Leaks, Matches and Traps. - Easterly, Chapter Viii Resume

Leaks, Matches and Traps. - Easterly, Chapter VIII Resume

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Gabriel Anesi Saavedra Granato Ferreira

RESUME III – Easterly, Chapter VIII, Tales of Increasing Returns: Leaks, Matches and Traps.

The chapter explores a fact that original Solow’s model applied to cross-country analysis did not explain. If capital has diminishing returns, how it is possible that rich countries, with a higher stock of capital, receives more investment than poor countries, with low capital? According to the original Solow, the returns investment on poor countries should be more profitable; therefore, this is not what happens, and the answer, again, is in technology.

However, in Solow’s theory, technological progress is something that happens for noneconomic reasons; thus, the long-run growth would be at a given rate to each country, and the differences among then would be only at the technology used by each. Fixing the long-run growth to an exogenous variant, all other things constant, in fact give capital diminishing returns.

Nevertheless, what actually happens is that technology is not given; people can accumulate technological capital, knowledge of new technology that economize labor. This new knowledge makes a given amount of labor more productive, overcoming the diminishing returns of capital. Moreover, technology also respond to incentives with some interesting features, which can even grant increasing returns.

There are three main characteristics of technology, which can explain why investment does not flow to poor countries, and consequently, they do not become rich; leaks of knowledge, matches of skill and traps of poverty.

Firstly, knowledge is likely to leak in between individuals. One good example given by the chapter is the Desh Garments and Daewoo experience during the end of the 70’s and beginning of the 80’s. Bangladesh had an incipient textile industry during the 70’s, the textile exportation represented less than one percent of the whole, after this experience, Bangladesh textile industry was threatening the US local industry due to its mass exportation and competitive price and representing 54% of the total exports.

What happened was that Noorul Quader, owner of Desh Garments, made an agreement in 1979 that leaked knowledge to the whole country. The matter was that Daewoo was trying to bypass the protective commercial practices imposed by the US and Europe to South Korea, thus one solution found for that was getting into a joint venture with Desh Garments, which was not affected by the practices since it was established in Bangladesh.

In order to follow with the deal, one of the key aspects was the training of Desh Garments employees in the high tech factory of Daewoo in South Korea. The experience was a success, the managers learned too fast and then in 1981, Quader ended the agreement. The production on Desh Garments jumped to a completely new level.

However, this was not the only result of the experience. After a couple of years, 115 of the 130 employees, which participated in the training in South Korea, left Desh Garments to begin their own textile business. Those other enterprises opened by them diversified the production and soon Bangladesh became a big player on the international market.

It is possible to learn from this that, despite Bangladesh always had an enormous potential in the textile industry, it was always limited by its lack of technology. Moreover, such technology does not have to be something completely new, a rocket science, most of the laborsaving knowledge from the textile