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Q1: Is growth Good for the poor? :1
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InputDate: 1/6/2007

Reference: Dollar, David and Aart KraayGrowth. 2001. Growth Is Good for the Poor, Development research Group, The World Bank
A: Average incomes of the poorest fifth of society rise proportionately with average incomes. This is a consequence of the strong empirical regularity that the share of income accruing to the bottom quintile does not vary systematically with average income.
Poorest quintile's income rise proportionately with growth
In this paper we document this empirical regularity in a large sample of 92 countries spanning the past four decades, and show that it holds across regions, time periods, income levels, and growth rates.

Some determinant of growth also contribute to the income of the poorest
We next ask whether the factors that explain cross-country differences in growth rates of average incomes have differential effects on the poorest fifth of society. We find that several determinants of growth -- such as good rule of law, openness to international trade, and developed financial markets -- have little systematic effect on the share of income that accrues to the bottom quintile. Consequently these factors benefit the poorest fifth of society as much as everyone else. There is some weak evidence that stabilization from high inflation as well as reductions in the overall size of government not only raise growth but also increase the income share of the poorest fifth in society.
No factors disproportionately benefit the poorest
Finally we examine several factors commonly thought to disproportionately benefit the poorest in society, but find little evidence of their effects. The absence of robust findings emphasizes that we know relatively little about the broad forces that account for the cross-country and intertemporal variation in the share of income accruing to the poorest fifth of society.

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Q2: What are the sources of growth? :1.1
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InputDate: 1/6/2007

Reference: Rodrik, Dani. 2002. Institutions, Integration and Geography - In Search of the Deep Determinants of Economic Growth. papers were produced for a conference in April 2001, hosted by Dani Rodrik.
A: The total output of an economy is a function of its resource endowments (labor, physical capital, human capital) and the productivity with which these endowments are deployed to produce a flow of goods and services (GDP). We can express this relationship in the form of an economy-wide production function, with a representing total factor productivity. Note that a captures not only the technical efficiency level of the economy, but also the allocative efficiency with which resource endowments are distributed across economic activities. The growth of per-capita output can in turn be expressed in terms of three proximate determinants: (a) physical capital deepening; (b) human capital accumulation; and (c) productivity growth.
Growth Accounting: interpretation should be careful
Conceptually, this is a straightforward decomposition, and it has given rise to a large literature on sources-of-growth accounting. But one has to be careful in interpreting such decompositions because accumulation and productivity growth are themselves endogenous. This prevents us from giving the sources-of-growth equation any structural interpretation.

Deeper determinants of the factor accumulation and productivity growth
it is best to think of accumulation and productivity change as proximate determinants of growth at best. While there is no shortage of candidates, I find a three-fold taxonomy useful:
1. geography;
2. integration (trade); and
3. institutions.
Geography.
Geography plays a direct and obvious role in determining income because natural resource endowments are shaped in large part by it. The quality of natural resources depends on geography. Commodities such as oil, diamonds, and copper are marketable resources that can be an important source of income. Soil quality and rainfall determine the productivity of land. Geography and climate determine the public-health environment (the inhabitants?Eproclivity to debilitating diseases such as malaria), and shape the quantity and quality of human capital.
Geography also influences growth via the other two factors. Geography is an important determinant of the extent to which a country can become integrated with world markets, regardless of the countryfs own trade policies. A distant, landlocked country faces greater costs of integration. Similarly, geography shapes institutions in a number of ways. The historical experience with colonialism has been a key factor in the institutional development (or lack thereof) of todayfs developing countries, and colonialism itself was driven in part by geopolitical considerations?consider the scramble for Africa during the 1880s.

Trade.
The significance of integration in the world economy as a driver of economic growth has been a persistent theme in the literatures on economic history and development economics. An influential article by Jeffrey Sachs and Andrew Warner (1995) went so far as to argue that countries that are open to trade (by the authors?Edefinition) experience unconditional convergence to the income levels of the rich countries. Leading international policy makers from the World Bank, IMF, WTO, and OECD frequently make the case that integration into the world economy is the surest way to prosperity. The traditional theory of trade does not support such extravagant claims, as it yields relatively small income gains that do not translate into persistently higher growth. However, it is possible to tweak endogenous growth models to generate large dynamic benefits from trade openness, provided technological externalities and learning effects go in the right direction. Capital flows can enhance the benefits further, as long as they go from rich countries to poor countries and come with externalities on the management and technology fronts.

Institutions.
Institutions have received increasing attention in the growth literature as it has become clear that property rights, appropriate regulatory structures, the quality and independence of the judiciary, and bureaucratic capacity could not be taken for granted in many settings and that they were of utmost importance to initiating and sustaining economic growth. The profession's priors have moved from an implicit assumption that these institutions would arise endogenously and effortlessly as a by-product of economic growth to the view that they are essential pre-conditions and determinants of growth (North and Thomas 1973).

Reference:
North, Douglass C., and R. Thomas, The Rise of the Western World: A New Economic History, Cambridge University Press, Cambridge, 1973.

Sachs, Jeffrey, and Andrew Warner, gEconomic Reform and the Process of Global Integration,?EBrookings Papers on Economic Activity, 1995:1, 1-118.

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Q3: Is Poverty reduced in the recent decades? :1.1
FAQID:1022

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InputDate: 8/19/2007

Reference: World Bank Website on Poverty, as of 19/08/2007
A: About 1 billion people - one fifth of the world's population - live on less than $1 a day. Poverty incidence has decreased from 29 percent of global population in 1990 to 18 percent in 2004.
Reducing extreme poverty by 50% by 2015 will be achieved
At current trends, the poverty Millennium Development Goal (MDG) of reducing extreme poverty by 50 percent from its 1990 level by 2015 will be achieved. At the global level, 12 percent of the population in developing countries will live on $1 a day or less in 2015.

East Asia will perform best,
The decline in poverty is highly uneven across regions. In East Asia and the Pacific, by 2015 the percentage of people living on $1 a day will drop to less than 3 percent. However a still significant 15 percent share will be below the $2 a day poverty line indicator.
Sub-Saharan Africe will not achieve the target of MDG
At the other extreme is Sub-Saharan Africa, which is projected to have a $1 a day poverty rate of 36 percent in 2015. While this represents a drop from the 41 percent level of 2004, it is still well above the target of 23 percent which is needed to meet the poverty MDG.

We need more effort in aid
Developing and developed countries need to anchor efforts to achieve the MDGs in country-led development strategies, improve the environment for growth, scale-up human development and infrastructure provision and increase aid and its effectiveness.

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Q4: Why has Africa suffered the Growth Tragedy? :1.3
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InputDate: 1/6/2007

Reference: Easterly, Wiliam R. and Ross Levine. 1997. Africa's Growth Tragedy: Policies and Ethnic Divisions. Published in Quarterly Journal of Economics v112, n4: 1203-50
A: Explaining cross-country differences in growth rates requires not only an understanding of the link between growth and public policies, but also an understanding of why countries choose different public policies.
Ethnic diversity helps explain policy differences
This paper shows that ethnic diversity helps explain cross-country differences in public policies, political stability, and other economic indicators. In the case of Sub-Saharan Africa, economic growth is associated with low schooling, political instability, underdeveloped financial systems, distorted foreign exchange markets, high government deficits, and insufficient infrastructure. Africa's high ethnic fragmentation explains a significant part of most of these characteristics.

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Q5: Why has East Asian Miracle happened? :1.4
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InputDate: 1/6/2007

Reference: World Bank. 1993. The East Asian Miracle: Economic Growth and Public Policy. Oxford University Press , World Bank. Reprinted in Leading Issues in Economic Development. Gerald Meier and James Rauch
A: The report examines the public policies of 8 high-performing Asian economies (HPAEs) from 1965 to 1990. It seeks to uncover the role those policies played in the dramatic economic growth, improved human welfare, and more equitable income distribution in Hong Kong, Indonesia, Japan, Malaysia, the Republic of Korea, Singapore, Taiwan (China), and Thailand.
HPAEs stabilized their economies with sound development policies that led to fast growth.
They were committed to sharing the new prosperity by making income distribution more equitable. Their public policies promoted rapid capital accumulation by making banks more reliable and encouraging high levels of domestic savings.

Universal primary education is enphasized
They increased the skilled labor force by providing universal primary schooling and better primary and secondary education. Agricultural policies supported productivity, while requiring only modest taxes.
Cooperation between governments and private enterprises
HPAEs kept price distortions in check and welcomed new technology and FDI. Legal and regulatory structures created a positive business environment. Cooperation between governments and private enterprises was fostered. Beyond the fundamentals of accepted macroeconomic management, HPAEs adopted policies at variance with the notion of the "level playing field" of open-market free enterprise. HPAEs targeted key industries for rapid development. In key areas, resource allocation was strictly managed.

Manufactured exports was promoted by government
Trade in manufactured exports was promoted by government-established marketing institutions. Analysts disagree about the effectiveness of such interventions, but agree that without the foundation of macroeconomic stability and development of human and physical capital, the expansion would not have been so dramatic and sustainable.

Macroeconomic stability
This report reviews the basic development policies of HPAEs that created macroeconomic stability. It explains why most countries should not use government interventions in today's changing global economy.

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Q6: Is Savings and Investment the engine of growth? :2
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InputDate: 1/6/2007

Reference: Meier, Gerald M. and James E. Raich. "leading Issues in Economic Devlopment" seventh edition, Overview: Savings- The Engine fo Growth?
A: Few doubt that investment in physical and human capital, financed primarily by doestic savings, is crucial to the process of economic development. We are therefore not surprised to see the strong cross-country associations between rapid per capita income growth and high rates of fixed investment and school enrollment. The importance of domestic savings follows from the well-known strong cross-country correlation between the savings and investment shares of GDP (Feldstein and Horioka 1980)
Controversy on the role of saving
Whether or not savings and investment play a leading role in development, serving as "the engine of growth" has on the other hand been a source of controversy since the early days of development economics. The controversy centered onthe role of saving to finance investment in physical capital.

Lewis's view
W. Arthur Lewis (1954, p.155) wrote, "The central problem in the theory of economic development is to understand the process by which a community which was previously saving and investing 4 or 5 percent of ots national income or less, converts itself into an economy where voluntary saving is running at about 12 to 15 percent of national income or more."
Investment creates savings
Albert Hirschman (1958) took the oposite position, arguing that if opportunities for profitable projects were there, the requisite investable funds would be forthcoming.Savings could not create such opportunities, and would be wasted in their absence. For example in the article entitled "Vice of Thrift," the economist (1998) states, "it has become clear that the surge in investment in East Asia in the 1990s was a sign of weakness, nor strength. Much of the money was wasted on speculative property deals or unprofitable industrial projects."

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Q7: What are the roles of Investment and Saving in economic growth? :2.1
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InputDate: 1/6/2007

Reference: Hayami, Yujiro. Development Economics, From the Poverty to the Wealth of Nations, Second Edition, Oxford University Press
A: High positive coleration between the growth rates of per capita GNP and per capita investment (see Statistics). Indeed their corelation coefficient is as high as 0.9.
Causalities work both ways
However, it cannot be concluded from this corelation that growth ininvestment is a major determinant of GNP growth. There is a little doubt that a causal relationship works for investment growth to contribute positively to GNP growth. At the same time, however, a reverse causality of high-income growth that results in high investment is likely to operate, since expected return to investment are usualy so high in high-growing economies that much of the incremental income above the 'permanent income' in the Friedman sense would turn into saving.

two-way causality produces vicious and vituous circle
These two-way causal relationaships have reinforced each other to create a virtuous circle in Asia, while they seem to have a vicious circle in Africa. Indeed, the hypothesis that a high rate of income growth promotes the rate of saving is supported by the ratios of gross domestic savings to GDP compared with the percapita GNP growth rates.
Growth pessimism for low-income countries
A conventional view is that the saving rate increases according to increases in per capita income. This view has underline development economists' pessimism of low-income economiesescaping from the low-equilibrium trap characterized by poverty and stagnation. however, the saving rates in East Asian economies were not only higher than those in low-income economies in South Asia and Africa, but were also higher than those in the middle-income economies in Latin America and even higher than those in OECD members.

Asian economies enjoyed higher saving rates than higher income countries
Moreover, the rates of growth in savings from 1965 to 1995 were also distinctly higher in East Asia than in other regions. These findings seem to suggest that even very poor economies such as those in Sub-Saharan Africa, will be able to invest sufficiently large domestic savings to acieve high economic growth once these economies are set on the track of high growth.

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Q8: What is the implication of Harrod-Domar model on the cause of growth? :2.2
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InputDate: 1/6/2007

Reference: Hayami, Yujiro, 2000. Development Economics, From Poverty to the Wealth of nations, Second Edition. Oxford Press p129-30
A: In the 1940's Roy Harrod (1948) and Evsey Domar (1946) separately developed a macro-dynamic model through an extension of Keyns's theory. The model's original intent was to identify the source of instability in the growth of developed economies where effective denand is normally exceeded by supply capacity. In the 1950's and 1960's this model was applied to economic planning in developed economies.
Basic Equation
The basic equation in the Harrod-Domar model is very simple, as expressed by:

g=s/c (1)

where g is the growth rate of national income Y, s=S/Y is the ratio of saving S to income, c is marginal capital-output ratio (or capital coefficient) which measures additional investment required to produce one additional unit of national income. In the model c is assumed to be a technologically given constant and, therefore, equale to average capital-output ratio (K/Y). It can easily verified that equation (1) holds under the assumption of Keysian equilibrium between saving (S) and Investment (I=S).

What is the implication?
Under the assumption of constant c, g increases proportionally with s. Because s is considered to increase proportionally with income per capita, s is bound to be low and, hence, g will be low in low-income economies if savings and investment are left to private decision in the free market. The model implies, therefore, that the promotion of investment by government planning and command is needed to accelerateeconomic growth in low-income economies. Infact, the Harrod-Domar model provided a framework for economic planning in developing economies, such as India's Five Year Plan.
Reference:
Harrod, R. F. 1948. Toward a Dynamic Economics: Some Recent Developments of Economic Theory and Their Application to Policy (London: Macmillan)

Domar, E. 1946. Capital Expansion, Rate of Growth, and Employment. Econometrica, 14 (Apr.): 137-47

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Q9: Why did Harrod-Domar model influenced the development aid? :2.3
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InputDate: 1/6/2007

Reference: Easterley, William. 2001. The Elusive Quest for Growth, Economists Adventures and Misadventures in the Tropics. The MIT Press.
A: The idea that aid-financed investment in dams, roads, and machines would yied growth goes back a long way. In April 1946, economics professor Evsey Domar published an article on economic growth, "Capital Expansion, Rate of Growth, and Employment," which discuss the relationship between short-term recessionns and investment in the United States.
Domar disavowed his model to be applied for long-run growth
Although Domar assumed that productioncapacity was propotional to the stock of machinary, he admitted the assumption was unrealistic and eleven years later, in 1957, complaining of an "ever-guilty conscience." he disavowed the theory. He said his earlier purpose was to comment on an esoteric debate on business cycles, not to derive an "empirically meaningful rate of growth." He said his theory made no sense for long-run growth, and instead he endorsed the new growth theory of Robert Solow.

it was ironic that domar's growth model became, and continued to be today, the most widely applied growth model
To sum up, Domar's model was not intend as a growth model, made no sense as a growth model, and was repudiated as a growth model over forty years ago by its creator. So it was ironic that domar's growth model became, and continued to be today, the most widely applied growth model in economic history.
Domar models was used for rationalize Finacial Gap approach
How did Domar's growth model survive its supposed demise in the 1950s? We economists applied (and still do) to poor countries from Albania to Zimbabwe to determinea "required" investment rate for a target growth rate. The difference between the required investment and the country's own savings is called the "financial gap". Private financing is assumed to be unavailable to fill the gap, so donors fill the financial gap with foreign aid to attain target growth. This is a model that promised poor countries growth right away through aid-financed investment. It was aid to investment to growth.

Model proved to befailing as more data became available
With the benefit of hindsight, the use od Domar's model for determining aid requirements and growth projections ws (and still is) a big mistake. But let's not be too unkind to the proponents of the model (Iwas one, earlier in my career), who did not have the benefit of hindsight. The experiences we observed at the time of the model's heyday seemed to support a rigid link from aid to investment to growth. It was only as more data became available that the model's failings became ghastly apparent.

Domar assumed that output (GDP) is propotional to machines
Domar's approach to growth became popular because it had a wonderfully simple prediction: GDP growth will be proportional to the share of investment spending in GDP. , so the change in output will be proportional to the change in machines, that is, klast year's investment. Divide both sides by last year's output. So GDP growth this year is just proportional to last yea's investment/GDP ratio.

How did Domar get the idea that production was proportional to machines? Did not labor play some role in production? Domar was writing in the aftermath of the Great Depression, in which many people running the machines lost jobs. Domar and many other econmists expected a repeat of the depresion after World War II unless the government did something to avoid it. Domar took high unemployment as a given, so there were always people available to run any additional machines that were built. DOmar's theory became known as the Harrod-Domar model. (A British economist named Roy Harrod had published in 1939. Clearly Domar's interest was the short-run business cylale in rich countries. So how did Domar's fixed ratio of production to machines make it into the analysis of poor countries' growth?

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Q10: What was the implications of Solow's growth theory? :2.4
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InputDate: 1/6/2007

Reference: Easterley, William. 2001. The Elusive Quest for Growth, Economists Adventures and Misadventures in the Tropics. The MIT Press.
A: Nobel laureate Robert Solow published his theory of growth in a couple of articles in 1956 and 1957. His conclusion surprised many, and still surprises many today: investment in machinary cannot be a source of growth in the long run. Solow argued that the only possible source of growth in the long run is technological change.Slow in the 1957 article calculated that technological change accounted for seventh-eighths of US growth per worker over the first half of the twenties century.
Capital fundamentalists
Economists call the belief that increasing building and machinary is the fundamental determinant of growth capital fundamentalism. Whether capital fundamentalism hold is fiercely debated in the academic literature on growth; we will see that capital fundamentalism is incompatible with i"people respond to incentive."

Diminishing returns prevents sustained growth per worker
Surprising implication of Solow's view was that saving will notsustain growth. The saving diverts money from consumpltion today toward buying machinary for the production tomorrow, but this does not raise the long-term rate of growth. So high-saving economies would achieve no higher sustained growth than low-saving economy would. Growth in both cases would drop to zero as the unavoidable diminishing returns to increasing machines set in. The high saving economy would have higher income than the low-saving economy, but neither would be able to sustain growth.
Capital contribution to the producyion of GDP is one-third
How severe these diminishing returns are going to be depends on how important capital is in production. A lot of the debate about capital fundamentalism will turn on how important capital is as an ingredient to production. The reason that Solow's diminishing return to investment has particular fury was that building and machinary are a surprisingly minor ingredient in total GDP. We can get a measure of the importance of capital in the US by calculatingthe share of capital income in total income. Capital income means all the income that accrues to the direct and indirect owners of the buildings and machines: corporate profits, stockdividends, and interest income on loans. Slow estimated capital income to be about one-third of total income today. The other two-thirds of income is wage income, that is, income to workers.

How to explain the sustained growth in industrial countries?
Here was Solow's surprise: the simple logic of production suggested that growth of output per worker could not be sustained. Yet the US and many other industrial economies had already sustained economic growth of 2 percent per worker for two centuries. How did we observe sustained growth of output per worker when such sustained growth is not logically possible?

Reference:
Solow, Robert M. 1957. The Technical Change and the Aggregate Production Function. Review of Economics and Statistics 39:312-320

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Q11: What is Growth Accounting? What is Total Factor Productivity? :2.5
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InputDate: 1/6/2007

Reference: Hayami, Yujiro. Development Economics, From the Poverty to the Wealth of Nations, Second Edition, Oxford University Press. p140-142
A: Growth accounting assumes an aggregate production function relating an economy's output to the inputs of labor and capital. Using this production function, contribution of increase inputs tooutput growth are measured, and any residual not explained by input increases is considered a measure of growtth in the productivity of factor inputs. This residual, called growth in 'total factor productivity' (abbreviated as TFP), is a measure of technological progress broadly defined as output growth when input are being held constant.
Simple production function
The simplest and most commomly used equation for growth accounting can be derives from an aggregate prodiction function of the following form:

Y=AF(L,K) (1)

where national product (Y) is produced from labour (L) and capital (K). (this specification assumes neutral technological change in Hick's definition)

Growth rate of income will be the sum of labor and capital contribution plus technological change
In addition, another simplifying assumption of linear homogeneity or constant return to scale is adopted. Then, taking total derivatives of equation (1) with respect to time (t) and dividing all term by Y yields:

G(Y)=G(A)+aG(L)+bG(K) (2)

where G() represents the growth rate of any variable specified inside the parentheses, and a and b are production elasticities of labor and capital respectively, which are expressed by

a=(dY/dL)/(Y/L) and b=(dY/dK)/(Y/K) which present percentage increase in output relative to 1 percent increase in labor and capital respectively. Under the assumption of linear homogeneity, the sum of elasticities is equal to one (a+b=1).

Estimating TFP growth
Since G(L) and G(K) are the growth rate of labor and capital, multiplying them by a and b estimates the contributions of increases in L and K to growth in Y. If time series data are available for Y, L, and K, the growth rate of TFP represented by D(A) can be calculated by subtracting measured aG(L) and BG(K) from the measured G(Y) according to the relation of equation (2).

a and b can be estimated as labor and capital share in totla income
Statistical estimation of production elasticities from input-outpu data are possible but subject to major technical difficulties. A widely used convention is to regard the income shares of labor and capital as equivalent with a and b under the assumption of competitive equilibrium in factor markets. Under this assumption wage rate (w) and the profit rate (r) should be equal to marginal productivity of labor and capital; dY/dL and dY/dK, Therefore,

a=(dY/dL)/(Y/L)=wL/Y
b=(dY/dK)/(Y/K)=rK/Y

These wL/Y and rK/Y represents labor and capital share in the totla income Y. a=

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Q12: What are the empirical evidence of the impact of Investment on growth? :2.5
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InputDate: 1/6/2007

Reference: Blomstrom, Magnus, Robert E. Lipsey, and Mario Zejan. Is Fixed Investment the Key to Economic Growth? Quarterly Journal of Economics 111 (February 1996): 269-273. Reprinted in Leading Issues in Economic Development. by Gerald Meier and James Rauch.
A: The strong relationship between fixed capital formation share of GDP and growth rates since World War II has led many writers, such as De Long and Summers [1991, 1992], to conclude that the rate of capital formation in the form of equipment, determines the rate of a country's economic growth.
Causality may be reverse
Yet, the strong association between fixed investment or equipment investment and growth, particularly over spans of fifteen to twenty years, does not prove causality. The effects may very well run from growth to capital formation, so that rapid growth leads to high rate of capital formation. An earlier study by Lipsey and Kravis [1987] found that for five-year periods within the longer spans, the rate of growth was more closely related to capital formation rates in suceeding periods than to contemporary or preceding periods. That result suggested that the observed long-term relationships were due more to the effect of capital formations on growth.

No evidence that capital formation preceeds growth
Using more formal methods of studying the direction of causation, informal and formal tests using only fixed investment ratios as independent variables give evidence that economic growth preceeds capital formation, but no evidence that capital formation preceeds growth. Thus, the causality seems to run in only one direction, from economic growth to capital formation.
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Q13: Does Investment produce higher Growth? :2.7
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InputDate: 1/6/2007

Reference: Easterley, William. 2001. The Elusive Quest for Growth, Economists Adventures and Misadventures in the Tropics. The MIT Press. p39
A: The second link in the financial gap approach is the link from investment to growth. Does investment have a quick growth payoff, as the financial gap model assumed?
No statistical corelations with investment and growth in next period
I started assuming the same short-run investment-growth relationship across all countries. I tries using four-year averages to assess the growth-investment relationship. The results with four year averages do not bode well for the financing gap approach: there is no statistical association between growth in one four-year period and investment in the previous four-year period.

Country-by-country tests: only four country pass the tests
Let's now allow the investment-growth relationaship to vary across countries by examining the link from investment to growth individually for each country. We have 138 countries with at least ten observations on growth and investment. Again there are two tests of the investment-to-growth link. First, countries should display a positive statistical association between growth and last year's investment. Socond, the investment-growth relationship should be in the "usual" range to give reasonable "financial gaps." The four economies that pass both tests are unusual assortment: Isreal, Liberia, Reuion (a tiny French colony) and Tunisia.
Only Tunisia satisfies the tests of two links.
Remembering the few countries where the aid-to-investment link worked as expected, I can now say that the financial gap approach fits one country: Tunisia. Before Tunisians throw a national celebration, I should point out that 1 success out of 138 countries is likely to have occurred by chance even if the model made no sense, which so far the evidence say it doesn't.

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Q14: What was the effectiveness of the Financial Gap approach? :2.8
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InputDate: 1/6/2007

Reference: Easterley, William. 2001. The Elusive Quest for Growth, Economists Adventures and Misadventures in the Tropics. The MIT Press. p37-38
A: When we financing gap user calculatedaid requirements as the excess of "required" investment over actual saving, our presumption was that aid would go one for one into investment. Moreover, aid givers talked about conditions that would require countries to increase their rate of national saving at the same time, which some like Rostow thought would even happen naturally. So aid conbined with savings conditions should increase investment by even more than one for one. Let's see what actually happened.
Only seventeen of eighty-eight countries show a positive statistical association between aid and investment
We have eighty-eight countries on which data are available apnning the peeriod 1965 to 1995. The aid to investment link has to pass two tests for us to take it seriously. First, there should be a positive statistical association between aid and investment. Second, aid should pass into investment at least one for one: an additional 1percent of GDP in aid should cause an increase of 1percent of GDP in investment. How did the aid to investment do on these tests? On the first test, only seventeen of eighty-eight countries show a positive statistical association between aid and investment.

Only six countries passed the two tests
Just six of these seventeen countries also passed the test of investment increased at least one for one with aid. The magic six include two economies with trivial amounts of aid: Hong Kong (which got an average of 0.07 percent of GDP)and China (average of 0.2 percent of GDP). The other four - Tunigia, Morocco, Malta, and Sri Lanka - did have nontrivial amount of aid, The other eighty-two countries fail the two tests.
1994 study found no relationship between aid and investment
These county-by-county results are reminiscent of the results of a 1994 study that found no relationship between aid and investment across countries. Unlike this study, I do not intend here to make a general statement about whether foreign aid is effective. There are many problems in doing such an evaluation, most of all the possibility that both aid and investment could be responding to some third factor. It could be that in any given country there was bad luck like a drought that caused investment to fall and aid to increase. I am only asking whether investment and aid jointly evolved the way that the user of the financial gap model expected. We financial gap advocates anticipated that aid would go into investment, not into tiding countries over droughts. According to my results, investment and aid did not evolve the way we expected.

The recipient country may use aid to buy consumption goods
The financial gap approach failed badly as a panacea because it violated this book's official motto: People respond to incentives. Think of the incentives facing the recipents of foreign aid. They invest in the fututre when they get a high return to their investments. They do not invest in the future when they donot get a high return to their investments. THere is no reason to think that aid given just because the recipient is poor changes the incentives to invest in the future. Aid wil not cause its recipient to increase their investment; they will use aid to buy more consumption goods. This is exactly what we found when we checked the aid-investment relationship: on balance there is no relationship.

Encourage savings so that aid can link to investment
Aid could have promoted investment instead of all going into consumption. As many aid advocates suggested, aid should have been made conditional on matching increases in a country's savings rate. That would have given the governments in poor countries incentives to increase their own savings and to promote private savings. The latter can be done by a combination of tax breaks for income that is devoted to saving and tax on consumption. The increase in saving would have kept the aid recipients out of debt troubles and would have promoted as increase in investment. Haing aid increase with country saving is the opposite of the current system, where a country with lower saving has a higher financial gap and so gets more aid.

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Q15: What are the roles of Infrastructure for growth? :4
FAQID:807

: global,

InputDate: 1/6/2007

Reference: Devarajan, Shantayanan and Christine Kessides. 2002. Infrastructure and Growth: A Multicountry Panel Study, World Bank
A: The purpose of this study was to produce estimates of the effects of major kinds of physical infrastructure on GDP per capita growth and multifactor productivity. The study modeled five kinds of infrastructure separately, in a standard growth framework with total capital, human capital, and geographic variables as additional candidates for explaining growth. The estimates were produced in a full panel (152 countries) of annual data (1950?E5) and with a new multicountry database of infrastructure stocks.
Infrastructure stock matters for percapita income growth
The study found that among the explanations of a country's infrastructure stocks, population size and per capita income are important, but so are area and degree of urbanization. These signal the degree of density, which affects the per capita cost of supplying roads, electricity, and telecommunications.

Causality runs in both ways
On the crucial question of causation - Does infrastructure cause growth or vice versa? - The study concluded (on Granger tests and helped by cointegration in the series of infrastructure stocks and per capita income) that causality between income levels and infrastructure stocks runs in both directions, but that the long-run effect is from infrastructure to income.
Electricity generation and paved road produce equal or higher productivity gain as general capital
Measuring the long-run productivity of infrastructure capital relative to capital in general across the entire sample, the study found electricity generating capacity to have productivity about equal to that of capital in general. It found the same for transport routes (paved roads and railway track) in lower-income countries. Assuming that no infrastructure will be laid down that is not as productive as capital in general, there is no evidence in these cases, on average, of externalities associated with these kinds of infrastructure. In higher-income countries, however, transport routes have a greater impact on GDP per worker than does capital in general. Telephones also have a large impact on output, but the effect is so large as to strain credibility, at least as a supply effect; it probably reflects the chronic excess demand for telephones in many developing countries and to that extent is demand determined.

But subject to rapid diminishing returns
Estimating a translog function, the study found that electricity capacity and paved roads are each subject to rapidly diminishing returns. Building much of such infrastructure on the chance of demand is therefore risky. It also found that electricity capacity and paved roads are complements to both physical and human capital. This signifies that the effectiveness of each increases with stocks of general capital and therefore (with everything measured in per worker terms) with capital deepening across the economy, that is, with industrialization.

Rate of return of electricity is higher in low income countries
Across the entire sample, the study found much heterogeneity in the rates of return to paved roads and electricity capacity relative to that to capital in general. In a number of cases infrastructure has the lower rate. Disaggregating by per capita income, however, the study found that middle-income developing countries show rates of return to paved roads well above those to capital in general, indicating undersupply and, possibly, pronounced externalities to paved roads associated with middle income. For electricity capacity, however, the highest relative rates were found in the low-income group, while the return in the middle-income group is close to that to capital in general.

Reference:
Canning, David, and Esra Bennathan. 2000. "The Social Rate of Return on Infrastructure Investments." Policy Research Working Paper 2390. World Bank, Development Research Group, Washington, D.C.

Canning, David. 1999. "Infrastructurefs Contribution to Aggregate Output." Policy Research Working Paper 2246. World Bank, Development Research Group, Washington, D.C.

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