Q6-+Development

6. Some countries, such as India, have tended to use inward orientated development strategies, while others, such as South Korea, have used outward orientated strategies. Describe the main features of each type of strategy, and discuss and evaluate their ad vantages and disadvantages.

Inward Oriented development strategies and outward orientated strategies are both growth strategies that various countries have used to achieve economic growth, yet both strategies are quite different. Inward Oriented development focuses on building and improving domestic industries. This means that the government is interested in helping infant industries grow to become competitive enough to compete on the world market, by gaining the comparative advantage. A country has the comparative advantage in producing a good when their opportunity cost for producing that good is lower. This entails high protective trade barriers. There are usually high tariffs on imported goods, and subsidies to domestic firms in the hope that benefits of scale will be achieved. Benefits of scale means that producing one extra unit of output actually decreases total costs to the firm. There is a low level of Foreign Direct Investment, which is long term investment in real capital by foreign firms. By allowing firms to reach benefits of scale, they will be able to become more competitive on the international market when the government does decide to lower protectionism. This sort of strategy is what India used until the 1990's. __However, growth was only at around 2% per year, compared to the high growth rates of India today thanks to outward-oriented strategies (McGee Pg. 678).__ This is because inward oriented strategies do not support efficient resource allocations. The protectionist policies create a welfare loss to society, as can be seen from a tariff graph shown below.

Spaces Y and X show the dead weight loss to society. Additionally, the subsidies to domestic firms create an opportunity cost as the money could be used to build infrastructure and improve standards of living. The low levels of FDI actually restrict growth, because the transfer of knowledge and technology is much slower. Also there is a lesser number of capital stock which leads to economic growth. Most importantly, the disadvantage of inward oriented strategies is the fact that domestic firms very rarely actually reach benefits of scale and gain a comparative advantage. This is because of the firms' dependency on government spending and the lack of competition. Because firms have a guaranteed domestic demand, they do not have the incentive to reach benefits of scale by allocating resources efficiently. Also protectionism, could mean that capital goods that need to be imported by the country have very high costs. This stumps growth as capital stock is not high. However, because international trade is limited, the country is not dependent on foreign business cycles. As the 2007-2008 recession showed, a recession in one country can be echoed all over the world. This would be detrimental to a developing country who is trying to grow and cannot suffer harsh recessions.

Outward oriented strategies are essentially the opposite of the inward oriented development strategies. Countries that use this strategy focus on increasing international trade. These countries reduce trade barriers, remove subsidies to domestic firms, and encourage high levels of FDI. "A glance at the size of Hong Kong, Singapore and Taiwan provides a clue as to why an outward oriented strategy of growth was adopted; small populations and therefore small domestic markets" (McGee pg. 676). The focus is on exporting goods and services in which the country has a comparative advantage in. This would mean that labour-intensive products would most likely be exported at a low price, because of the low costs of production of labour-intensive goods. As more goods are exported, the value of the currency will also appreciate. This is because the demand for the currency has increased. Since exports have risen, and exports are a component of aggregate demand, then aggregate demand should increase. This is short-run growth. Also investments will increase because of the inflow of FDI, which means there is an increase in capital-stock. This is one of the determinants of economic growth. The increase in capital stock will shift the PPF, or the LRAS curve to the right, symbolizing economic growth. Such strategies were implemented by the Asian Tigers, such as South Korea. However it should be noted that the Asian Tigers did not only grow because of outward oriented strategies. They employed a few protectionist policies. Also there was a heavy allocation of resources into improvement of human capital, such as education and health care. Nonetheless the growth rate of South Korea was considerably much larger than India's growth rate in the same time period. The advantages have already been explained above. The disadvantage is the large dependency of the domestic economy on the business cycles of foreign economies. Exports will usually only be high if foreign economies are in a boom or peak phase, but not in a recessionary phase. This means that the domestic economy could become very volatile. Also at any moment, FDI can be easily pulled out leading to the currency crisis. This is what happened to the Baht in Thailand. FDI quickly pulled out of the country due to speculation, and the currency dropped drastically. The economy was near destruction, and it required a bail out to help restore the currency. Weak currency stunts growth because it becomes more expensive for firms to import necessary capital resources that are needed for production. There is a loss of working capital stock, which shifts the PPF to the left, showing negative growth.