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The Quantitative Importance of Openness in Development

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  • Wenbiao Cai
  • B. Ravikumar
  • Raymond Riezman

Abstract

This paper deals with a classic development question: how can the process of economic development – transition from stagnation in a traditional technology to industrialization and prosperity with a modern technology – be accelerated? Lewis (1954) and Rostow (1956) argue that the pace of industrialization is limited by the rate of capital formation which in turn is limited by the savings rate of workers close to subsistence. We argue that access to capital goods in the world market can be quantitatively important in speeding up the transition. We develop a parsimonious open-economy model where traditional and modern technologies coexist (a dual economy in the sense of Lewis (1954)). We show that a decline in the world price of capital goods in an open economy increases the rate of capital formation and speeds up the pace of industrialization relative to a closed economy that lacks access to cheaper capital goods. In the long run, the investment rate in the open economy is twice as high as in the closed economy and the per capita income is 23 percent higher.

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Bibliographic Info

Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 4412.

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Date of creation: 2013
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Handle: RePEc:ces:ceswps:_4412

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Keywords: openness; industrialization; capital formation; relative price of investment;

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  1. Gary D. Hansen & Edward C. Prescott, 1999. "Malthus to Solow," Staff Report 257, Federal Reserve Bank of Minneapolis.
  2. Betts, Caroline & Giri, Rahul & Verma, Rubina, 2013. "Trade, Reform, And Structural Transformation in South Korea," MPRA Paper 49540, University Library of Munich, Germany.
  3. Kei-Mu Yi & Jing Zhang, 2011. "Structural change in an open economy," Staff Report 456, Federal Reserve Bank of Minneapolis.
  4. Stephen L. Parente & Edward C. Prescott, 2002. "Barriers to Riches," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262661306, January.
  5. Westphal, Larry E, 1990. "Industrial Policy in an Export-Propelled Economy: Lessons from South Korea's Experience," Journal of Economic Perspectives, American Economic Association, vol. 4(3), pages 41-59, Summer.
  6. Restuccia, Diego & Urrutia, Carlos, 2001. "Relative prices and investment rates," Journal of Monetary Economics, Elsevier, vol. 47(1), pages 93-121, February.
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