EC336 Economic Development in a Global Perspective

1. EC336Economic Development in a Global Perspective Abhishek chakravarty 2013-14 Lecture 8

2. Lecture Outline • We will discuss the importance of human capital for development. • We will also look at specific issues of interest that are related, such as child labour and gender inequality in human capital investment. • The material is from Todaro and Smith ch. 8

3. Human Capital and Development • Human capital is a term used for education, health, and other human capacities that increase productivity when they are improved. • Educational and health investments have closely interrelated impacts. Health investments can improve the returns to schooling via a longer working life that yields more income, better school attendance, and increased learning. • Educational investments in turn improve the returns to investment in health by providing basic hygiene and sanitation information, and also the numeracy and literacy skills to better utilise other health programmes. Education also provides training for health personnel, and raises the returns to a longer working life.

4. Human Capital and Development • The causality between human capital and income runs in both directions. Higher income leads to more spending on education and health, and better health and education increases income earned. (We will see examples of both directions of the causality) • Is raising people’s incomes in developing countries enough to guarantee that their nutritional status will improve? The answer is no. The income elasticity of demand for calories has been estimated to be between 0-0.5 in developing countries, due mainly to substitution towards greater variety of foods that have similar caloric content, but are less nutritious (candy, soda etc.) when income increases. • Example: Howard Bouis finds that vitamin A and C intake does not increase with income in the Philippines, implying a role for consumer education.

5. Human Capital and Development • Therefore we need to design policy more carefully, rather than focusing on simple cash transfers or income generating opportunities and expecting health outcomes to improve. We also need to understand household decision-making processes when designing policy. • Education of mothers has an important role to play in improving child health according to a growing body of evidence. E.g. Paul Glewwe finds that maternal knowledge of health greatly increases the health of children in Morocco. This knowledge relies on numeracy and literacy skills obtained in school. • Health status also affects educational performance directly. E.g. Undernourished children lag by 20% in test scores in northeast Brazil. Children with low height-for-age have lower grade attainment in many parts of the developing world like China and Thailand.

6. Theories of Human Capital Investment • The human capital approach to analysis of health and education investment unifies the underlying mechanisms behind both. • Broadly, the approach is based on calculating the stream of higher future income that can be earned from human capital investments today and comparing this to the direct and indirect costs of the investment. Future income gains: • Health and education contribute directly to well-being via other channels such as more empowerment in decision-making and greater civic engagement, but the basic human capital approach focuses on benefits from higher income.

7. Returns to Education in Venezuela

8. Theories of Human Capital Investment Assume an individual works from the time he graduates secondary school until the age of 66. Graduates of primary school begin work at age 13, while graduates of secondary school begin work at age 17. The decision to go to secondary school after primary school involves 4 years of direct costs like fees and books, as well as indirect costs via unearned income (assuming no child labour). The benefits in the form of a higher lifetime income stream are large from attending secondary school. However a dollar today is worth much more to individuals than a dollar tomorrow, and therefore these gains must be discounted accordingly.

9. Theories of Human Capital Investment The private rate of return to primary schooling is 39-41% in Asia and Sub-Saharan Africa. But despite these huge future returns, families often don’t make this investment in their children due to their inability to live without the small earnings these children bring to the family by working instead of attending school. The social rates of return are also large, even after including public subsidies to education in the total cost. These also do not reflect further positive externalities to society from educating its citizens (e.g. Teaching others, greater autonomy etc.)

10. Theories of Human Capital Investment • Child Labour: As of 2008, the ILO reported that a total of 306 million children between the ages of 5 and 17 were doing some kind of work, about one-third of which was permissible. 215 million are “child labourers” because they are under the legal minimum age to work, above that age but engaged in work that poses a threat to their health, safety, or morals, or are subjected to forced labour. • Child labourers often work in very bad conditions for very little pay. However a ban on child labour is not always unambiguously good, as without employment the child and his family might become malnourished. With work, basic nutrition and healthcare may be available. • This is therefore a situation with multiple equilibria, where a ban on child labour has positive or negative effects on households depending on the circumstances. Basu analyses this in a simple model.

11. Theories of Human Capital Investment • Two important assumptions are made for the model: • A household with sufficiently high income will not send its children to work. This is borne out in statistical evidence. • Adult and child labour are substitutes. This assumption may seem unrealistic, but is also bolstered by a large body of empirical evidence. • These assumptions allow adult and child labour supply to be analysed together and find the multiple equilibria that emerge.

12. Theories of Human Capital Investment X-axis: Supply of labour in adult equivalents. Y-axis: Wage rate If a child is γ times as productive as an adult, then this representation assumes that one child is the productive equivalent of γ adults. γ < 1 is assumed. All adults are assumed to work regardless of the wage rate as they are poor, yielding perfectly inelastic supply curve AA’. This curve represents the number of unskilled adults.

13. Theories of Human Capital Investment If the wage falls below wH, some families become poor enough that they have to send their children to work. Hence the blue labour supply curve bend right, away from AA’. As the wage continues to fall more families will have to send their children to work, so the labour supply curve becomes flatter. If the wage reaches wL all children will work. We are then on curve TT’, which is the aggregate labour supply of adults and children together.

14. Theories of Human Capital Investment If the labour demand curve DL is inelastic enough to intersect AA’ above wH and intersect TT’ below wL , There will be two stable equilibria at points E1 and E2. If we start at E2 , a ban on child labour will move the economy to the “good” equilibrium E1 with no child labour. This equilibrium would be self-enforcing, as wage would be high enough to not require sending children to work. However this requires coordination between a large number of poor families.

15. Theories of Human Capital Investment • We do not however know enough about conditions prevailing in developing country labour markets to be certain of how significant these credit constraints are as explanations for child labour. Therefore policy at the moment relies on intermediate approaches rather than outright child labour bans. • There are currently four policy approaches to dealing with child labour: • Eliminating poverty, as it is the direct cause of child labour. • Conditional cash transfers to induce parents to send children to school. E.g. PROGRESA in Mexico. • Accepting child labour as inevitable, and focusing on regulation and support services for child labourers. • An outright ban on child labour in its most abusive forms, if a ban on all forms is not possible. (This is the ILO approach)

16. Gender Bias in Human Capital Investment In most developing countries, young females receive less education than young males. The gender gap is largest in Sub-Saharan Africa in countries like Niger, Mali, and Guinea, and in South Asia. E.g. In India, the female literacy rate is just 47.8%, which is 65% of the male literacy rate.

17. Gender Bias in Human Capital Investment • Closing the gender gap in education is economically desirable for at least three reasons: • The rate of return on women’s education is higher than that on men’s in most developing countries. • Increasing women’s education increases not just their productivity, but also increases their labour force participation, lowers their fertility rate, and increases their age at marriage, and greatly benefits child health and nutrition, all of which have long lasting beneficial effects across generations. • Women carry a disproportionate burden of poverty, and thus increasing their schooling is a big step towards breaking the vicious cycle between poverty and lack of education. • Women also face discrimination in health care. E.g. Girls in South Asia are less likely to be taken to a health centre when sick. Female genital mutilation is practiced in many parts of the Middle East and Africa.

18. Gender Bias in Human Capital Investment • In many parts of Asia, sons culturally provide support and financial security to parents in their old age, and also receive a dowry at the time of marriage. Daughters on the other hand leave the family home when they marry to join their husband’s household, and often have no economic alternatives other than serving her husband and his family. • This has led to a perverse situation where parents work much harder to prevent the death of their sons than their daughters in poor countries, and also educate their sons more. • These cultural norms constitute the main reason for the “missing women” phenomenon, which is particularly severe in South Asia and China.

19. Gender Bias in Human Capital Investment

20. Gender Bias in Human Capital Investment • The adverse sex ratios in the developing world led Amartya Sen to conclude in 1990 that “100 million women are missing”. Evidence shows that the sex ratio is worsening further in India and China, meaning millions of young men will be unable to marry, causing much social instability. • Mothers’ education again appears to be the major factor in reversing this trend. Important work by Duncan Thomas shows that increasing mothers’ education in fact improves daughters’ health by more than sons. • Hence policy needs to focus on more than just increasing income, and tackle inequalities in education and health provision directly to reduce poverty.

21. Education and its Effects • The two principal determinants of demand for education are • The private benefits via higher income in the future • The direct and indirect costs of education • On the supply side however, there is often rationing of available places in universities and schools that are unrelated to economic criteria, and driven by political processes. • The gains from secondary and tertiary education in income often lead to political pressures to increase access to these levels of education, and can lead to unjustifiably top-heavy educational system structures. • Typically, the social cost of education increases rapidly as students climb the educational ladder in developing countries, while private costs climb much more slowly due to these top heavy structures.

22. Education and its Effects In the top figure, a hypothetical student’s expected private benefits increasingly exceed his private costs as he gains more education. On the other hand, the cost to society in lost resources is large with increasing education beyond point B, which is the socially optimal level of schooling.

23. Education and its Effects Countries that have developed successfully have generally ensured that the benefits of education are broadly available to everyone in society. In the above Lorenz curves, it can be seen that South Korea had much more equal distribution of education than India in 1990.

24. Education and its Effects • Many studies have shown that educational systems in developing countries serve to increase rather than decrease income inequality. This is largely because only a small part of the population completes secondary and tertiary education, and therefore gains an income differential of 300-800% over workers with just primary education. • This inequality is also self-reinforcing, as middle-class and upper-class individuals will be the only ones who can afford to provide higher education to their children. • Education also drives rural-urban migration, as individuals with more education migrate to urban areas to earn higher wages. There is similar international brain drain with highly skilled individuals leaving developing countries to earn higher wages in the developed world.