CHAPTER 1

INTRODUCTION TO THE THEORY OF GROWTH

AND DEVELOPMENT

1.1 CONCEPTS OF DEVELOPMENT AND GROWTH

1.2 THEORIES OF DEVELOPMENT

1.3 THE GROWTH STIMULUS OF INTERNATIONAL TRADE

1.4 SUMMARY

REFERENCES
 Chapter 1

INTRODUCTION TO THE THEORY OF GROWTH AND

DEVELOPMENT

1.1 CONCEPTS OF DEVELOPMENT AND GROWTH

Generally speaking, economic development refers to the problems of
underdeveloped countries and economic growth to those of developed countries.
Maddison makes the distinction between the two terms in the sense when he writes,
“The rising of income level is generally called economic growth in rich countries and
in poor countries it is called economic development.” But this view does not specify
the underlying forces, which raise the income levels in the two types of economies.
In fact, the terms “development” and “growth” have nothing to do with the type
of economy. Schumpiter relates the distinction between the nature and causes of the
two, when he defines development as a discontinuous and spontaneous change in the
stationary state which forever alters and displaces the equilibrium state previously
existing; while growth is a gradual and steady change in the long run which comes
about by a gradual increase in the rate of savings and population. This view of
Schumpiter has been widely accepted and elaborated by the majority of economists.
According to Kindleberger; “Economic growth means, more output and changes
in the technical and institutional arrangements by which it is produced and
distributed”, Friedman defines growth as an expansion of the system in one or more
dimensions without a change in the structure and development as an innovative
process leading to the structural transformation of social systems.
Thus, economic growth is related to a quantitative sustained increase in the
country’s per-capita output or income accompanied by expansion in its labour force,
consumption, capital and volume of trade. On the other hand, economic development
is a wider term. The concepts of development are not only quantitative but are
qualitative also. In the qualitative aspects, it coincides with the welfare objectives.
Thus, it is not enough to see what is produced but also to see how it is produced and
distributed; it is related to qualitative change in economic wants, goods, incentives and
institutions. It describes the underlying determents of growth such as technological
and structural changes. Development embraces both growth and decline. An economy
can grow but it may not develop because poverty, unemployment and inequality may
continue to prevail due to absence of technological and structural changes.

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 But it is difficult to imagine development without economic growth in the
absence of an increase in out-put per capita particularly when population is growing
rapidly.

1.2 THEORIES OF DEVELOPMENT

In the context of the definition of development, it may be useful to refer to the
term “sustainable development” which is now in common use. The term means,
“Meeting the needs of the present generation without comprising the needs of future
generations”. In other words, it envisages a “development that meets the needs of the
present without comprising the ability of the future generations to meet their own
needs”. The ability to meet the needs is largely determined by the accumulation of
human capital. Hence what matters is, that the overall productivity of the accumulated
capital including its impact on human health and aesthetic pleasure as well as income
– more than compensates for any loss from depletion of natural capital.
The cost is one of the major issues that should be considered when developmental
projects are decided upon. The depletion of natural resources does take place so efforts
should be made to preserve natural capital.
In uplifting a low level economy to a high-level progressive economy, efforts of
various sorts have to be made like;
a. Increasing capital formation.
b. Improving human capital.
c. Raising entrepreneurial ability.
d. Enhancing natural resources.
e. Upgrading technology.
f. Market-orientation of economy.
g. Well defined planning.
h. Role of the state.
1.2(A) ADAM SMITH
Adam Smith, a classical economist was primarily concerned with the problem of
economic development. He believed in the doctrine of ‘natural law’ in economic
affairs. According to him, each individual was led by an ‘invisible hand’ which guided
market mechanism. Every man left free to maximize his own wealth would lead
eventually to increase in aggregate wealth. He advocated the policy of laissez-faire in
economic affairs. Like modern economists, Smith regarded capital accumalation as a

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necessary condition for economic development. So the problem of economic
development was largely the ability of the people to save more and invest more.
Smith believed, the process of growth is cumulative. When there is prosperity as a
result of progress in agriculture, manufacturing industries and commerce, it leads to
capital accumalation, technical progress, increase in population, expansion of markets
and rise in profits continuously-which he calls as progressive state. But this
progressive state is not endless. It ultimately leads to a stationary state. In the scarcity
of natural resources, employment, wages, competition, profits of businessmen,
investment would all continue to fall.
Still Smith’s theory had some weaknesses like:
1. Rigid division of society:
Smith’s theory is based on the socio-economic environment prevailing in Great
Britain and certain parts of Europe. Thus, this theory assumes a rigid division of
society between capitalists (including landlords) and laborers and has neglected the
role of the middle class which provides the necessary impetus to the economic
development.
2. One sided saving base:
According to Smith, capitalists, landlords and moneylenders save. This is
however, one-sided base of savings because it did not occur to him that the major
source of savings in an advanced society was by the income-receivers and not the
capitalists and landlords.
3. Unrealistic assumption of Perfect competition:
The laissez-faire policy of perfect competition is not to be found in any economy.
Rather a number of restrictions are imposed on the primary sectors and on internal and
international trade in every country of the world.
4. Neglect of Entrepreneur:
The Entrepreneur is the focal point of development, as pointed by Schumpeter. It
is the entrepreneur who organizes and brings about innovations thereby leading to
capital formation. This point has been neglected by Smith.
5. Static Model:
According to Hicks, Smith’s model though it looks like a growth model, is not a
growth model in the modern state; it does not exhibit a sequence.
6. Unrealistic assumption of Stationary State:
Smith is of the view that the end result of a capitalist economy is the stationary
state. This implies that there is change in such an economy, but around a point of

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equilibrium. But this explanation of the process is not satisfactory because
development takes place by fits and starts’ and is not uniform and steady.
Thus, the Smith theory of economic development has limited validity for
underdeveloped countries.

1.2 (B) THE SCHUMPETERIAN THEORY

Joseph Alois Schumpeter, first presented his theory of economic growth in the
“THEORY OF ECONOMIC DEVELOPMENT” published in German in 1911. He
assumes a perfectly competitive economy which is in stationary equilibrium. In such a
stationary state there is no profit, no interest rates, no savings, no investments and no
involuntary unemployment. This equilibrium is characterized by the term “circular
flow” which continues to repeat itself in the same manner year after year. In the
‘circular flow’, the same products are produced year after year in the same manner.
‘For every supply there is some corresponding demand, and for every demand the
corresponding supply’.

1.2(C) HARROD - DOMAR GROWTH MODEL

According to this model, everyone must save a certain proportion of its National
income, if only to replace worn out or impaired capital goods. However, in order to
grow, new investments representing net additions to the capital stock are necessary. It
states that the rate of growth of GNP [AY/YO is determined jointly by the National
savings ratio ‘S’ and the National capital output ratio ‘K’– more specifically , it says
that the growth rate of National income will be directly or more positively related to
the saving ratio [i.e.- the more an economy is able to save –and invest , out of given
GNP , the greater will be the growth of that GNP] and ‘inversely’ or ‘negatively’
related to the economy’s capital output ratio [i.e., the higher the ‘K’ , the lower will be
the rate of GNP growth].
The theory explains the significance of National savings and investment. The
main obstacle to, or constraint on development according to this theory was the
relatively low level of new capital formation in most poor countries. However
experiences of several countries over the time indicates the fact that saving and
investment is not a necessary condition for accelerating rate of economic growth.

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1.2 (D) INTERSECTORAL RELATIONS AND ECONOMIC GROWTH
It is usually found that, the growth process of economy primarily reflects shift of
its majority of population from agriculture to industry of rural to urban setting. This
process virtually demonstrates change in the value addition of industrial sector and
there by its contribution to National income. This trend is explained theoretically with
the help of Engel’s law. He discovered that, with the rise in the income of family, the
proportion of their budget spent on food declined. As the main function of the
agricultural output would not grow as rapidly as demand for industrial products and
services, the share of agriculture in National product would decline. The second
reason is that the productivity in the agriculture sector gradually leads to the rise in the
demand for the use of machinery and new modes of cultivation, bringing change in the
industrial sector.
Chernery and Syrquin explain that, in reality a deviation in trend of development
should be regarded as average pattern. He has tried to examine this relationship with
the actual historical performance of several European countries plus Japan.
Even before the concept of Gross National Product was invented, the industry
agriculture relations appeared to have been found in David Richardo’s, ‘The
Principles of Political Economy and Taxation’ – published in 1870, He has tried to
explain in his own model, this concept in respect of assumption of ‘diminishing return
’and‘ labour surpluses. Later on the concept of labour surplus in context of sectoral
relationship is found redefined in the literature of W.Arthur Lewis Rugar Nurkse , John
Fri , and Aster Rains.
These various models provide as some important understanding. If an economy
starts with its entire population in agriculture, it can move a large part of that
population to industry or other employment without any reduction in farm output.
Industrialization can proceed, without putting any demands on agriculture completely.
As industry continues to grow however, it will have excess supply of labour, i.e. the
agricultural labourers, which will eventually affect the agriculture output. This entire
relationship i.e. ‘Two sector labour surplus model’ is illustrated by Gillis, Parkins,
Romer, and Snodgrass illustrate this entire relationship i.e. “Two sector labour surplus
model”.

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 Graph - 1.1
The Two Sector Labour Surplus Model

n
WAGES WAGES m
k'
s

k
n'

s' m'
p''
zero' zero I''
Direction of increase of labor input in industry
QUANTITY OF LABOR IN INDUSTRY
OF LABOR IN AGGRICULTURE
MARGINAL PRODUCT

i
g"

h
I''

t' p' QUANTITY OF LABOR IN AGRICULTURE

Direction of increase of labor input in agriculture

t p g i zero
QUANTITY OF LABOR IN AGRICULTURE

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 How fast agricultural production must grow, depends on what happens to a number
of different variables. If industry is growing very rapidly, agricultural productivity
must grow rapidly enough to keep the terms of trade, thereby cutting into industrial
profits and slowing or halting industrial growth. On the other hand, as long as there is
a surplus of labour and no population growth, it is possible to ignore agricultural
productivity growth and concentrate one's resource on industries.
The neoclassical model is quiet different in respect of examining the implications
of populations or labour force growth. According to this model an increase in
population and labour in agriculture will itself raise farm output. If industry is to
develop successfully, similar effort must be made to ensure that agriculture grows fast
enough to feed workers in both the rural and urban sectors at ever higher level of
consumption and to prevent the terms of trade from turning sharp against industry.
Thus the neoclassical model explains the balance between industry and agriculture
from the beginning.

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 GRAPH - 1.2
A " Neo classical " Two Sector Model

labor supply
curve with
r worsening
A terms trade
n
WAGES IN INDUSTRIES

labor supply curve

in absence of
worsening terms
of trade

r
n

zero' zero
QUANTITY OF LABOR IN INDUSTRY
B
I
LABOR IN AGRICULTURE
MARGINAL PRODUCT OF

QUANTITY OF LABOR IN INDUSTRY

C
AGRICULTURE (for grain) OUTPUT
TOTAL

t t zero

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 Under-developed countries are very much concerned about their attainment or
economic development. Sectoral shift also necessitates a suitable environment for
initiating, maintaining and accelerating the pace of economic development. Prof.
Arthur Lewis, in this connection rightly observed, the proximate causes of economic
growth are, the effort to economize, the increase of knowledge or its application in
production and increasing the amount of capital or other resources per head.
Economic growth process, which envisages structural transformation, is not
concerned with monetary aspects only. Besides terms of trade and investment aspects
this process is very much related to social attitudes, political condition, human
resources, and psychological social and cultural requirements of the country. Prof. A.
K. Cairn cross has rightly observed that economic development is not just a matter of
having plenty of money or it is purely an economic phenomenon. It embraces all
aspects of social behavior the establishment of law and order, scrupulousness in
business dealing, including dealings with the revenue authorities, relationships
between the family literacy, familiarity with mechanical gadgets and so on.

1.2 (E) LESSONS AND COMMENTS IN RESPECT OF GROWTH

The new economic view of development largely evolved after the experience of
1950-60 is, when a large number of third world nations did achieve the overall UN
growth target, the levels of the living of the masses remained for the most part
unchanged. Therefore, the redefined context of development includes reduction of
poverty, inequality and unemployment.
Denis Gouler says, “Underdevelopment is shocking phenomenon. It is in a way
the culture of poverty. Development must therefore be considered as a
multidimensional process involving major change in social structure, popular attitudes
and national institutions, as well as acceleration of economic growth, the reduction of
inequality and the eradication of absolute poverty.
Looking globally, one finds very clearly that stages of economic growth theories
and related models of rapid industrialization gave too little emphasis on the very
different and less favorable initial economic, social and political conditions of today’s
developing countries. Very close examination of the growth process of less developed
countries highlights the facts that the growth process and position of these countries
today, is in many important ways significantly different from that of the currently
developed countries- as they embarked on their era of modern economic growth.

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 Michel Todaro has elaborated eight significant differences in initial conditions,
which requires addressing and understanding to accelerate the growth the process of
less developed countries.
These points of differences in the initial conditions of respective nations can be
examined in brief as under:
[I] RESOURCE ENDOWMENTS, PHYSICAL AND HUMAN
Looking at the recent past of the growth process that existed between developed
and less developed nations, it is clearly found that the Third World Countries in 80’s
were not found well endowed with natural resources, than were the currently
developed nations when they began their growth. From amongst less developed
countries except few countries which were blessed with plenty of petroleum and other
natural resources - most of the Asian nations were having plenty of population on one
hand, and were holding very little natural resources on the other hand. Finance was a
major constrain for less developed countries, to exploit the less available resources in
comparison with developed nations.
The key differentiation was found in respect of available skilled human
resources. Country has to depend on human resource having managerial and technical
skills to exploit the available resources. Western developed nations are better than the
Asian less developed countries, in this respect.
[II] RELATIVE LEVELS OF PER CAPITA INCOME AND GNP
At present three fourths of the world population, living in developing countries
have on the average a much lower level of real per capita income than their counter
parts had in 19th century. 755 of the third world countries, even in the mid of 90’s,
were found to be living below the level of subsistence. It is also important to note, that
at the initiation of growth process, developed countries were economically well
advanced, in comparison to the initial condition of less developed countries.
[III] CLIMATIC DIFFERENCE
The most important fact to take into consideration is that almost every successful
example of modern economic growth has occurred in a temperature zone country
while all the Third World Countries are situated in tropical or subtropical climatic
zones. Difference in the climatic conditions has stronger influence on the level and
nature of growth. Extreme heat and humidity in most poor countries contribute to
deteriorating soil qualities and rapid depreciation of many natural goods. While
countries in temperate zone have also added advantage of sound yielding and more
efficiency to promote productivity.

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[IV] POPULATION SIZE, DISTRIBUTION AND GROWTH
Third World population size, density and growth constitute another important
difference between less developed and developed countries. While this population
syndrome in developed countries- before and during their growth process was not
found hurdle some, as the rate of population growth, in such countries was very low
and slow. Most of the third world countries population was found increasing at the
annual rate in excess of 2.55 in the later part of 80’s and early part of 90’s even the
later part of 90’s this tend to have an increase at the rate of about 25 per year.
[V] ROLE OF MIGRATION
One of the most striking facts pertaining to the differing rates of natural
population increase is of international migration, which began late in the 19th and 20th
century. International migration was found both widespread and large in scale.
Because of severe famine periods and years rural unskilled workers from Italy,
Germany and Ireland migrated heaving in labour search nations of North America and
Australia. This has been widely depicted by Brinley Thomas in his treatise on
migration and economic growth. It is also important to know that the Asians and
Africans have not shown so many tendencies for migration towards western nations in
comparison with European nations.
Besides institutional factors – geographical distance leading to economic distance
and strict modern immigration laws have also effected the nature and rate of migration
from developing nations to the developed nations.

1.3 THE GROWTH STIMULUS OF INTERNATIONAL TRADE

International trade is known as ‘engine of growth’ as it has propelled the
development of currently economically advanced nations since 19th and 20th
centuries. Rapidly expanding export market works as stimulant to growth. In early
19th century, developed nations were relatively in a sound position because of stable
political structure and flexible social institutional. This enabled such countries
borrowing capacity, which in turn influenced international trade. This capital
accumulation stimulated exportable production. As against this scenario today, less
developed countries face formidable challenge in generating rapid economic growth
on the basis of international trade. Their terms of trade as against the then developed
nation’s terms of trade, have declined steadily amounting to reduction in export
capacity. It is also found that in certain products, were LDC’s are in a sound position

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by lowering cost of production , the developed nations have played unfair attitude by
way of entering into tariff and non – tariff etc.
BASIC SCIENTIFIC – TECHNOLOGICAL RESEARCH AND DEVELOPMENT
CAPABILITIES
It is but the fact, that scientific and technological research plays crucial role in
augmenting and diversifying growth process of the economy. History says that the
developed economies were having the sound position at the initiation in growth by
way of relatively better economic position and also in terms of skilled human
resources. Their position in this respect seemed to be much stronger as against the
position of less developed countries at the initiation in this respect. This gap has
obviously influenced the rate and nature of progress of currently developing
countries. Third world nations are in general, at much disadvantageous situation,
which restricts the growth process and affects the speed of the progress.
STABILITY AND FLEXIBILITY OF POLITICAL AND SOCIAL INSTITUTIONS
Looking at the initial condition of developed nations and third world nations,
important difference is found in the nature of political and social institutions. The
most important difference to note is that currently developed nations were having
political freedom and consolidations much before they entered into the growth
process – while third world nations are relatively late free countries in respect of
political freedom. Because of late freedom the process of consolidation, the form of
political maturity is yet to be gained which slows the progress. Socially and
culturally too, developed nations have obtained homogeneity within and between
them. This element is also less present in case of less developed countries. Their
limitations in this regard has restricted the horizon , outlook towards material
progress, influence of rationality in the decision making updating in work ethics –
which have in combined affected the growth process of Third World Nations.

1.4 SUMMARY
From the above discussion, it can be stated that there had been vast
differentiation found at the initial period of growth between developed Western
nation and developing Asian nations. The most important difference is the gap
between the globes especially, existed and which prevails even today in respect of
required technological, social and institutional changes. Such transformations should
be taken into consideration within the Nation at micro level and between the Nations

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at macro level. This leads to the emerging demand for ‘New International Economic
Order’ for the Third World Nations.
We find much discussion in depth on the concept of stages of economic growth
during the 1950’s and early 1960’s. This concept largely manifested a series of
successive stages through which all countries must pass. This mainly focused on the
theory of development which insisted for the right quantity and an appropriate mix
of saving, investment and foreign aid necessary for the Third World Nations to
enable them for rapid development – the process through which developed countries
in the recent past have undergone. It calls for the development synonymous with
rapid – aggregate economic growth.

References:-
¾ A.N.Agrawal, “Indian Economy, Problems Of Development And Planning”
¾ Dr. K.S.Chavda, “Changes In Level And Pattern Of Economic Growth In
Gujarat”, unpublished thesis; Saurashtra University-2006
¾ Economic and Political Weekly, August 26, Sept 2, 2001
¾ K.P.M Sundaram and R. Datt, “Indian Economy”, Himalaya Publishing 2003
¾ Malcolin Gills, Dwight H. Perkins, Michel Roemer, Donald R. Snodgrass,
“Economics of Development” W.W.Nothland Co. New York, London, 1983
pages 46, 49, 50, 54, 56, 63
¾ Meir & Baldwin, “Economic Development History and Policy”. Pg 112
¾ Michael P. Todaro, “Economic Development in The Third World”. Orient
Longman Limited – 4th edition, page 114 to 125
¾ Misra and Puri, “Indian Economy” Himalaya Publishing 2003 -
¾ M.L.Jhingan , “The Economics Of Development And Planning”
¾ P.K. Dhar, “Indian Economy Its Growing Dimensions”. Kalyani Publishers –
Delhi, 13th enlarged edition 2005
¾ Ravindra Dholakia, “Liberalization In Gujarat Review Of Recent
Experience”
¾ Rugnar Nurske, “Problems Of Capital Formation In Underdeveloped
Countries” (New York - Oxford University Press, 1953)
¾ Socio - Economic Review 2000-2001, 2001-2002 Bureau Of Economics And
Statistics, Gujarat State, Gandhinagar
¾ Sudershan Iyenger, “Level And Patterns Of Economic Growth In Gujarat
1980-94” GIDR, Ahmedabad

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