The Pennsylvania State University

Department of Economics

Economics 570 Professor Barry W. Ickes

Development Spring 2006

This is the first half of the Development Economics sequence. In this part we focus on some aspects of development economics and on the economics of transition. With regard to development economics we will focus primarily on macroeconomic aspects of development, and on the role of institutions and organization in economic development. We will also study some aspects of stabilization and financial crises in developing countries. We will then turn to the economics of transition. The balance between the two parts will be an endogenous variable.

The basic question of development economics is what accounts for differences in economic performance between rich and poor countries. You could ask, “what makes some countries rich?” Alternatively, it may be more fruitful to answer the question, “why are some countries unable to become rich?” Recently, economists have focused on the role of institutions in generating these differences. You could call the subject comparative economic institutions. This focus also means that our concerns are very close to those of economic history. Indeed, one could view economic development and economic history as studying the same question, the former from a cross-section perspective, the latter from a time-series perspective.

A good reference for anyone planning to take the comprehensive exam in development are the Handbooks of Development Economics:

H. Chenery and T.N. Srinivasan, eds., Handbook of Development Economics, vols. 1 and 2 (Amsterdam: North-Holland, 1988 and 1989).

J. Behrman and T.N. Srinivasan, eds., Handbook of Development Economics, vols. 3A and 3B. (Amsterdam: North-Holland, 1995).

In addition the following books may be useful:

Debraj Ray, Development Economics, Princeton University Press, 1998.

Kaushik Basu, Analytical Development Economics, MIT Press, 1997.

With regard to transition economics there is a new textbook that is useful.

Gerard Roland, Transition and Economics. MIT Press, 2000. (GR)

These references are useful in filling gaps and topics that may not be covered in class. I did not assign any required texts.

Grading

There will be a midterm and a final exam. In addition, you will be allowed to submit a term paper of length 15-20 pages if you are interested in working further in this field. The paper should either presents your own empirical work or reviews the literature on a certain issue. The midterm will count for 20% of the grade. The paper and final will each count for 35% of your grade. The remainder of your grade will be determined by class participation and presentations. You should meet with me early in the semester to discuss your paper.

The discussion may resemble the following outline. Some papers are available on the web, and are marked WEB. Materials for this course can be found on my website: http://econ.la.psu.edu/~bickes/

1. Introduction to Development and Transition Economics

What is Development Economics about and how does it relate to Transition Economics? Are the problems of emerging economies from poverty similar to those of economies emerging from socialism? What does the study of transition teach us about development? And vice versa? How should we think about this subject.

Ofer, Gur, “Development and Transition: Emerging, but Merging?” November 2000, mimeo, WEB.

Ickes, B.W., Lecture Note: Introduction to Development and Transition. WEB

2. Stylized Facts of Economic Growth and Explanations of Divergence

The most important stylized fact of economic growth is the large divergence in output levels since the early 19^th century. One of the most important questions to ask is “what accounts for these differences?” The answer will come in the second half of the sequence. In this semester we will, for the most part, take the differences as given, and focus on the systematic factors that inhibit growth in much of the world?

Maddison, Angus, The World Economy: A Millenial Perspective. Paris, OECD, 2001.

Banerjee, A., and E. Duflo, “Growth Through the Lens of Development Economics,” forthcoming in Handbook of Economic Growth.

Ricardo Hausmann, Lant Pritchett and Dani Rodrick, "Growth Accelerations," Working Paper, NBER 10566, June 2004.

Burnside, Craig, and David Dollar, “Aid, Policies, and Growth,” AER, 90, 4, Sept 2000: 847-68.

Galor, Oded and Omer Moav, “ Natural Selection and the Origin of Economic Growth,” Quarterly Journal of Economics, 117 (November 2002).

Acemoglu, Daron, Phillipe Aghion, and Fabrizio Zilibotti, “Distance to Frontier, Selection, and Economic Growth,” June 2002, Web.

Easterly, W., “Inequality Does Cause Underdevelopment: New Evidence,” Center for Global Development, Working Paper, 1, June 2002.

Hsieh, Chang-Tai, and Peter Klenow, “Relative Prices and Prosperity,” mimeo, April 2003.

Parente, S., and E. Prescott, Barriers to Riches, MIT Press, 2000.

Howitt, Peter, “Endogenous Growth and Cross-Country Income Differences,” AER, 90, 4, Sept 2000: 829-846.

Mokyr, Joel, “Long-term Economic Growth and the History of Technology” forthcoming in Handbook of Economic Growth.

Bloom, David and Jeffrey Williamson, “Demographic Transitions and Economic Miracles in Emerging Asia” NBER Working Paper, 6268.

Bloom, David, David Canning, and Jaypee Sevilla, “Economic Growth and the Demographic Transition,” NBER Working Paper, 8685.

Azariadis, Costas and John Stachurski, Poverty Traps, forthcoming in Handbook of Economic Growth.

Easterly, W., “Reliving the 50s: the Big Push, Poverty Traps, and Takeoffs in Economic Development.”

Cole, H.L., Ohanian, L.E., Riascos, A., and J.Schmitz Jr., "Latin America in the Rear View Mirror," JME, 52, 1, January 2005: 69-108.

Sachs, J., and A. Warner 2001. “The Curse of Natural Resources,” European Economic Review 45:827-838.

Hausmann, R., R., Rigobon, “An alternative interpretation of the `resource curse': Theory and policy implications,” NBER, January 2003.

Wright, G., and J. Czelusta, "Mineral Resources and Economic Development," Stanford, October 2003.

3. Institutions, Organization and Economic Development

What role do institutions, and institutional innovation, play in economic development? We have seen that one explanation for the divergence that is observed across countries is related to institutions. We now turn to more specific mechanisms. How do economic organizations differ in developing and developed countries? The economics of organization explains the development of economic institutions as means of economizing on transactions costs. Are their specific problems faced by developing countries that inhibit the development of economic institutions? How does this impact on economic development? A theory of economic organization is crucial for development economics because of the wide variety of experiences observed. There is even an argument that this should form the basis for a new comparative economics.

Ray, chapters 5, 12.

Basu, chapters 1-2.

Stiglitz, J. E., "Economic Organization, Information, and Development," Handbook of Development Economics, vol. 1, 1989.

Lin, J.Y., “Collectivization and China’s Agricultural Crisis in 1959-1961,” Journal of Political Economy, 98, 6, December 1990: 1228-1249.

Acemoglu, Daron, Simon Johnson, and James Robinson, “Reversal of Fortune: Geography and Institutions in the Making of the Modern World Income Distribution,” NBER Working Paper, 8460, September 2001. WEB

Easterly, W., and R. Levine, “Tropics, Germs, and Crops: How Endowments Influence Economic Development,” Journal of Monetary Economics, 50, 1, January 2003: 3-39 (you can access a draft version here).

Glaeser, E., R. La Porta, F. Lopez-de-Silanes, and A Shleifer, “Do Institutions Cause Growth?” NBER Working Paper, 10568.

Engerman, Stanley L., Kenneth L. Sokoloff, “Factor Endowments, Inequality, and Paths of Development among New World Economies,” NBER Working Paper 9259.

Acemoglu, Daron, “Modeling Inefficient Institutions,” MIT July 2005.

Besley, Timothy, “Property Rights and Investment Incentives: Theory and Evidence from Ghana,” JPE, 103, 5, October 1995: 903-937.

Greif, Avner, "Contract Enforceability and Economic Institutions in Early Trade: The Maghribi Traders Coalition," American Economic Review, vol. 83, 3, June 1993.

Greif, A., P. Milgrom, and B.R. Weingast, “Coordination, Commitment, and Enforcement: The Case of the Merchant Guild,” Journal of Political Economy, 102, 4, August 1994.

Greif, A., “Cultural Beliefs and the Organization of Society: A Historical and Theoretical Reflection on Collectivist and Individual Societies,” Journal of Political Economy, 102, 5, October 1994.

Kremer, M., “The O-Ring Theory of Economic Development,” Quarterly Journal of Economics, CVIII, 3, August 1993: 551-575.

Zak, P., and S. Knack, “Trust and Growth,” Economic Journal, April 2001.

Murphy, Kevin, Andrei Shleifer, and Robert Vishny, “The Allocation of Talent: Implications for Growth,” QJE, vol. 106, 2, May 1991: 503-30.

Caballero, R., and M. Hammour, “Creative Destruction and Development: Institutions, Crises, and Restructuring,” World Bank, ABCDE Conference, 2000. Web.

Hausmann, Ricardo and Dani Rodrik, “ Economic Development as Self-discovery,” NBER Working Paper 8952, November 2002.

Sachs, Jeffrey, “ Institutions Don’t Rule: Direct Effects of Geography on per Capita Income,” NBER Working Paper 9490, February 2003.

Rodrik, Dani and Arvind Subramanian, Francesco Trebbi, “Institutions Rule: the Primacy of Institutions over Geography and Integration in Economic Development,” NBER Working Paper, 9305, November 2002.

Djankov, Simeon , and Edward L. Glaeser, Rafael La Porta, Florencio Lopez-de-Silane, Andrei Shleifer, “The New Comparative Economics,” Journal of Comparative Economics, Vol 31, 4, December 2003.

Pande, R. and C. Udry, “Institutions and Development: A View from Below,” Yale Growth Center.

Guiso, L., Sapienza, P., and L. Zingales, “Does Culture Affect Economic Outcomes?

4. Political Economy and Policy Reform

We observe divergence and the maintenance of policies that seem completely inimical to improved performance. Why do these policies persist? Policy reform is a key issue for developing economies. How reforms are implemented is often as important as what reforms are implemented. This is especially important as it related to corruption. A critical question for development economics is whether or not corruption is a deterrent or a spur to growth.

Shelifer, A. and R. Vishny, “Corruption,”Quarterly Journal of Economics, CVIII, 3, August 1993: 5599-617.

Rajan, R., and L. Zingales, “Creating Constituencies for Reform”

Mauro, P., “Corruption and Growth,” QJE, CX, 3, August 1995.

Bardhan, Pranab, “Corruption and Development,” Journal of Economic Literature, Vol. XXXV, September 1997: 1320-1346.

Robinson, James A., and Ragnar Torvik, “White elephants,” JPubEcon, 89, 2005: 197-210.

Krusell, Per and Jose-Victor Rios-Rull (1996). “Vested Interests in a Positive Theory of Stagnation and Growth,” Review of Economic Studies 63, #2, 301-329.

Acemoglu, Daron, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics, vol. 31, 4, December 2003.

Sonin, K., “Why the Rich May Favor Poor Protection of Property Rights,” Journal of Comparative Economics, vol. 31, 4, December 2003.

Basu, Susanto, and David Li, “Corruption and Reform,” Davidson Institute Working Paper, June 1996.

Krueger, Anne O., Political Economy of Policy Reform in Developing Countries. MIT Press, 1993.

Rodrik, Dani, “Growth Strategies,” Working Paper, JFK School, Sept. 2003.

Hausmann, Ricardo, Dani Rodrik, and Andrés Velasco, 'Growth Diagnostics," March 2005.

Tornell, Aaron, “Economic Growth and Decline with Endogenous Property Rights,” Harvard University Discussion Paper, 1739, September 1995.

Alesina, A., and R. Perotti, “Income Distribution, Political Instability, and Investment,” European Economic Review, 40, 1996: 1203-1228.

Rodrik, D., “Understanding Economic Policy Reform,” Journal of Economic Literature, XXXIV, March 1996: 9-41.

Hoff, K., "Beyond Rosenstein-Rodan: The Modern Theory of Underdevelopment Traps," Annual Bank Conference on Development Economics, 2000.

Fernandez, Raquel, and Dani Rodrik, "Resistance to Reform: Status Quo Bias in the Precence of Individual-Specific Uncertainty," American Economic Review, December 1991, 81, 5, 1146-1155.

Alesina, Alberto and Alan Drazen, "Why are Stabilizations Delayed?" American Economic Review, December 1991, 81, 5. 1170-1188.

Mussa, Michael, “Government Policy and the Adjustment Process, in J. Bhagwati, ed., Import Competition and Response, University of Chicago Press, 1992.

Mehlum, Halvor, “Speed of adjustment and self-fulfilling failure of economic reform,” Journal of International Economics, vol. 53, 1, February 2001: 149-67.

Berglof, Erik, and Patrick Bolton, “Law Enforcement, Fiscal Responsibility and Economic Development,” May 2002.

5. Financial Development and Financial Liberalization

Financial Development is seen as a key part of the development process. But is this a causal relationship? What is the mechanism? An important question has been how applicable are such policies to developing and transition economies. Recently, concern has shifted to financial instability. Does Financial Liberalization enhance growth prospects once we take into account potential instability?

Levine, Ross, “Financial Development and Economic Growth: Views and Agenda,” Journal of Economic Literature, vol. XXV, June 1997, 688-726.

Acemoglu, Daron and Fabrizio Zilibotti, “Was Prometheus Unbound by Chance? Risk, Diversification and Growth,” JPE, vol. 105, 4, August 1997: 709-751.

Rajan, R., and L. Zingales, “Financial Dependence and Growth,” AER, vol. 88, 3, June 1998: 559-586.

Rajan, R., and L. Zingales, “The Great Reversals: The Politics of Financial Development in the Twentieth Century,” Journal of Financial Economics, forthcoming.

Bekaert, G., C. Harvey, and C. Lundblad, “Does Financial Liberalization Spur Growth?” NBER Working Paper, 8245, April 2001.

Demirgüç-Kunt, Asli, and Enrica Detragiache, “Financial Liberalization and Financial Fragility,” Annual World Bank Conference on Development Economics, Washington, D.C., April 20–21, 1998.

Prasad, Eswar S., Kenneth Rogoff, Shang-Jin Wei, and M. Ayan Kose, “Effects of Financial Globalization on Developing Countries: Some Empirical Evidence,” IMF Occasional Paper 220, March 2003.

6. Emerging Market Crises

Financial liberalization, globalization and capital mobility may enhance growth prospects, but they also increase the likelihood of financial instability in emerging market economies. Capital inflows are important to developing countries, but this also presents risks associated with financial instability. Emerging market crises often involve both currency and banking crises. Are the costs of these crises severe enough to offset the gains from liberalization?

Edwards, S., and S. van Wijnbergen, "Disequilibrium and Structural Adjustment," Handbook of Development Economics, vol 2, 1989.

Khan, Mohsin, "The Macroeconomic Effects of IMF-Supported Adjustment Programs: An Empirical Assessment," IMF Staff Papers, June 1990: 195-231.

Calvo, G., L. Leiderman, and C.M. Reinhart, “Inflows of Capital to Developing Countries in the 1990's,” Journal of Economic Perspectives, 10, 2, Spring 1996: 123-139.

Calvo, G., and E. Mendoza, “Mexico’s Balance of Payments Crisis: A Chronicle of Death Foretold,” Journal of International Economics, vol. 41, 3-4, November 1996: 235-264.

Agenor, P-R., and P. Montiel, Development Macroeconomics, Princeton, New Jersey, Princeton University Press, 1996: chapters 8, 10, 14, 16.

Radelet, S. and J. Sachs, “The East Asian Financial Crisis: Diagnosis, Remedies, Prospects,” Brookings Papers on Economic Activity, 1, 1998: 1-74.

Chang, R., and A.Velasco, “Financial Crises in Emerging Markets: A Canonical Model,” NBER Working Paper, #6606, June 1998. WEB: http://www.nber.org/new.html#latest.

Burnside, C., M. Eichenbaum and S. Rebelo 2001, "Prospective Deficits and the Asian Currency Crisis", Journal of Political Economy, December 2001.

Burnside, C., M. Eichenbaum and S. Rebelo, “Government Guarantees and Self-fulfilling Speculative Attacks,” Journal of Economic Theory 119 (2004) 31-63.

Glick, R., Xueyan Guo, and Michael Hutchison, “Currency Crises, Capital Account Liberalization, and Selection Bias,” San Francisco Federal Reserve Bank, 2004.

Arrelano, Christina, “Default Risk, the Real Exchange Rate, and Income Fluctuations in Emerging Economies,” Minnesota, December 2005.

Caballero, R., and A. Krishnamurthy, “Smoothing Sudden Stops,” NBER Working Paper 8427, August 2001. WEB

Ranciere, Romain , Aaron Tornell, and Frank Westermann, “Crises and Growth: A Re-Evaluation,” NBER Working Paper No. 10073.

Aghion, Philippe , and Philippe Bacchetta and Abhijit Banerjee, “Financial Development and the Instability of Open Economies,” Harvard, December 2003.

6. Transition

The transition from central planning to a market economy creates questions of special importance to development economics. Transition economies are underdeveloped, but in ways different from LDC’s. They have industry and they have already undergone the rural-urban transition that is part of development, but they lack the institutions of markets. How important are these institutional gaps?

This section is divided into subsections, as it comprises a subject in and of itself. The first section provides background into the system from which the transition starts.

A recent report by the World Bank documents 10 years of transition and is a useful source of information. It is available at:

http://lnweb18.worldbank.org/ECA/eca.nsf/Attachments/Transition1/$File/complete.pdf

1. Background

Ericson, Richard, "The Classical Soviet-Type Economy: Nature of the System and Implications for Reform," Journal of Economic Perspectives, Fall, 1991.

GR, chapter 1.

Ickes, Barry W., “Dimensions of Transition in Russia” in The Russian Economy in the 1990's, B. Granville and P. Oppenheimer, eds., Oxford University Press, 2001. WEB: http://econ.la.psu.edu/~bickes/granv.pdf

Hewett, Ed A., Reforming the Soviet Economy: Equity and Efficiency, Brookings, 1990.

Ofer, Gur, "Soviet Economic Growth: 1928-1985," Journal of Economic Literature, December 1987.

Murrell, Peter "Evolution in Economics and in the Economic Reform of the Centrally Planned Economies." in Clague, Christopher and Gordon C. Rausser, eds. Emergence of Market Economies in Eastern Europe, Blackwell Publishers, 1992.

Litwack, John, "Legality and Market Reform in Soviet Type Economies," Journal of Economic Perspectives, Fall, 1991.

Kornai, J. "The Hungarian Reform Process: Visions, Hopes, and Reality," Journal of Economic Literature, Dec., 1986: 1687-1737.

Murphy, Kevin, Andrei Shleifer, and Robert Vishny, "The Transition to a Market Economy: Pitfalls of Partial Reform," Quarterly Journal of Economics, August 1992.

Campos, Nauro F., and Fabrizio Coricelli, “Growth in Transition: What We Know, What We Don’t, and What We Should,” JEL, XL, Sept 2002: 793-836.

2. Sequencing

McKinnon, R., The Order of Economic Liberalization: Financial Control in the Transition to a Market Economy, Johns Hopkins Press, 1991, chapter 2.

GR, chapters 2-3.

Dewatripont, M., and G. Roland, “Transition as a Process of Large-Scale Institutional Change,” Economics of Transition, 4, 1, 1996: 1-30.

Dewatripont, M. and G. Roland, “The Design of Reform Packages under Uncertainty,” American Economic Review, 85,5, December 1995.

Dewatripoint, M. and Roland, G. “The Virtues of Gradualism and Legitimacy in the transition to a Market Economy,” Economic Policy, March 1992.

McMillan, John, “Markets in Transition,” in D. Kreps and K. Wallis, eds., Advances in Economics And Econometrics: Theory and Applications. Cambridge University Press, 1996.

Ofer, Gur, "Stabilizing and Restructuring the Soviet Economy: Big Bang or Gradual Sequencing?" in M. Keren, and G. Ofer, eds., Trials of Transition: Economic Reform in the Former Communist Bloc. Boulder, CO; Westview Press, 1992.

Aghion, Phillipe and Olivier Blanchard, “On the Speed of Transition in Central Europe,” NBER Macroeconomics Annual. Cambridge, MA, 1994: 283-320.

Alexeev, Michael and Michael Kaganovich, “Dynamics of Privatization Under a Subsistence Constraint,” Journal of Comparative Economics, 29, 2000: 417-447.

3. The Output Fall and Stabilization

Blanchard, O., and M. Kremer, “Disorganization,” Quarterly Journal of Economics, CXII, 4, November 1997.

Calvo, G., and F. Coricelli, “Output Collapse in Eastern Europe: The Role of Credit,” International Monetary Fund Staff Papers, 40, 1, March 1993.

Cochrane, J.H., and B.W. Ickes, "Macroeconomics in Russia," in E. Lazear, ed., Economic Transition in Eastern Europe and Russia: Realities of Reform. Hoover Institution Press, 1995.

Ericson, Richard E., “The Structural Barrier to Transition Hidden in Input-Output Tables of Centrally Planned Economies,” Economic Systems, V.23, 3, September 1999, pp. 199-224.

Ickes, B.W., and Randi Ryterman, "The Interenterprise Arrears Crisis in Russia," Post-Soviet Affairs (formerly Soviet Economy), 8: 4, October-December, 1992: 331-61.

Ickes, B.W., and Randi Ryterman, "Roadblock to Economic Reform: The Interenterprise Arrears Crisis in Russia," Post-Soviet Affairs (formerly Soviet Economy), 9, 3, July-September, 1993.

Ickes, B.W., and Randi Ryterman, "Financial Underdevelopment and Macroeconomic Stabilization in Russia," in G. Caprio, D. Folkerts-Landau, and T. Lane, eds., Building Sound Finance in Emerging Market Economies, World Bank-IMF, 1994.

Fischer, Stanley, Ratna Sahay, and Carlos Vegh, “Stabilization and Growth in Transition Economies: Early Experience.” Journal of Economic Perspectives, Spring 1996.

Ickes, Barry W., Peter Murrell and Randi Ryterman, “End of the Tunnel? The Effects of Financial Stabilization in Russia,” Post-Soviet Affairs (formerly Soviet Economy), vol. 13, 2, April-June, 1997.

Fischer, Stanley, and Ratna Sahay, “The Transition Economies After Ten Years,” IMF Working Paper, February 2000.

GR, chapter 7.

4. Privatization

Boycko, M., A. Shleifer and R.W. Vishny, "Privatizing Russia," Brookings Papers on Economic Activity, 2:1993: 139-181.

GR, chapters 4, 10.

Hoff, Karla, and Joseph E. Stiglitz “The Creation Of The Rule Of Law And The Legitimacy Of Property Rights: The Political And Economic Consequences Of A Corrupt Privatization,” NBER Working Paper 11772.

Ickes, B.W., and Randi Ryterman, "From Enterprise to Firm: Notes For a Theory of the Enterprise in Transition," in R.W. Campbell ed., The Postcommunist Economic Transformation: Essays in Honor of Gregory Grossman, Westview Press, 1994: 83-104.

Katz, B., and J. Owen, “Privatization: Choosing the Optimal Time Path,” Journal of Comparative Economics, 17: 715-736.

Laban, Raul and Holger Wolf, "Large-Scale Privatization in Transition Economies," American Economic Review, 83, 5, December 1993.

Murrell, P., and Y. Wang, “When Privatization Should be Delayed: The Effect of Communist Legacies on Organizational and Institutional Reforms,” Journal of Comparative Economics, 17: 385-406.

Roland, G. and T. Verdier, “Privatization in Eastern Europe: Irreversibility and Critical Mass Effects,” Journal of Public Economics, 54, 1994: 161-183.

Rutland, Peter, "Privatization in Russia: One Step Forward: Two Steps Back?" Europe-Asia Studies (formerly Soviet Studies), 46, 7, 1994: 1109-1132.

Shleifer, A., and R. Vishny, “Politicians and Firms,” Quarterly Journal of Economics, CIX, 4, November 1994: 995-1025.

5. Empirical Studies

Megginson and Netter, From State to Market: A Survey of Empirical Studies on Privatization, Journal of Economic Literature, Vol. 39, No. 2, June 2001.

Djankov, Simeon D. and Peter Murrell, “Enterprise Restructuring in Transition: A Quantitative Survey” mimeo, WEB.

Berg, Andrew ; Borensztein, Eduardo R ; Sahay, Ratna, and Jeromin Zettelmeyer, “The Evolution of Output in Transition Economies - Explaining the Differences,” IMF Working Paper, No. 99/73, January 1999, WEB.

Campos, Nauro F., and F. Coricelli, “Growth in Transition: What We Know, What We Don’t, and What We Should” Global Development Network, November 2000, WEB.

Guriev, Sergei, and Barry W. Ickes, “Microeconomic Aspects of Economic Growth in