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Economic Growth and the Balance-of-Payments Constraint.

The debate over the relative significance of Supply-Side and Demand-Side approaches to solving national economic problems has long dominated the field of economics. For a discipline that is not an exact science, economists should be extra careful in making superlative statements such as "this is the only right approach," or "that is the absolutely wrong approach." The evidence from major industrialized countries (Reagan-era in the U. S., Thatcher-era in the UK, Mulroney-era in Canada, and Kohl-era in Germany) suggests that it is the Supply-Side approach that is more effective in helping attain full employment with price stability. How can demand (not desire) be generated unless there is a source of income? How can a source of income be generated unless there is a workplace (supply), particularly in a non-primitive and non-barter contemporary society? In order for a country to achieve an economic success, therefore, it must place heavy emphasis on the efficiency of its production sector. The demand will be generated through income and can be expanded through informative and educational advertisements. The authors of this book, J. S. L. McCombie and A. P. Thirlwall, however, recommend a demand-oriented approach to economic growth.

Both authors are widely acclaimed economists. With expertise in post-Keynesian and regional economics, J. S. L. McCombie is a Fellow and Director of Studies in Economics at Downing College, Cambridge, and is a member of the Department of Land Economy at the University of Cambridge. Distinguished in the areas of economic growth and balance of payments and author of several books, A. P. Thirlwall is Professor of Applied Economics at the University of Kent at Canterbury. Both in content and style, it is a well written book. The authors' success in covering such a vast amount of material in a single volume is especially noteworthy. With skill and precision, only the academicians of similarly vast knowledge and experience could accomplish such a feat. With an excellent opening commentary, the book consists of ten more chapters, extensive endnotes, and a comprehensive list of references. It also contains name and subject indexes, both of which are very helpful to readers and researchers alike.

The book attempts to show the effects of the balance of payments on a country's growth performance. The authors offer a demand-oriented analysis of growth theory as an alternative to the supply-oriented analysis of the neoclassicists. In addition to providing a theoretical base for the demand-oriented approach to growth theory, the authors have attempted to substantiate their claims through empirical observations. The book provides two case studies of the balance-of-payments constrained growth of the United Kingdom and Australia. Economic schools have long been divided on the issue of the relative importance of demand and supply. Does supply create its own demand, or does demand create its own supply? Should monetary and fiscal agencies place heavy emphasis on the creation of a better production environment, or should they emphasize the creation of a better consumption environment? The authors provide a framework in which factor supplies and the rate of technical progress are endogenous to an economic system, while within the neoclassical framework, they are exogenous. The authors are of the view that a strong balance-of-payments position can create a virtuous circle of growth.

Chapter 1 is primarily devoted to the supply-oriented and neoclassical approaches to explaining a country's growth performance. The chapter begins with an observation of the postwar economic performance of the advanced countries, clearly distinguishing between the long boom (1951-73) and climacteric (post-1973). Various sources of economic growth are accounted for: labor input growth, increasing returns to scale, inter-sectoral transfer of labor, technical progress and research and development, diffusion of innovations and technological "catch-up." Similarly, the causes of economic slowdown are also examined. There appear to be three major criticisms of the neoclassical approach. First, it does not explain why factors differ between countries. Second, the effects of institutional factors cannot be quantified and hence they are omitted by default from the models; perhaps the micro-level studies could be more helpful. Third, some of the assumptions underlying the neoclassical approach may be impractical. The authors discuss in detail the limitations of the neoclassical approach's empirical relevance and point out the drawbacks in its theoretical modeling. For the 1970s and 1980s, the studies indicate that some countries experienced slow growth with a balance-of-payments deficit, while others experienced the same with a balance-of-payments surplus. Likewise, during the same period, interestingly, some countries experienced fast growth with a balance of payments deficit, while others experienced the same with a balance of payments surplus. In examining the inter-country growth in relation to balance-of-payments, it is pointed out that the performance of exports distinguishes slow growing countries from fast growing countries. Fast growing countries have higher rates of growth of exports than slow growing countries.

Chapter 2 introduces the demand-oriented approach to explain the growth performance of a country. Within the framework of a perfectly elastic supply of labor to industry at the going industrial wage, the dualistic models of the developing countries are applied in the case of developed countries. The transfer of labor from agriculture to industry could satisfy the increased demand to a limited extent even for developed countries. The differences in the level of the growth of demand may help explain differences in economic growth between countries. Verdoorn Law (presence of increasing returns in manufacturing industry) has been extensively examined in this chapter that highlights diffusion of innovations, sources of bias, time-series estimations, and paradox. Using the demand-oriented approach, the authors eloquently analyze the sources of the long boom for the periods 1951-65 and 1965-73 and explain the causes of the economic slowdown for the period 1973-85.

Chapter 3 examines the international growth rate differences in the context of the balance-of-payments constraint. The authors present the theory and empirical evidence that provide new insights for the issue of growth rate differentials. The authors also examine various models of growth and development. Chapter 4 investigates the importance of non-price competition in relation to exports and imports. In the long-run, the effects of non-price factors on the global market share could be very significant. Chapter 5 presents a lively debate on the balance-of-payments constrained growth models. An analysis of the foreign trade multiplier and super-multiplier is presented in Chapter 6. It is demonstrated that exports are an important component of aggregate demand and a source of foreign exchange. Chapter 7 presents various export-led growth models, while Chapter 8 investigates regional problems and cumulative causation. Regional problems of slow growth and unemployment may be highly correlated with balance-of-payments problems. Chapter 9 presents some interesting applications of the balance-of-payments constrained growth model that consider the effects of the removal of tariffs and the regional effects of the factor market integration. The model presented is quite broad and may be of significance for policy purposes. Two case studies of the United Kingdom and Australia are presented in Chapter 10. This chapter provides a detailed analysis of the effects of a depreciation of Pound Sterling, UK's export performance since 1979, deindustrialization, Australia's balance-of-payments crises, growth of foreign debt, and ineffectiveness of exchange rate adjustment.

The book is well balanced between the theoretical and applied works, in that the theoretical conclusions are followed by empirical investigations. With the compelling and lucid writing style, the authors have presented their viewpoints vigorously. The authors are judicious and fair in providing a balanced treatment of the two alternative theories of growth performance: supply-oriented and demand-oriented. While one may not agree with the viewpoints of the authors in their entirety, their thought provoking analysis of this timely and interesting topic will be of interest to both theoreticians and practitioners alike. The book will serve as a guideline to researchers and policymakers. The volume can be used as a textbook for upperdivision undergraduate and graduate courses.

Kashi Nath Tiwari Kennesaw State College
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Author:Tiwari, Kashi Nath
Publication:Southern Economic Journal
Article Type:Book Review
Date:Jan 1, 1995
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