The determinants of economic growth - a case study of Six Southeast Asian countries.pdf

UNIVERSITY OF ECONOMICS ISS-INSTITUTE OF SOCIAL STUDIES
HO CHI MINH CITY THE HAGUE
VIETNAM THE NETHERLANDS
VIETNAM-NETHERLANDS PROGRAMME FOR MASTER’S DEGREE
IN DEVELOPMENT ECONOMICS
THE DETERMINANTS OF ECONOMIC GROWTH: A CASE
STUDY OF SIX SOUTHEAST ASIAN COUNTRIES
SUPERVISOR : DR. NGUYỄN MINH ĐỨC
PRESENTED BY: NGUYỄN KIỀU GIANG
MDE-K16
HO CHI MINH CITY, DECEMBER 2012

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ACKNOWLEDGMENT
I’ve experienced the great time in this course with acquire academic knowledge,
open-mind to approach new things, and be straightforward to express ideas. I’ve
guided by open-mind lecturers who always encourage us to express our opinions and
discuss it. This is really quality and extensive course. We’re encouraged to be
ourselves and be self-confident to discuss ideas, it’s really meaningful thing.
Sincerely, I would like to take this opportunity to express my honest thanks to the
Vietnam-Netherlands Master Program for Economics of Development for the
interesting and extensive curriculum, as well as sincere thanks to all of people who
engage in this course such as management board of this program, lecturers, tutors.
To fulfill this course, I’ve received the help and support from many people such as
director and vice director of this program, lecturers, tutors, my supervisor,
classmates, friends, course administrators, librarians of MDE & Fulbright, and other
people who give me the instructions, comments, advices, supports, sympathies, and
encouragement during the course process. Without these things, I could not fulfill
the Thesis and finish the course.
First of all, I would like to express my gratitude to my supervisor – Dr. Nguyen
Minh Duc, who always remind me to finish the Thesis timely and make me
determine to finish the Thesis with high effort, very patient and sympathy with me
for delaying the time of submitting Thesis, spent his valuable time to help me, give
comments and correct the Thesis mistake by mistake. From bottom of my heart, I
sincerely thank him for all.
I would like to express my special thank to Dr Nguyen Trong Hoai - Director of the
Program, Vice Principal of UEH. He fosters us to study and finish the course
actively and efficiently, take care of us step by step. And special thanks to Dr Pham
Khanh Nam steps with us to overcome obstacles in thesis process honestly, give us
the valuable advices and encouragement to finish the thesis.

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Thanks to TRD board defense give me valuable comments and advices to continue
this topic. Thanks to Dr Phan Minh Ngoc supplies me materials at my TRD time.
Thanks to Dr Le Dinh Truc gives me valuable comments and advice on panel
technique in Eview. And thanks to tutor Phung Thanh Binh for helping us honestly
in the course.
Thanks to all classmates in MDE-K16, all of you support me unconditionally with
discussions, talks, shared materials, team working playing, and other. Thanks to
friends Thu Huyen and Thanh Tien, your sharing materials are very useful for me.
Hope all of you fulfill this course and get success in your life.
Lastly, I would like to thank to my dear family, warm friends that supports and
sympathies with me for spending most time on studying this course.
Thanks all for all, hope you will be happy and successful in life.
I pledge to take full responsibilities for mistakes, errors, omissions and
shortcomings of the study.

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ABTRACT
This study based on the neoclassical growth theory, an extended version of this
model. As common trend, Cobb-Douglas production function is used to evaluate the
robustness of determinants of economic growth in a dataset of six Southeast Asian
countries from 1993 to 2009. The fixed effect model (FEM) is used to estimate this
model. The results indicate that the most important source of economic growth of
these countries is capital accumulation and labor.
Keywords: Economic growth, determinants, Capital, Labor, Population growth,
Government expenditure, Southeast Asian countries, Neoclassical Model, Cobb-
Douglas production function, FEM.

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TABLE OF CONTENT
CHAPTER 1: INTRODUCTION ..........................................................................1
1.1 Problem statement
1.2 Research structure
CHAPTER 2: RESEARCH OBJECTIVES & RESEARCH QUESTIONS ........5
2.1 Research objectives
2.2 Research questions
2.3 Research scope
2.4 Research contribution
CHAPTER 3: LITERATURE REVIEW................................................................7
3.1 General Overview ...................................................................................7
3.1.1 Concept and Definitions................................................................7
3.1.2 Traditional methods of examine determinants of economic growth 13
3.1.3 Measurement indicator group of development and growth ..........14
3.1.4 Overview of economic development theory ................................15
3.1.4.1 Classify theories by time ..............................................15
Classical theory
Neoclassical model
Endogenous Theory
3.1.4.2 Classify theory by four main classes.............................21
Linear stages of growth theory
Structural change theory
International dependence theory
Neoclassical counter revolution theory
3.2 Theoretical Framework .........................................................................26
3.2.1 Production function Cobb-Douglas.............................................26
3.2.2 Harrod-Domar Growth Model.....................................................28
3.2.3 Neoclassical model-Solow model ..............................................29
3.2.4 Capital Fundamentalism .............................................................30

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3.3 Empirical Review...................................................................................30
3.3.1 Development and growth of Vietnam and Southeast Asia ...........30
3.3.2 Review the empirical studies.......................................................33
CHAPTER 4: RESEARCH METHODOLOGY..................................................39
4.1 Analyzed Framework .............................................................................39
4.1.1 Model 1- Traditional neoclassical model.....................................39
4.1.2 Model 2- Extend neoclassical model...........................................40
4.1.3 FEM is selection for estimation...................................................40
4.2 Variables................................................................................................44
4.2.1 Dependent variable: GDP per capita ...........................................44
4.2.2 Independent variables .................................................................44
4.3 Data Description - Data collection – Data analysis .................................50
CHAPTER 5: DATA ANALYSIS AND DISCUSSION .......................................52
5.1 Descriptive Statistics Analysis................................................................52
5.1.1 Descriptive Statistics.......................................................................
5.1.2 Correlation Matrix ......................................................................54
5.2 Econometric Analysis ............................................................................54
5.2.1 Whether FEM or REM is more suitable ......................................54
5.2.2 Model 1 – Traditional model.......................................................58
5.2.3 Model 2 - The Extened Neoclassical Model ................................59
5.3 The limitations of data, and modeling techniques ...................................61
CHAPTER 6: CONCLUSION AND POLICY RECOMMENDATION.............63
6.1 Main findings.........................................................................................63
6.2 Managerial Implications and Policies .....................................................64
6.3 Limitations and future research ..............................................................65
REFERENCE ........................................................................................................67
APPENDICES................................................................................................. 71

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APPENDICES
A: Data of GDP, Capital, Population growth, Labor, Government expenditure... 70
B: Descriptive statistics of each country................................................................ 77
C: Correlation Matrixes of each country................................................................ 79
D: Residual Graph.................................................................................................. 81
E: Regression Results............................................................................................. 82
F: Main Empirical studies Summary .................................................................... 92
E: Regression results.............................................................................................. 81

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LIST OF TABLES
Table 3.1: Sources of Growth in East Asia, by Country and Period ..................... 37
Table 4.1 Estimated Capital-Output ratio some Asian Countries 1980................. 45
Table 4.2 Range forecast of COR for 6 countries.................................................. 46
Table 4.3 Summary of variable.............................................................................. 49
Table 5.1 Sample observations - Descriptive statistics - sample: 1993 2009.... 54
Table 5.2 Correlation on the sample observations................................................. 54
Table 5.3 Model 1 - A comparison of results with FEM ....................................... 55
Table 5.4 HAUSMAN TEST for MODEL 1......................................................... 55
Table 5.5 Model 2 - A comparison of results with FEM ....................................... 57
Table 5.6 HAUSMAN TEST for MODEL 1......................................................... 57
Table 5.7 Estimated results for FEM with tradition model (Model 1) .................. 58
Table 5.8 Estimated results for FEM with extended model (Model 2) ................. 60

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LIST OF FIGURES
Figure 3.1: Population of 1993 of countries ............................................................... 9
Figure 3.2: Population of 2009 of countries ............................................................... 9
Figure 3.3: GDP per capita of 1993 of countries ...................................................... 10
Figure 3.4: GDP per capita of 2009 of countries...................................................... 10
Figure 4.1: Conceptual Framework of the study....................................................... 39
Figure 5.1: GDP per capita of 6 countries for the period of 1993-2009................... 52
Figure 5.2: Capital per capita GDP per capita for the period of 1993-2009............. 53
Figure 6.1: An overview of determinants of economic growth of countries............ 64

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ABBREVIATIONS
COR : Capital output ratio
DCs : Developed (high-income) countries
FEM : The fixed effects method
GCF : Gross Capital Formation
GFCF : Gross fixed assets formation
GDP : Gross Domestic Product
ICOR : Incremental capital output ratio
LDCs : Less developing countries
LICs : Low-income countries
LSDV : The least-squares dummy variable
OLS : Ordinary Least Square
PCI : Province Competitiveness Index
REM : Random Effect Model

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CHAPTER 1: INTRODUCTION
1.1 Problem statement
The human kind history experienced a very long period of changing and developing
process. During a rapid development process since the century of 19th, with an
increasing growth in income and standard living, people’s welfare is improved
considerably. In second haft of the 20th century, most countries have doubled their
real income per capita when hand over from this generation to the next one. In
particular, the rise of East Asian economies so called “Miracle” opens up important
turning-point and attracts attentions of policies makers and researchers.
However, there are a lot of emerged questions such as:
(a) Why are some countries rich, and other poor? How some countries develop
very quickly and stably with their citizens enjoying rapid increases in their
average incomes, meanwhile others development are very slow or not at all?
(b) What are the determinants of economic growth and the characteristics that
distinguish fast-growing from slower-growing countries?
And as can be seen, after thousands years of very slow economic growth, the world
economy suddenly experienced an enormous change explosion, but why it did not
occur earlier; and why it occurred where it did, this country instead of that country.
Normally, developed and developing countries focus on how to foster economy in
balance between fast growth and sustainable development. As a matter of fact, it’s
very challenging question and not easy to find out the unique solution. As there’s no
a general answer for growth problems of developing countries, economists suggest
some approaches to impulse the growth process. Firstly, that is applying open
commodities markets but isolating from international capital market in order to
stabilize and increase economic independence. Secondly, developing countries can
choose industrialization way by their own policies such as indirect subsidization.
Thirdly, they can combine these policies above depending on specific conditions of
Commented [m1]: So ambitious to solve in this study; should
delete
Commented [m2]: Rewrite into one paragraph

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each nation. However, the issue here that is developing countries need to consider
which best solutions they should choose to benefit economic most.
Since 1975, when being reunified, Vietnam had applied a central planning economic
system following Soviet model program named “Doi moi” (1)
1986 to open out the
world and built a market-based economy. It began to step in a new page of history
onwards. As the result, Vietnam has achieved a high rate of economic growth to get
out the list of least developed nations. During the economic reform and growth,
capital accumulation and labor played main roles in a finding by Ngoc (2008) found
out. That contribution from other factors such as human capital and technological
progress are likely to be still limited. This statement is the same for other countries
in Southeast Asia. In order to achieve sustainable growth in coming years, some
researches (Ngoc, 2008) suggest that Vietnam should enforce their growth based on
a working productivity improvement.
Obviously, sustainable development and growth are very important for developing
countries, in particular Southeast Asia. The annual higher economic growth is
usually a good sign; however it’s not always mean this development is sustainable or
at good statement, vice versa it can be a bubble or overheating development.
However, the economic growth seems to be an important indicator for evaluating a
health of an economy. Because of importance of economic growth of a nation, my
study would like to experiment on the contribution of determinants such as capital,
labor, etc… to economic growth of Vietnam and other Southeast Asian countries
including Indonesia, Malaysia, the Philippine, Singapore, and Thailand through the
period 1993-2009. And I hope this paper can disclose a part of development picture
of Vietnam as well as Southeast Asia nations. Consequently, the suggestion for
_________________________
(1) Doi moi is the name of policy change from a central planning economic system to market economy in
Vietnam in 1986.

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implication policies can be made base on this research result. In particular, through
it, Vietnam can get the lessons for suggestions on the trend that Vietnam should
pursue for its long term stable development in coming years.
1.2 Research structure:
The content of this study is divided into 6 chapters:
Chapter I – Introduction
Chapter II – Research objectives and research questions
Chapter III – Literature review
Chapter IV – Research Methodology
Chapter V – Data analysis and discussion
Chapter VI – Conclusion and policy recommendation
The chapter I is introduction.
Chapter II determines the Research Objectives and Research Questions which this
study will carry out in next parts.
The very important content is Chapter III - Literature Review, reviews some
theoretical frameworks of economic development and growth. Throughout this
chapter will clarify the determinants for economic growth, especially capital and
labor. Moreover, this chapter review some related empirical studies which analysis
the relationship between factor accumulation, productivity growth and economic
growth.
Indispensably that is Part IV - the Research Methodology which, present the method
and procedure applied in this study to answer the Research Question.
The fifth part is Data Analysis and Discussion. It’s very important part, in which
analysis result will be presented through descriptive statistic analysis and
econometric analysis as well.

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Continuously, chapter VI concerns conclusion, from these information to point out
suggestions that will help the economic growth of Southeast Asian generally and
Vietnam specifically achieve high and stability.

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CHAPTER 2: RESEARCH OBJECTIVES AND RESEARCH
QUESTIONS
2.1 Research Objectives
The world experienced the fastest growth in the last half of the 20th century with the
“golden age” was 1950–73 when world economic growth per capita reached a
phenomenal 3 percent yearly. Specially, economic growth in developing countries
was much more rapid after World War II than ever before. This story of growth is
important as it helps determine whether societies can meet basic needs of food,
clothing, housing, health, literacy, and widen human’s choice to enable people to
control their environment, enjoy greater leisure, acquire learning, and use more
resources for aesthetics and humanistic endeavors. Therefore, as identified, the
general objective of this study has been conducted to figure out the contribution of
some main macro factors such as financial capital, labor, etc… to economic growth
of some Southeast Asian countries including Vietnam, Indonesia, Malaysia, the
Philippine, Singapore and Thailand through the period 1993-2009. It’s expected
to disclose the trend and the real situation of Vietnam’s economic growth as well as
some other Southeast Asian countries. Since then Vietnam can get lessons from
other countries’ development origin in this region; and suggest the trend that
Vietnam should pursue for the fast and sustainable development in the future.
2.2 Research Questions:
As the identified objective above, this study would like to discuss the following
important questions as follows:
[1] To what extent have capital, labor, population growth rate, and government
expenditure contributed to economic growth of Southeast Asian countries?

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[2] In specific case, how growth factors such as capital, labor, population growth
rate, and government expenditure to industries contributed to economic growth
of Vietnam relative to some other countries in Southeast Asia?
[3] To recommend general policies for sustainable development in term of
economy and society of six Southeast Asian countries.
2.3 Research Scope:
This study is not ambitious for figuring out the detailed richness origin of Southeast
Asian countries. It just would like to present a general views for the trend of
economic growth of Southeast Asian territories, and examines determinants of
economic growth of few of these. Though out it, this study will propose implications
for achieving fast and sustainable economic growth for Vietnam as well as other
developing countries in this region.
2.4 Research Contribution:
There are many working papers research determinants of economic growth of
countries through out the world, but just few papers research on Vietnam case as
well as Southeast Asia. Most countries in this area are developing countries such as
Vietnam, Indonesia, Malaysia, and they always want to develop their own economy
in order to catch up developed ones in this area as well as the world. Thus, it’s
necessary to determine the robust factors that contribute to economic growth of
developing countries. Through it will support to decision makers to be aware of the
determinants of economic growth, then they can build appropriate plan to foster
country economy efficiently.
As mentioned above, because of non ambitious for pointing out the detailed origin
of richness, this study just hope to contribute partly in order to examine and
determine the main determinants of economic growth of some nations in Southeast
Asia including Vietnam.

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CHAPTER 3: LITERATURE REVIEW
3.1 GENERAL THEORY
3.1.1 Definitions
a) Economic growth – Economic development – Sustainable development.
Economic growth is the growth rate in gross product or income per capita
(Nafziger, 2006), an increase in a country’s output per capita. Similarly, economic
growth happens if output increases faster than population. It should be understood as
changing process that creates higher real output per capita. Furthermore, this process
makes changes in quantity and quality of production and expenditure structure.
In order to measure economic growth, economists usually use data on GDP, which
measures the total income of everyone in the economy. It often refers to real GDP
growth of a region, or industry sector’s real income increases. At the country level,
economic growth is often measured by the growth rate of a country’s annual GDP.
One of other important economic term is economic development. It references to
economic growth accompanied by changes in output distribution as well as
economic structure. It is economic growth leading to an improvement in the
economic welfare of the poorest segment of the population or changes in educational
level, output distribution, and economic structural change. It includes
comprehensive changes in politics, culture, society, and institution.
Another popular economic term is sustainable development that was coined in the
1987 at UN Commission on Environment and Development, it refers to the progress
meets the needs of the present without compromising the ability of next generations
to meet their own needs. Till the conference in Rio de Janerio 1992, economists
define sustainable development is development to meet present need but don’t make
a bad effect to next generations. In addition, sustainability means not only the
survival of the human species but also maintaining the productivity of natural,

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produced, and human resources from generation to generation (E. Wayne Nafziger,
2006).
b) Government Expenditure
Barro (1996) specified the government expenditure can be applied in the model by
the ratio of government expenditure (exclusive of spending on education and
defense) to GDP, and this particular measure of government spending is intended to
approximate the outlays that do not enhance productivity. The common conclusion
for this independent variable is a greater volume of nonproductive government
spending, reduce the growth rate for given starting value of GDP. In this sense, a big
government is bad for growth.
c) Output
GDP is a general indicator reflecting the final results (output) of production and
business activities of the economy in a given period. The measure of aggregate
output in the nation is GDP.
When we conduct a research for across countries, we should use output per capita
instead of total output. There’re two reasons for looking at the numbers for output
per capita rather than for total output. The first, the evolution of the living standard
is giving by the evolution of output per capita, not a country’s total output.
Secondly, when comparing countries with different populations, output numbers
must be adjusted to take into account these differences in population size of
countries. Therefore, this is exactly what output per capita does (Blanchard, 2009).
Here’s the population of 6 Southeast Asian countries in 1993 and 2009. Through it,
Indonesia has the biggest population, has 186.7 mil people in 1993 and reach up
229.9 mil people in 2009, in creased by 23%. Next, in descending order of
population size, the Philippines increased by 37%, Vietnam 25%, Thailand 15%,
Malaysia 40%, and Singapore 45%.

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While the level of GDP per capital at constant price 2005 of each countries seem
vices versa the population size. Singapore is the top of highest, it leaves a big gap to
the next one is Malaysia. The lowest GDP per capita in these times is Vietnam.
Surprisingly, the order or these countries doesn’t change from 1993 to 2009.
3.2
3.1

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d) Population and population growth rate
Population of a country is simple the number of citizens of this country in a
considered time. And population growth rate is increasing or declining percent of
population of a country in a year compare with root year, with expected sign is
negative. It’s because that a higher rate of population growth have a negative
effective on GDP per capita. Moreover, a higher population rate means that
increased resources must be devoted to childrearing rather than to production of
3.3
3.4

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goods (Barro, 1996). Similarly, another research of Mankiw et al. (1992) found that
higher population growth lowers measured total factor productivity.
Increased urbanization and congestion, rapid labor force growth, growing
unemployment, and high dependency burdens are some major costs of high fertility
rates and rapid population growth. Contemporary LDC population growth has been
faster than that of the DCs during their early transitional period because of a sharper
drop in mortality rates in LDCs. Today’s developing countries were able to take
advantage of advances in food production, new pesticides, improvements in
transport and communication, improved nutrition, better personal hygiene, medical
innovations, and immunization in a short time – many of which were not available to
DCs during their early demographic transition
Fertility decreases with economic development, urbanization, industrialization,
mobility, literacy, female labor force participation, reduced income inequality, and
greater family-planning efforts. But, these efforts are not likely to be successful
unless socioeconomic development and improved income distribution make birth
control seem advantageous.
e) Labor
In this study, Labor force or so-called economically active population, it refers to
people have age from 15 and above of a country annually, and includes employed
and unemployed people:
+ Employment force refers to people who have job or business but are absent in
temporary because of illness, accident or other reasons.
+ Unemployment force mentions to people who don’t have a job or work or never
have a job but are available for work and looking for job.
f) Capital stock
At any moment, the capital stock is a key determinant of an economy’s output, in
particular developing countries. It can change over time and these changes can effect

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on economic growth obviously. Two factors influence capital stock are investment
and depreciation. The investment refers to the expenditure on new plant, building
and equipment, and it causes rise of physical capital. Meanwhile, the depreciation
refers to the wear of old capital and it causes the fall of the physical capital
(Mankiw, 2009). According to Nafziger (2006), capital stock is total of previous
gross capital investments minus physical capital consumption (depreciation), natural
capital depletion, and environmental capital damage. T.T Dat (2004) explained that
physical capital includes inventories and fixed capital. With the inventories comprise
raw materials, tools, finished goods and semi-finished. And fixed capital includes
plant, buildings and other constructions; land improvement, plantation and orchard,
transport vehicles; machinery and equipment, breeding stock, animals, dairy cattle.
In general, physical capital is investment accumulation after taking account of
depreciation. Further more, it needs to distinguish Gross Capital Formation (GCF)
from capital stock. According to GSO 2009:
GCF = gross fixed assets formation (GFCF) + change in inventory.
Many researches indicate that capital deepening explains more than half of the
growth rate of output per worker in a majority of countries such as Charles R.
Hulten et al (2007) researched over 100 countries through out the world.
g) Human Capital
The set of skills of the workers in the economy what economists call is human
capital. Obviously, an economy with many highly skilled is like to be much more
productive than an economy in which most workers cannot read or write. The
increase in human capital has been as large as the increase in physical capital in
recent decades.
Human capital is investment expenditures in the education, training, research, and
health of people that increase their income or productive capacity” (Nafziger, 2006).
It refers to anything that can push on higher productivity, including education and
training, physical fitness and healthiness (Jacobsen, 1998). Regarding to education

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and training, a higher educational attainment indicates higher quality of workers.
Thus, one respect of human capital is generally measured through average years of
schooling of the working population, the rate between the numbers of professional
secondary school/college/university students and total labor force. Respect of people
health can be measured by life expectancy, etc.
h) Technological Progress
The efficiency of labor is meant to reflect society’s knowledge about production
methods: as the available technology improvements, the efficiency of labor rises
(Mankiw, 2009). According to the Solow model, only technological progress can
explain persistently rising living standards.
Blanchard (2009) defined technological progress has many dimensions such as it
may mean larger quantities of output for given quantities of capital and labor, better
products, new products, or a larger of variety of products. Most technological
progress in modern economies is the result of the outcome of research &
development (R&D) activities. The level of R&D spending depends not only on the
fertility of the research process but also on the appropriability of research results. If
a firm cannot appropriate the profit from development of new products, they will not
engage in R&D and technological progress will be slow
3.1.2 Traditional methods of examine determinants of economic growth
There have been various research measuring the determinants of economic growth
regarding to physical capital, labor, human capital, TFP, fertility rate, government
consumption, the-rule-of-law-index, term of trade, ratio of investment to output,
R&D, … (Barro, 1996). Besides, there are many models are applied to estimate
determinants such as Neoclassical in particular Solow’s model, Endogenous models
of Romer 1986 and Lucas 1988, Harrod-Domar Model, … with estimation of times
series, cross section or panel data. In addition, production function Cobb-Douglas
usually is used to modify and apply in such researches.

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Moreover, when we conduct a research for across countries, we should use output
per capita instead of total output. There’re two reasons for looking at the numbers
for output per capita rather than for total output. The first, the evolution of the living
standard is giving by the evolution of output per capita, not a country’s total output.
Secondly, when comparing countries with different populations, output numbers
must be adjusted to take into account these differences in population size of
countries. Therefore, this is exactly what output per capita does (Blanchard,
2009:204). In other words, countries clearly differ in population size, thus a natural
starting point is to normalize country output by scaling by population or number of
workers (King and Revine, 1994). This point is very important for this study bases
on.
In order to measure fairly most respects of economic growth, a research should
measure respects of economics, society, and environment. Furthermore, in each
these respects, all main factors should not omit. Regarding economic respect, some
common variable are measured such as GDP or GDP per capita, physical capital or
physical capital per capita... Social aspect comprises of labor, fertility rate,
unemployment rate, human development index, gender development Index … There
are also some variables of environmental issues such as CO2 emissions per capita, or
environmental sustainability index (ESI)…
3.1.3 Measurement indicator group of development and growth
Economists researched to build up indicators which measure growth and
development. There are many way to category indicators. Commonest way is be
divided into three groups: economic group, social group, and environmental group.
Firstly, regarding economic indicator group, economists and researcher usually use
some indicators to measure growth and development such as growth-evaluation
indicators (GDP, GNP, and economic growth rate), competition capacity-evaluation
of import-export goods and GDP, density of total value of import-export services
and GDP, density of direct investment and GDP, etc).

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Secondly, that is social indicators with labor and employment measurement (labor,
unemployment rate, employment rate, etc), indicators for poverty and inequality
(poverty gap index, squared poverty gap index, poverty mapping, poverty and
richness ranking, ect), or indicators for human development (HDI-Human
development Index, GDI-Gender development Index).
The third is environmental indicator group with environmental quality evaluation
index following millennium development goals (MDGs) or environmental
sustainability index (ESI).
Generally, these three indicator groups quantize result of growth and development of
a nation or territory on all three respects: economic, society, and environment.
Economists and policy makers use these indicators to analyze and evaluate the
development status of country, since then propose appropriate development policies.
As a matter of fact, it’s available a lot of indicators and many ways to classify
indicator by group, mentioned above are just very common indicators, does not
include all.
3.1.4 Overview of economic development theory
3.1.4.1 Classify theories by time
The developing process of development theories by time is a process to look for the
answer for the origin of richness of countries. Adam Smith is a person who go along
with the development history of economic theories, we can divide it into three
periods are classical, neoclassical, and endogenous theory (growth theory). The first
period that is classical theory with analysis based on the works of late of 18th and
19th century, British economists such as Adam Smith, David Ricardo, and Thomas
Malthus who believed in natural law, government non-interference (laissez faire),
and diminishing returns from population growth. The next is neoclassical theory of
growth with Robert Solow is typical. Solow’s theory of growth stressed the
importance of savings, capital formation for economic development, and for
empirical measures of the sources of growth. The last, new growth theory is a theory

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which assumes that technology is endogenous or explained within the model. This
theory contends that innovation or technical change is the engine of growth, and that
this model is closer to the realities of international flows of people and capital than
the neoclassical model (E. Wayne Nafziger, 2006).
a) Classical theory
Most economists in the end of 17th century such as Adam Smith and the beginning
of 19th century such as Ricardo, Lohn Stuard Mill, Thomas Malthus, Joseph
Schumpeter, and Karl Marx … focus on economic growth and the role of economic
growth to social welfare. A major goal of poor countries is economic development
or economic growth.
According to classical theories, economic growth of a country depends on labor. As
emphasized by Adam Smith, a scholar of classical school, each country can promote
its growth rate by labor specialization. These theories lead a lot of shortcomings in
explaining the difference problems between countries. For instant, there is an
existence of big gap between GDP per capita of the US and Vietnam, the US index
is normally about 20 times higher than Vietnamese index. It can be asserted that the
participation of labor in the US is 20 times higher than Vietnam. As a matter of fact,
it is only 4 times in the period 2003 to 1997. Hence, later on, economists realized
that labor couldn’t be the only factor in accounting for growth. It leads to appearance
of neoclassical school with Solow’s growth model is typical.
b) Neoclassical model
Later on classical theories, economists realized that labor couldn’t be the only factor
in accounting for growth. It leads to appearance of neoclassical school with Solow
growth model is typical. In 1960s, growth theory consisted mainly of the
neoclassical model, as developed by Ramsey, Solow, Swan, Cass and Koopmans.
One feature of this model, which has been exploited seriously as an empirical
hypothesis only in recent years, is the convergence property. The lower of starting
level or reach per capita GDP the higher is the predicted growth rate.

17
If all countries were the same except for its initial capital magnitude, convergence
will apply in an absolute sense: poor countries have tendency to grow faster per
capita then rich countries. Vice versa, if countries differ in various respects together
(tendency to have children, to save, willingness to work, access to technology, or
government policies), the convergence force applies only a conditional meaning.
The growth rate tends to be high if the starting of GDP per capita is low related to its
long-run or steady state position.
Solow (1957) built a framework for explaining the source of growth in developed
countries as well as developing countries. The assumptions are constant returns to
scale, perfect competition, marginal cost pricing and diminishing returns to capital.
With this theory, the result shows that an economy’s output growth depends on the
quantities of available inputs such as capital, labor as well as technological progress.
At first, Solow assumed that there are only two main factors of production function
are labor and capital:
Yt = F ( K, L, t)
Where Y: amount of output, K: Capital input, L: Labor input, t: time period
This equation is continuous and homogeneous to degree 1 (constant returns to scale).
Differentiate this equation with respect to time t, we have:
dY/dt = δF/δK . dK/dt + δF/δL . dL/dt + δF/δt . dt/dt
Where δ represents the partial derivative.
Next, divide by Y in both side, and insert K and L for numerator and denominator in
right side, we have:
(dY/dt )/Y = (δF/δK) K/Y . (dK/dt)/K + (δF/δL) L/Y . (dL/dt)/L + (δF/δt)/Y
Where (dY/dt )/Y: growth rate of output, can be written as ΔY/Y
(dK/dt )/K: growth rate of capital, can be written as ΔK/K
(dL/dt )/L: growth rate of labor, can be written as ΔL/L

18
(δF/δK) K/Y: the share of capital
(δF/δL) L/Y: the share of labor
Or we can re-write this equation as below:
ΔY/Y = α ΔK/K + β ΔL/L + ΔA/A
ΔA/A is so-called residual in Solow model, or labeled technological progress, in
addition it can be described as the growth in total factor productivity. The last
equation explains sources of the growth rate of output are growth rate of capital,
growth rate of labor and growth rate of TFP.
The strengths of neoclassical model are it discovered new explained variable TFP in
production function, it contributes partly to explain why GDP per capita (a
measurement of standard of living) is so different between countries. It found more
precise explanation the reason why there is different GDP per capita between
countries, emphasized the important role of capital accumulation, labor and TFP as a
key factors in economic growth. In addition, this model expands the concept of
capital accumulation including physical capital as well as human capital. However,
neoclassical model also has limitations. In this model, TFP is seen as an exogenous
variable, and its change won’t affect the growth rate of output. When use this model,
we cannot avoid the assumptions such as constant returns to scale, marginal cost
pricing and perfect competition, diminishing returns to capital.
The convergence property derives in the neoclassical model from the diminishing
returns to capital. Countries that have less capital per worker in long-run tend to
have higher return rates and higher growth rates. The convergence is conditional
because the steady-state level of capital and output per capita depend on the
neoclassical model with the propensity to save, the population growth rate, and the
production function-characteristics of vary across countries. Recent extensions of
the model suggest additional sources of cross-countries variation: government
policies with respect to level of consumption spending, protection of property right,
and distortions of domestic and international markets (Barror 1996).
Formatted: French (France)

19
Note that the key point of economic growth based on the analysis of neoclassical
concentrates on capital accumulation with the assumption of diminishing returns.
However, this opinion does not always correspond with the fact. In some countries,
high capital rate exists in parallel with high rate of output per capita over long time,
and there is not even any sign of economic slowdown. Therefore, the Solow models
introduce one exogenous variable named technological progress.
c) Endogenous Theory
Because of limitations of neoclassical theories, economists try to improve the
neoclassical model recent years and the endogenous growth theories emerge.
Endogenous growth theories that include the discovery of new ideas and methods of
production are important for providing possible explanations for long–term growth.
This theory still uses the assumption of constant returns to scale normally, but
doesn’t use assumption of diminishing returns to capital. Furthermore, TFP is
broadened the meaning that lead to technological innovation such as new ideas, new
knowledge, specific institutions, human resources development, etc. However, this
theory still have limitations certainly.
Endogenous growth theory asserts that factors such as knowledge, human capital
and technological progress that are excluded or assumed to be exogenous by other
models should be internalized. Endogenous growth models differ from Solow model
in that they emphasize increasing efficiency of physical and human capital.
According to this, a small investment on physical or human capital or an increase of
resources allocated to these factors has significant effects on output. The
characteristic that makes new theories different than old ones is how they view
investment. Old theories consider capital accumulation as the engine of growth. On
the other hand, new theories state that basic determinant of investment (on physical
and human capital) is the wave of innovation in the economy. Moreover, these
innovations are not exogenous; they are motivated by profit seeking.
Rebelo and AK model

20
This model mentioned not only physical capital but also human capital as a factor of
growth source. This model still uses the assumption of constant returns to scale but
no diminishing returns to capital.
Yt = A . Kt
Yt is output of an economy
Kt is capital of an economy (physical capital and human capital)
A is an improvement in the level of technology as Solow model (A>0).
In this equation, the role of TFP is endogenous clearly, and it’s more progressive
compare with orthodox neoclassical theory. Both AK and neoclassical model
emphasize the most important role of capital in growth.
Learning-by-doing models
Kenneth Arrow and Sheshinsky constructed models in which ideas were unintended
by products of production or investment. This mechanism is described as learning-
by-doing. In this model, each person’s discoveries immediately spilled over to the
entire economy, each investment activity of individuals or firms can affect economic
growth. In 1986 Paul Rome showed the competitive frame work to determine an
equilibrium rate of technological advanced. This model also under assumption of
constant returns to scale: Yt = Kt
α [At . Lt] 1- α
K: Capital input including physical and human capital
A: Increase in knowledge, stemmed from the learning-by-doing process
The term of increase in knowledge here can be measured by a function A(t) as
follows: At = B . Kt
θ (B>0, θ>0): the increase in investment may lead to an increase
in level of knowledge, and otherwise, in turn an increase in knowledge makes an
increase in output aggregate Yt in a country as well.
Each firm in the a country can learn new knowledge during its investment in
production process, and the investment of firms effect on the production process of

21
whole economy, the investment (means increase in capital stock) leads to an
increase in level of knowledge as well. This model introduces another respect of
TFP, human knowledge, and built its endogenous in growth model.
R&D models
Uzawa, Lucas and Romer are typical representatives for this school of thought.
R&D models concentrate on human capital role into the productivity of production
and growth. In this model, human capital is more important than physical capital.
R&D sector produces new ideas or improved ideas for producing for final goods.
Through R&D activities, an improvement of human capital is created, and this also
has a tendency to increase output in economy.
In this model, TFP is an endogenous factor, and it’s expended to improvement of
technology level and new knowledge by R&D activities. However, it’s still under
assumption of constant returns to scale and it’s difficult to measure human capital.
3.1.4.2 Classify theory by four main classes
In other way, besides Neoclassical theories as mention above, economists classify
development theories by more four main schools: linear-stages-of-growth model,
structural change theory, international dependence theory, and neoclassical counter
revolution theory. By this way we can have other look at development theories
history (Hoai et al, 2010) (2)
.
a) Linear stages of growth theory
These theories emphasize the economic development process which has to
experience some given stages, and it emphasizes the process of capital
accumulation. It regards capital accumulation as a compulsory condition for a
country’s development. Typical models of this class are Rostow (1016-2003), and
________________________
(2) This classification follows the Vietnamese Text book of Dr. Nguyen Trong Hoai el at (2010) named
“Development Economic”, Minister of Training & Education, UEH. Published by Labor Publication House.

22
Harrod-Domar (1900-1978).
Rostow model
Walt Witman Rostow (1916-2003) is an American historian, economist. He
published the book named “Stages of Economic Growth” in 1960 and it’s seen as a
person started trend of linear stages of growth theories. Rostow supposed all
countries must experience 5 stages of growth: traditional society, preconditions for
take-off stage, the take-off stage, the drive to technological maturity stage, and the
age of high mass consumption. He shows the typical characteristics of each stage
and its importance in development process. Many economists comment this theory
is so simple for development process. This theory omits important issues such as
how to promote the transit from this stage to next stage. It only focuses on respect of
growth, disregards capital element, political institution, role of government,
international relative, etc. Moreover, the conclusions for each growth stage doesn’t
verify in the reality yet.
Harrod-Domar model
Casually, a British economist Sir Roy Forbes Harrod (1900-1978) in 1939 and a
Russian economist Evsey David Domar (1914-1997) in 1946 developed and built an
important economic development model that focuses on growth in relative between
saving and investment. So this model is so-called Harrod-Domar model.
This model supposes that all economies must save a rate of income to compensation
for depreciation of capital that invested such as equipment, building, materials, etc.
In addition, a country wants to foster the growth must have new investment or net
investment. The production function with assumption is constant returns to scale is:
Y = f (K, L) Y/L = f (K/L,1) it’s so-called production functions per worker.

23
This model assumes that k = K/Y doesn’t change
 Y = 1/k * K  ΔY = 1/k * ΔK  k = ΔK/ ΔY (1)
This ratio is so-called ICOR-Incremental Capital Output Ratio.
ICOR is required quantity of capital that creates a growth unit in income.
set g = ΔY/ Y = 1/k * ΔK/Y and set s = S/Y
with S is total saving of economy, assumption is total S is transfer to investment
s = S/Y = I/ Y
d is depreciation rate of economy, so the annual changing of capital accumulation is:
ΔK = S – dK = I – dK = sY – dK  ΔK = sY – dK (2)
Combine (1) and (2): g = s/k – d
Where g is the growth speed of GDP, s is national saving ratio, k is ICOR, d is
depreciation rate.
This model is so simple and assumption is technology no change by time. Harrod-
Domar model omits probability of technological change. So it’s far vs reality. In
addition, this model doesn’t have enough positiveness bases. Assumption of this
model is capital per capita is constant, but as a matter of fact the growth rate of
capital is higher than the growth rate of labor leads to labor shortage, and vice versa.
Next, the main limitation of this model is assumption: all saving is transferred to
investment totally, this thing only happens with a nation has a perfect financial
system.
b) Structural change theory
This class considers the structural movement in economy is important, and it can
create the growth for economy. Thus, the movement of structure between urban and
rural areas, between industrial fields together, the movement of structure of
consumption, etc are main topics that economists analyze in this class. This class
makes experimental researches and indicates that there’re some given template

24
models for most countries during their development process. These template models
can be impacted by polices of governments in developing countries.
Lewis model
One of famous theory of Structural change theory class is of W. Arthur Lewis
(1915-1991) announced 1950, then it was expanded by John Fei and Gustav Ranis.
Two-sectors model of Lewis becomes a general theory of labor force growth
process. This model supposes in a low developing economies always have two basic
sectors traditional sector and modern sector.
Firstly, the traditional sector where is focused on most population and in redundant
labor, thus marginal of labor is zero. It means that even thought labor force of this
sector increase, agricultural output still doesn’t increase. Therefore, Lewis called this
increasing labor is redundant labor, and it doesn’t change agricultural output
irrespective of its withdrawal of this sector.
Secondly, modern sector with specificity is high productivity. In this sector, if labor
increase, output increase al well. Consequently, this model suggests the movement
from traditional sector to modern sector.
This model is simple and has a significant gap with reality. However, it supplies a
new view for structural movement policies in developing countries.
Chenery model
Hollis B. Chenery (1918-1994) surveyed the actual movement of structural
productions of many countries. He gave important conclusions for template
structural movement for countries’ economies. One of these is when income per
capita increases, there’s a movement from agricultural production to industrial
production. The transit between two sectors is a point that ratio of agriculture in
GDP as same as ratio of industry in GDP, and an increase in total of import and
export during transit period. But there’s a fairly increase in industrial products in
total export, and fairly decrease in industrial products in total import. In addition,

25
there’s movement trend of labor from agricultural sector to industrial and services
sector, although this movement has a lag from structural change. Thus, agricultural
sector plays an important role in creating jobs for before and later of development
process. Productivity of agricultural areas increase slowly in first stage, and it will
equal productivity of industrial areas when finish the transit period. However, total
productivity of whole economy increases. In transit period, the biggest general
tendency of countries is urbanization phenomenon because of industrial
development and migration. But industrialization and urbanization create many
problems such as inequity income distribution, income focuses on urban area. This
thing requires countries should follow the balanced benefit policies in their
industrialization process.
This model has average property from experimental research of many countries,
hence it simplifies and bypass different elements of each countries that sometimes
make different development models between countries such as national resources
scale, political institution, etc.
c) International dependence theory
This kind of class focuses on to analyze external factors that cause of development
such as international aid, international investment. These external factors are
required premises for developing a country, in particular poor countries.
Neocolonial dependence theory
In history, the imbalance in relative between rich countries and poor countries is
inspiration for building neocolonial dependence theory. The co-existence of rich and
poor countries in the same international system which is dominated by rich side
leads to inequity relationship between them unavoidably. It maybe caused
difficulties for poor countries that try to overcome recent problems to achieve
development and independence.
Briefly, viewpoint of this theory about less development and third world countries
becomes worse due to outside impact, power and rich countries.

26
The False-Paradigm model
This model supposes that the cause of underdevelopment in 3rd world countries is
due to inappropriate and false consultants from foreign or domestic experts. These
experts come from developed countries, multinational corporations, international aid
organizations, or they are educated from developed countries. They are equipped by
good and latest knowledge that is suitable for statement of developed countries as
well. But when they apply this knowledge without modifying for suitable in
underdevelopment one, thus it doesn’t help these countries escape poorness.
Dualistic-Development thesis
Dualism is a common concept of development economic field. This is an image of
rich countries and poor countries. In developing countries, dualism can be
understood as image of well-off areas inserted between poor areas. The meaning of
dualism includes a set of groups have different conditions, including some groups
belong to upper class, and other belong to secondary class; the co-existence is
persistent, and it’s not a temporary statement of transit period; the gap between
richness and poverty doesn’t reduce, vice verse its tendency is increase; rich
countries do less things or nothing to help and support poor countries.
d) Neoclassical counter revolution theory
This class supposes that the cause of low development of developing countries is
from internal causes itself. For instance, the government’s over intervention makes
distort the market, it leads to sources cannot be allocated effectively. This theory
supports free market with a small size government.
3.2 THEORETICAL FRAMEWORK
3.2.1 PRODUCTION FUNCTION COBB-DOUGLAS
Staring point of any theory of growth must be an aggregate production function, a
specification of the relation between aggregate output and the inputs in the
production. The simplest production function has form as follows:

27
Y= F(K,L)
This is the aggregate production function: the relation between aggregate output and
two inputs.
K = the sum of all the machines, plants, and office building in the economy.
F = aggregate output tell how much output is produced for given quantities of
capital and labor.
However, there are some restrictions reasonably impose on this function as follows:
Return to factors:
- Increase in capital lead to smaller and smaller increases in output as the level of the
capital increases, that property is so-called decreasing return to capital
- The similar property holds for the other output, labor: increase in labor, given
capital, lead to smaller and smaller increase in output as the level of labor increases
 this is decreasing return to labor as well.
Constant return to scale:
Constant return to scale implies that we can re-write equation above as follows:
Y/L = F (K/L; L/L) = F (K/L; 1)
It says that output per capita depends on capital per capita
Furthermore, at the center of the determinants of output in the long run are two
relations between output and capital. Firstly, the amount of capital determines the
amount of output being produced. Secondly, otherwise, the amount of output
determines the amount of saving and investment, and so the amount of capital being
accumulated. Together, these two relations determine the evolution of output and
capita over time.
One of extension form of Cobb-Douglas production function was built as follows:
Y = 0 . 2

K . 3

L . 4

R . X

28
Where: Y is yield, K is capital, L is labor, R is natural resource used, X is
technology, 2 = capital's share of output, 3 = labor's share of output, 4 = used
natural resource's share of output.
According to modern ideas, X is the rest that effect on output Y and generally
referred to total factor productivity (TFP), X includes human capital, technological
efficiency, etc…
Normally, taking log of both side of the equation and get the result as follows:
log(Yt) = log(0) + 2 log(Kt) + 3 log(Lt) + 4 log(Rt) + log (Xt)
log(Yt) = 1 + 2 log(Kt) + 3 log(Lt) + 4 log(Rt) + log (Xt)
This equation is logarithm linear regression model.
3.2.2 HARROD-DOMAR GROWTH MODEL
During the 1940s, two economists Roy Harrod and Evsey Dorman (Robert G.King
& Ross L., 1994) developed independently an economic growth model based on a
fixed-coefficient, constant return to scale function. The model assumes that capital
and labor are always used in a fixed proportion to produce out equal amount of
output. The model’s equation is:
Y = K / k
Where: k is capital output ratio (COR).
COR (capital output ratio) is ratio of amount of capital and total yield that this
capital creased it. It is difference from ICOR (incremental capital output ratio).
ICOR (incremental capital output ratio) is “the amount of additional capital required
to increase output by one unit. The inverse of the ratio of increase in output to
investment, which, together with the added, and excise taxes. The burden of these
taxes can be passed on to consumers depending on the elasticity of demand and
supply” (E.Wayne Nafziger, 2006). If Y is income, K capital stock, then the ICOR =
K / Y.

29
Harrod-Domar model is simple model with small data requirements and this
equation is easy to use. This model can provide accurate short-term forecast of
growth and be used extensively in developing countries. Nevertheless, this model
only remains in equilibrium status (full employment of both labor force and physical
capital), thus it lead to inaccurate long-term economic forecast, and cannot explain
the technological change as well as productivity gains for long-term growth.
3.2.3. NEOCLASSICAL MODEL: SOLOW MODEL
As mentioned, staring point of any theory of growth must be an aggregate
production function, a specification of the relation at least between aggregate output
and the inputs in the production. That is the Solow model does as well. Then it can
be extended to other input factors such as technology progress, human capital, etc.
The Solow growth model is built to show how growth in the capital stock, in the
labor force, and advances in technology interact in an economy, and how they affect
a country’s total output of goods and services (Mankiw, 2009).
Along history of formation and development of economic theories, before Solow
model, most economic growth analysis based on Harrod-Domar growth model, it
discusses growth in relationship between saving and investment, and in order to
foster the growth it must have new investment or so called net investment.
Afterwards, Solow growth model developed by economist Robert Solow in 1956
(Solow, 1956), used Cobb-Douglas production, and so far it can be seen as a
standard neoclassical growth models in long-term growth theory system. According
to Robert Solow, economic growth and economic development are process in its
own dynamic property, it focuses on explain which things cause output, expenditure,
capital and population change by time. Hence, Solow model is so called the dynamic
general equilibrium model. This model can be built on the frame of discrete time or
continuous time. And in this model, it not only capital but also labor and
technological change have relationship with output.

30
Robert Solow built a framework for explaining the sources of growth in developed
territories as well as developing one. He assumed capital and labor can replace each
other in production process, output is the constant return to scale, perfect
competition, marginal productivity of input factors is positive and diminishing in
growth model and growth accounting. Furthermore, in this theory, result of
economy’s output growth depends on the quantity of inputs such as capital, labor,
and technological progress. Beside the weakness of Solow model, the important and
undeniable strength of this model are discovered a new explained variable in
production function as well as found more precise analysis the reason why exist the
different GDP per capita between different nations.
3.2.4 CAPITAL FUNDAMENTALISM: The Standard Perpetual Inventory
Method with Steady-State Estimates of Initial Capital
According to Robert G. King et al (1994), in order to compute the capital stock
series, firstly we have to assume that each country is continuously at a steady-state
with a constant capital-output ratio. The advantage of this method is that we do not
have a assume anything about the initial capital stock; its weakness is that it assumes
a constant capital-output ratio. The second, we use the standard perpetual inventory
method of estimating capital stocks with different guesses at the initial capital stock.
This method requires an initial capital stock value; its strength is that it does not
require assumptions about the ratios we want to study. Here’re details of these:
a) Steady-State Estimates
This method is based on the assumption that the capital-output ratio (COR) is
constant. Therefore, the steady-state COR of country j is computed by:
j
j
j
i
k

 

where:
t
t
Y
I
i  : steady-state investment rate,
It is gross investment in year t, Yt is GDP in year t

31
 is capital’s depreciation rate
j
i is country j's steady-state investment rate
j
 is country j's steady-state growth rate
Set the steady-state growth rate of country j as follows:
w
j
j 


 )
1
( 


Where: j
 is country j’s growth rate
w
 is the world growth rate, set w
 =0.04
 is a parameter that governs the relative weight we place on the country’s own
experience, set  = 0.25
b) Perpetual inventory method, setting initial capital to zero
This method uses the formula to estimate capital stock as follows:
  
 

 0 0
1 )
1
(
j
t
j
t
j
t K
I
K 

Where Ko is the initial capital stock. The first estimate using the perpetual inventory
method sets Ko=0 and accumulates forwards, then using this estimation for
calculating COR. The advantage of this approach is that it simply accumulates
investment. The disadvantages are this method does not produce a useful time series
of capital stocks since the importance of the initial capital stock estimate diminishes
to what may be considered negligible levels very slowly, and we can probably
compute a better guess of the initial capital stock for countries than zero.
c) Perpetual inventory method: steady-state estimates of initial capital
This method attempts to derive a better initial capital estimate than zero for all
countries by modifying a method suggested by Harberger (1978). We will calculate
initial capital by using the steady-state method then calculate an initial capital stock
time-series. Accordingly, the steps for calculating the capital stock series as follows:
Firstly, compute the steady-state growth rate of country j by equation:
w
j
j 


 )
1
( 

 (set w
 = 0.04 and  = 0.25)

32
The next, assumption of COR is fixed:
j
j
j
i
k

 

And then, to calculate the initial capital stock for a country, we rewrite this formula
as:
initial
j
initial Y
k
K  (Harrod-Domar Growth Model)
Finally, the perpetual inventory formula produces a capital stock time series for
country j.
3.3 EMPIRICAL STUDIES
3.3.1 DEVELOPMENT AND GROWTH OF VIETNAM AND SOUTHEAST ASIA
There are many researches on economic growth of Asia. Most of these conclude that
the main determinants of economic growth are physical capital, labor, human
capital, and TFP, in particular developing countries in this area. The high economic
growth in the emerging countries in East Asia influenced the conventional economic
policy. Nowadays there’re many researchers on the global economy recognize these
successes demonstrate two propositions. Firstly, there is a major spread of
technology progress throughout the world, and Western nations are losing its
traditional advantage and position No.1. Secondly, the center of the world's
economic will shift to the Asian nations of the western Pacific. Two conclusions are
remarkable achievements of East Asian’s growth. It matches with input growth so
quickly that Asian economic growth, incredibly, ceases to be a mystery (Paul
Krugman, 1994).
Rapid increases in growth were facilitated by technological catch up in Asia.
Moreover, they also emphasize that capital accumulation can be increased by means
of technology transfer, and in turn capital is considered as a necessary condition of
economic growth. Endogenous growth theory supports this view by papers such as
Mankiw (2009). Kim and Lau (1994) pointed out that physical capital is the most
important source of economic growth for developing countries, normally contributed

33
at 60% on average, next is human capital, then labor. However, they supposed that
technological progress plays no role in accounting for economic growth. They
explained that technological progress cannot affect output in case absence of new
investment, the contribution of technological progress is also attributable to capital.
Hence, capital becomes the most robust of economic growth in developing
countries.
Southeast Asia comprises 11 countries Brunei, Cambodia, Dong Timo, Indonesia,
Lao, Malaysia, Mianma, the Philippines, Singapore, Thailand, and Vietnam. All
these countries have different history initial point as well as development conditions
such as history development, political regime, national culture, religious trend,
certain geographical location, available natural resource, etc. And most these
countries are developing ones, now on the road to catch-up economic development
of the world. Thus, these countries are learning development experience of
developed countries and focusing on economic policies so as to achieve fast and
sustainable development.
Vietnam is developing country and inevitable this trend as well. As some researches
on source of development of Vietnam, physical capital is still the robust source of
growth, then labor and human capital. Physical capital accounts 85% to 90% for
GDP growth in period 1996-2005 (P.M. Ngoc, 2006, p215). Another significant
determinant is Labor, account 10% to 15% for GDP. Technological progress is seem
absent from economic growth from 1975-2005, there’s not significant contribution
of technological progress to growth (P.M. Ngoc, 2006).
3.3.2. REVIEW THE EMPIRICAL STUDIES
There’re many researches and working papers with different applied models that
research on economics growth for a sole country, cross-countries or cross-regions.
The researches on sole country such as Ab. Wahab Muhamad (2004) for Malaysia,
Achara Chandrachai et al (2004) for Thailand, Caesar B. Cororaton (2004) for the
Philippines, Hananto Sigit (2004) for Indonesia, Le Thanh Nghiep et al (2000) for

34
Vietnam, Nombulelo Duma (2007) for Sri Lanka, Phan Minh Ngoc (2006) for
determinants of economic growth of Vietnam, Phan Minh Ngoc (2007) for sources
of economic growth of Vietnam, Shandre Mugan Thangavelu (2004) for Singapore,
Tran Tho Dat (2004) for Vietnam, Yan Wang et al (2001) for China…
Other researches were conducted for cross-countries comprise Charles R. Hulten et
al (2007) for 112 countries, Laurits R. Christensen et al (1980) for 9 countries, N.
Gregory Mankiw et al (1992) for 121 countries, Robert J. Barro (1989) for 120
countries, Robert J. Barro (1994) for 100 countries, Robert J. Barro & Jong Wha Lee
(1993) for 116 countries, Robert J. Barro (1996) for 100 countries, Robert J. Barro
(2001) for 10 Asian countries, Robert W. Fogel (2004) for Asia, Steven N. Durlauf
et al (1998) for 122 economies, Susan M. Collins et al (1996) for 7 East Asian
countries, Svetlana Ledyaeva et al (2008) for 74 Russian regions…
We also can there’re many kinds of explanation variables into the panel data growth
model to measure the contribution to growth in many empirical studies from
traditional variables to new variables. The traditional variables such as physical
capital, Labor, human capital, TFP in researches of Laurits R. Christensen et al
(1980) for 9 countries, N. Gregory Mankiw et al (1992) for 121 countries. In
addition, there’re new other variables such as FDI to GDP ratio, Government
expenditure on education, share of foreign equity ownership, and share of exports to
GDP are used in paper working Shandre Mugan Thangavelu (2004); Robert J. Barro
(1989) measured investment in physical, and population growth; Robert J. Barro
(1994) measured Initial Level of GDP, Initial Level of Human Capital, Educational
Spending, Fertility Rate, Government Consumption exclusive of education and
defense, Investment Ratio, Terms of Trade, Democracy; Robert J. Barro et al (1993)
analyzed Black-market premium, Male secondary school, Female secondary school,
Life- Expectancy; Robert J. Barro (1996) measured Inflation rate; even Religion
variables were measured the contribution to economic growth in paper of Robert J.
Barro & Rachel M. McCleary ( 2003) such as investigate the effects of church
attendance and religious beliefs on economic growth.

35
Regarding to research Determinants of Economic Growth: A Cross-Country
Empirical study of Robert J. Barro (1996), it estimated for a panel data of 100
countries from 1960-1990, it strongly supports to general notion of conditional
convergence. With a given starting level of real GDP per capita, growth rate will get
higher with higher initial schooling, higher life expectancy, lower fertility, better
maintenance of rule of law, lower inflation, terms of trade improvement, and lower
government consumption. Similarly, with given values of other variables, growth
rate will be negative related to the initial level of real GDP per capita. In particular,
at low level of political rights, an expansion of these rights will stimulate economic
growth obviously. But, when democracy is achieved at moderate level, if make
additional expansion will reduce growth. In contrast, there is a strong positive
influence of living standard on a country’s trend to experience democracy. The
framework for the determination of growth follows as the extended version of the
neoclassical model. In general, the applied model has form:
Log (GDP_per_capita) = C + a * Log(Initial_GDP) + b *
Male_Secondary_&_HighSchool + c*Log(Life_Expectency) +
d*Log(GDP)*Male_Schooling + e * Log(Fertility_rate) + f *
Government_Consumption_to_GDP_Ratio + g * Rule_of_Law_Index + h *
Term_of_trade_Change + Democracy_Index + i * Democraxy_Index_Squared
+ j * Inflation_rate + Region_Area_Dummy_variable
Variable government consumption indicates a negative effect on economic growth.
The purpose of the measurement of government spending is estimate approximately
the government expenditure that doesn’t improve productivity. Thus, it implies that
a higher volume of nonproductive government spending will reduce the growth rate
with a given starting value of GDP. In this aspect, a bigger government is worse for
economic growth.
Regarding to researches on economic growth of 6 researched countries in this paper
includes Indonesia, Malaysia, the Philippines, Singapore, Thailand, and Vietnam.

36
Firstly, Indonesia has a research of Hananto Sigit (2004), with findings that the
growth of the economy is mostly driven by capital accumulation (dependence on
investment, especially on FDI), more capital and labor will produce more output,
and education has a major influence on economic growth as well. Secondly, the
Philippines with finding is mostly negative TFP growth in the Philippines of Caesar B.
Cororaton (2004). Thirdly, Singapore with paper working of Shandre Mugan Thangavelu
(2004), findings that labor quality in terms of skilled workers improves TFP growth,
and the key component of the long-term growth is the quality of education of the
labor force including skill and education forms an important component. Fourthly,
Thailand has research of Achara Chandrachai et al (2004) with finding that period
1977-1986 the main source of economic growth was the expansion of capital and
labor, period 1987-1999 has main contribution to the economic growth came from
capital, and TFP growth played a very insignificant role in the contribution to
growth. And Vietnam has some researches such as P. M. Ngoc (2006), P. M. Ngoc
(2007), Le Thanh Nghiep et al (2000), with time series estimation for Cobb-Douglas
production functions. Ngoc analyze annual data 1975-2005 to measure the
contribution of capital formation, labor, and technological progress to the growth of
the Vietnamese economy, as well as measuring the impact of economic reforms
“Doi moi” since the end of 1986, and the rates of returns to capital and labor. The
major findings are technological progress was statistically absent in the growth of
the Vietnamese economy; and the most important source of economic growth is
capital accumulation, accounting for 85% approximately to growth, next is Labor. It
shows that Vietnam’s growth has based mainly on foreign investment, thus if this
heavy base is continuous, the economy on such financial source is going be
unsustainable. Briefly, in order to achieve sustainable growth in the coming decades,
Vietnam should shift from rely much on foreign finance to more on productivity
growth which has been absent so far.
Furthermore, Susan M. Collins et al (1996) researched 7 East Asia
countries includes Indonesia, Malaysia, Philippines, Singapore, and Thailand, the

37
findings are Physical capital contribute most to economic growth in these countries.
Next to TFP on average, then to Human capital contribute to economic growth.
Meanwhile Philippines’ TFP has negative effect on growth in most times.
Table 3.1: Sources of Growth in East Asia, by Country and Period
Source from ”Economic Growth in East Asia- Accumulation versus Assimilation” of Susan M.
Collins and Barry P. Bosworth (1996)
Summary
This chapter gives an overview on theoretical background which measures
traditional relationship between economic growth and capital, labor, and other

38
factors including population growth, government expenditure. In addition, this part
presents the computing method of physical capital series for each country is standard
perpetual inventory method with steady-state estimates of initial capital.
The Neoclassical models have some limitations, but many empirical studies
concluded that it is also meaningful for policy implications.

39
CHAPTER 4: RESEARCH METHODOLODY
4.1 ANALYTICAL FRAMEWORK
There are two chosen equations that to run regression in this paper as mentioned
below. The used estimation method is FEM.
Figure 4.1: Conceptual Framework of this study
4.1.1 MODEL 1: Traditional Neoclassical model bases on production function:
ln(Yit) = 1 + 2 ln(Kit) + 3 ln(Lit) + uit
As mentioned, there’re two reasons for looking at the numbers for output per capita
rather than the numbers for total output. The evolution of the standard of living is
giving by the evolution of output per capita, not a country’s total output. And, when
comparing countries with different populations, output numbers must be adjusted to
Physical Capital per capita
Labor force
Economic Growth
(GDP per capita)
Physical Capital per capita
Population Growth rate
Government expenditure per GDP
Economic Growth
(GDP per capita)
Model 2: Extended Neoclassical model
Model 1: Traditional Neoclassical model

40
take into account these differences in population size. This is exactly what output
per capita does Olivier Blanchard (2009)
With assumption constant return to scale 2 + 3 = 1, we can re-write this equation
as follow:
ln(Yit) = 1 + 2 ln(Kit) + 3 ln(Lit) + uit
With 2 + 3 = 1 3 = 1 - 2
 ln(Yit) = 1 + 2 ln(Kit) + (1 - 2) ln(Lit) + uit
 ln(Yit) = 1 + 2 ln(Kit) + ln(Lit) - 2 ln(Lit) + uit
 ln(Yit) – ln(Lit) = 1 + 2 ln(Kit) - 2 ln(Lit) + uit
 ln(Yit) – ln(Lit) = 1 + 2 [ ln(Kit) - ln(Lit)] + uit
 ln(Yit/Lit) = 1 + 2 ln(Kit/ Lit) + uit
So, the re-write equation is:
ln(Yit/Lit) = 1 + 2 ln(Kit/ Lit) + uit
With assumption constant return to scale.
4.1.2 MODEL 2: Extended Neoclassical model.
Ln(Yit/Lit) = 1 + 2 Ln(Kit/Lit) + 3*(GovExp_to_GDP it) + 4*Ln(Pop_growth)
it + uit
Where GovExp_to_GDP is ratio of Government expenditure to GDP; Pop_growth
stands for population growth rate. This model is mainly based on model that Barro’s
research in 1996 for about 100 cross-countries.
4.1.3 FEM IS SELECTION FOR ESTIMATION
In general, panel estimation is applied for two equations, but which panel method for
these, we will consider three methods as following:
a) The simplest method – OLS
Regarding the equations:

41
Model 1: Ln(Yit/Lit) = 1 + 2 Ln(Kit/ Lit)+ uit
Model 2: Ln(Yit/Lit) = 1 + 2 Ln(Kit/Lit) + 3*(GovExp_to_GDPit) +
4*Ln(Pop_growth) it + uit
With i indexes of the countries, and t indexes of the time.
In this situation, we ignore the sizes of sections (the number of nations), time period
of panel data and estimates by Ordinary Least Square (OLS). We assume intercept
of each country is the same (1), coefficients of independent variables of each
country is the same each other and unchanged by times as well (2, 3, 4). This is
so-called combination-regression. The combination-regression can distort the real
picture of relationship between dependent and independent variables in this model
because of the limited assumptions. Subsequently, this method is not applied for
econometric analysis in this paper.
b) Fixed Effects Method (FEM) - Least-Squares Dummy Variable (LSDV)
The fixed effects method (FEM) is applied for the balanced panel data of this paper.
In FEM, the constant is treated as section-specific. The term Fixed Effect implies
that intercept can be different between sections (countries) but unchanged by time
(fixed by time). FEM is also known as the least-squares dummy variable (LSDV)
estimator because it allows for different constants for each section, and dummy
variable for each section (Damodar N.Guragati, 2004).
That’s a method to consider the specific of each country that is allow for different
constant for each country (1i) and unchanged by time, in addition assumes
unchanged-coefficients (2, 3, 4) between countries and unchanged by time as
well. These different constant of each country maybe is due to specific
characteristics of each country such as management level, culture, etc.
* Model 1 – Traditional Solow model: Ln(Yit/Lit) = 1i + 2 Ln(Kit/ Lit) + uit
We can rewrite the FEM in detail as follows:
Ln(Yit/Lit) = α1 + α2D2i + α3D3i + α4D4i + α5D5i + α6D6i + 2 Ln(Kit/Lit) + uit

42
With D2i= 1 if observations belong to Indonesia and D2i= 0 if not; similarly D3i, D4i,
D5i, D6i, for Malaysia, the Philippine, Singapore, and Thailand respectively. In the
other hand, α1 is representative for intercept of Vietnam. Respectively, α2, α3, α4, α5,
α6 are differential intercepts which show the difference of intercepts between
Indonesia, Malaysia, the Philippine, Singapore and Thailand (Vietnam is root for
comparison). This model can be known as the least-squares dummy variable
(LSDV) or Covariance Model.
In other words, applying Solow model bases on Cobb-Douglass production function:
ln(Yit/Lit) = 1i + 2 ln(Kit/ Lit) + uit
Where i indexes the countries and t indexes the time.
(1) Y is real GDP of the country.
(2) K is physical capital stock
(3) L is the number of labor (quantity of labor)
(5) 1i is intercept of this model
1i = α1 + α2D2i + α3D3i + α4D4i + α5D5i + α6D6i
Dummy variables D2i, D3i, D4i, D5i, D6i present for Indonesia, Malaysia, the
Philippine, Singapore, and Thailand respectively. With D2i= 1 if observations
belong to Indonesia and D2i= 0 if not; similarly for D3i , D4i , D5i, D6i
D2i=1 D3i=1 D4i=1 D5i=1 D6i=1
Indonesia Malaysia the Philippine Singapore Thailand
* Model 2: Extended Solow model
Ln(Yit/Lit) = 1 + 2*Ln(Kit/Lit) + 3*(GovExp_to_GDPit) + 4*Ln(Pop_growth) it + uit
Similarly, we can rewrite the FEM in detail as follows:
Ln(Yit/Lit) = α1 + α2D2i + α3D3i + α4D4i + α5D5i + α6D6i + 2 Ln(Kit/Lit) + 3
(GovEpx_to_GDPit) + 4 Ln(Pop_growth) + uit

43
Where: GovExp_to_GDP is ratio of governmental expenditure to GDP (%),
Pop_growth is population growth rate (%).
c) Random Effect Model (REM)
An alternative method of estimating a model is the random effects model. The
difference between the fixed effects (FEM) and the random effects method (REM) is
that the latter handles the constants for each section not as fixed, but as random
parameters. This model has the following advantages: has fewer parameters to
estimate compared to the FEM, allows for additional explanatory variables that have
equal value for all observations within a group. One obvious disadvantage of REM
approach is that we need to make specific assumptions about the distribution of the.
The difference between the two possible ways of testing panel data models is this:
the FEM assumes that each country differs in its intercept term, whereas the REM
assumes that each country differs in its error term.
Usually, when the panel is balanced, one might expect that FEM will work best. In
other cases, where the sample contains limited observations of the existing cross-
sectional units, REM might be more appropriate (Dimitrios Asteriou and Stephen
G.Hall, 2007). Some other suggestions can be use to consider between FEM and
REM (Damodar N. Guragati, 2004) are, firstly if T (the number of time series data)
is large and N (the number of cross-sectional units) is small, there is likely to be
little difference in the values of the parameters estimated by FEM and REM. Thus,
the choice can be based on computational convenience. On this aspect, FEM may be
preferable. Secondly, If N is large and T is small, and if the assumptions underlying
REM hold, REM estimators are more efficient than FEM.
In this paper, used panel data is balanced, thus FEM will work best. In addition, T =
17 year and N is just = 6 countries, T is greater than N, so FEM may be preferable
because of convenient computation.
In summary, FEM is preferable in this paper.
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44
4.2. VARIABLES EXPLANATION:
4.2.1 Dependent variable: GDP per capita
In this study, GDP per capita is proxy for economic growth.
+ Yit symbols for GDP, is output or yield of country i at year t. In this paper, annual
real GDP at price 2005 is proxy for Y.
+ Lit symbols for Labor, is the number of labor of country i at year t as well.
+ Hence, Yit/Lit is output yield per capita of country i at year t.
As mentioned, when we execute a research for across countries, we should use data
output per capita instead of data total output, as the evolution of the living standard
is giving by the evolution of output per capita, not a country’s total output. In
addition, when comparing many countries with different populations, at that time
total outputs must be adjusted to take into account these differences in population
size. Therefore, this is exactly what output per capita does (Blanchard, 2009:204).
4.2.2 Independent variables
a) Capital per capita
+ Kit symbols for physical capital stock of country i at year t.
+ Hence, Kit/Lit is Physical capital per capita of country i at year t.
At present, capital stock data of Vietnam as well as other developing countries are
not readily available from existing sources. Accordingly, I have to compute annual
capital stock to use in this paper. There are two different methods used to compute
capital in this paper. Firstly, the method bases on working paper of Robert G. King
et al (1994), that is perpetual inventory method with steady-state estimates of initial
capital. Secondly, a other simpler method to calculate capital as Le Thanh Nghiep et
al (2000) or Phan Minh Ngoc (2006). That is we assume the certain value for COR
of each country appropriately, then compute the capital series.
Measuring capital stock by perpetual inventory method through some steps as:
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45
Table 4.1
Step 1: calculating the initial capital, then compute initial capital stock time-series.
Two methods of computing capital have difference together in just this step.
Method 1: bases on Robert G. King et al (1994), Calculating the initial capital by
using the steady-state method, then compute initial capital stock time-series.
+ Firstly, compute the steady-state growth rate  of nation as follows:
w
J
J 


 )
1
( 

 (set w
 = 0.04 and  = 0.25)
J
 is the country j's growth rate over the research period
w
 is the world growth rate over the research period (set 0.04)
 is a parameter that governs the relative weight we place on the
country’s own experience (set  = 0.25)
+ The next, assumption of COR is fixed, we compute the COR as follows:

 

i
k
where: +
t
t
Y
I
i  : steady-state investment rate,
It is gross investment in year t and Yt is GDP in year t
+  is depreciation rate of capital stock
+  is the steady-state growth rate
+ Finally, calculate the initial capital stock value in a certain year by formula as:
initial
initial Y
k
K  (Harrord-Domar’s equation)
Method 2: follow Le Thanh Nghiep et al (2000) or Phan Minh Ngoc (2006)
The value of COR (k) of countries should in range as table of Nghiep (2002) below.
6675172

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