1. The Contributions of Endogenous Growth
Theory to the Analysis of
Development Problems: An Assessment
by
Pranab K. Bardhan
Presented By:
Muhammad Gulfam Arshed
Zulfiqar Ahmed
Malaika Abbas

2. Pranab K. Bardhan is an Indian
Economist.

3. EDUCATION
•He was educated at
Presidency College,
Kolkata and Cambridge
University, England.

4. PREVIOUS POSITIONS
• He had been at the faculty of
MIT, Indian Statistical Institute and
Delhi School of Economics before
joining Berkeley.
• He has been Visiting Professor at
Trinity College, Cambridge, St.
Catherine's College, Oxford, and
London School of Economics.

5. CURRENT POSITIONS
He is Professor of Graduate
School at the Department
of Economics at the
University of California,
Berkeley.

6. Introduction
What is endogenous growth theory ?
An economic theory which argues that economic
growth is generated from within a system as a
direct result of internal processes. More
specifically, the theory notes that the
enhancement of a nation's human capital will
lead to economic growth by means of the
development of new forms of technology and
efficient and effective means of production.

7. • Endogenous growth theory holds that
economic growth is primarily the result of
endogenous and not external forces.
Endogenous growth theory holds that
investment in human capital, innovation, and
knowledge are significant contributors to
economic growth. The theory also focuses on
positive externalities and spillover effects of a
knowledge-based economy which will lead to
economic development.

8. • The growth theory influenced the theory of
economic development in several ways.
• The classical growth model of Smith, Ricardo
and Marx was often considered more suitable
for studying development problems than the
Solow-Swan neoclassical growth model.

9. • The distinguishing contributions of the new
growth theory that may be particularly useful
for understanding development problems.
• on the basis of uncertain cross-country
regressions and even more doubtful data
quality, that the lack of convergence in per
capita income growth rates across countries
negates the standard assumption of the
availability of the same technological
opportunities in all countries of the world is not
particularly earth-shaking from the point of
view of development economics.

10. Solow (1994) words,
"I do not find this a confidence-inspiring project.
It seems altogether too vulnerable to bias
from omitted variables, to reverse causation,
and above all to the recurrent suspicion that
the experiences of various national economies
are not to be explained as if they represent
different 'points' on some well-defined
surface".

11. • Development economist plowing
through this literature gets hardly any
clue about the factors determining the
crucial international differences in
factor productivity growth.

12. • A much more substantive contribution
of the new growth theory is to
formalize endogenous technical
progress in terms of imperfect
competition framework in which
temporary monopoly power acts as a
motivating force for private innovators.

13. • Growth theory has now been
liberated from the confines of the
competitive market framework of
earlier endogenous growth models in
which dynamic externalities played
the central role, even considering the
models of Kaldor who repeatedly
emphasized the importance of
imperfect competition in the context
of endogenous technical progress.

14. • The emphasis on new goods and the
fixed costs in introducing them
provides valuable new insights. The
major impact of this literature on
development theory has been in the
area of trade and technological
circulation in an international
economy.

15. TRADE AND
TECHNOLOGICAL DIFFUSION

16. INTRODUCTION
• East Asian development experience has shown a positive
relationship between outward orientation and economic
development.
• Whereas standard neo-classical theory does not provide any
such general theorem on the effects of trade on the long-run
growth rate.
• Results in the new literature show how economic
integration in world market helps long-run growth by
avoiding unnecessary duplication in R & D sector.

17. • Main theme of this research paper is to divert our
attention on the serious non-convexities involved in the
process of diffusion and adaptation of new goods and
technologies in the developing countries
• These non-convexities are in the form of
1. R & D Sector
2. Intellectual Property Right (IPR)
3. Economies of scale associated with learning by doing
• We shall discuss each one in detail

18. R & D SECTOR
• World market competition gives incentives to
entrepreneurs of both countries to invent products that
are unique in world economy.
• Trade also helps transmission of useful ideas in
production engineering and information about changing
product patterns.

19. • On part of knowledge accumulation, it is quite obvious
that it is localized largely in the rich countries and is more
in access as compare to poor countries.
• So rich countries benefits more from limited available
knowledge so they capture a growing market share in the
total no. of differentiated products
• Whereas poor countries innovate less rapidly in long-run
because of the foreseeing capital loss

20. • Poor countries specialize in production rather than
research.
• This is because they compete with differentiated products
through unskilled workers
• Which eventually leads them to reduction in profitability
of R & D sector in poor countries

21. Author has used a mathematical approach to show how labor
devoted for R n D sector help increases the rate of growth of R &
D sector
n′ = __l__
a/n
n = stock of cumulative knowledge capital
l = labor devote to R n D sector
n′ = innovation output of R n D sector
n′/n = rate of growth of R n D sector
In order to find out rate of growth of R n D (n′/n) we need to
simplify the above eq.

22. n’ = __l__
a/n
n’ = l a/n
n’ = l x n/a
n’ = l x n
a

23. n’ = _l_
n a
n’ x a = l
n
n’α l _________ (A)
n
• Thus the equation A shows that rate of growth of R n D sector
is directly proportional to the labor devoted for R n D sector.
• A trade induced movement of labor away from R n D sector
towards production will reduce the rate of growth and vice
verse

24. • R n D sector in poor countries rely mostly on the
adaptation of the products and processes invented
abroad and to copying them.
• This kind of R n D sector (based on copying) is
usually so small that if poor countries reallocate their
fully employed resources either to or away from R n
D sector, it does not help them.

25. • In order to study the relationship between innovation in
rich countries and its imitation in poor countries:
• Grossman-Helpman has constructed a North-South
model.
• Assume that innovation takes place in North (developed
country) whereas South (LDC) imitates it

26. • They have concluded that imitating Northern products
discourages innovation in North in two ways
1. It reduces the duration of monopoly profits of the
innovators in North
2. It frees Northern labor to produce more of the as yet
uninitiated products and to conduct more R & D
• Since Southern firms are equipped with cheap labor they
keep on targeting Northern product for imitation rather
then to innovate

27. INTELLECTUAL PROPERTY RIGHTS
(IPR)
• Intellectual property rights (IPR) are the rights given to
persons over the creations of their minds. They usually
give the creator an exclusive right over the use of his/her
creation for a certain period of time.
• IPR sometimes creates a divide between rich and poor
countries in a way that
• Rich countries claims a tighter IPR regime expands the
duration of monopoly of investors which encourages
innovations and all countries benefit from this

28. • Whereas poor countries argue that increased monopoly
power of large companies in rich countries decreases their
profit margin which eventually ends up to their loss.
• Contrary to tighter IPR regime is lax patent protection
this regime makes a significant effect when it is applied to
those products that are particularly appropriate for poor
countries.
• Otherwise its disincentive effect is very small as compare
to the rate of innovation in rich countries

29. • To discuss the question of IPR, Helpman constructed a
dynamic general-equilibrium model of innovation and
imitation. He ends up to the following points
1. A tighter IPR regime increases the fraction of the total
no. of products produced in rich countries (simply
because of their monopoly power)
2. But it lowers the long-run rate of innovation of new
products
3. In tighter IPR regime, by shifting production from lower
wage country (Poor one) to higher wage country (Richer
one) makes consumer in both countries worse off

30. • Multinational companies sometimes practice
“restrictive business” which is being neglected by the
advocators of tighter IPR regimes.
• It simply means that in rich countries MNC’s use
some other kinds of patents like pre-emptive patent or
sleeping patents that they seldom use in production
but are taken out to deter their competitors.
• Another possible way of floating technology from
rich country to poor country is the direct investment
by multinational enterprises.

31. • Author holds the view that poor countries does not take
proper benefit form the technology coming from direct
investment by MNC’s
• This is because of the lack of proper infrastructure in
poor countries

32. ECONOMIES OF SCALE ASSOCIATED WITH
LEARNING BY DOING
• In this sections author’s main objective is to show learning by
doing increases the existing sectoral patterns in production of
comparative advantage
• The models of learning as one proposed by Lucas shows that
• learning on narrowly defined products often shows high initial
learning rate but declines over time as production increases
• He also suggests that in order to achieve sustained on-the-job
learning workers and managers should continue to work on
tasks that are new to them

33. • Stocky has developed a North-South trade model which is
based on product differentiation and international
differences in quality of labor.
• Assume that North produces high-quality product
whereas south produces low-quality goods.
• Now if human capital is acquired through learning by
doing free trade will:
• Increase the human capital accumulation in North and
will slow it down in South.

34. • It is quite obvious that a country with technological leads
tries to widen that lead overtime.
• It then also gives us the answer that why subsidizing
infant export industries then to import-substitute industry
sometimes promote more growth.
• This is because the opportunities for learning spillovers
into newer and more sophisticated goods are more in
export industries then in import-substitution industries

35. • East Asian Experience also shows that high level of skill
in labor force has facilitated them to achieve rapid growth
of exports which eventually enabled them to overcome
imperfections in the technology market.

36. CONCLUSION
• As per Romer (1994) New growth theory may not be new
but it is about newness
• The new literature in some ways divert our attention to
the problems of structural transformation and reallocation
of resources from traditional to other sector.
• But the new growth theory focuses on the process of
introduction of an ever-expanding set of new goods and
technologies and large fixed cost usually associated with
it.

37. 3. Strategic complementarities and
increasing returns
• The new growth theory focuses on understanding the economic forces
underlying policies and technological progress which can influence the long run
growth rate.
• Hence it is not directly concerned with the older question of development
theory: how underdevelopment often tends to persist and how does a poor
country get out of a poverty trap?
• The recent formalizations and explorations of dynamic externalities has been to
revive interest in the older question.
• One idea that was particularly prominent was that of how coordination of
investments across sectors is essential for industrialization.
• It has been emphasized that when domestic markets are small, simultaneous
expansion of many sectors can be self-sustaining through mutual demand
support, even if by itself no sector can break even.

38. • In an open economy where an industry faces the world market, the size of the
domestic market cannot plausibly limit the adoption of increasing returns
technologies.
• Such objections usually underestimate how the size of the domestic market
matters even in an open-economy.
• The idea of intersectoral complementarities in investment can be reformulated
for an open economy with tradeable final outputs, but where jointly used
infrastructure and other non-traded support services and specialized inputs are
crucial for the production and distribution of the final goods.
• In the case of shared infrastructure each industrializing firm that uses it
contributes to the large fixed cost of building it and thus indirectly helps other
users and hence makes their industrialization more likely.
• The infrastructure will make money on its first-period investment if the
economy industrializes, but will incur a large loss if no industrialization takes
place and there are no users of its services.
• Thus the infrastructure is not built lest an insufficient number of firms
industrialize and this in turn ensures that firms do not make the large-scale
investments needed to industrialize. This is an underdevelopment trap caused
by a coordination failure.

39. • The tradeable final goods require these non-traded intermediate inputs
and services readily available in close proximity.
• The domestic availability of a wide variety of such specialized inputs
enhances the productive efficiency of the manufacturing sector, but the
extent of input specialization is limited by the extent of the market.
• In such a situation the economy may get stuck in an equilibrium where
the division of labor in the input producing sector is shallow and the
final goods production remains confined to the use of low-productivity
techniques that do not require a wide variety of inputs.
• Such is the example of Pakistan agriculture and public sector hence the
over-employment and limited skills.
• The task of development policy here is to compensate for an historical
handicap either by trade policy or a policy of subsidization of fixed costs
or of other ways of encouraging appropriate linkages between the finals
goods sector and the intermediate inputs sector.

40. • Therefore the coordination of investments between sectors is the key, and the
role of expectations and self-fulfilling prophecy become more important.
• The task of development policy is to coordinate expectations around high
investment.
• The relative importance of the past and expected future depends on parameters
of the economy like the discount rate and the speed of adjustment.
• The idea of strategic complementarities between sectors generated by
increasing returns was so central to the development economics of the 1950's.
• Yet it lost much of its intellectual force because at the policy level the difficulties
of aggregate coordination were underestimated particularly at the existing
levels of administrative capacity and political coherence in the developing
countries, and the incentive and organizational issues of micromanagement of
capital were underappreciated.

41. • From the policy point of view it underestimates the
difficulty of identifying the few sectors and locations where
the spillover effects may be large and particularly difficult
to internalize.
• It is sometimes overlooked that learning is often highly
localized and project-specific.
• The extent of spillovers depends crucially on the nature of
competition that the policy environment promotes and its
interaction with the nature of the physical, social and
organizational infrastructure in the country.
• Another by-product of the recent formalizations of market
size, increasing returns and imperfect competition has
been in the area of economic geography, where exists the
problem of urban concentration and uneven regional
development in the developing countries.

42. • The pattern of urban growth and regional inequality are shaped
by a tension between centripetal forces that tend to pull
population and production into agglomerations and the
centrifugal forces that tend to break up such agglomerations.
Just like Lahore is thought to be our one of the major hub.
• On the one hand, firms want to locate close to the large market
provided by other firms' workers, and workers want to live
close to the supply of goods provided by other firms; on the
other hand, commuting costs and urban land rent tend to
generate diseconomies of city size.
• The new emphasis on fixed costs and nonconvexities in the
process of introduction of new goods and technologies is
important.
• These fixed costs actually go much beyond the ordinary set-up
costs in starting new economic activities: particularly in a
developing country they encompass massive costs of collective
action in building new economic institutions and political

43. Conclusion
• These models help us to explain why countries experience different growth
rates and how economic integration in world market helps long-run growth
by avoiding unnecessary duplication in R & D sector.
• Helps us to see the other side of coin where we can prevent diminishing
returns to capital through R n D and technological advancements.
• East Asian Experience also shows that high level of skill in labor force has
facilitated them to achieve rapid growth of exports which eventually enabled
them to overcome imperfections in the technology market.
• It limits the applicability of these models in country to country comparison
because it ignores the institutional structures, imperfect capital and goods
markets.
• Plus it is difficult to observe and internalize spillover effects when it is
mostly project based and subject to specifics.