All industrialized countries have an agrarian past. Two hundred years ago, the vast majority of people in every country lived off agriculture as they do today in much of the developing world. As countries develop, their labor force shifts to industry and services and in the process the wellbeing of the people improves. The purpose of this essay is to shed some light on the economic logic that drives the process and the important role that agricultural productivity plays in industrialization.
At the first part of this paper, we will argue, in general, that agricultural productivity growth can be the key to the successful industrialization of a developing country, according to opinions and theories of very important authors (Grabowski, Mundle, Murphy et al. etc). At the second part, we are going to discuss the policy implications for developing countries. Specifically, we will try to establish the relationship between agricultural growth and poverty, talk about the increase of inputs that are complementary to labor in the production progress, the efficiency of the production technology in agriculture, the importance of importing and exporting and the role of the ‘services’ and the ‘urban bias’. Finally, we are going to take a look at the experience of China, in order to see how agricultural transformation can precipitate industrialization.
FIRST PART
Based on the historical experience of Western countries (Britain, France, Germany), the process of economic development was seen as a process requiring a rapid agricultural transformation. This kind of transformation has to do with the shift of the economy from one predominantly focused on agricultural activity to a more complex modern industrial and service society. As a result, “agriculture’s primary role was to provide sufficient low-priced food and manpower to the expanding industrial economy, which was thought to be the dynamic ‘leading sector’ in any overall strategy of economic development.” A perfect example of this theory is Lewis’s famous two-sector model, which describes industrial growth and expansion as a process fueled by means of cheap food and surplus labor that come from the agricultural sector (Todaro and Smith, 2003:419). Francis Blanchard said:
“The main burden of development and employment creation will have to be borne by the part of the economy in which agriculture is the predominant activity, that is, the rural sector.”(Todaro and Smith, 2003:418)
The two sector classical growth model (the brief analysis that follows is spelled out in Grabowski, 1999:2-4). According to Grabowski, this model 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. On the other hand, the industrial sector was assumed to be technologically advanced with high levels of investment operating in an urban environment.
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. Furthermore, as the level of labour productivity was so low in traditional agricultural areas people leaving the rural areas would have virtually no impact on output. Indeed, the amount of food available to the remaining villagers would increase as the same amount of food could be shared amongst fewer people. This might generate a surplus which could them be sold generating income.
Moreover, 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. At the same time, 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. Finally, 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.
Murphy et al. (1989:537-564) have also developed a model and within the context of this model, agricultural productivity growth plays an important role in industrialization and in the overall process of development. In their model food is a necessity implying that below a certain income level all income is spent on food. In order to have industrialization, agricultural productivity growth improves our wellbeing by reducing the amount of time and resources needed to meet our subsistence needs. When people have enough left over in their budgets after satisfying their food requirements, they demand non-agricultural goods and this is what creates markets for industrial goods and services. What is responsible for creating such a surplus over their subsistence is also what is responsible for enabling a small part of the labor force to produce enough food for the whole society: growth in agricultural productivity. In other words, nothing that we associate with economic development and industrialization—consumption of industrial goods and sophisticated services, specialization of labor and technical progress—would have been possible if agricultural productivity had not reached a high enough level to release labor (labor surplus) and other resources like food and fibre or savings for financing industrial growth.
Further, this model indicates the growth in market size allows firms in the manufacturing sector to shift from constant to increasing returns to scale technology. In a few words, Mundle et al. (1989) explain that manufactured goods can be produced in these two types of setting. The constant returns to scale technology is superior at small levels of production (small market size), while the increasing returns to scale technology is superior at large levels of production (large market size). Industrialization thus is the process of substitution of increasing returns for constant returns technologies in the production of manufactured goods. Specifically, “…if various sectors of the economy adopted increasing returns technologies simultaneously, they could each create income that becomes a source of demand for goods in other sectors, and so enlarge their markets and make industrialization profitable.”(1989: 1004)
In addition to that, it is essential to mention that Murphy et al. include into their analysis the possibility that industrialization may fail to occur.(Grabowski, 1999:10) In order to avoid that, an economy should avoid the creation of two extreme opposite cases: too much equality and two much inequality. In the first case, all consumers will be buying only food and thus there will be no market for manufacturing. In the second case, “…the market for manufacturing output will be too small to make the switch to increasing returns profitable.” (1999:10) According to Grabowski, open economy issues and international trade also play a significant role in industrialization. We need to focus on the fact that “growth in agricultural production will lead to industrialization only if it is broadly based with the income gains widespread among the rural population.” (1999:10) In an open economy, export production results in the importation of cheaper food, which means that income in food production will decline relative to those in the export sector; but the net effect on income would be positive, creating a larger market for manufactured goods and a greater possibility of industrialization. However, Grabowski draws one warning:
“If the returns from exports are more unequally distributed than those from food production, the increased inequality may reduce the size of the domestic market for manufactured goods, reducing the likelihood of industrialization (switching to increasing returns technology). Thus whether or not export production will bring about industrialization will be dependent on how broadly based such production is.”(1999:10)
The emphasis on agriculture as a market for the manufacturing industry, especially rural manufacturing, plays an important role in Mundle’s analysis as well(1985). His main concern is trying to understand the comparative performances of Japan and India in terms of economic development. In both countries—in Japan from 1885 to World War II and in India from the mid-1950s to the 1970s—a saving surplus was transferred out of agriculture. As a proportion of value added in agriculture the magnitude of these transfers was similar to both countries. Moreover, these transfers were part of a strategy of industrialization for by their governments. However, Mundle observes that it succeeded in Japan and failed in India.
Grabowski (1999:8) explains that, according to Mundle, the relative success of industrialization in Japan could not be attributed to transferring surplus or savings to the industrial sector. On the contrary, he offers an alternative explanation. When the transfer started in Japan, the 60 percent of aggregate output was already nonagricultural production. On the other hand, in the 1950s agricultural production in India was for well over half of total production. The explanation of the fact that Japan’s structure was, even in the 1880s, much more advanced than India’s in 1950s, lies “in a long agrarian revolution in Japan, starting in the middle of the 17th century.” This revolution “led to the development of significant amounts of small-scale, labor-intensive, industrial activity, sometimes referred to as protoindustry.”(1999:9)
In his analysis, Mundle concludes that the rate of growth is crucially dependent on agriculture, especially in countries where the size of the market is the constraint on manufacturing output growth. According to Grabowski’s observations, this dependence is a result of two things. The first one is “the large share of manufacturing output which is sold to agriculture and the other one is the large share of manufacturing sector expenditure which is put on food and raw materials from the agricultural sector.” (1999:9) Therefore the key to the development of manufacturing is increasing agricultural growth.
In addition to that, Mundle’s analysis includes the fact that international trade can be the tool for a nation that wants to break the agricultural constraint on the size of the market. However, he argues that “industrialization, however initiated, must sooner or later base itself on the home market; which implies that an agrarian revolution is a necessary condition for sustained industrialization.”(Mundle, 1985:77) Further, “industrialization dependent on external markets is precocious and fragile development which will collapse sooner or later with shifts in the commodity/region composition of world trade.” (Mundle, 1985:77)
SECOND PART
Let us now establish the relationship between agricultural productivity and the poverty within a country for the reason that poverty can be an obstacle to the process of agricultural transformation and industrialization. Before we start looking into the intricate links between these, we should note that small cultivators and workers comprise a significant proportion of the poor in developing countries. In 1970, 75 percent of the population of low- and middle-income countries lived in rural areas and in 1999 the share of the rural population in the low-income countries was still 74 percent. (Cypher and Dietz, 2004:309) Clearly, an increase in agricultural productivity directly increases the family incomes of small cultivators. But it is not quite as easy to see how agricultural productivity growth determines the wellbeing of workers, especially in non-agricultural activities.
In order to be able to explain from where agriculture draws its important —almost indispensable—role in the process of economic development and industrialization, Eswaran and Kotwal (1993:243-269) provide us with a conceptual framework. Consider workers in developing countries who own little or nothing by way of assets. For them, poverty is bound up with the magnitude of the wage rate relative to the price of the goods consumed. Any significant dent on their poverty, therefore, has to be made largely through its effect on the wage rate. Furthermore, the poorest countries have the highest proportions of their labor force employed in agriculture. According to Eswaran and Kotwal, there is an intimate connection between the poverty level and the size of the agricultural labor force. It is also from this connection that agriculture draws its important role in the process of development and industrialization.
Additionally, it is well known that the remuneration of labor (production input) depends on its productivity. Moreover, its productivity depends on how much land (or capital) is concurrently employed; the greater the land-to-labor ratio, the greater its productivity. One reason the workers in less developed countries are poor is precisely because they have small access to the amounts of land. In addition to that, it is important to mention the interactions between rural wages and urban wages, as an explanation of the important role of agriculture transformation in industrialization. Taking into consideration the “Theory of real wage growth in LDCs” written by Eswaran and Kotwal (1993, 243-269), urban wages are linked to rural wages: if rural wages are low, so are the urban wages. On the other hand, if rural wages rise, urban industry is forced to raise its wages in order to attract workers to industry. Thus the low productivity of agricultural workers in less developed countries has negative effects to the process of industrialization, as it reduces rural and urban wages. Therefore, an important component of agricultural transformation is to raise the land-to-labor ratio in the rural sector.
If increasing the inputs that are complementary to labor in the production process is one component of agricultural productivity growth, increasing efficiency of the production technology itself is another. According to Johnston and Mellor:
“ …the most practical and economical approach to achieving sizable increases in agricultural productivity and the output lies in enhancing the efficiency of the existing agricultural economy through the introduction of modern technology on a broad front.”(1961:569)
Technical progress, which generates higher output levels from the same bundle of inputs, has played the dominant role in improving our standard of living since antiquity but particularly in the past two and a half centuries since the advent of the Industrial Revolution. One very important example of technical progress is that of yield increasing technology and especially HYV (high yielding variety), which is analyzed to the next paragraph.
It is very important to mention that the agricultural productivity growth that is relevant to labor abundant countries takes one of two forms: crop-yield increases and a shift in crop choice toward more lucrative crops.
An example of yield increasing technology is the high yielding variety (HYV) of wheat developed by Norman Borlaug and his team in Mexico and adapted in South Asia in the 1960’s, heralding what was dubbed as the Green Revolution (Munshi, 2003:3). Later, higher yielding seeds for rice and other grains were developed in the same way. In his paper (2003), Munshi studies the adoption of new agricultural technology in the Indian Green Revolution. According to him, these new seeds increased labor demand and employment for the following reasons. Firstly, typically the new seeds had a shorter crop cycle—a highly beneficial characteristic that enables farmers to take more crops per year. Secondly, the new seeds required much more meticulous maintenance, including weeding and water control. Thirdly, the higher yields meant higher labor demand for harvesting. The HYV technology thus had the potential to improve the productivity of land and also to increase wages by increasing the demand of labor.
However, Munshi claims that the HYV technology is very intensive in some inputs (such as fertilizers and pesticides). The net result is that this technology requires greater cash outlays on inputs than the traditional technology and therefore has greater need for credit. Furthermore, the HYV technology requires a steady supply of water. As a result, rich farmers—those with access to credits and to water (through tube wells)—prospered and those without languished. The new technology also increases the premium on primary education, since literate farmers manage to adopt the new technology more readily. For all these reasons, the Green Revolution increased income inequality in relative terms. An important lesson for this is that public investment in appropriate irrigation schemes, the development of credit institutions and primary education are essential to ensuring an equitable distribution of the gains from agricultural productivity growth.
Let us now discuss growth through a change in crop choices. There are many instances of rural growth being triggered by the arrival of a new infra-structural input such as an irrigation channel or a road link to an urban market (Kotwal and Ramswami, 1998). Land can have many uses and what use it is put to depends upon the availability of complementary inputs. Typically, farmers sense new, lucrative market opportunities and change their crop choices. Market opportunities thus help create a ‘vent for surplus’ or a window of opportunity to generate higher income from a resource. The availability of complementary inputs and access to markets allow a farmer to exploit his land’s unique advantage. The result is a higher level of specialization in agricultural production and higher incomes. What is crucial is that access to markets remains available so that the production pattern is not constrained by local demand. Agricultural productivity growth and linkages with outside markets go hand in hand.
How does an agrarian economy begin to industrialize? It must import equipment and technology from developed countries if it wants to get the benefit of the technological progress that has taken place in the developed world. But to import machinery, it must export something that it has an advantage in producing. Typically, developing countries started their industrialization programs by exporting agricultural products or minerals. For example, Japan’s initial exports were silk and bamboo products; Taiwan’s were rice and sugar; Malaysia’s was rubber and timber. Even in Canada and the US, the developmental progress during the industrialization period was driven by the exports of staples like wheat and beaver pelts. As incomes rise all over the world, consumers’ preference for variety grows. American and European consumers demand tropical fruits, vegetables and flowers. A developing country with a productive and diversified agriculture is in a better position to take advantage of technological progress and taste for variety in developed countries in order to initiate its own industrialization.
It should be noted that land-abundant countries like the US and Canada have been major food exporters in the world for a long time and their comparative advantage in agriculture did not hamper their industrial growth. In 1900, the proportion of the labor force in agriculture in these countries was 38.9 and 40.2 percent, respectively. In 2000, these percentages had declined to 2.35 and 2.33, respectively (sources: Historical Statistics of Canada and Historical Statistics of the U.S.—Colonial Times to 1970). How did this happen? Interestingly, Matsuyama (1992) makes the following argument: It was growth in agricultural productivity that spawned and sustained industrialization in these countries. It did so not only by generating agricultural exports that financed imports of machinery but also by generating linkages (spillovers) to other sectors. When a vast majority of people live off agriculture, productivity growth in that sector raises incomes across the country, creating demand for industrial goods and helping the industrial sector achieve higher productivity through ‘learning by doing’. What is implicitly assumed here is that the domestic industrial sector is protected from foreign competition until it can compete internationally. But even when no such protection is provided, industrialization can proceed gradually through growth linkages generated by a rise in agricultural incomes.
But in order to capture an essential aspect of these growth linkages, to the two sectors we have been considering thus far, we need to add a third sector: ‘services’ (Eswaran and Kotwal, 2002). Indeed, the service sector comprises a significant proportion of labor employment even in developing countries. Consumers as well as manufacturers demand services. Examples are transportation, construction, insurance, credit, repair services, etc. When agricultural productivity increases, consumers become richer and apart from demanding industrial goods, they also demand services of various kinds. These services have to be domestically produced, since they are typically non-traded. With growing income, the domestic service sector expands: it offers a great variety of services and more of each kind.
According to Eswaran and Kotwal (2002), the emergence and expansion of the service sector confers benefits on the industrial sector, which can be more competitive when it has access to a wider variety of services. Thus, an increase in agricultural productivity, by spawning a domestic service sector, enables the country to industrialize. Once industrial production begins, productivity can increase by the usual ‘learning by doing’ route. Thus, even without protection from foreign competition in industry, growth in agricultural productivity is more likely to facilitate industrialization rather than forestall it. Just as in a closed economy, this productivity growth impinges on poverty by moving labor off land into other activities.
Despite all these good arguments in favor of agriculture, this sector has been much neglected in developing countries. Many previously colonial countries in South Asia and Latin America regarded their lack of industrial development as the main reason of their subjugation, and concentrated on industrial development as soon as they became independent. Not only was far too small a share a share of total public investment allocated to agriculture but policies were implemented that artificially rendered the industrial sector relatively more profitable than the agricultural. These diluted incentives for private investment at the same time that public investment in agriculture was reduced. But how did that happen?
Clearly, the profitability of any sector depends on the price of the output relative to the prices of inputs (the ‘terms of trade’). For instance, the profitability of textiles will be raised if cotton is made artificially cheaper. Not only will such a measure reduce cotton-producing farmers’ incomes but it will also make clothes for their families more expensive. Protection of industry creates an urban class that can get better organized than farmers, since the former are concentrated in cities while the latter are diffused throughout the countryside. Policymakers are inevitably more responsive to the demands of the urban class, which gets used to making exorbitant claims on the public treasury. This phenomenon, common in many developing countries, is called ‘urban bias’, a perspective pioneered by Michael Lipton (1977).
The relative neglect of agriculture can be partly explained by the theory of urban bias. According to Lipton (1977), a consequence of urban bias is that organized urban groups (industrial unions, the chamber of commerce, consumer groups) pressure politicians to keep the prices of industrial goods high and those of agricultural goods low. For example, urban consumers groups agitate for export control on foodstuffs such as rice and sugar; the textile sector contrives a ban on cotton exports. These policies result in low domestic prices for these farm products. Similarly, manufacturing firms, as well as organized labor have a common interest in lobbying for protective tariffs, thus maintaining high domestic prices for their products. Some of these domestically produced goods are industrial inputs to agriculture such as fertilizer and agricultural implements like water and pumps. Farmers’ incomes and thus any returns they expect to make on investments in their farms are squeezed. Urban bias reduces incentives to invest in agriculture. Cypher and Dietz have written:
“In spite of the fact that the research of Schiff and Valdes shows clearly that nations with a low bias against agriculture have (1) lower rates of migration from agriculture – into the belts of urban misery, (2) increased investment by cultivators, (3) greater technological adaptation, and (4) higher economic growth, the bias against adequate support for agriculture remains. (2004:311)
Finally, it is important to mention that the liberalization of agricultural terms of trade has had significantly beneficial effects on poor alleviation and on industrialization as well. In order to support that, we are going to take a look at the case of China, the most populous country in the world. The recent economic liberalization in China started in 1979 with agricultural price liberalization (41% increase by 1980 in the prices at which the State procured agricultural produce) coupled with greater autonomy and incentives to communes. From 1978 through 1990, agricultural production doubled in China. Not only did the percentage of labor force in agriculture fall from 70% in 1979 to 60.1% in 1990 but also the absolute amount of labor employed in agriculture fell by 31%.(the source for the numbers above: Rawski and Mead, 1998) This was a period of significant agricultural transformation in China. If agriculture did well, industry did almost twice as well. The index of industrial production went from 100 in 1978 to 388.7 in 1990 (Statistical Yearbook 1990 & 2000). In 1980 primary goods formed roughly half the total exports, but by 1990 they had dropped to only about a quarter (25.6%) despite the fact that the primary exports had grown by almost two-thirds in absolute amount. At the same time, the proportion of people below the poverty line shrank from 28% in 1978 to 9% in 1990 (Asian Development Bank, 2000). The Chinese experience illustrates how agricultural productivity growth precipitates industrialization and how it impinges on poverty at the same time not only by directly conferring benefits on those engaged in agriculture but also by promoting industry.
CONCLUSION
To sum up, it would be wrong to claim that industrialization can proceed without agricultural transformation. Agricultural productivity growth moves labor off land and helps a country industrialize by rendering non-agricultural activities more profitable. It spawns a productive service sector and thereby makes domestic industry more competitive. It can help finance the imports of machinery and technology through agricultural exports in the initial stages of industrialization. Agricultural transformation itself goes hand in hand with the expansion of markets, infrastructure and producer services so that land and labor can be shifted continuously toward their most profitable use. Given that a vast majority of the poor in the world live off agriculture in developing countries, the process of agricultural growth also helps tap the enormous, but latent, entrepreneurial pool in these countries. As new productive activities become available, people find niches for their intrinsic talents and generate new ideas to sustain the process of industrialization. Improving the productivity of agriculture is the single most important step a less developed country can take to proceed effectively in industrialization.
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