Political Economy of Sri Lanka

Opening the Path of Development

June 12, 2011, 12:00 pm

(Text of a talk delivered at the N M Perera Memorial discussion on the Political Economy of Sri Lanka.)

Dr. Saman Kelegama was absolutely right when he argued with reference to Argentina and Thailand that some economies might be trapped eventually in for a prolonged period in the state of middle income countries. Sri Lanka has reached according to the data released the status of a middle income country and expects to double its per capita income by the end of 2016. As Dr. Kelegama has pointed out, this also in itself is a herculean task as it needs a rate of capital formation in the vicinity of 32-35 per cent of the GDP—a kind of 6 to 9 per cent rise of investment from its present level. While accepting the argument that the rate of capital formation should be increased significantly to achieve required rate of growth, as a student of the late Dr N M Perera and the Samasamaja school of thought, I would like to see the issue from a different perspective.

With reference to the wealth of nations, the classical economists from Adam Smith onwards emphasized the distinction between productive labour and unproductive labour. Joseph Schumpeter located the same distinction at the centre of development discourse in the early part of the twentieth century. One of the main flaws of the economic policies of the present government is that it tends to believe that proper economic management would automatically, sooner or later, bring about economic development. However, economic history does not support this contention. As Reinert eloquently argues, ‘of all the blindspots of standard economics, the most important of all its assumptions was "the equality assumption": the all economic activities were qualitatively alike as careers of economic development.’ Classical economists and development economists have argued that it is not the aggregate investment level that matters but the composition of total investment and its breakdown between productive and unproductive investment. A bank clerk may be a useful person in a modern-day monetary economy, but her labour is not productive. The same applies in the case of a security guard. A pin maker may not be treated as a useful worker in the modern context, but his labour is productive. Karl Marx and Schumpeter advanced this Smithian argument further by focusing on the technological side of investment. What happened to Argentina was that it had continued to base its economy on Malthusian products rather than on Schumpeterian products. While Australia was able to break the Malthusian trap by gradually moving away from its agro-based economy, Argentina had remained in the trap continuing to base its economy on agricultural products. As I mentioned in one of my previous notes, Schumpeterian products possess three principal characteristics. First, in this sector, the unit cost of production goes down gradually when the level of production increases. In case of many agricultural products, the unit of cost production goes up with the increase of the total production. Of course, making agriculture an industry this inherent character of the agricultural production can be reversed to a certain extent. Secondly, Schumpeterian products need continuous and constant technological transformation through ‘creative destruction’. In some products, this process may meet a saturation point when further technological advancement in the field stops. The typical example for this is the garment industry. Thirdly, the Schumpeterian products create cluster effects. One industry leads to another through so many linkages. Hence, one should look at not only of the total level of capital formation but also its composition.

Once I listened to the Governor of Central Bank who, as many public officials prefer to do, made a power point presentation about the Sri Lankan economy. More figures and less argument! It happened on a Sunday. The Governor had a copy of an advertisement supplement that comes with the weekend English newspaper. Showing more than 100 page advertisement supplement, he argued that these advertisements were an indication that the economy, particularly its private sector was thriving. Anybody who goes through this supplement can observe that the number of private transactions have gone up substantially. Nonetheless, one may also recognize that many of these transactions are mere buying and selling and have nothing to do with production. Any final transaction would raise the GDP and the rate of growth because of the way in which national income accounts are calculated. Hence, national income and its rate of growth are no reliable barometers of economic development. The overemphasis of the ideas like doubling per capita income or achieving double-digit growth rate may not help us achieve proper development and therefore the policy makers should focus on and invent new development indicators. Minister Tissa Vitharana has informed us that only 1.5 per cent of our exports can be regarded high-tech products. If Sri Lanka continues with this state of affairs, it will be definitely trapped in middle income status and the country would fail to achieve economic development. What should be these new indicators? Let me bracket for a moment the justice and ecological dimension. If these dimensions are taken into account, I would argue that developed countries in the world should adopt zero-growth strategy and developing countries should also be conscious that the development should stop after achieving reasonable level of output.

The new indicators, among others, would include increasing the proportion of high-tech industrial products in total exports, level of investment in growth-augmented economic activities that I have noted above, level of state spending on education, higher education and research, and the quality of the labor force. If we look at the Arab countries that have been experiencing mass struggles, they all had achieved reasonable growth rate in the recent past. However, those economies were based on low tech and low productive activities. Hence, they remain low wage economies as well. The principle on which the economic strategy laid out by international financial agencies is based is the axiom that high level of investment will ensure high level of growth. In this sense even exchanging more SMS between lovers will be beneficial to economic growth. Moreover, they would even create low wage employment. The countries that achieved economic development in the past disregarded this simple logic and quantitative relationship.