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Unbalanced growth strategy:

In the last two decades a lot has been discussed about the strategies which can be
adopted by underdeveloped countries in the initial stages of economic
development. Among these discussions the debate on balanced growth versus
unbalanced growth is an important one. Economists like Arthur Lewis, Rodan,
and Ragnar Nurkse have advocated the strategy of balanced growth for
underdeveloped countries. But criticizing this strategy Hirschman published his
strategy of economic development in 1958, in which he has strongly advocated
the strategy of unbalanced growth.
Unbalanced growth strategy:
According to the unbalanced growth strategy the creation of the deliberate and
preplanned imbalances in the economy is the best way to achieve economic
growth in underdeveloped economy. Hirschman regards development as a chain
of disequilibria that must be kept alive. If the economy is to be kept moving
ahead, the task of development policy is to maintain tensions, disproportions and
disequilibria. In other words imbalances and tensions should be created in an
economy for attaining an accelerated economic development. Hirschman
believes that underdeveloped countries are not capable of developing the
different sectors simultaneously because of the paucity of resources and
necessary infrastructure. So he argues that investment should be made in the
strategic industries or leading sectors of the economy. Such an investment will
create more investment opportunities and pave the way for further economic
development.
To make the above argument clear Hirschman divides the economy into two
parts, namely, 1, social overhead capital(SOC) and 2. Directly productive
activities (DPA). SOC refers to power, transport and communication, financial
institutions, education etc. These services have occupied a central place in
development. Without SOC, primary and secondary sectors cannot develop.
Giving priorities to develop SOC will create imbalances and stimulate investment
in DPA. This may bring about some balance between SOC and DPA in the
economy. But the strategy requires that more should be invested again in the
SOC sector. This will once again create imbalances in the economy and
encourage DPA. Thus according to Hirschman, development via excess
capacity of SOC is an important way of achieving rapid development of an
underdeveloped economy.
Another way of creating the imbalances in the economy, according to Hirschman,
is to make investment first of all in DPA. If investment is first made in DPA

industries run into difficulties because of shortage of SOC. This will stimulate
and encourage investment in SOC.
As investment in DPA expands still more activities which expand SOC will be
encouraged and stimulated. This technique of encouraging and stimulating
economic development and planning of the economy is known as development
via shortage of Social overhead capital.
The two techniques of unbalanced growth mentioned above will speed up
economic development. Each type of imbalance builds up certain pressures in
the economy for making investments and thereby increases productivity and
output. However the question of deciding what kind of imbalance is likely to be
most effective is an important problem of economic planning.
Linkage effects:
The establishment of a project leads to the establishment of project lead to the
establishment of projects which use its products or the projects which supply
essential things needed by it. This is called Linkage effects. The modern
production system has innumerable stages right from the production of raw
materials to the production of final consumer goods. Investment in a particular
stage of production stimulates investment both in subsequent stages of production
and the earlier stages of production. Accordingly two types of linkages effects
are distinguished by Hirschman. That investment which encourages investment
in the subsequent stages of production is referred to asforward linkage effect.
That investment which encourages investment in the earlier stages of production
is calledbackward linkage effect. Every investment has generally these two
effects. But the magnitude of linkage effects of every investment will not be the
same. To make the policy of imbalanced growth effective, the emphasis should be
laid on those projects which can ensure the maximum total linkage. The task of
finding out the projects with greatest total linkage is not an easy one. Such
projects can be described only on the basis of empirical studies conveying inputoutput analysis.
Generally, linkage effects will be weak in underdeveloped countries on account of
the pre-dominance of the primary sector, existence of imperfectly competitive
market conditions and other socio-economic conditions. All this indicates that
the underdeveloped countries should not take investment decisions taking into
consideration the linkage effects existing in developed countries. Every country
has to find out the linkage effects in the light of its own special characteristic
features. This type of study is an important part of economic planning. On the
whole, the examination of linkage effects is useful to adopt the most effective
unbalanced growth technique.

Balanced growth technique:

Arthur Lewis, Ragnar Nurkse, Rosenstein Rodan and several other economists
have advocated the technique of balanced growth for underdeveloped countries.
Balance growth implies that there should be simultaneous development of
agriculture, Industry, trade and commerce. For this, balance is required between
demand and supply. This is nothing but balanced sectoral development.
Secondly, it implies balanced regional development. Thirdly, it implies balance
in the balance of payment of a country and this may also be called external
balance.
In the discussion of development technique balance is taken to mean sectoral
balance. External balance. Balanced growth is not development of different
sectors of the economy at the same rates of development. Balanced growth
implies as Arthur Lewis has said growth in the proportions dictated by the
different rates of growth of demand. This means that incomes generated by the
growth of different sectors should be distributed on products produced in these
sectors. So, in considering balance we have to take into consideration income
elasticity of demand. Nurkse has pointed out that taking due account of this
income elasticity of demand, selecting those rates of growth for the different
sectors of the economy which would bring about a balance between new aspects
and new incomes is the problem of balanced growth technique. Allocation of
investment among different sectors so as to bring about balance between demand
and supply is the gist of balanced growth technique.
To indicate the necessity of sectoral balanced growth. Arthur Lewis has
described the interrelationships between the agricultural and industrial sectors
as follows. Let us suppose that modernization advances in the field of
agriculture. If the industrial sector also expands in the appropriate proportion,
at the same time, the demand for the increased supply of agricultural product
increases and the labourers released from the agricultural sector also get
employment opportunities in the industrial sector. Otherwise the effects will be
bad, because the labourers released from the agricultural sector will remain
unemployed, as agricultural output increases; it results in a fall in prices of
agricultural products, which will lead to a fall in farm income. In this situation
agricultural development also cannot continue.
Economic development which gives importance to industrial development and
which ignores agricultural development will face a lot of difficulties. Expansion
of industries and rise in incomes of the people in urban areas bring about rise in
the demand for both raw materials and food products. As agricultural

production remains unchanged, the increasing demand for food and raw
materials remain unsatisfied. As a result of this, prices of food products rise,
bringing about a rise in other prices and ultimately strengthen inflationary forces
in the economy. In this situation workers agitate for higher wages. This is not
favourable to industrial development. Moreover, the demand for industrial
products does not expand since the income of the farmers does not increase. If
there are no opportunities for exporting their products to other countries.
Industries will not be producing according to the new productive capacity. As a
result of this, industrialists suffer losses. Hence, the simultaneous development pf
agriculture and industry is an essential pre-requisite to the doctrines of balanced
growth.
The doctrine of balanced growth not only implies the balance between
agriculture and industry, but also balances among all the sectors of the economyagriculture, industry, trade, commerce and other services. Growth which implies
a balance between demand and supply of all these various sectors is known as,
growth with sectoral balance. Thus a properly integrated growth of agriculture,
industry, power, trade and commerce and other services, export and import can
be called Balanced growth.
Critical appraisal:
According to Hagen complete balance among different sectors of the economy is
impossible and unnecessary. The adoption of balanced growth techniques
depends upon several conditions. The doctrine of balanced growth runs into
difficulties because of the deficiency of capital in the underdeveloped countries.
The simultaneous development of different sectors requires huge amount of
capital investment and less developed countries cannot mobilize necessary
capital in the early stages of development, because of the existence of vicious
circle of poverty which results in low income, low savings and low investment. In
this condition, Singer holds that it would be better for the underdeveloped
country to utilize its limited capital resources in certain strategic sectors.
Prof. Fleming has shown that the feasibility of the technique of balanced growth
is based on certain conditions like, easy availability of capital, effectively
checking the demand for workers for higher real wages, readiness of surplus
labour existing in the field of industry, profitability of investment in one-sector of
industry depending on the growth of some other industry existence of scope for
economies of scale which accompany large-scale organisation in basic industries
etc.
It should be noted that the underdeveloped countries will be having sectoral
imbalance before setting their foot on the road to development. It is universally

agreed that the ultimate aim of underdeveloped countries is to overcome this

imbalance. The main point of discussion is whether maintaining deliberately
planned imbalance through out is good for achieving development or attempting
to maintain balance throughout is good for promoting development. While
unbalanced growth technique lays stress on the linkage effects, the balanced
growth technique emphasizes the existence of interrelationship among different
investments. Presently, it is widely admitted that both these techniques are
necessary in formulating development policies and programmes.
_____________________

Rostows theory or classification of stages:

Many economists think that economic development takes place by certain welldefined stages. However, different economists have classified stages differently.
But, in the study of economic development, stages of economic growth presented
by W.W. Rostow have acquired great importance.

Rostows classification of stages:

W.W.Rostow has classified the following five stages of economic growth:
1. Traditional Society
2. Pre-conditions for the take-off
3. Take-off into self-sustained growth
4. Drive to maturity
5. Age of high mass consumption
Rostow has explained these stages with historical references and has also
indicated the date for the crucial stage of economic growth for several countries.

1. Traditional Society:
According to W.W.Rostow, in the traditional society the knowledge and the fruits
of modern science are either absent or it is not used and hence the level of
productivity is low. The economic activities in such a society are carried on with
simple tools and implements. In a society of this kind, about 75% of the labour
force would be engaged in food production. The landlords have the most
honored place in society. The economic activities are determined by traditional
customs. Family plays an important role in economic life. Savings arising in
society is generally spent on unproductive items. On the whole, the traditional
society is one which is caught up in the low level equilibrium trap.

2. Pre-conditions for take-off (Transitional society):

Many changes should take place in society to alter the low productivity situation
and take the economy along the path of progress. A few changes occur in
political, economic and social fields in the traditional society. These changes
generally occur gradually. The idea that economic progress and a rise in
productivity are possible, people are filled with new enthusiasm for achieving
these. This is an important feature of this stage. In the economic field,
enterprising men come forward and innovate. Utilization of savings for
productive purposes will take place. Profit motive begins to stimulate economic
activities. Competition and contract slowly take the place of traditional customs
and conventions. New industrial units adopting modern techniques of production
come into existence. The society based on rural self-sufficiency will undergo

certain changes and will have national and inter-national relations. During this
transitional stage the importance of agriculture begins to decline and the
importance of industry and service sector begins to increase. Important changes
take place in the field of agriculture resulting in increase in agricultural
productivity. The agricultural sectors capacity to supply food products to the
growing population and raw-materials to industries increases. This is one of the
important developments of this stage. SOC should be established, which depends
on the role of the government. The establishment of effective government is one
of the pre-conditions for the take-off. Thus a variety of changes occur in this
stage, all of which create an atmosphere favourable to development and prepare
the ground for the take-off stage.

3. Take-off stage:
The duration of the take-off stage is about 2 or 3 decades. During this short
period, obstacles to steady growth are overcome and the economy starts moving
on the road to self-sustained growth. According to Rostows description this
stage has chiefly the following features:
a. Assuming an annual rate of growth of population as 11/2percent and capitaloutput ratio as 3:1 the rate of investment should be over 10% of net national
income.
b. One or two substantial manufacturing sectors with a high growth rate should
be established these sectors will guide and stimulate other enterprises. This
sector may be called leading sector.
c. Take-off requires the emergence of new political, economic, social and
institutional frame-work conducive to economic development. People should
welcome modern ideas.
The society which has the above features can be said to have reached the stage of
take-off into self-sustained growth with the take-off stage.

4. Drive to maturity:
Following take-off comes the stage of what Rostow has called drive to maturity.
The modernization process which grows out of the previous two stages of growth
becomes complete when the economy reaches the stage of maturity. The different
parts of the economy will be reorganized in such a way so as to obtain the
advantages of the existing state of technology. The leading sectors spread to all
sectors of the economy, that means as Rostow, says, the take-off stage spreads
through-out the nation the modern ideas and modern methods of production
spread to all parts of the economy. Some changes occur in the characteristic of
industrial leadership and in the structure of labour force. In this stage

experienced specially trained industrial leaders acquire greater prominence than

the hereditary industrial leaders, and skilled workers, white collar workers
together become a large part of the labour class. Trade unions strength grows
incomes of workers rise.

5. Age of high mass consumption:( Post Maturity stage)

After a country reaches the stage of maturity, second thoughts arise about the
modern industrial civilization itself. People begin to re-think about the basic
aims and values of human life. The question of the objectives for which the newly
developed efficient economic machinery should be used arises. Rostow suggests
four objectives which the advanced nations are trying to harmonize. Achieving a
prominent place in the world and engaging in military enterprises is one
objective. Establishing a welfare state, providing high standards of living to the
common people is the third objective. Reducing the working hours for labourers
and thereby securing them greater leisure and lightening the burden of their work
constitute the fourth objective.
After reaching the stage of high mass consumption the question, what next,
arises. This question is related to world peace and world economic prosperity.

Appraisal of Rostows analysis:

Rostows study of stages is not merely descriptive; his aim is to throw light on the
problem of development and to construct a theory of economic growth on the
basis of history. He himself has pointed out that his explanation has deep roots
in the dynamic theory of production. Each stage presents some problems.
Nations which move along the path of development have to solve these problems
and move to a still higher stage of development.
Rostows analysis of the stages of economic growth has occupied an important
place in the study of economic growth. His concept of take off stage has
become popular in a very short span of time. The concept has attracted the
attention of scholars, statesman, administrators and others interested in
development. His idea that economic growth would become automatic after
reaching the take-off is perhaps one of the causes for its popularity.
The limitations of the analytical frame-work of Rostows stages theory and the
criteria for the take-off especially as offering a mode of prognosis have been set
forth by several economists like Kuznets, Caircross and others. The gist of their
criticisms is as follows:
1. That conceptionally the term leading sector is vague.
2. Historically the identification of the take-off periods for the several countries
as given by Rostow is open to dispute and

3. Analytically the sequence of features of the transitional and the take-off stages
may not occur in the order they are supposed to but may overlap.
It has been pointed out that leading sector idea is not precise. Leadership of a
sector depends upon the origin of its growth in an autonomous impulse and upon
the magnitude of its direct and indirect contributions of the countrys economic
growth.
The identification and chronology of leading sectors requires
specification and evidence which are said to be lacking in Rostows discussion.
Leading sector is obviously a phenomenon pertaining to a part of the economy.
So, the take-off becomes only a sectional concept. But, the other features of the
take-off mentioned by Rostow investment of over 10% of the national income is a
phenomenon pertaining to the entire economy and not to every section of it. So,
the take-off concept according to this becomes a concept applicable to the
overall economy. Rostow has not given co-ordinated view of this ambiguity in
the concept of the take-off.
Another objection to Rostows analysis is that it does not give the due importance
to the effects of historical heritage, time of entry, into the process of modern
economic growth, degree of backwardness and such other relevant factors on the
characteristics of the early phase of modern economic growth in the different
traditional countries.
The concept of self-sustained growth is criticized as being misleading
oversimplification. It is held that no growth can be considered as purely selfsustaining. Economic growth is always a struggle. To say, that after the takeoff growth becomes automatic conceals the complex issues involved in achieving
development of the developing countries.
Big Push theory:
Big-push theory is advocated by Prof. Rosenstein Rodan. The under-developed
countries suffer from vicious circle of poverty, low savings and investments and
other obstacles to development. The advocates of the theory of the big push are
of the opinion that initially a big push is needed to break the vicious circle of
poverty, and free the economy from the low level equilibrium trap and remove the
obstacles to development. They also argue that proceeding bit by bit in isolated
and small way does not produce sufficient impact on growth.
The theory of Big Push is based on the following four arguments.
1. Indivisibility in the production function
2. Complementarity of demand
3. Indivisibility in the supply of savings and
4. Psychological indivisibility
1. Indivisibility in the production function:

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While explaining the indivisibility in the production function interrelationships

among different enterprises should be taken into consideration. This argument
emphasizes the importance of SOC (Social Overhead Capital) in developing
countries. Transport, communication. Electricity and other items of social over
head capital require huge capital investment and have long gestation period.
Moreover, they are enterprises deserving high priority. The social overhead
capital which required huge investment creates favourable climate for the
establishment of other industries. The benefits of SOC cannot be derived without
the establishment of other industries. Therefore production function is said to be
indivisible. For example: if an electric power generating station is established,
the industry producing electric goods and the industry utilizing electric power
should be set up. If a huge irrigation project is established, supplying fertilizers,
a modern agricultural implement becomes necessary.
Since the
interrelationships among firms in an expanding industry and interrelationships
among different industries in a developing economy are close, the cluster of
enterprises should be regarded as an indivisible whole complex. It means the
entire development of the production structure be regarded as a part of the Big
Push.
2. Complementary of Demand:
The necessity of the big push is also explained on the basis of the
Complementarity of demand. The Complementarity of demand requires
simultaneous setting up of interdependent industries in developing economies.
The main idea here is that since individual investment projects have high risk
because of uncertainity as to whether their products will find a market investment
decisions are interdependent. Thus different investment decisions have to be
taken on the basis of the Complementarity of demand. Moreover the income
generated from the establishment of a project will create the demand for certain
goods. To meet this demand necessary investment will have to be made in
industries producing these goods. On the whole, the main idea of complimentary
of demand is that goods produced by different industries should meet the demand
created by the generation of income from different industries. Interrelated
investment decisions necessarily cover many enterprises. Therefore, it is said
that huge investment is required and this constitutes the big push.
3. Indivisibility in the supply of savings:
Huge investments require huge amount of savings. It is not easy to achieve this
in developing countries, because of the existence of the vicious circle of poverty.
Here the main question is how to break this vicious circle of poverty. The big
push is said to be the weapon to break this vicious circle, because, the relation

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between the national income and national savings has this characteristic. If
income increases by a small amount, the marginal rate of savings also increases
by a small amount, if income increases significantly savings also increases
significantly. The existence of this relationship between the increase in income
and the increase in savings is an important point supporting the big push theory.
4. Psychological indivisibilities:
It is essential to make people development minded. This effort is indivisible,
because unrelated and bit by bit efforts cannot make sufficient impact on growth.
A favourable climate for development can be created only when investment of a
minimum size or speed is made in an underdeveloped economy. This argument
also strengthens the theory of big push.
On the basis of the above chain of arguments, it can be said that a big push or a
large comprehensive programme is needed in the form of a high minimum
amount of investment to launch underdeveloped on the path of progress.
Critical Appraisal:
The theory of big push assigns a major role to the government in the development
activities of the underdeveloped countries. The governments have inevitably to
play a leading role in the fields of SOC and Labour training programmes. For, in
these fields the social marginal net product will be greater than the private
marginal net product. For instance, it does not appear profitable to private
entrepreneur to invest for providing training to labourers. But the investment by
government in this proves socially beneficial and hence profitable. In several
public utility enterprises the social marginal and net product is generally higher
than private marginal net product. So, in these enterprises the government
naturally has to play a predominant role. Government intervention and measures
would also be needed to mobilize large savings needed for the Big Push.
According to Prof. Ellis, this undue importance to the government is a defect of
the big push theory.
Another main defect of the big push theory according to prof. Ellis is that it
emphasis the importance of a high level of investment in industry and does not
give due importance to the primary sector.
Prof. Ellis has also pointed out that the advantages of the big push had been
exaggerated.
Again, several Underdeveloped countries have specialized in producing primary
products. The big push theory does not apply to the development of this sector.
On these grounds it can be said that the theory of big push is not realistic. Prof.
Ellis has said, economic development of many advanced countries cannot be
said to be the result of crash programmes. However, the industrial revolution

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which took place in the developed countries indicates that the big push is
necessary to achieve rapid economic development.
Critical minimum effort thesis:
Almost all the underdeveloped countries have the similar characteristic features.
The most pressing problem of underdeveloped countries is to break the vicious
circle of poverty. According to Leibenstein, critical minimum effort is the only
way to break the vicious circle of poverty and release the forces of growth. It is
the contention of Leibenstein that in general conditions of underdevelopment, in
order to achieve sustained secular development, the initial stimulants should be
of a critical minimum size. Why is critical minimum effort needed in developing
economy? Leibenstein has answered this question with the help of the following
four reasons:
1. To correct internal diseconomies
2. To correct external diseconomies
3. To overcome income depressing forces which come with growth generating
forces and
4. To strengthen income-generating forces.
1. In underdeveloped countries the firms will not be having economies of scale.
In these countries expanding productive units to the required optimum size is an
important task. For this a certain magnitude of investment and other efforts are
necessary. Since modern industrial units are generally large scale units, the
required effort to build up these should also be a big effort. Since many
industrial units are to realize the economies of scale.
2. since external diseconomies are existing in underdeveloped countries and
since external economies are essential for development, a critical minimum effort
is said to be necessary. All those factors which bring down production cost of all
firms in an industry can be called external economies of scale of a firm depend
upon its internal organisation and the cost of goods and services it gets from
other firms. Every firm has to grow up to a particular size for achieving
economies of scale. Huge investment is required for balanced growth. From the
point of view of technology, capital investment in social overhead capital and
other large-scale industries should be big because these cannot be divided into
small units. Critical minimum amount of investment will be high in places
having technological indivisibility. In underdeveloped countries special efforts
are necessary for creating external economies. Technological knowledge,
enterprise, skilled labour etc are deficient in underdeveloped countries. To
overcome these deficiencies special social cost should be incurred. It is also
difficult to provide necessary social overhead capital immediately. That means

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firms will have to work for sometime without getting necessary facilities.
Moreover, since the gestation period of different interrelated industries are
different, some firms may have to incur losses for sometime. Taking these into
consideration Leibenstein argues that critical minimum effort is necessary for
overcoming external diseconomies existing in underdeveloped countries.
3. Economic development depends basically on the attitude of the people.
Generally growth incentives will not be strong in underdeveloped countries. The
existing incentives can stimulate only those profitable activities which can
maintain the existing level of national income and cannot bring about a rise in
the national output. These are known as zero sum incentives. The incentives
which can stimulate profitable activities and bring about a rise in national output
are called positive sum incentives. If positive sum incentives are to come into
existence, income generating forces should be stronger than the income
depressing forces, Leibenstein feels that more creation of positive sum incentives
is not sufficient to solve all the problems of development because sometimes
growth stimulating activities may reduce the level of income. For example,
public health programme reduces death rate. As a result of this population
increases at a rapid rate, and results in higher population growth rate.
Investment which transfers surplus labour from agricultural sector to the nonagricultural sector creates food supply problem. Investment of capital required
for increasing agricultural production sufficiently can only solve this problem.
The growth effort which overcomes the income depressing forces can be regarded
as the critical minimum effort.
4. Breaking the cultural and age-old institutional structures which are preventing
the underdeveloped countries from developing is a great task. This is dependent
on the attitude of the people. Economic growth requires special type of human
response to motivation and incentives which are created by economic and social
environment. One of the pre-requisite of economic growth is the transformation
of attitudes of the people from the traditional outlook and motivations towards
enterprising activities such as profit making, risk bearing etc. According to
Leibenstein, a critical minimum effort is necessary to change the attitude of the
people. Proceeding bit by bit is isolated and small way or small efforts cannot
change the attitudes imbibed by the people since immemorial. It requires a
critical minimum effort. The change should not only be brought about quickly
but it should also be widely dispersed. People should believe that these newer
values are profitable, honorable and long enduring. To bring about such
changes a critical minimum effort is needed.

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These four reasons indicate the nature and necessity of critical minimum effort to
achieve rapid economic development. In conclusion, it can be said that the
critical minimum effort thesis is a definite and clear theory of economic
development. This thesis indicates a critical minimum effort needed to reach a
critical minimum effort is needed to reach a critical level of per capita income.
After reaching this level of per capita income underdeveloped countries get
themselves transformed as self advancing on the path of progress. This thesis is
helpful to understand the problems of underdeveloped countries, which are
making efforts to become developed economies.
(Criticisms of big push theory can be applied to this theory also)
Arthur Lewis Labour surplus theory:
Prof. W. Arthur Lewis has developed a very systematic theory of economic
development with unlimited supplies of labour. Like the classical economists.
He believes that in, many underdeveloped countries an unlimited supply of
labour is available at a subsistence wage. Economic development takes place
when capital accumulates as a result of the withdrawal of surplus labour from
the subsistence sector to capitalist sector. The capitalist sector is, that part
of the economy which uses reproducible capital and pays capitalist for the use
thereof. It employs labour for wages in mines, factories and plantations for
earning profits. The subsistence sector is that part of the economy which does
not use reproducible capital. In this sector, output her head is lower than in the
capitalist sector.
Lewis starts his theory with the assertion that the classical theory of perfectly
elastic supply of labour at a subsistence wage holds true in the case of a number
of underdeveloped countries, such economies are over populated relatively to
capital and natural resources so that the marginal productivity of labour is
negligible. Since the supply of labour is unlimited, new industries can be
established or existing industries expanded without limit at the current wage by
drawing upon labour from the subsistence sector. The current wage is what
labour earns in the subsistence sector that is the subsistence wage. The main
sources from which workers would be coming for employment at subsistence
wage as economic development proceeds are, the farmers, the casual labour,
petty traders, etc. But the capitalist sector also needs skilled workers, Lewis
argues that skilled labour is only a quasi bottleneck (temprarory bottleneck)
which can be removed by providing training facilities to unskilled workers.
Now the question is what determines the subsistence wage at which the surplus
labour is available for employment in the capitalist sector? It depends upon the
minimum earnings required for subsistence. To be precise, the wage level cannot

15

be less than the average product of the worker in the subsistence sector It, may,
however, be higher than this , if the farmers are to pay rent or food costs more or
if they feel that psychic disutilities of leaving home are large. Though earnings in
the subsistence sector a floor to wage in the capitalist sector, yet, in practice
capitalist wages are more than 30% higher than subsistence due to:
a. a substantial increase in the output of the subsistence sector which by raising
real income might induce workers to ask for a higher capitalist wage before.
b. if with the withdrawal of employment from the subsistence sector total product
remains the same, the average product and hence the real income of those
remaining behind will rise and the withdrawn workers might insist on a higher
wage in the capitalist sector.
c.The high cost of Living and some humanitarian consideration may move the
employers to raise the real wage.
Capitalists aim at profit maximization. It is they who save and invest. Since the
marginal productivity of labour in the capitalist sector is higher than the
capitalist wage, this results in capitalist surplus. This surplus is reinvested in
new capital assets. Capital formation takes place and more people are employed
from the subsistence sector. This process continues till the capital-labour ratio
rises and the supply of labour becomes inelastic and surplus labour disappears.
The central problem in the theory of economic development according to
Lewis, is to understand the process by which a community which was previously
saving and investing 4 to 5% of its national income or less converts itself into an
economy where voluntary saving rate is about 12 to 15%. This is the central
problem because the central fact of economic development is rapid capital
accumulation. In underdeveloped countries with surplus labour, only 10% of
the people with the largest income save who receive about 40% of the national
income. The wage and salaried classes hardly save 3% of the national income.
It is, therefore, the state capitalist and indigenous private capitalist is bound up
with the emergence of new opportunities, which widens markets, technology that
enhances labour productivity and further increases capitalist surplus.
But capital is created not only out of profits; it is also created out of bank credit.
In an underdeveloped economy, which has abundant idle resources and shortage
of capital, credit creation has the same effect on capital formation as profits.
End of growth process
The theory shows that, if unlimited supplies of labour are available at a
constant real wage, and it any part of profits is reinvested in productive capacity,
profits will grow continuously relatively to the national income and capital
formation will also grow. But the process of growth cannot go on indefinitely, if

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as a result of capital accumulation, no surplus labour is left. It may also stop if,
despite the existence of surplus labour, real wages rise so high as to reduce the
capitalist profits to the level where they are all consumed and nothing is left for
net investment. then capital accumulation is adversely affected. Capital
accumulation can continue by encouraging mass immigration or by exporting
capital to such countries which possess abundant labour at subsistence wages.
Both these possibilities are ruled out be Lewis because; mass immigration of
unskilled labour is not possible because trade unions oppose it. The effect of
capital exports is to reduce the creation of fixed capital at home and hence to
reduce the demand for labour and wages in the capital exporting country. But
the reduction in wages is offset if capital exports cheapen the things which
workers import because of their real wages will rise. On the other hand, the
reduction in wages is further encouraged if capital exports raise the cost of
imported things as the real wages of workers will fall. So the effect of capital
exports cannot be assessed with definiteness.
Critical Appraisal:
The Lewis theory is applicable to overpopulated underdeveloped countries under
certain set conditions. Its applicability is, therefore, circumscribed by its
assumptions which are the bases of criticism discussed below:
1. Wage rate not constant in the capitalist sector:
The theory assumes a constant wage rate in the capitalist sector. Until the
supply of labour is exhausted from the subsistence sector. This is unrealistic
because the wage rate continues to rise over time in industrial sector of an
underdeveloped economy even when there is open unemployment in its rural
sector.
2. Not applicable if capital accumulation is labour saving:
Lewis assumes that the capitalist surplus is reinvested in productive capital. But
according to Reynolds, if the productive capital happens to be labour saving, it
would not absorb labour and the theory breaks down.
3. Skilled labour not a temporary bottleneck:
Given an unlimited supply of labour, Lewis assumes the existence of unskilled
labour for his theory. Skilled labour is regarded as a temporary bottleneck which
can be removed by providing training facilities to unskilled labour. No doubt
skilled labour is in short supply in underdeveloped countries but skill formation
poses a serious problem, as it takes a very long time to educate and train the
multitudes in such countries.
4. Lack of enterprise and initiative:

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Lewiss theory is based on the assumption that a capitalist class exists in

underdeveloped countries. In fact the entire process of growth depends on the
existence of such a class which has the necessary skill to accumulate capital. In
reality, such countries lack capitalists with necessary enterprise and initiative.
5. One sided theory:
This is a one-sided theory because Lewis does not consider the possibility of
progress in the agricultural sector. As the industrial sector develops with the
transfer of surplus labour, the demand for food and raw-materials will rise,
which will, in turn lead to the growth of the agricultural sector.
6. Inefficient tax administration:
Lewiss contention that taxation will mop up because the tax administration in
underdeveloped countries is not so efficient and developed as to collect taxes
sufficient and developed as to collect taxes sufficient enough for capital
accumulation.
7. Low income groups also save:
It is not correct to say that only 10% of the people with the largest income save.
In fact, people with, low incomes also save due to social reasons and even small
farmers save for capital accumulation in underdeveloped countries. Whereas
high income groups save less because they spend more under the influence of the
demonstration effect.
Conclusion:
Despite these limitations the Lewis theory has the merit of explaining in a very
clear cut way the process of development. This two sector theory has great
analytical value. It explains how low capital information takes place in
underdeveloped countries which have high labour and scarcity of capital. His
study of problems of credit, inflation, population, growth, technological progress,
and international trade gives the theory a touch of realism.
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