Economic Survey 2018 - Vol. 1, Ch.5: Is There a “Late Converger Stall” in Economic Development? (Download PDF)

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Introduction- Economic convergence, the process of poorer countries “catching-up” with richer countries and closing gaps in standards of living, has been a big driver of some of these developments.

  • Since the mid-1980s, the process of catch-up has broadened; the rate of catch-up has also accelerated. In other words, there has been “convergence with a vengeance” .
Period of Broadening and Acceleration
  • Definitions can themselves be traps. There was a genuine low-income “trap.” For a long time, many poor countries were not catching up at all; they were growing more slowly than richer countries.
  • The middle income trap should have connoted that middle income countries would grow more slowly than what would be expected given their level of income. (i.e.. , slower than richer countries) , impeding the transition from middle income to high income status.
  • The reasons for the trap/stall were supposed to be two fold
  1. As countries attained middle income status, they would be squeezed out of manufacturing and other dynamic sectors by poorer, lower-cost competitors.
  2. They would lack the institutional, human, and technological capital to carve out niches higher up the value-added chain.
  • As it turned out, there was neither a middle income trap nor stall. Middle income countries as a group continued to grow as fast as or faster than the convergence standard demanded.
  • Some of the countries from middle income group-for example, Korea, Portugal, Poland, and Latvia-graduated to high-income status. The convergence process remained strong even in the last decade.
  • The years from 1980 to 2017 are divided into three periods:
  • 1980 to 1997, the era of divergence in which low-income countries fell further behind;
  • 1998 to 2007, an early period of convergence running from the East Asian financial crisis until the Global Financial Crisis;
  • 2008 to 2017, the most recent period of “late convergence.”
  • 📝 The countries can be classified as
    1. Low-income countries are those with real per capita GDP less than 5 % of that in the U. S. in purchasing power parity terms.
    2. Lower-middle income countries, those countries with per capita incomes 5 - 15 % of the U. S.
    3. Upper-middle income countries, 15 - 35 %
    4. High-income countries are all those above 35 % .
  • Observations
    • In the two periods after 1997, the average poor, lower-middle income, and upper middle-income country all grew faster than their high-income counterpart. There was no middle income trap in any period.
    • The convergence process actually accelerated after 2008.
  • Could there be a “late converger stall” in the process of economic development?
  • The Global Financial Crisis (GFC) represented a watershed event, marked by a sharp decline in rates of growth across the world.
  • World growth declined from 4.3 % in the ten-year period prior to the GFC to 2.9 % in the decade after the GFC.
  • The growth declines in upper middle income countries, by 1.2 % points between 1998 - 2007 and 2008 - 2017 and by. 7 % points in lower-middle-income countries over the same period. Underlying these slowdowns are some major developments that could not only damage growth over the long term, but eventually even slow the process of convergence.

📝 The Four Headwinds

The risk of a Late Convergence Stall needs to be taken seriously because of four headwinds:

  1. Hyper globalization repudiation:
    • Developing countries that came late to convergence now face a very different global trading environment from their predecessors. Early convergers benefited from the process of rapid globalization or hyper-globalization.
    • This means that the trading opportunities available to the early convergers, specifically the ability to export at double digit rates of growth for three to four decades consistently, may no longer be available.
    • If the current process of convergence continues and adds another country equivalent, the distribution of world output will become even more dispersed, resulting in an additional increase in the world՚s trade.
  2. Thwarted structural transformation: good growth and sustainable growth
    • Successful development requires two kinds of structural transformations
      1. a shift of resources from low productivity to high productivity sectors
      2. a larger share of resources devoted to sectors that have the potential for rapid productivity growth
    • Resources do not shift in this way. They shift instead from informal, low productivity sectors to ones that are marginally less informal/more productive. These are cases of “thwarted structural transformation” .
    • The tendency for manufacturing in late convergers to peak at lower levels of activity and earlier in the development process, is a cause for concern.
    • Dynamic sectors are those with high levels of productivity and potential for unconditional convergence. Such a list comprises manufacturing, finance, telecommunications, and professional services.
    • Good growth comprises growth accounted for by labor share shifts into these good sectors and their productivity growth.
    • Two features are noteworthy.
    1. There is a general leftward shift in the share of good growth over time. This in a sense captures the more general version of the premature deindustrialization point.
    2. In the early period of divergence, there was a positive correlation between growth and good growth; this association has weakened over time.
  3. Human capital regression
    • Human capital is the key difference between early convergence based on manufacturing and late convergence against the strong headwinds of automation and the globalization backlash.
    • In early convergence, it was the alignment of human capital endowment with the sector associated with structural transformation, namely manufacturing. Shifts in labor, from farm to factory has taken place.
    • The late convergers are doubly challenged.
    • Not only have they failed to provide even the basic education necessary for some structural transformation,
    • The failure will prove increasingly costly because the human capital frontier for the new structural transformation has probably shifted further away.
    • During the 1980s and 1990s, educational attainment of the middle income countries was below that of advanced economies. But the gap was smaller for them then than it is for the lower middle income countries in the more recent period.
    • If this gap persists or widens the kind of transformation enjoyed by the late convergers might prove more difficult for the late convergers, including India.
  4. Climate change-induced agricultural stress
  • A final factor impeding late convergence relates to agriculture.
  • Growth rates of agricultural productivity for richer countries have been consistently greater than for developing countries.
  • Indian agricultural productivity growth has been stagnant, averaging roughly 3 % over the last 30 years
  • Survey shows that Indian agriculture is vulnerable to temperature increase and still heavily dependent on precipitation.
  • For the late convergers, agricultural productivity is critical not just for feeding people but for ensuring human capital accumulation in those who move from agriculture to the modern sectors.
  • Agriculture could yet come back to haunt the structural transformation fortunes of the late convergers.

Lessons for India

  • Since 1980, India has been rapidly catching up, posting an average per capita GDP growth rate of 4.5 % , a rate substantially greater than registered previously, which is in the top quartile of countries over that period, and amongst the highest for continuous democracies.
  • The fast growth has occurred with limited transfer of labour resources from low productivity to high productivity and dynamic sectors, and despite relatively modest agricultural growth.
  • The risk for India-as for the other late convergers-is that resources (especially labour) will move from low productivity, informal sectors to other sectors that are marginally less formal and only marginally more productive.
  • That is the “late converger stall” that India must avoid.
  • Rapidly improving human capital-- healthy individuals, including all women, with the basic education to continually learn and adapt--will be key to sustaining India՚s dynamic growth trajectory.
  • Rapidly improving agricultural productivity--against the headwinds of climate change and water scarcity--will be another key to achieving good growth and hence sustainable growth.
  • There is no Late Converger Stall, as yet, but it would be wise to act to head it off.

- Published/Last Modified on: February 8, 2018

Economy

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