equilibria for the savings rate. At the “good” equilibrium, savings and growth are higher than at the “bad” equilibrium. A country cannot simply grow out of a bad equilibrium because the steady state associated with it is dynamically stable. Whether, in any period, the country attains the good or the bad equilibrium depends upon the beliefs of each individual about the savings behavior of other agents in the economy. This paper postulates that these beliefs depend upon the history--or culture--of the society and that this cultural factor is sufficient to determine which path the economy will follow. The model suggests that fiscal policy or public activities that facilitate private investment can influence savings behavior, in particular, that a sustained period of fiscal restraint can shift an economy onto a high savings/high growth path.