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Haque, N. and P. Montiel, “Consumption in Developing Countries: Tests for Liquidity Constraints and Finite Horizons,” Review of Economics and Statistics, Vol. 71 (August 1989), pp. 408–15.
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The author is grateful to Malcolm Knight and Gian Maria Milesi-Ferretti for useful comments and suggestions.
For a partial survey of the literature, see Khan and Villanueva (1991), and the references cited therein.
Feder’s two-sector (exports and non-exports) model has the standard long-run (steady-state) property that the growth rate of aggregate output is equal to the exogenously determined growth rate of the labor force, adjusted for an exogenous rate of labor-augmenting technical change. See Section II.
There are several other growth effects, which are just as important. Balassa (1978) cites the improvement in overall factor productivity arising from the transfer of factors from the rest of the economy to the export sector, which is typically the most productive. This, however, represents a one-time shift in the aggregate production function.
See, among others, Conlisk (1967), Villanueva (1971), Romer (1986), Lucas (1988), Otani and Villanueva (1989), Grossman and Helpman (1990), and Becker et al. (1990). These approaches fall into the category of what has been termed “endogenous growth” models. A common feature of these models is the endogeneity of technological progress, particularly the rate of labor-augmenting or Harrod-neutral technical change.
See, among others, Balassa (1978); Tyler (1981); Feder (1983); and Ram (1985). Balassa (1978, p. 185) argues that since “exports tend to raise total factor productivity,… the inclusion of exports in a production function-type relationship is warranted….”
The strict two-sector version of the modified model, characterized by different utilization rates of K and L, is discussed in detail below.
If a 1990 man-hour is equivalent as an input in the production function to two man-hours in the base period, say 1960, then the ratio K/L is the amount of capital per half-hour 1990 or per man-hour 1960.
Notice that the two models are identical except for the technical change function.
Romer (1990) finds that a high ratio of exports to GDP is associated with a higher rate of technological change in a cross-section of 90 industrial and developing countries over the period 1960-85.
The export employment rate λ itself may be made an increasing function of the capital-labor ratio k. Given reasonable assumptions that labor productivity in the export sector is higher than in the rest of the economy and that, as labor’s productivity increases with a brisk pace of export activity (and a rise in capital intensity), the economy will devote a larger share of resources to expand the export sector and thus to augment the effective supply of labor.
In general the effects of a rise in ε on the KK curve work in opposite directions. On the one hand, an increase in ε means less resources are available for production in the non-export sector. On the other hand, this is offset by higher output in this sector induced by positive externalities generated by rising exports. Additional to this effect is a direct increase in the output of the export sector. Assuming with Feder (1983) that the export sector’s marginal factor productivities are higher than those of the non-export sector, the net effect is to raise the economy-wide aggregate output and thus the savings needed for investment. The net effect is an upward shift of the KK curve in the northeast direction.
This temporary growth effect of the export parameter ε is basically the exports-growth relationship emphasized in standard theoretical models, such as Feder’s (1983). Standard empirical growth models, such as Knight, Loayza and Villanueva (forthcoming), also find that opening up the domestic economy through reductions in import-weighted average tariffs on intermediate and capital goods tends to raise the transitional growth rate of per capita output.
The levels of exports and output per labor are higher because of the higher capital intensity. The result on a higher output per labor is Solow’s (1956) conclusion that changes in saving rates--and for that matter, changes in the parameter ε in the context of standard neoclassical growth models with exports--are level, not growth, effects.
The new equilibrium capital-labor ratio may be higher or lower, depending on the magnitudes of the relative shifts in the KK and LL curves. Panel B of Figure 1 assumes that the shift in the KK curve is larger, resulting in a higher equilibrium capital-labor ratio. If the shift in the KK curve were smaller than the shift in the LL curve, the new equilibrium growth rate of output would still be higher, but the new equilibrium capital-labor ratio would be lower.
There is a third reason. An improvement in labor productivity induced by an increase in output of the export sector provides an incentive to raise the share ε of capital and labor utilized in this important sector. This would mean another round of increases in the rate of growth of output.
As mentioned earlier, including exports directly in the production function for non-exports represents a static, one-time upward shift in the production possibilities curve. A 10 percent increase in the level of output induced by export expansion, though seemingly large, translates into a small annual growth of only half of a percentage point over 20 years.
That is, with reference to a production function F(K,L) = Lf(k), where K is capital, L is labor, and k is the ratio of K to L, the Inada conditions can be summarized as follows: lim ∂F/∂K = ∞ as K → 0; lim ∂F/∂K = 0 as K -> co; f(0) > 0; f ′ (k) > 0, and f ′′ (k) < 0, for all k > 0.
The assumption of a uniform depreciation rate simplifies the mathematics and does not change the main thrust of the analysis.
This is the growth effect alluded to by Feder (1983) and others resulting from increased export activity, and by Knight et al. (1992) as a consequence of lower tariffs on imported intermediate and capital goods.
For a review of the general literature on debt neutrality or Ricardian equivalence, see Leiderman and Blejer (1987). For empirical evidence on incomplete Ricardian equivalence in developing countries, see Haque and Montiel (1989).
Strictly speaking, the growth effects of an increase in the tax rate can go either way, depending on the distortionary cost of taxation, the relative productivities of private and public capital, whether the tax revenues are applied to government consumption or investment, etc.
This follows from the assumptions that fk*, gk* > 0.
The second-order condition for a maximum is satisfied as long as h” < 0, which implies diminishing returns to the learning function.