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You are an official of the Ministry for International Development of Wakanda, a rich African country with an active aid program. You have been put in charge of its aid mission to Zamunda, a neighboring poor country stricken by drought. You have a budget of $50 million. Your research indicates that 500,000 Zamundans have enough crops to survive, but will not have enough left over to plant their fields next year. To help them, you can spend $200 per person on seeds and fertilizer for next year’s planting season. Another 100,000 Zamundans are in imminent danger of death by starvation and will die by the end of the year unless they receive food aid. These would require $100 each to stop them from starving to death. (a) If you are free to divide the available aid budget between the two groups of Zamundans in any way you prefer, how would you spend it? What issues or challenges would your decisions entail? Will your budget be sufficient to help all Zamundans who are in need of aid? [50% of marks]
(b) Wakandan Intelligence Agency predicts that Zamundans who manage to survive the winter but do not have enough crops for the next planting season will become refugees bound for Wakanda. Your president instructs you to spend the budget in such a way as to minimize the potential flow of refugees from Zamunda next year. How would you spend your aid budget in this case? [50% of marks]
To fully help all Zamundans in need of aid, we would require:500,000 * $200 = $100,000,000 100,000 * $100 = $10,000,000 or $110 million in total.
The aid budget therefore is insufficient to help everyone. An altruistic person would presumably want to prioritize those who are at risk of dying, spending $10 million on them. The remaining $40 million could be divided among the rest, at $80 per person ($40 million/500,000), which might help them but would not give them enough to plant next year’s crops. Alternatively, one could choose to spend the remaining $40 million to minimize the number still needing aid next year. In this case, 200,000 individuals ($40 million/$200) would receive $200 each, leaving 300,000 individuals in need of aid next year. The students should highlight the ethical issues that such decisions entail.
(b) To minimize the potential refugee inflow, the entire budget should be spent on helping as many individuals as possible to buy enough crops for next year’s planting: $50 million/$200 = 250,000 individuals would receive help, another 250,000 would be potential refugees, and 100,000 would starve to death.
Should we take the Solow model seriously? Does it help us understand why some countries are poor and others rich? Discuss, both in the light of theory and empirical evidence.
The opening question about taking the Solow model seriously should indicate to the students that they should refer to the Mankiw, Romer and Weil (1992) article, which was discussed at length in the lectures. The opening sentence of this article says that they take Solow seriously, and this was also reproduced in the lecture notes. The Solow model attributes differences in the level of economic development to differences in endowment: physical capital per workers, and, in its augmented version, also the ratio of human capital per worker. Students should discuss the Mankiw, Romer and Weil (1992) in this context. Additional marks for discussing also Lucas (1990). However, the differences in factor endowments only explain a small fraction of the cross-country differences, especially when it comes to understanding the differences between the relatively rich and relatively poor countries. This is because the Solow model does not explain the accumulation of knowledge but assumes that it grows exogenously. Empirical studies on the impact of institutional quality on development show, that quality of institutions goes a long way towards explaining why some countries are rich and others poor. For top marks, students should discuss Hall and Jones (1999) and the various contributions by Acemoglu et al.
(a) Should less developed countries be given aid unconditionally or should aid be made strictly dependent on their progress in economic reform and/or introducing growth-enhancing institutions? Discuss. [50% of marks]
(b) Is endogeneity bias likely to plague analyses of aid effectiveness? Discuss. [50% of marks]
(a) Unconditional aid is more likely to be used inefficiently or to allow personal enrichment of the relatively few. However, there is limited evidence that aid, whether conditional or unconditional, translates into higher growth. If aid is conditional on efficiency-enhancing reforms, then the reforms themselves should help improve economic performance, even if aid itself is ineffective. In that case, conditionality helps.
(b) Yes, there are two ways how aid is likely to respond to economic performance: (1) Aid increases following adverse economic shocks, to help counter their effects (negative bias).
(2) Aid increases after economic growth improves, as the absorption capacity of the destination country improves b/c there are more viable projects to invest into. For top marks, students should discuss ways of addressing endogeneity: use of instrumental variables, natural experiments, randomized control trials (when practical).
“Give a man a fish, he'll eat for a day. Give a woman microcredit, she, her husband, her children and her extended family will eat for a lifetime.'' Critically discuss (source of the statement: Bono)
This statement addresses two trade-offs: between targeting men vs women in need, and between conventional developmental aid vs microfinance. Man vs woman: Women are often more excluded from labor and credit markets in LDCs then men. Therefore, MFIs can make more difference by lending to them by giving them independent source of income and empowering them. Furthermore, men and women do not behave in the same ways. Women tend to be more risk averse, care more about peer pressure and are less likely to move away. Therefore, their repayment rates should be higher and more reliable than those of men. However, in conservative societies, men may be able to control the funds lent to their wives, which could mitigate some of the effects of microcredit on women's livelihoods and their empowerment. Fish vs microcredit, or aid vs microfinance: There is little evidence that traditional aid does much good in LDCs (for top marks, students should discuss the potential reasons for low effectiveness of aid). One of the reasons may be the fact, that some of the aid funds are siphoned away by corrupt officials and do not reach their intended recipients. Microfinance loans, in contrast, are targeted at specific individuals. If the recipients have profitable business plans, a microcredit can make a bid difference to their wellbeing. Furthermore, both aid and microfinance probably display diminishing returns. Aid has been around for decade and some countries receive relatively large amounts from international donors. It may well be that some aid inflows fund projects with low or zero return. Microfinance, being a relatively recent phenomenon, is probably still finding enough profitable projects to finance.
Some countries impose strict restrictions on the number of children that their citizens can have: an example of this is the one-child policy in China. Other countries go the opposite way and encourage their citizens to have more children and/or create economic inducements that reward fertility. Discuss the advantages and disadvantages of both approaches. Which makes better economic sense?
Restrictions on fertility can help countries get out of a Malthusian growth trap, and induce parents to invest more into the education per each child (quantity-quality trade-off). On the other hand, restrictions on fertility result in ageing populations (which may imply unsustainable pension insurance and public finance) and may induce parents to make choices that are individually optimal but socially sub-optimal such as gender selection.
(a) What is the relationship between population growth and economic development? [50% of marks]
(b) Discuss how falling fertility contributes to gender imbalances and the issue of ‘missing girls’. [50% of marks]
(a) The answer should discuss the issue of Malthusian trap, which occurs when population growth keeps pace with output growth. For top marks, students should briefly discuss ways how LDCs can get out of the Malthusian trap.
(b) Many countries display ‘son preference’, seeing boys as more valuable than girls. Low fertility raises the probability that all children are of the same sex. This can lead to gender-selective abortions, infanticide, and lower investment on girls’ nutrition and health care leading to higher infant mortality of girls.
Rural to urban migration is a common phenomenon in LDCs. Rural residents move to cities to look for work. However, many rural-to-urban migrants end up being unemployed or underemployed much of the time. Discuss why migration persists despite high unemployment in the urban areas.
This phenomenon is analyzed by the Harris-Todaro model, which states that migrants are motivated by expected earnings, i.e. urban wages adjusted for probability of having a job. As long as urban wages are sufficiently high relative to rural wages, migration will continue even in the presence of unemployment.
(a) Discuss what is brain drain and how it affects the countries of origin of migrants. [50% of marks]
(b) Discuss what are remittances and how they affect the countries of origin of migrants. [50% of marks]
(a) Brain drain refers to the phenomenon of migrants being positively selected on their education and/or skills. This is typically seen as undermining the developmental potential of LDCs. However, some studies argue that it can also increase the incentive to invest in human capital, and the net effect on the countries of origin may be then positive.
(b) Remittances are transfers from migrants to their families in the countries of origin. The effects on the recipients are positive: increased consumption and investment in physical assets. However, remittances can also cause Dutch Disease – real appreciation of the home country currency. For top marks, students should discuss how the Dutch Disease affects the economy.
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