THE DISTRIBUTION OF GAINS BETWEEN INVESTING AND BORROWING COUNTRIES
H.W. Singer, May 1950
- International trade is very important to underdeveloped countries.
- Benefits that they derive from trade and variations in trade affect their national incomes deeply.
Reasons why Foreign Trade is important:
- Foreign trade ( FT) most important when incomes are lowest.
- Fluctuations in value and volume tend to be more violent and thus have an important relationship with national income
- Due to the small margin of income over subsistence needs which form the source of capital formation.
- Opposite view held by many economists is that trade in underdeveloped countries is not very important
Why the author believes it’s not important:
- Caused by confusion between the absolute amount of foreign trade and the ratio of foreign trade to national income.
- Also because there is a huge discrepancy in the productivity of labour in underdeveloped countries between those catering for export and those catering for domestic.
- Export industries tend to be capital intensive and highly technologic. By comparison domestic industries (food, clothes) are very primitive and subsistence-like.
- Leads to a ‘dualistic economic structure’: high productivity in export sector coexisting with low productivity in domestic sector.
- Employment stats don’t show true lower importance of foreign trade -although the numbers employed in export are multiples of those employed in domestic, overall employment figures for underdeveloped countries tend to be lower than those for industrialised countries.
- Because there are large self-contained groups existing outside the monetary system in underdeveloped countries, foreign trade doesn’t affect such groups at all, thus reducing overall importance of foreign trade to such countries.
Does foreign trade increase the ‘wealth’ of underdeveloped countries?
- Initially it appears as though foreign trade would raise productivity, change economies towards monetary economies, spread knowledge, introduce capital-intensive methods of production and technology etc.
- However, most are companies located in underdeveloped countries are multinational corporations (MNCs) and therefore foreign owned, meaning that the benefits are often repatriated to the parent country. They never become a real part of the internal economic structure except in a geographical and physical sense. Thus the multiplier effects are negated here.
- Given the second multiplier effect – cumulative additions to income, employment, capital, technical knowledge, growth of external countries etc – foreign investment should actually be considered domestic investment on the part of industrialised countries.
Opportunity Costs of Specialisation:
- If we apply opportunity costs to the developing nations of having capital imported into them in order to make them providers of food and raw materials for industrialised countries, we see importation of such capital may have actually harmed the underdeveloped countries.
- This is because the underdeveloped countries become so specialised in specific areas (e.g. tea plantations in Ceylon, oil wells in Iran) that other domestic industries have failed to grow up. In this case, the theoretical question of what might have been arises - has the specialisation of industry outweighed the possible benefits of the domestic industry that might have appeared in its absence?
- Could it be that the export development has absorbed what little entrepreneurial initiative and domestic investment there was, and even tempted domestic savings abroad? (NOTE: such questions are purely speculative)
Why do UC seek Manufacturing Industry?
- Concept of ‘one thing leads to another’ – the most important contribution of an industry is not its immediate product, or it’s effects on other industries or social benefits but its effect on the general level of education, skill, way of live, inventiveness, habits, store of technology, creation of new demand etc.
- Manufacturing industries provide growing points for all the above social benefits in a way far superior than industries such as commerce, farming, plantation and agriculture have proved capable of.
Summarise position thus far:
- Specialisation of underdeveloped countries into food and raw materials as a result of investment from industrialised countries has had unfortunate outcomes for the former because:
o It removed the secondary and cumulative benefits of investment from the country in which the investment took place.
o Diverted the underdeveloped countries into activities offering less scope for additional benefits for the underdeveloped countries themselves.
Importance of Trade:
- Since the 1970’s, the trend of prices has been set against the sellers of food and raw materials and in favour of the sellers of manufactured articles. What is the meaning of these changing price relations?
o The idea that the changing price relations reflect increased costs of manufactured exports in relation to the costs of food and raw material exports can be dismissed.
o All indications point out that the productivity of food and raw materials has increased more slowly than that of manufactured goods, even in industrialised countries.
o Given that the standard of living has increased faster in these countries than in underdeveloped countries, this negates the argument that changing prices reflect relative trends in productivity.
- One possible explanation is that the fruits of technical progress may be distributed to either producers (in the form of rising incomes) or to consumers (in the form of lower prices). In relation to manufacturing the former occurs whilst in terms of food and raw materials the latter applies.
o If one considers foreign trade the position changes. The producers are at home whilst the consumers are abroad. Rising incomes of producers to the extent that they exceed increased productivity levels become a burden on the foreign consumer.
o They lose part or all of the potential fruits of technical progress in the form of lower prices.
o On the other hand where the fruits of technical progress have been passed on through lower prices the foreign consumer benefits alongside with the home consumer.
Other factors of falling prices:
- Technical progress has not the same effect on food and raw materials. In the case of food, demand is not very sensitive to increases in real income. In the case of raw materials, technical progress actually reduces the amount of raw materials required.
- This lack of an automatic multiplication in demand, coupled with low price elasticity of demand, results in large price falls.
NB: The industrialised countries have had the best of both worlds -are consumers of primary commodities and producers of manufactured articles. Underdeveloped countries have had the worst of both worlds - are consumers of manufactured articles and producers of raw materials.
Benefits of FT to Developed Countries:
- Build up of exports of manufactures, thus allowing them to transfer their population from low-productivity to high-productivity occupations
- Use of internal economies of expanded manufacturing industries
- Use of the general dynamic impulse radiating from industries in a progressive society
- Fruits of technical progress in primary production as the main consumers of primary commodities
- Contribution from foreign consumers of manufactured articles
Benefits of FT to UC:
- None of note!
Position in 1950:
- The traditional investment system broke down in 1929 and 1930.
- Industrialised countries tried to ‘get their money back’ (on top of the benefits received above) and this was seen as trying to demand double payment.
- World seemed to be under the impression that the trend towards deteriorating price relations for primary producers has been sharply reversed since pre-war days (the impression was at it’s strongest in 1948).
- But how accurate was this impression?
o US
§ Idea appeared primarily due to imports of primary commodities at higher prices into the US immediately post-war (e.g. sharp price increases were observed in commodities such as coffee).
§ Idea existed that foreign trade was simply an exchange of primary commodities for capital goods. However, capital goods required too much domestic investment in underdeveloped countries and therefore this exchange was not a fair one.
o Britain
§ Another reason is the deterioration in British terms of trade, exacerbated due to Britain’s importance in the network of world trade.
§ This deterioration brought about an increase in quantity exported, which led to price decreases and an increase in quantity imported, which led to price increases.
§ This can be seen as a reflection of the diminishing bargaining strength of Britain.
- Why price relations didn’t actually reverse
o Major portion of imports by UC were manufactured food and textile manufactures and manufactured consumer goods. Prices rose so heavily post-war that any advantage the UC had from favourable prices on primary commodities was wiped out.
Ambivalence of foreign trade price relations:
- Good prices for goods and a rise in quantities required gave underdeveloped countries the means to import capital goods and finance their own development. Yet, due to a lack of foresight, they see no incentive to do so while prices are so high for food, raw materials etc.
- Thus when a price decrease occurs, the desire for industrialisation sharpens. Yet the means of doing so are also reduced.
- Results in such countries “failing to industrialise in a boom because things are as good as they are, and failing to industrialise in a slump because things are as bad as they are”.
So does the argument hold up?
- If the view that foreign investment was only “foreign” in the geographical sense, can we conclude that it has failed in its primary function?
- We should take the opportunity here to consider third party countries as well
- Example: European investment was the instrument by which industrialisation was brought to North America.
- Due to the supplies flowing into Europe, were able to feed, clothe, educate and train large numbers of emigrants who the went overseas to US and Canada therefore passing on the benefits of trade to these countries
Suggested economic policies and measures:
- Purpose of foreign investment and trade should be redefined as producing gradual changes in structure of comparative advantages and endowment of the different countries
- Underdeveloped countries need to develop a method of income absorption to ensure the results of technical progress are retained within the country (in the same way they are in the industrial ones)
- Need reinvestment of profits in undeveloped countries through:
o Absorption of profits by fiscal measures so they are used for economic development
o Absorption of increasing productivity in primary production into rising real wages and other incomes and the increment used to increase domestic savings and market growth so domestic industries can be developed.
BUT – higher standards of wages and social welfare are not necessarily the solution to bad terms of trade unless increment leads to domestic savings and investment.
- If introduced prematurely and applied indiscriminately to export and domestic industries, can hinder economic development and undermine bargaining power of primary producers
- Must have absorption for reinvestment – absorption alone is not sufficient.
Overall Conclusion:
- The flow of international investment will only benefit underdeveloped countries if it is absorbed into their economic system and used to generate complementary domestic investment.
Additional Papers:
Paper 1
Cross-National Evidence of the Effects of Foreign Investment and Aid on Economic Growth and Inequality: A Survey of Findings and a Reanalysis Authors: Volker Bornschier; Christopher Chase-Dunn; Richard Rubinson
The American Journal of Sociology, Vol. 84, No. 3. (Nov., 1978), pp. 651-683
(1) The effect of direct foreign investment and foreign aid has been to increase economic inequality within countries. This effect holds for income inequality, land
inequality, and sectoral income inequality.
(2) Flows of direct foreign investment and foreign aid have had a short-term effect of increasing the relative rate of economic growth of countries.
(3) Stocks of direct foreign investment and foreign aid have had the cumulative effect of decreasing the relative rate of economic growth of countries. This effect is small in the short run (1-5 years) and gets larger in the long run (5-20 years).
(4)
This relationship, however, has been conditional on the level of development of countries. Foreign investment and aid have had negative effects in both richer and poorer developing countries, but the effect is stronger in the richer than in the poorer countries.
(5) These relationships hold independent of geographical area.
Paper 2
"Effects of Investment Dependence on Economic Growth: The Role of Internal Structural Characteristics." Mimeographed. Stanford, California: Stanford University, Department of Sociology. Authors: Gobalet, Jeanne G., and Larry J. Diamond. 1977.
It seems possible that the effects of foreign investment and aid on growth and inequality may be conditional on whether the world economy is in a period of relative expansion or contraction.
For example, they found some evidence that the negative effects of foreign investment on economic growth are significantly greater from 1965 to 1975 than from 1955 to 1965. Since the earlier period was one of worldwide economic expansion and the later period has been one of worldwide relative economic contraction, their study suggests that foreign investment may have more negative effects in periods of economic contraction.
Glossary of Terms
- Underdeveloped Country
A nation which, comparative to others, lacks industrialisation, infrastructure, developed agriculture and developed natural resources and suffers from a low per capita income as a result.
- Developed Country
Used to categorised countries with developed economies with a high per capita/GDP. Examples include, North America, Australia, and Western Europe.
- International Trade
Exchange of goods and services across international borders.
H.W. Singer, May 1950
- International trade is very important to underdeveloped countries.
- Benefits that they derive from trade and variations in trade affect their national incomes deeply.
Reasons why Foreign Trade is important:
- Foreign trade ( FT) most important when incomes are lowest.
- Fluctuations in value and volume tend to be more violent and thus have an important relationship with national income
- Due to the small margin of income over subsistence needs which form the source of capital formation.
- Opposite view held by many economists is that trade in underdeveloped countries is not very important
Why the author believes it’s not important:
- Caused by confusion between the absolute amount of foreign trade and the ratio of foreign trade to national income.
- Also because there is a huge discrepancy in the productivity of labour in underdeveloped countries between those catering for export and those catering for domestic.
- Export industries tend to be capital intensive and highly technologic. By comparison domestic industries (food, clothes) are very primitive and subsistence-like.
- Leads to a ‘dualistic economic structure’: high productivity in export sector coexisting with low productivity in domestic sector.
- Employment stats don’t show true lower importance of foreign trade -although the numbers employed in export are multiples of those employed in domestic, overall employment figures for underdeveloped countries tend to be lower than those for industrialised countries.
- Because there are large self-contained groups existing outside the monetary system in underdeveloped countries, foreign trade doesn’t affect such groups at all, thus reducing overall importance of foreign trade to such countries.
Does foreign trade increase the ‘wealth’ of underdeveloped countries?
- Initially it appears as though foreign trade would raise productivity, change economies towards monetary economies, spread knowledge, introduce capital-intensive methods of production and technology etc.
- However, most are companies located in underdeveloped countries are multinational corporations (MNCs) and therefore foreign owned, meaning that the benefits are often repatriated to the parent country. They never become a real part of the internal economic structure except in a geographical and physical sense. Thus the multiplier effects are negated here.
- Given the second multiplier effect – cumulative additions to income, employment, capital, technical knowledge, growth of external countries etc – foreign investment should actually be considered domestic investment on the part of industrialised countries.
Opportunity Costs of Specialisation:
- If we apply opportunity costs to the developing nations of having capital imported into them in order to make them providers of food and raw materials for industrialised countries, we see importation of such capital may have actually harmed the underdeveloped countries.
- This is because the underdeveloped countries become so specialised in specific areas (e.g. tea plantations in Ceylon, oil wells in Iran) that other domestic industries have failed to grow up. In this case, the theoretical question of what might have been arises - has the specialisation of industry outweighed the possible benefits of the domestic industry that might have appeared in its absence?
- Could it be that the export development has absorbed what little entrepreneurial initiative and domestic investment there was, and even tempted domestic savings abroad? (NOTE: such questions are purely speculative)
Why do UC seek Manufacturing Industry?
- Concept of ‘one thing leads to another’ – the most important contribution of an industry is not its immediate product, or it’s effects on other industries or social benefits but its effect on the general level of education, skill, way of live, inventiveness, habits, store of technology, creation of new demand etc.
- Manufacturing industries provide growing points for all the above social benefits in a way far superior than industries such as commerce, farming, plantation and agriculture have proved capable of.
Summarise position thus far:
- Specialisation of underdeveloped countries into food and raw materials as a result of investment from industrialised countries has had unfortunate outcomes for the former because:
o It removed the secondary and cumulative benefits of investment from the country in which the investment took place.
o Diverted the underdeveloped countries into activities offering less scope for additional benefits for the underdeveloped countries themselves.
Importance of Trade:
- Since the 1970’s, the trend of prices has been set against the sellers of food and raw materials and in favour of the sellers of manufactured articles. What is the meaning of these changing price relations?
o The idea that the changing price relations reflect increased costs of manufactured exports in relation to the costs of food and raw material exports can be dismissed.
o All indications point out that the productivity of food and raw materials has increased more slowly than that of manufactured goods, even in industrialised countries.
o Given that the standard of living has increased faster in these countries than in underdeveloped countries, this negates the argument that changing prices reflect relative trends in productivity.
- One possible explanation is that the fruits of technical progress may be distributed to either producers (in the form of rising incomes) or to consumers (in the form of lower prices). In relation to manufacturing the former occurs whilst in terms of food and raw materials the latter applies.
o If one considers foreign trade the position changes. The producers are at home whilst the consumers are abroad. Rising incomes of producers to the extent that they exceed increased productivity levels become a burden on the foreign consumer.
o They lose part or all of the potential fruits of technical progress in the form of lower prices.
o On the other hand where the fruits of technical progress have been passed on through lower prices the foreign consumer benefits alongside with the home consumer.
Other factors of falling prices:
- Technical progress has not the same effect on food and raw materials. In the case of food, demand is not very sensitive to increases in real income. In the case of raw materials, technical progress actually reduces the amount of raw materials required.
- This lack of an automatic multiplication in demand, coupled with low price elasticity of demand, results in large price falls.
NB: The industrialised countries have had the best of both worlds -are consumers of primary commodities and producers of manufactured articles. Underdeveloped countries have had the worst of both worlds - are consumers of manufactured articles and producers of raw materials.
Benefits of FT to Developed Countries:
- Build up of exports of manufactures, thus allowing them to transfer their population from low-productivity to high-productivity occupations
- Use of internal economies of expanded manufacturing industries
- Use of the general dynamic impulse radiating from industries in a progressive society
- Fruits of technical progress in primary production as the main consumers of primary commodities
- Contribution from foreign consumers of manufactured articles
Benefits of FT to UC:
- None of note!
Position in 1950:
- The traditional investment system broke down in 1929 and 1930.
- Industrialised countries tried to ‘get their money back’ (on top of the benefits received above) and this was seen as trying to demand double payment.
- World seemed to be under the impression that the trend towards deteriorating price relations for primary producers has been sharply reversed since pre-war days (the impression was at it’s strongest in 1948).
- But how accurate was this impression?
o US
§ Idea appeared primarily due to imports of primary commodities at higher prices into the US immediately post-war (e.g. sharp price increases were observed in commodities such as coffee).
§ Idea existed that foreign trade was simply an exchange of primary commodities for capital goods. However, capital goods required too much domestic investment in underdeveloped countries and therefore this exchange was not a fair one.
o Britain
§ Another reason is the deterioration in British terms of trade, exacerbated due to Britain’s importance in the network of world trade.
§ This deterioration brought about an increase in quantity exported, which led to price decreases and an increase in quantity imported, which led to price increases.
§ This can be seen as a reflection of the diminishing bargaining strength of Britain.
- Why price relations didn’t actually reverse
o Major portion of imports by UC were manufactured food and textile manufactures and manufactured consumer goods. Prices rose so heavily post-war that any advantage the UC had from favourable prices on primary commodities was wiped out.
Ambivalence of foreign trade price relations:
- Good prices for goods and a rise in quantities required gave underdeveloped countries the means to import capital goods and finance their own development. Yet, due to a lack of foresight, they see no incentive to do so while prices are so high for food, raw materials etc.
- Thus when a price decrease occurs, the desire for industrialisation sharpens. Yet the means of doing so are also reduced.
- Results in such countries “failing to industrialise in a boom because things are as good as they are, and failing to industrialise in a slump because things are as bad as they are”.
So does the argument hold up?
- If the view that foreign investment was only “foreign” in the geographical sense, can we conclude that it has failed in its primary function?
- We should take the opportunity here to consider third party countries as well
- Example: European investment was the instrument by which industrialisation was brought to North America.
- Due to the supplies flowing into Europe, were able to feed, clothe, educate and train large numbers of emigrants who the went overseas to US and Canada therefore passing on the benefits of trade to these countries
Suggested economic policies and measures:
- Purpose of foreign investment and trade should be redefined as producing gradual changes in structure of comparative advantages and endowment of the different countries
- Underdeveloped countries need to develop a method of income absorption to ensure the results of technical progress are retained within the country (in the same way they are in the industrial ones)
- Need reinvestment of profits in undeveloped countries through:
o Absorption of profits by fiscal measures so they are used for economic development
o Absorption of increasing productivity in primary production into rising real wages and other incomes and the increment used to increase domestic savings and market growth so domestic industries can be developed.
BUT – higher standards of wages and social welfare are not necessarily the solution to bad terms of trade unless increment leads to domestic savings and investment.
- If introduced prematurely and applied indiscriminately to export and domestic industries, can hinder economic development and undermine bargaining power of primary producers
- Must have absorption for reinvestment – absorption alone is not sufficient.
Overall Conclusion:
- The flow of international investment will only benefit underdeveloped countries if it is absorbed into their economic system and used to generate complementary domestic investment.
Additional Papers:
Paper 1
Cross-National Evidence of the Effects of Foreign Investment and Aid on Economic Growth and Inequality: A Survey of Findings and a Reanalysis Authors: Volker Bornschier; Christopher Chase-Dunn; Richard Rubinson
The American Journal of Sociology, Vol. 84, No. 3. (Nov., 1978), pp. 651-683
(1) The effect of direct foreign investment and foreign aid has been to increase economic inequality within countries. This effect holds for income inequality, land
inequality, and sectoral income inequality.
(2) Flows of direct foreign investment and foreign aid have had a short-term effect of increasing the relative rate of economic growth of countries.
(3) Stocks of direct foreign investment and foreign aid have had the cumulative effect of decreasing the relative rate of economic growth of countries. This effect is small in the short run (1-5 years) and gets larger in the long run (5-20 years).
(4)
This relationship, however, has been conditional on the level of development of countries. Foreign investment and aid have had negative effects in both richer and poorer developing countries, but the effect is stronger in the richer than in the poorer countries.
(5) These relationships hold independent of geographical area.
Paper 2
"Effects of Investment Dependence on Economic Growth: The Role of Internal Structural Characteristics." Mimeographed. Stanford, California: Stanford University, Department of Sociology. Authors: Gobalet, Jeanne G., and Larry J. Diamond. 1977.
It seems possible that the effects of foreign investment and aid on growth and inequality may be conditional on whether the world economy is in a period of relative expansion or contraction.
For example, they found some evidence that the negative effects of foreign investment on economic growth are significantly greater from 1965 to 1975 than from 1955 to 1965. Since the earlier period was one of worldwide economic expansion and the later period has been one of worldwide relative economic contraction, their study suggests that foreign investment may have more negative effects in periods of economic contraction.
Glossary of Terms
- Underdeveloped Country
A nation which, comparative to others, lacks industrialisation, infrastructure, developed agriculture and developed natural resources and suffers from a low per capita income as a result.
- Developed Country
Used to categorised countries with developed economies with a high per capita/GDP. Examples include, North America, Australia, and Western Europe.
- International Trade
Exchange of goods and services across international borders.
