INDIAN INSTITUTE OF TECHNOLOGY ROORKEE

Theories of Rural Development

Introduction

• Dualistic theory
• Myradal’s spread and backwash effect theory
• Trickle-down theory
• Growth Pole Theory
• Dependency theory
• Public Choice theory

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Dualistic theory
• In 1954, Arthur Lewis published a paper, ‘Economic Development with
Unlimited Supplies of Labour.
• Dual Economy (Two sectors):
– Agriculture/traditional/subsistence/ indigenous (Surplus Labour with MPL=0)
– Manufacturing/Modern/ Industrial/growing sector (smaller in size)
• Central Idea: Labour in dual economies is available to the urban, industrialized
sector at a constant wage determined by minimum levels of existence in
traditional family farming because of ‘disguised unemployment in agriculture,
there is practically unlimited supply of labor and available for industrialization,
at least in the early stages of development.
• At some later point in the history of dual economics, the supply of labor is
exhausted, then only a rising wage rate will draw more labor out of agriculture.
• It explains the growth of a developing economy in terms of a labour transition
between these two sectors.

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Surplus Labour

• Surplus labour (or disguised unemployment) means the existence

of such a huge population in the agricultural sector that the
marginal product of labour is zero. So, if a few workers are
removed from land, the total product remains unchanged.

• Surplus labour add nothing to agriculture production

• Its transfer from agriculture to modern sector creates a surplus that

may be used for further growth and development

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Characteristics of the Traditional Sector

• Fixed Land Resources

• Low capital requirement
• Surplus labour at subsistence wage rate
• Low productivity of labour
• Subjected to marginal diminishing returns

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Characteristics of Modern Sector

• Growing Sector
• Higher productivity of workers than traditional sector
• More capital requirement
• Profit maximization

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Assumptions of the Lewis Model

• There is a duel economy: traditional/ subsistence rural sector furnished with

zero MPL, and the high productivity modern urban industrial sector.
• The subsistence sector does not make the use of 'Reproducible Capital', while the
modern sector uses the produced means of capital.
• The production in the modern sector is higher than the traditional sector.
• The supply of labor is perfectly elastic. In other words, the supply of labor is
greater than demand for labor.
• Output of the agricultural sector depends only on the quantities of labor and land
(which is assumed to be fixed) and Output of the industrial sector depends on the
quantities of capital and labor.
• Labor is paid the (institutionally determined) minimum subsistence real wage
• For given quantity of capital in the industrial sector, labor is employed in the
industrial sector until MPL is equal to the minimum subsistence wage rate

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The Model

• The "Dual Sector Model" is a theory of development in which surplus labor

from traditional agricultural sector is transferred to the modern industrial sector
whose growth over time absorbs the surplus labor, promotes industrialization
and stimulates sustained development.
• In the model, the traditional agricultural sector is typically characterized by low
wages, an abundance of labour, and low productivity through a labour intensive
production process.
• In contrast, the modern manufacturing sector is defined by higher wage rates
than the agricultural sector, higher marginal productivity, and a demand for more
workers initially.
• Also, the manufacturing sector is assumed to use a production process that is
capital intensive, so investment and capital formation in the manufacturing
sector are possible over time as capitalists' profits are reinvested in the capital
stock.

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• Improvement in the MPL in the agricultural sector is assumed to be a low
priority as the hypothetical developing nation's investment is going towards the
physical capital stock in the manufacturing sector.
• Since the agricultural sector has a limited amount of land to cultivate, the MPL
in agriculture is assumed to be zero as the law of diminishing marginal returns
has run its course due to the fixed input, land.
• As a result, the agricultural sector has a number of farm workers who are not
contributing to agricultural output since their marginal productivity is zero.
• Transferring this group of farmers will have no effect on agricultural output.
• Due to the wage differential between the agricultural and manufacturing sectors,
workers will tend to transition from the agricultural to the manufacturing sector
over time to reap the reward of higher wages.

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• If surplus labour from the agricultural moves to the manufacturing sector,
general welfare and productivity will improve.
• Total agricultural product will remain unchanged while total industrial product
increases due to the addition of labor, but the additional labor also drives down
marginal productivity and wages in the manufacturing sector.
• Over time as this transition continues to take place and investment results in
increases in the capital stock, the marginal productivity of workers in the
manufacturing will be driven up by capital formation and driven down by
additional workers entering the manufacturing sector.
• The end result of this transition process is that the agricultural wage equals the
manufacturing wage, the agricultural marginal product of labor equals the
manufacturing marginal product of labor, and no further manufacturing sector
enlargement takes place as workers no longer have a monetary incentive to
transition.

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• Lewis has assumed and made the point that capitalists will have to pay a margin
of about 30% above average subsistence pay.
• Another point to note is that in the subsistence sector labour is employed up to
the point where its marginal product is zero. Contrarily, in the capitalist sector
labour will only be employed up to the point where its marginal product equals
the wage rate.
• This surplus is the key to the Lewis model of development.

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OS is the average product of the
subsistence sector—the amount
a man would receive there.
Here, OW is the capitalist wage.
N1Q1 =demand for labour/MPl
curve
Profit Max
W= MPL
Workers in excess to Oa, will
earn subsistence wage
Surplus is reinvested, shifting
the MPL curve.

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Criticism

• Unrealistic Assumption: The theory assumes a constant wage rate in the

capitalist sector until the supply of labor is exhausted from the subsistence
sector. This seems to be unrealistic because the wage rate continuously rises over
time in the industrial sector of an underdeveloped economy.
• Limited Supply of Skilled Labour: Another limitation of this model is that if
we assume an unlimited supply of unskilled labor, then the supply of skilled
labor is definitely limited in underdeveloped countries. This will create
difficulties in carrying out programmes of industrialization and economic
development.
• One-Sided Theory: Prof. Lewis does not consider the possibility of progress
in the agricultural sector. Thus, it is a one-sided theory. As the industrial
sector develops with the transfer of surplus labor, the demand for food and raw
materials will rise, which will, in turn, lead to growth in the agricultural sector.

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• Lack of Entrepreneurs: It is based on the assumption that a capitalist class
exists in underdeveloped countries. The entire process of growth depends upon
the resistance of such a class, which has the necessary skill to accumulate
capital. In underdeveloped countries, a rising level of profits does not necessarily
induce a rising level of reinvestment.
• Neglects of Aggregate Demand: It neglects the problem of aggregate demand.
He thinks that whatever is produced in the capitalist sector is consumed by itself
or is exported. He fails to consider the demand for products of the capitalist
sector by the subsistence sector. If there is a shortage of demand for the products
of the capitalist sector, the growth process may come to a halt.
• Unequal distribution of Income: This model is criticized as it perpetuates
unequal distribution of income. With the migration of the rural population to the
urban sector, the supply of labor increases, and the competition among job
seekers pushes the wages down, which results in widening the income gap.

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• Migration is not an Easy Task: The migration of the labor force from subsistence
to the capitalist sector is not as easy as is pointed out in the Lewis model. There
are socio-cultural barriers to occupational and geographical mobility which
hinder the migration of the workers.
• Savings are not done by the Capitalist Sector Alone
• Marginal productivity of Labour is not Zero:
• Adoption of Capital Intensive Techniques
• Leakage in the Growth Process
• Productivity falls with Migration of Labour

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Myradal’s spread and backwash effect theory

• Myrdal’s theory of cumulative causation was first shown in Appendix 3 of

American Dilemma. It emphasized the “vicious circle” between white people’s
discrimination toward black people and black people’s low standard of living.
• This theory was applied to the problem of the increasing inequality observed
between developed countries and underdeveloped countries in the late 1950s.
• Myrdal’s Cumulative Causation theory consists of four theses:
– The basic thesis: the concept of the “backwash effects” )
– The opposite or exceptional thesis: the concept of the “spread effects” )
– The thesis relating to the scope of the analysis: the idea of the importance of
institutional factors
– The thesis of political implications

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• Myrdal (1957) proposed a pair of concepts of “backwash effects” and “spread
effects”. The latter is very crucial because it means the logic of convergence and
characterizes Myrdal’s CC theory.
• Although CC theory has theoretical importance in explaining the divergent
process, he did not deny the potential possibility of a convergent process.
• As seen in the third thesis, Myrdal, as an institutional economist, insisted that if
“noneconomic” factors were excluded from the analysis, it would result in
distorting the recognition of facts.
• Although Myrdal admitted the potential possibility of convergence, he was too
pessimistic to think such a possibility would come true naturally. He preferred to
believe in economic policies to overturn the economic forces making up the
vicious circle and induce higher economic growth.
• Myrdal considered that there was a “virtuous circle” in developed countries and
a “vicious circle” in underdeveloped countries.

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• The process of circular and cumulative causation can be applied to explain the
backwardness of developing countries and regions.
• It is the hypothesis of ‘geographical dualism’ applicable to countries and regions
within countries.
• The process of cumulative causation is a direct challenge to static neoclassical
equilibrium theory, which predicts that the working of economic and social
forces will cause spatial differences to narrow.
• Myrdal argues that in the context of development both economic and social
forces produce tendencies towards disequilibrium and that the assumption in
economic theory that disequilibrium tend towards equilibrium is false.
• Thus, he replaces the assumption of stable equilibrium with the hypothesis of
circular and cumulative causation, arguing that the use of this hypothesis can
provide a better explanation for the international and inter-regional differences in
development.

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 Backwash Effect

• To describe the process of circular and cumulative causation, let us start with a
country in which all the regions have attained the same stage of development as
measured by the same level of per capita income.
• Then, assume that an exogenous shock produces a disequilibrium situation with
development proceeding more rapidly in one region than another.
• Myrdal points out that economic and social forces tend to strengthen the
disequilibrium situation by leading to cumulative expansion in the favored
region at the expense of other regions, which then become comparatively worse
off, retarding their future development.
• Once development differences appear, there will be a chain of cumulative
expansion in the favoured region, and it is called a ‘backwash’ effect on other
regions, causing development differences to persist and even diverge.

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• The backwash effect can be analyzed by exploring labor migration, capital
movement, and international trade.
• Labor migration will take towards the well-off regions attracted by high wage
rates.
• In a free market, capital, like labor will tend to move to where the prospective
return is highest, and it will be the region where demand is buoyant.
• Thus. capital, labour and entrepreneurship will tend to migrate together.
• Similarly, international trade also benefits the well-off regions. For Myrdal,
international trade can have a strong backwash effect.
• Trade operates with a fundamental bias in favour of richer regions. He argues
that unhampered trade between industrialized countries and less developed
countries will strengthen the former and impoverish the latter.

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Spread Effect
• The ‘spread’ effect refers to favourable effect on backward regions emanating
from expanding region. The spread effects are the expansionary momentum from
the region that experiences economic prosperity to those that still remain
backward.
• They are the ‘trickle-down effects’ consisting mainly of an increased demand for
the products of backward areas and the diffusion of technology and knowledge.
But Myrdal believes that the spread effects are weaker than the backwash effect.
• According to Myrdal, if inter-regional differences are to be reduced, countries
must rely on state intervention through regional policies.
• He cited that governments in many advanced countries have taken active steps
for many years to redress regional imbalances, and this is one reason why
regional disparities tend to be less in advanced countries than in developing
countries.
• The only other alternative is to wait for a natural end to the process of
cumulative causation, which may take a long time.

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