Multiplier Based Economic Growth

(Wonky)

 

    

What appears in this article is “standard knowledge” for most development economists. Some of this is already in extensive use by the global commodity chain people and the global value chain people. The movement of this “standard knowledge” deserves to be taken even further than what is currently being practiced.

    

Scholars concerned with eliminating global poverty and increasing economic growth in the underdeveloped nations historically were concerned with creating “modern” base industries. Great Britain grew with textile factories. The Global South needed textile factories. The United States grew with automobile factories. The Global South needed automobile factories. California grew with computer software firms. The Global South needed computer software firms. Great developers like Japan and South Korea and China took their own innovative steps. However, a huge part of their bona fide accomplishments is their ability to bring such modern industries to their own nations.

    

However, creating base industries has never been enough to create industrialization on its own. There has been a secondary process where a country gets a full range of industrial and service activity to complement the base industry. Norway’s “base industry” was exporting canned fish. This is not exactly a technological juggernaut on the scale of world strategic industries. However, it was fully sufficient to make Norway an industrialized economy, because Norwegian firms made some of the inputs for the industry – and more importantly, workers spent their wages on Norwegian consumer products. The increase in manufacturing for the Norwegian consumer is what industrialized Norway. The Norway story is actually fairly typical of how capitalism advances as a whole.

    

Two midcentury economists figured this out a long time ago – Wassily Leontief in the 1930’s and Albert Hirschman in the 1950’s. Using different language (Type I and Type II multipliers for Leontief, forward and backward linkages for Hirschman), they argued base industries do not determine the ultimate rate of growth of an economy. The initial growth from base industry is multiplied by the extent to which that base industry buys its supply from local, national suppliers, and by the extent to which the workers in the base industry spend their wages on local consumer goods.

    

These findings were never disputed – which is just as well because they are eminently reasonable. However, they have often suffered from being ignored. Studying base industries is just too interesting – and there are too many good stories about base industries to tell.

    

However, societies DO differ in the size of their multiplier effects. Some countries get a huge bang for their buck when they see a base industry grow. Some countries get much less benefit. Latin American dependista theorists (Neo-Marxists who argued that the United States and Europe were impoverishing the rest of the world by design) rediscovered multipliers when they argued – correctly – that many economies in the Global South were disarticulated. Disarticulated meant that economic growth in the “imperialist” sector was cut off from the rest of the local economy, so that the rest of the economy would get little benefit from the profitability of modern industries. Modern factories and mines were foreign owned. They imported all of their supplies from the United States and Europe. They employed very few workers. As a result, the local economies got very few local supply purchases, and there was little increase in the demand for consumer goods. GDP statistics would go up due to the success of the modern sector itself, but poverty would not go down, standards of living would not go up, and the rate of GDP growth would be limited because it would be confined to the one foreign-owned enclave.

    

The dependistas exaggerated the extent to which the economies of Latin America or the Middle East are driven by hyper-isolated foreign-owned enclaves. However, they were correct in spirit, if not in degree. Underdeveloped economies really do have smaller multipliers – and this really is a significant drag on growth.

    

Multiplier analysis is having a mini-renaissance in the work of the global value chain theorists. In the 1980’s, Gary Gereffi discovered what is now basic fundamental wisdom in the study of development. Production is being globalized. What is designed by companies in the United States and Europe is being made in China and Southeast Asia.

    

(Yeah, yeah, yeah, you think you know this already. Yes, you do. But in the 1980’s this was news. Back then, everyone had to think about what this meant for the first time.)

     

The global value chain theorists are in the vanguard of thinking about how these new global commodity chains can produce multiplier effects for local nations. The agriculture booms in Africa have received especial attention. How can agriculture be structured in Africa so the local home nation provides the lion’s share of the inputs? And how can agriculture lead to local food manufacturing where the local home nation receives the lion’s share of those inputs as well? These are fine questions, well deserving of being made the centerpiece of a development strategy.

   

But this does not exhaust all the possibilities of what can be done with multiplier analysis.

   

What countries have high or low multipliers? Why is this the case? Is it just the case that rich countries have high multipliers and poor countries have low multipliers – or is there more to it than that? Short of designing individual linkages for particular industries – are there policies governments can take to increase the size of their multipliers overall?

    

Does import substitution (legally limiting imports or putting up high tariff walls against imports) help multipliers? In theory this should help because more goods can be made locally. Or does this just mean, local manufacturers have to work with low quality local inputs that hurt their ultimate competitiveness.

    

Do policies that support microenterprise help multipliers? Multiplier theory assumes a steady run of new firms that rise up to respond to new stimuli from base industry. Does helping small enterprise increase the responsiveness of national economies to such stimuli?

    

Do any educational policies help the multipliers? Educational policies take a long time to operate – but in principle, given enough time they can make a difference. Africa raised its education levels in many nations and then had to wait about twenty years in order to see a growth bump from the investment. But the bump did come, once those educated students were incorporated into the economy, and firms had time to adapt to the availability of a new and more qualified labor force.

    

More importantly, do socially egalitarian policies such as welfare policies improve multipliers? Do minimum wage laws help multipliers? These should work by putting money into the hands of workers (and non-workers) who can buy consumer goods. Wage multipliers produce robust, viable, consumer goods sectors. Robust viable consumer goods sectors make it more likely that workers will spend their money on local rather than imported goods.

    

Progressive social policy may have no positive effect on growth at all. However, if it does have such an effect, and my personal belief is that it does, the effect would come by increasing the size of the wage-based multiplier which in turn would be a building block in producing industrialization through supporting local consumer goods manufactures.

    

What’s good for poor people may be good for business. But we want to know more about the operation of multipliers before we carve that last sentence into stone.