Chapter 38: Macro Policy in Developing Countries

Rise up, study the economic forces which oppress youThey have emerged from the hand of man just as the gods emerged from his brain. You can control them. Paul LaFargueMacro Policy in Developing CountriesCopyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/IrwinChapter GoalsState some comparative statistics on rich and poor countriesDifferentiate growth from development and explain how those differences affect macroeconomic policyExplain the particular problems of monetary policy in a developing country contextList seven obstacles facing developing countriesDeveloping Countries in Perspective5.5 billion people live in developing countries Per capita income in developing countries is around $500 per year compared to nearly $50,000 in the U.S.Americans and Europeans who are classified as poor find it hard to contemplate what life is really like in a truly poor countryYou can’t judge just an economy; you must judge the entire culture Often economically poor societies have cultures that provide individuals with a deep sense of fulfillment and satisfactionGrowth versus DevelopmentDevelopment refers to an increase in productive capacity and output brought about by a change in a country’s underlying institutionsDevelopment occurs through a change in the production functionGrowth refers to an increase in output brought about by an increase in inputs, given a production functionDifferences Between Developed and Developing EconomiesDifferent weighting of normative goals due to differences in wealthDeveloping countries face basic economic needs, like adequate food, shelter, and clothingDifferences in institutionsPolitical differences and laissez-faireDual economyFiscal systemsFinancial institutionsDiffering InstitutionsPolitical Differences and Laissez-FaireIn many developing countries, institutional checks and balances on government leaders often do not exist In these circumstances, economists who would favor an activist macroeconomic policy in a developed country might favor laissez-faire policies in developing countriesDiffering InstitutionsThe Dual EconomyA developing country’s economy is usually a dual economyDual economy is the existence of two sectors:A traditional sector which does business in local currency and produces in traditional waysAn internationally oriented modern market sector which is often indistinguishable from a Western economyDiffering InstitutionsFiscal Structure of Developing EconomiesDeveloping countries may experience a regime change, which is a change in the entire atmosphere within which the government and the economy interrelateA policy change is a change in one aspect of government’s actions, such as monetary or fiscal policyMonetary Policy in Developing CountriesThe primary goal of central banks in developing countries is to keep the economy runningCentral banks in developing countries are generally less independent than ones in developed countriesBuying and selling foreign currencies in order to stabilize the exchange rate is an important functionVarious Types of ConvertibilityFull convertibility is when individuals may change their currency into any currency they want for whatever legal purpose they wantConvertibility on the current account is a system that allows people to exchange currencies freely to buy goods and services, but not assets in other countriesLimited capital account convertibility is a system that allows full current account convertibility and partial capital account convertibilityConditionality and Balance of Payments ConstraintsDeveloping countries often rely on advice from the International Monetary Fund (IMF)The IMF is a major source of temporary loans to stabilize their currenciesThe basis for most IMF loans is conditionality which is the making of loans that are subject to specific conditions, usually that deficits be lowered and money supply growth be limitedObstacles to Economic DevelopmentSeven problems facing developing countries are:Political instabilityCorruptionLack of appropriate institutionsLack of investmentInappropriate educationOverpopulationHealth and diseaseChapter Summary Per capita income in developing countries is about 1/100 of per capita income in the U.S. Societies should not be judged by income aloneDevelopment refers to an increase in productive capacity and output brought about by a change in underlying institutions, while growth refers to an increase in output brought about by an increase in inputsMany developing countries have serious political problems that make it impossible for government to take an active, positive role in the economyMany developing countries have dual economies Chapter Summary Developing countries need regime change rather than policy changeAlthough developing countries know that printing too much money leads to inflation, their choices are limitedSome central banks lack independence and for others the only alternative is the collapse of governmentSeven obstacles to economic development are political instability, corruption, lack of appropriate institutions, lack of investment, inappropriate education, overpopulation, and poor health and disease