The costs of economic growth
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The Costs of Economic Growth. Introduction. Despite the economic success of the past 200 years And the development of logical models t explain the world’s economic growth, many people remain skeptical about the future Not everyone today sees economic growth as a good thing

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The Costs of Economic Growth

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The Costs of Economic Growth


  • Despite the economic success of the past 200 years

  • And the development of logical models t explain the world’s economic growth, many people remain skeptical about the future

  • Not everyone today sees economic growth as a good thing

  • Some people continue to suggest that there are not likely to be any long run benefits from economic growth at all

  • Arthur Lewis in 1955 wrote;

    “ It is because economic growth has both its gains and its losses that we cannot decide whether we support or reject it. We demand the abolition of poverty, illiteracy and diseases, but we cling desperately to the beliefs, habits and social arrangements which we like, even when these are the very cause of the poverty which we deplore”

  • A growing economy necessarily causes failures

  • The scarce resources are freed up when a business failed, or economic sector shrunk

  • And these resources can be used by other new firms , or by a growind sector

  • in the short run scarcity cannot be eliminated, and choices have to be made

  • Only in the long run, the scarcity can be reduced and welfare enhancing output produced

The fear of change and failure

  • Economic growth becomes controversial because some people dislike the change that accompanies it

  • Economic growth, in the short run will involve change and failure

  • In the long run, it will ultimately benefit most of the people

  • Problems arise when the loses and gains are not equally shared

Are there limits to growth?

  • Another view that opposes the economic growth is based on the claimed that economic growth imposes long run costs on everyone

  • Like Malthus, they believe that the earth cannot support ever-higher level of output

  • And there are limits to growth

  • The views of the opponents of economic growth can be summarized as;

    1. Economic growth, despite its long run benefits, causes hardships. And because these hardships are not equally shared, some individuals or groups may at least in the short run suffer serious welfare losses

2. Economic growth cannot continue forever because diminishing returns will eventually set in.

  • Too much growth now may even cause a decline in welfare in the future because we will deplete the resources for the future generations

Economic growth and structural change

  • Economic growth requires reallocation of resources

  • From inefficient firms/sectors to efficient ones or across international borders

  • This movement can benefit some, but can make someone worst off

  • Economic growth will change the mix of products demanded

  • An increase in real per capita income through economic growth will change production demand according to its income elasticity

  • This change can benefit some, but can make someone worst off

  • Technological progress generally affects different industries differently, so economic growth will be imbalanced

  • Some will benefit and some will lose

  • The growth of the factors of production tends to be uneven, this will change the structure of the production side of the economy

The costs of structural change

  • The direct cost

  • Cost of changing jobs, changing locations

  • Human capital accumulation

  • Lost of wealth due to obsolete physical capital

2. Unequal gains from economic growth

  • Even though positive economic growth implies an increase in average per capita output, some people may actually end up worse off

  • There will be a change in the type of labour/skills demanded

  • Economic growth can seem unfair to some people

The distribution of income

  • Structural shifts in the economy lead to changes in relative incomes

  • So there is always the possibility that the distribution of income will become less equal as the economy grows

  • The issue of who bears the cost of economic growth is often debated

Measuring Income inequality in the world

  • The degree of income inequality is often measured by comparing the proportion of national income captured by different income groups

  • The population will be divided into even size groups according to income

  • The groups will be ranked beginning with the lowest income (table 1)

Table 2

  • The information in table can be used to graph the relationship be population and income levels

  • For example we can take data for Brazil and draw the graph

  • Such graph is also known as he Lorenz curve (Figure 13.4)

  • The more curved the Lorenz curve is, the less equal is the distribution of income

  • The dotted straight line such as OT, represent a hypothetical perfectly equal income distribution

  • The closer the Lorenz curve lies to OT, the more equal the income distribution

The Gini Coefficient

  • This is a convenient numerical measure of income inequality

  • The Gini coefficient is derived from the Lorenz curve

  • Gini = area B / area A + B

  • The smaller the Gini coefficient, the more equal the income distribution

The Kuznets Curve

  • Most developed countries generally have the lowest Gini coefficients

  • While the intermediate countries have the very high Gini coefficients, not the lowest income countries

  • This situation have been hypothesized by Kuznet, where income distribution will get worst at the beginning of growth process,

  • And it will improve as per capita income increased

  • But based on a recent study by the World Bank, the Gini coefficient does not change much as countries developed

  • There is no clear evidence of a Kuznets curve

  • If economic growth does not increase or decrease income inequality, does it mean that there is no relationship between inequality and growth?

  • Lets now compare the situation in Taiwan and Brazil

  • Taiwan has avoid worsening of income inequality during their rapid growth phase by;

  • Having a high degree of economic freedom that permitted a quick response to incentives

  • Having large investments in education

  • Allowing the expansion of foreign trade

  • Brazil, on the other hand has adopted completely different strategies; they were;

  • Import substitution policy

  • Low investment in education

  • So when, the IS industries matured and demand more skill workforce, the supply of skills were not there

  • Therefore the right combination of policies on human capital investment, international trade and institutional changes must be chosen to avoid reaching economic growth at the expanse of inequality


  • It is worth while to understand the reservations of some people concerning the costs of economic growth

  • Because the authority can act on the areas that could be improved through appropriate policies

  • Experiences of successful economies can be emulated

  • The end

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