Monday, April 28, 2008

Economic development and sectoral analysis

The economy of any modern nation comprises of three basic sectors, namely—primary sector, secondary sector and tertiary sector. The primary sector comprises of agricultural and allied activities. Economic activities such as fishing, forestry, horticulture, bee-keeping etc. can be put together under the heading of allied activities. Secondary sector mainly includes mining, industries and manufacturing. The services sector comprises of community, social and personal services, insurance, finance, banking, shipping and transport. All these sectors are inter-related; any imbalance or shock in one sector can produce repercussions in the other two sectors.

Development of an economy can be judged in terms of the sectoral contribution of each of these sectors to the nation’s total output and employment generated. In an underdeveloped economy, majority of the employment is generated by the primary sector. Also, primary sector holds a large share in the total output (or Gross National Product) produced. In the case of India and China 24.7% and 15.2% of the total GDP came from the agricultural sector, respectively. But in case of South Korea[1], only 4.4% of the GDP came from the agricultural sector during the year 2001.

Since most of the people are engaged in agriculture, so we find that land (area-wise) to man (population-wise) ratio is quite low in agriculture for the underdeveloped countries compared to the developed countries. In such a situation, if agricultural land is concentrated (owned by) in few hands, then this will cause landlessness to majority of the people. There will be widespread poverty with very low purchasing power in the hands of majority of the rural population. State intervention in such a situation becomes important—first of all, to carry out land reforms (redistribution of land to the poor landless and marginal labourers and peasants, either by purchasing land from the land rich section and selling it at subsidized rates to the land poor section, or by ‘radical land reforms’ as was carried out in some countries such as China, where State took away the land from the land rich section without paying any kind of economic compensation). One must know that fragmentation of land is a big problem among South Asian nations. Hence, sometimes it is said that land reforms can lead to lower output unless there is creation of land co-operatives or ‘communes’. But this is a difficult task. Formation of communes can fail if there is no trust among the land-owners. Countries where a majority of the population is engaged in agriculture are generally poor. But there are some exceptions such as Australia, New Zealand etc. Second of all, if land reforms were improperly implemented or could not be carried out, then the State can play a crucial role in the creation of the secondary sector (diversification), by investing in the secondary sector through deficit financing. This was done in the case of India during the 2nd and 3rd Five Year Plans based on the Mahalanobis model for industrialisation. However, the plans were criticised for neglecting the agricultural sector, which led to food insecurity and later led to the adoption of green revolution[2].

It becomes necessary to expand the secondary sector for the following reasons:

(i) Technological growth can take place in an economy which has a vibrant secondary sector. It is in the secondary sector where modern inputs such as fertilisers (chemical/ bio), pesticides (chemical/ bio) are manufactured, which are crucial inputs for modern agriculture.
(ii) The newly developed industrial sector will become a new arena for generating employment, which can reduce the pressure on agricultural land. This can help in modernizing agriculture thru mechanisation (like using tractors, electrical harvesters). Again introduction of machines and new technology will raise the productivity of labour in agriculture and hence the purchasing power.
(iii) The growth of the secondary sector is bound to be greater than that of the primary sector in the initial phase because of its comparative advantage in terms of technology. This will lift up the gross output and place the economy in a new steady state growth path. But if the agricultural sector fails to catch up with the growing demand for food grains coming from the growing industrial sector, then this will lead to inflationary tendencies in the economy.

After an economy is already into the modern phase, it is essential to give a thrust to the tertiary sector. There is a substantial amount of difference between the tertiary sector and the other two remaining sectors. In the tertiary sector, no tangible goods are produced. Tertiary sector do not produce anything but services. It is not involved directly in the production process but helps the production process itself by raising the efficiency/ productivity level and reducing transaction costs. Services are intangible goods; they themselves cannot be seen but their effects can be seen. For example, services of a doctor cannot be seen, but its effect can be seen when patient gets cured and starts working, thus contributing to the production of output. In today’s world, the most powerful economy is the one, which has a substantial share of the working population, engaged in the tertiary sector. Labour productivity is very much high in the tertiary sector thus leading to better emoluments of the workers employed in it. One reason behind this is the higher skill levels of the workers engaged in the tertiary sector. According to Simon Kuznets, when the secondary expands along with the growth of GDP during the earlier stage of growth of a developing economy, then income inequality starts rising.

All these do not add upto underestimating the role of the primary or more precisely the agricultural sector. Johnston and Mellor in their article ‘The Role of Agriculture in Economic Development’, published in 1961 in The American Economic Review, wrote about the relationship between industry and agriculture in the structural transformation of the modernizing economy. Agricultural development and productivity growth, they argued, not only provided surplus labour and food to the industrial sector, but also created demand for manufacturing sector output and became a source of foreign currency export earnings. Given the labour abundance and capital scarcity that characterised agriculture in many developing countries, they argued that growth could be achieved partly with the application of a rapid succession of labour-intensive, capital-saving innovations. So, instead of going for capital-intensive technology such as application of tractors, electrical harvesters, the developing countries should go for labour-intensive technology such as application of fertilisers, pesticides, hybrid rice (since all these needs more labour). So there are two types of technologies—labour intensive technology and capital intensive technology. Labour intensive technology can be applied in countries with high population density in agriculture (such as South Asian countries), and capital intensive technology needs to be applied in countries with scarce population density in agriculture (such as Western European countries). It has been argued that investment in rural infrastructure, extension and education systems, credit services, farmers' collective action programmes, input industries, and agricultural R & D (research and development) are essential to achieving agricultural sector growth.

Supply-side bottlenecks of the agricultural sector may put an obstacle on the growth of the industrial sector, because this particular sector not only provides ‘wage’ goods to the workers engaged in the industrial sector but is also a source of raw material. It is a fact that Great Britain had to rely on the supply of raw agricultural goods from India such as jute, cotton, indigo during the time of industrial revolution. Price inflation in agricultural goods in general and food grains in particular may begin when the industry starts expanding too fast thus creating demand for food, while the agricultural sector is failing to supply the growing demand. This will set the terms of trade in favour of the agricultural sector, which will be economically beneficial for the big land owning farmers who have the marketable surplus. The small and marginal farmers along with the agricultural labourers in the villages, and the industrial workers of the urban areas will face price inflation in food. Since a major portion of the worker’s budget/ income is spent on food as their marginal propensity to consume is very high vis-à-vis the capitalists/ industrialists, so food price inflation can have serious consequences. It can lead to cost-push inflation in case when industrial workers demand for an increase in the salary / remuneration through the formation of trade unions. Industrial growth may come to a halt since the profit maximising industrialist may think that it is in his/ her best interest, not to invest anymore because the labour costs are too high. It can also happen that capitalists then start moving towards more capital intensive technology. If a country depends on food processing industry and industries where agricultural goods are intensively used as raw material, then in such a case the unresponsiveness of the agricultural sector to the growing demand from the industrial sector may put an impediment on the growth of industry. In both the cases the government can take the following steps:

(i) Modernizing the agricultural sector through adoption of appropriate technology to overcome the supply bottlenecks in agriculture. Investment in R & D becomes pertinent during such times.
(ii) The government can import agricultural goods and food grains provided it has sufficient foreign exchange reserves.
(iii) The industrialists should change the composition of the production basket i.e. switch to producing goods, which requires capital-intensive technology.
(iv) The government can open up rationing system for the distribution of food to rural and urban working people at subsidised rates.
Inter-sectoral analysis of an economy is interesting as it helps us to see the economy in terms of structural changes. In the input-output analysis, we basically try to see the linkages between various sectors of the economy and consequently their relationship to the Gross Domestic Product (GDP). Inter-sectoral analysis becomes essential since all the sectors are not homogenous and the input intensities vary across different sectors and there are sub-sectors too, within each sector. Finally, centralised (socialistic) planning, mixed economic model/s, market based economic planning are just policy choices before any nation.
[1] In the case of S. Korea, there had been lot of investment on human capital formation.
[2] There is also the need to look at employment elasticity of the secondary and tertiary sectors, when the economy is growing.

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