Overcoming Development Barriers: Capital, Population, and Institutions
Barriers to Economic Development
Lack of Capital
The availability of factors of production (capital and labor) limits potential economic growth. A country can grow quantitatively by incorporating additional units of production. However, for it to be considered economic development (qualitative), productivity must increase. This is a consequence of rising efficiency in the use of available resources, allowing workers’ incomes and spending power to increase.
The increase in Total Factor Productivity (TFP) is identified with production rises not explained by the increase in the number of employed factors, but by other reasons such as technological advances and improvements in public infrastructure.
Financing of investment can be done internally (national savings) or externally (capital flows from abroad are a driving factor for economic development). The arrival of foreign capital depends on the profitability offered (cause and effect of economic development), and the best alternative is obtaining foreign resources through exports.
Domestic savings tend to become the main source of financing for investment in a country since their level limits the level of investment. The problem is that with the low level of income of underdeveloped countries, the inhabitants are forced to devote a high percentage of income to buying basic needs, leaving very limited possibilities for saving.
A low level of saving capacity limits the level of investment and capital stock available per worker, reducing productivity and income and generating a “vicious circle of poverty.”
Population Explosion and Income Inequality
The increase in population (made possible by the reduction of mortality rates) hinders the growth of per capita income (a very young population pyramid raises dependency rates) and creates conditions conducive to situations of political instability and poverty traps. The distribution of income and wealth in developing countries tends to be very uneven, which reduces the possibilities of development.
Savings increase with income; the richest families tend to copy the patterns of wealthiest groups of rich countries, spending over their possibilities. On the other hand, the middle class is created because of the increase of income, and it generates higher levels of savings.
Absence of a Favorable Institutional Framework
The public sector in developing countries has wide powers of intervention in the economic sphere. Corruption and public intervention prevent market signals from guiding the structural transformation necessary for economic progress. Authoritarian political regimes provide “extraordinary incomes” coming from the exercise of power, which increases political instability.
Developing countries often lack an institutional framework to ensure the defense of fundamental rights of individuals. This circumstance discourages investments with prolonged periods of maturation. A low level of education combined with a low level of income increases the emergence of populist governments.
The state can stimulate development by intervening in the allocation of resources.