Lewis Dual-sector model

Lewis proposed his dual sector development model in 1954.

It explains the growth of a developing economy in terms of a labour transition between two sectors, the capitalist sector and the subsistence sector.

It was based on the assumption that many LDCs had dual economies with both a traditional agricultural sector and a modern industrial sector. The traditional agricultural sector was assumed to be of a subsistence nature characterised by low productivity, low incomes, low savings and considerable underemployment. The industrial sector was assumed to be technologically advanced with high levels of investment operating in an urban environment.

Relationship between these two sectors

Lewis suggested that the modern industrial sector would attract workers from the rural areas. Industrial firms, whether private or publicly owned could offer wages that would guarantee a higher quality of life than remaining in the rural areas could provide. This causes the output per head of labourers who move from the subsistence sector to the capitalist sector to increase.

Since Lewis in his model considers overpopulated labour surplus economies he assumes that the supply of unskilled labour to the capitalist sector is unlimited. This gives rise to the possibility of creating new industries and expanding existing ones at the existing wage rate. A large portion of the unlimited supply of labor consists of those who are in disguised unemployment in agriculture and in other over-manned occupations such as domestic services casual jobs, petty retail trading.

Those people that moved away from the villages to the towns would earn increased incomes and this crucially according to Lewis generates more savings. The lack of development was due to a lack of savings and investment. The key to development was to increase savings and investment. Lewis saw the existence of the modern industrial sector as essential if this was to happen. Urban migration from the poor rural areas to the relatively richer industrial urban areas gave workers the opportunities to earn higher incomes and crucially save more providing funds for entrepreneurs to investment.

A growing industrial sector requiring labour provided the incomes that could be spent and saved. This would in itself generate demand and also provide funds for investment. Income generated by the industrial sector was trickling down throughout the economy.

Problems of the Lewis Model

1. The idea that the productivity of labour in rural areas is almost zero may be true for certain times of the year however during planting and harvesting the need for labour is critical to the needs of the village.
2. The assumption of a constant demand for labour from the industrial sector is questionable. Increasing technology may be labour saving reducing the need for labour. In addition if the industry concerned declines again the demand for labour will fall.
3. The idea of trickle down has been criticised. Will higher incomes earned in the industrial sector be saved? If the entrepreneurs and labour spend their new found gains rather than save it, funds for investment and growth will not be made available.
4. The rural urban migration has for many LDCs been far larger that the industrial sector can provide jobs for. Urban poverty has replaced rural poverty.

Theory of Convergence

Theory of Convergence

The idea of convergence in economics (also known as the catch-up effect) is the hypothesis that, since poorer economies tend to grow more rapidly than wealthier economies, all economies in time will converge in terms of per capita income. As a result, all economies should eventually converge in terms of per capita income.

In other words, the poorer economies will literally “catch-up” to the more robust economies.

Types of Convergence

1. Absolute Convergence: Lower initial GDP will lead to a higher average growth rate. The implication of this is that poverty will ultimately disappear ‘by itself’. It does not explain why some nations have had zero growth for many decades (e.g. in Sub-Saharan Africa)
2. Conditional Convergence: A country’s income per worker converges to a country-specific long-run level as determined by the structural characteristics of that country. The implication is that structural characteristics and not initial national income determine the long-run level of GDP per worker. Thus, foreign aid should focus on structure (infrastructure, education, financial system etc.) and there is no need for an income transfer from richer to poorer nations.
3. Club Convergence: It is possible to observe different “clubs” or groups of countries with similar growth trajectories. Most importantly, several countries with low national income also have low growth rates. Thus, this adds to the theory of conditional convergence that foreign aid should also include income transfers and that initial income does in fact matter for economic growth.

Why does this phenomenon occur?

1. Developing countries have the potential to grow at a faster rate than developed countries because diminishing returns (in particular, to capital) are not as strong as in capital-rich countries.
2. Poorer countries can replicate the production methods, technologies, and institutions of developed countries.
3. Because developing markets have access to the technological know-how of the advanced nations, they often experienced rapid rates of growth.

Historically, some developing countries have been very successful in managing resources and securing capital to efficiently increase economic productivity; however, this has not become the norm on a global scale

Does this apply to all countries?

We do not see convergence in all countries. Convergence only occurs among the industrialized nations. These are countries that have the infrastructure, government, and education level to utilize the technological advances that can potentially their production capabilities. Countries that lack a solid infrastructure, possess an unstable government, or do not possess an educated populace are unable to benefit from the technological advances that are enjoyed by the industrialized countries and are thus not covered under the idea of convergence.