The meaning of economic development

By Hussain H. Zaidi

Economic development is both a policy objective and a means to achieving other policy
goals, such as full employment, poverty alleviation, egalitarianism, and social progress.

One way to grasp the meaning of economic development is to understand what it is not.
To begin with, economic development, though closely related to, is not identical with
economic growth. Growth in real GDP or GNP is a necessary but not a sufficient
condition for development.

An economy may register a sound growth rate but may still fall well short of
development. An obvious example is Pakistan, whose GDP grew at a very healthy rate in
1960s and then in 1980s but the economy never approached the level of development.

Nor is a high per capita income an essential indicator of development. There are, for
example, many Muslim kingdoms with a remarkably high per capita income but lacking
in the elements that constitute development.

It is also important not to equate development with egalitarianism. Doubt lessly,

narrowing of economic equalities is both a component of the development process and its
goal. However, it is possible for underdevelopment and egalitarianism to co-exist as in
the case of primitive societies. Conversely, a highly developed economy may have gross
inequalities, which for Karl Marx is the common fate of all capitalist economies.

Then what is economic development? Economic development is growth in GDP

accompanied by relevant social and institutional changes by which that growth can be
sustained.

These changes include reduction in absolute poverty, a better quality of life, high literacy
level, improved productivity of labour and other factors of production, sophisticated
techniques of production, development of physical and commercial infrastructure, higher
savings, increase in employment opportunities, a positive attitude towards life and work,
and a stable political system.

Having defined economic development, let's discuss the factors underlying it. The
foremost factor lying at the bottom of development is economic growth. Economic
development is possible only if the real GDP grows at a fast pace over a long period.

The engine of GDP growth is investment or capital formation. The less developed
countries (LDCs) are characterised by deficiency of capital due to low level of
investment.
Investment has both supply and demand sides. On supply side, investment requires
savings. Whenever savings are low, as in case of LDCs, investment falls short of the
desired level. But why savings are low? Savings depend on several factors such as
interest rates, inflation, the consumption habits of the people, and taxes. Higher interest
rates, for instance, encourage savings.

On the contrary, when there is inflation, the currency loses its value and people want to
get rid of it quickly, thus consumption increases and savings fall. However, the single
most important factor behind savings is real income. Savings tend to be higher among
high-income people and vice versa.

In LDCs, the primary reason for low savings and thus low investment is the low incomes.
As incomes are low in these economies, there is little left after meeting essential
consumption needs.

On demand side, investment depends on potential or estimated demand for output.

Despite the availability of savings, businesses will step up their investment only if they
see higher demand for their output.

Conversely, if potential demand falls, firms will cut back on their output and investment.
As in case of savings, the demand for output depends on several factors, such as price,
customer preferences and tastes, and the marketing tools used by firms.

However, the single most important factor bearing upon demand is again income.
Demand goes up if income goes up and vice versa. It follows that in case of LDCs, the
most powerful factor underlying deficiency of investment is low incomes.

Lower incomes restrict investment and hence output and employment, which in turn
obstruct efforts to raise the income level. This is a catch-22 situation for LDCs.

If employment opportunities are to increase, investment must increase. However,

investment cannot increase if income level does not go up. And income level cannot go
up if employment opportunities do not increase.

There are two ways out of this predicament: increase in government spending, and
provision of foreign capital. By stepping up its spending, the government can increase the
productive capacity of the economy provided the increased spending is invested in
producing capital goods.

The enhanced government spending also creates demand for businesses, goods and
services. Businesses respond by increasing output and hiring more labour. The income
earned by the workers is partly saved and partly consumed thus adding to total savings
and demand in the economy.
Increase in government spending, however, is not without problems. The stepped up
government expenditure can be financed by levying more taxes, borrowing or printing
money.

Increase in taxes is not advisable, as it will negatively affect already low business
activity. Borrowing will add to public debt. The easiest option for the government is to
print money.

This however will cause inflation. A moderate degree of inflation is acceptable. But a
high degree of inflation is not only politically dangerous but may also cause the
breakdown of the monetary system.

In view of the problems associated with increase in government spending, LDCs have to
look for external capital, which can be in the form of aid or investment. Developing
countries are not only deficient in capital but also have a very slow rate of capital
formation.

They also have a very high capital-output ratio. Both to increase the rate of capital
formation and narrow capital-output ratio, technology are essential. Technology increases
the productivity of both labour and capital.

In the absence of technological improvement, the marginal productivity of capital falls,

which squeezes profits. In such situation, the inducement to invest is negatively affected.

That is why technology is called the catalyst of economic development. Technology is

another weak area in case of LDCs. They are deficient in both the brains and the
resources necessary for technological development.

Many LDCs are beset with superstitions, and there is lack of the spirit of free enquiry and
scepticism, which is so important for scientific progress. The choice of the right
technology is also very important.

Capital intensive or labour saving techniques may increase output but may also increase
unemployment and poverty. Labour intensive techniques, by contrast, may increase
employment but may have a limited effect on increasing output.

The third important factor is human resource development (HRD). Some economists
believe that HRD is the most important factor in economic development. HRD is a broad
concept encompassing moral, economic, political and cultural rights.

It is about giving people access to the resources essential for a decent standard of living
and participating in communal life. It aims at creating an environment in which people
can realize their potentials to the best and become more productive.
The main indicators of human development are a high literacy level, decline in poverty,
access to safe drinking water and sanitation, a high life expectancy level and ability to
make decisions that affect oneself.

Developed countries have, by and large a high level of HRD, whereas LDCs are
characterised by a low level of HRD. All countries of South Asia have a low HDI
ranking.

Traditionally, land or natural resources have been regarded as essential for economic
development. Classical economists like Adam Smith placed great emphasis on the role of
land in economic development.

It is true that land played an important role in the development of many countries like the
USA. However, in present times, it is believed that natural resources, though important,
are not as essential for economic development. Development of countries like Japan
shows that an economy can develop even if it is not rich in natural resources.

Having discussed the basic components of economic development, let's turn to Pakistan
and see what has hindered its development. The example of Pakistan is also important
because it shows that economic growth may not be translated into development.

During 1960s, the economy of Pakistan grew at a healthy rate of 6.8 per cent. However,
that growth rate could not be sustained and during 1970s, the economy grew only at 4.8
per cent. The growth rate increased to 6.5 per cent in the decade of 1980.

Again, during the next decade, the growth rate fell to 4.6 per cent. Between 2000-01 and
2003-04, the economy has grown on average by 4.1 per cent. In the last fiscal year, that is
2003-04, the economy grew at a healthy rate of 6.4 per cent, and is projected to grow by
6.6 per cent during the current fiscal year.

If the country's history is any guide, a healthy growth rate may not get translated into
development if concomitant changes are not effected, particularly with regard to HRD,
technological up gradation and capital formation.

The following socio-economic indicators bring out that a lot of ground has yet to be
covered before the country can embark on the road to economic development. In the
latest HDI ranking by UNDP, Pakistan is placed at 142 among 175 countries.

Pakistan's position is lowest in South Asia. And this is not surprising. Life expectancy in
Pakistan is 64 years, which is even less than the world average of 67 years. Infant
mortality rate is 76 (per 1000 births), higher than the world average of 55. Under five
mortality rate is 101-again higher than the world average of 81.

Judged by the international standard of poverty, which is earning less than $1 a day, at
least one-third of the population is poor. Poverty is a serious obstacle to economic
development: Poverty means low incomes, low savings or even dis-savings, high birth
rates, and low literacy level, which hamper development efforts.

Literacy level is 54 per cent. Granted that this official figure is not exaggerated, the
literacy level is still very low. A major cause of low literacy level is meagre expenditure
on education, which is less than two per cent of GDP.

Besides, there is a strong link between education and income level as only 25 per cent of
the poorest individuals are literate. The total public expenditure on health is only 0.73 per
cent of GDP and less than three per cent of the total expenditure of federal and provincial
governments on health.

Even according to official figures, unemployment level in Pakistan is 8.27 per cent,
whereas the same in 1996 was 5.37 per cent. Unemployment means that an economy is
operating below its potential.

Pakistan lags far behind in the field of technology. Share of scientists and engineers in the
labour force is only 0.2 per cent. Obviously, it is extremely difficult for development
efforts to succeed in the face low level of technology.

Reference:

http://www.dawn.com/2005/01/17/ebr2.htm