The Knowledge Economy - K.S. Pang (2011)

CASE STUDY 1: THE CORRELATION OF HUMAN CAPITAL AND SUSTAINABLE

ECONOMIC DEVELOPMENT

Human capital is a significant key perspective to making economic development sustainable in

the 21st century. In addition, some planning strategies that should a developing nation adopt

regarding the perspective has been discussed in this paper. To the above refers, we should brief

about what actually 1) Sustainable development and 2) Human capital are talking about.

1) Sustainable development

“Sustainable development is development that meets the needs of the present without

compromising the ability of future generations to meet their own needs.”

This is one of the most widely recognized definition by United Nations and be released

in Brundtland Report on year of 1987. It does included 2 points of concept which are: a) The

concept of 'needs' is the essential needs of the world's poor, to which overriding priority should

be given; and b) The idea of limitations imposed by the state of technology and social

organization on the environment's ability to meet present and future needs.

In a simple explanation, the resources should be used in the pattern that satisfied all human needs

but preserving the environment simultaneously. Therefore these needs can be met not only in the

present, but also for future generations. Coincidently, this is seems like the classical definition of

the word “economics” “Use the limited resources to satisfy unlimited needs.”

Basically, the field of sustainable development can be conceptually broken into three constituent

parts: i) environmental sustainability, ii) economic sustainability and iii) sociopolitical

sustainability. Therefore, the development is considered sustainable only if human successfully

achieved a permanent equilibrium of these 3 parts. As illustrated as below:

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Since sustainable development is crucially concerning the carrying capacity of the available

natural resources with the social challenges facing humanity. How to maximize the productivity

of each unit of resource? How to recycle the resource? And how to make all resources are

recyclable are become the most difficult but important mission of entire mankind on 21 st century.

Too much of conflicts of interest will be incurred.

Still other researchers view environmental and social challenges as opportunities for

development action. This is just match with the concept of those sustainable enterprises that

frames these global needs as opportunities for private enterprise to provide innovative and

entrepreneurial solutions.

In addition, sustainable development is said to set limits on the developing world. While current

first world countries polluted significantly during their development. And these countries

encourage third to reduce pollution, which sometimes impedes growth. Some of them may

consider that the implementation of sustainable development would not that beneficial to growth

of third country.

Regardless from the view of private enterprises (opportunity to provide innovative solutions) or

third world (reduce pollution but not harmful to economic growth), the sterling conclusion we

drawn here is we need a sustainable development immediately because the true fact is the

resource is depleting soon!

"The word sustainable has been used in too many situations today, and ecological sustainability

is one of those terms that confuse a lot of people. You hear about sustainable development,

sustainable growth, sustainable economies, sustainable societies, and sustainable agriculture.

Everything is sustainable! (Temple, 1992)."

A question arise here, what kind of sustainable development do we actually need? We do hope

we can maximize the carrying capacity of the existing natural resources or we found another

alternative resource. Meanwhile we need a green energy which is highly-recyclable and highly-

efficient in term of productivity. To create something new, we need a scientist or engineer.

Therefore, we need human capital accumulation.

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The Knowledge Economy - K.S. Pang (2011)

2) Human capital and Technological progress

“Human capital is acquired and useful abilities of all the inhabitants or members of the society.

The acquisition of such talents, by the maintenance of the acquirer during his education, study,

or apprenticeship, always costs a real expense, which is a capital fixed and realized, as it were,

in his person. Those talents, as they make a part of his fortune, so do them likewise that of the

society to which he belongs. The improved dexterity of a workman may be considered in the

same light as a machine or instrument of trade which facilitates and abridges labor, and which,

though it costs a certain expense, repays that expense with a profit.”

The father of economics, Adam Smith was defined human capital as abovementioned in his well-

known “Division of Labor”.

In another way to explain this, human capital is the stock of competences, knowledge and

personality attributes embodied in the ability to perform labor so as to produce economic value.

It is the attributes gained by a worker through education and experience. Many early economic

theories refer to it simply as workforce, one of three factors of production, and consider it to be a

fungible resource which is homogeneous and easily interchangeable.

Mankiw, Romer and Weild (1992) was specified an Augmented Solow Model by adding human

capital (denoted by “H”) inside the traditional Solow Model to become an Augmented Solow

Model, (Y = AKα HβL1-α-β ). Therefore, this showed that physical capital (AK) and human capital

(HL) would expand only as long as the amount of investment is large enough to more than offset

the need to equip new workers, cover depreciation and exceed the rate of labor augmenting

technological progress. This “new” Solow Model is trying to interpret that human capital is

another major source and beneficial for long term economic growth. For traditional Solow

Model is solely focused on technological progress and believe it can bring betterment to standard

of living in the long run.

The relationship between human capital and technology progress has been discussed by another

economist. Lucas (1980) was developed the endogenous growth model which is specified human

capital as the most critical force to generate technology progress in an economy. Human capital

is responsible for i) labor productivity in the world and ii) overall output level in the world.

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This is possible because human capital is creator of technological progress and makes it be able

to overcome diminishing returns to capital and other producible factors. And the increase in

human welfare occurred because we learned to do things more efficiently. For example, we have

created new methods, tools and ideas at a more rapid pace. Because of these importances of

technology, economists have developed models to explain technological progress. These new

models do not assume technological progress as exogenous or determined outside the model. But

it is endogenous, or is treated as an integral part of the model. These new models are referred as

models of endogenous technological progress.

Correlation between education and development: From historical data

On the present day, the overall state of education in the world has been increasing at rapid rate.

More and more countries are reaching very high rate of education that only a few highly

developed nations were able to achieve in the past. For example, Taiwan has raised its average

number of years of education from less than 3 years in the early 1950s to over 10 years in 1995.

On another hand, But many countries still remain with low levels of education. Especially in

Africa, southern Asia and the Middle East, the overall levels of education remain extremely low.

High income economies provide their residents with much more education than developing

economies do. The average years of education in developed countries is 11.1 years but the

average years of education in developing countries is only 3.9 years. There are also very large

differences in education attainment among the developing countries. For examples countries in

Africa such as Chad, Burundi and Mali have the average years of education of only 0.4 year but

compared with countries such as South Africa (3.9 years) and Swaziland (3.8 years).

The performance in Latin America is better. For examples, high education attainment is found in

Argentina (9.2 years), Uruguay (8.1 years) and Chile (7.8 years). But country such as Haiti can

manage only 1.7 years of average education. In Asia the achievement is more unequal. High

performing countries include South Korea (9.3 years), Taiwan (8.4 years) and the Philippines

(7.6 years). Low performing countries with low education attainment usually do not perform

better than the others. For example, Afghanistan is 0.9 years and Bangladesh is 2.0 years.

From these all historical facts, obviously and significantly, we found the positive correlation

between development and education.

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How human capital and technological progress making development sustainable?

Let’s we start with a simple example: the effectiveness of a secretary with secondary school

education level is lesser than a secretary who is a bachelor degree holder. The assumption is

ceteris-paribus; we are talking about the effectiveness will be higher if someone with higher

education level. By the way, the effectiveness of this secretary who is even a bachelor degree

holder will slower than the software of Microsoft Office which can detect all grammar errors

within few seconds precisely. But the software is invented by mankind. Therefore, human capital

and technology progress are contributive to economic growth and development simultaneously.

In the previous parts, we discussed from Solow model to augmented Solow model and from

exogenous technology progress to endogenous technology progress. But how actually human

capital and technology progress can make the development sustainable? We turn back to our

initial question, how the limited natural resources can satisfy the unlimited human needs?

Food crisis that the mankind worried about nowadays is a good platform to answer this question.

As we know that, one of the reasons for food crisis on 21st century is the population is increasing

at rapid rate but the land for food planting purposes is getting lesser now. Therefore, we need to

maximize the productivity of food and agricultural plantation by scientific approach and

technological progress.

I found and review 2 economic journals to shown that how technological progress can maximize

the productivity of food plantation:

“Effect of Technological Change and Institutional Reform on Production Growth in Chinese

Agriculture” by Shenggen Fan (1991) American Journal of Agricultural Economics

The rapid growth of agricultural production in Chinese agriculture could be attributed to an

increase in inputs, technological change, and institutional reform. However, technological

change is crucial to furthering production growth because of the limited potential for significant

increase in the use of conventional inputs and in particular land.

In traditional productivity theory, total production growth consists of movements along the

production function (an increase of total inputs) and shifts of the production function

(technological change). The growth rate of total factor productivity is the growth rate of total

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output minus the growth rate of the total input. Hence, technological change is considered as the

unique source of productivity growth. As shown in Figure 1 (captured from the article) below,

technological change is defined as a shift of the frontier production function. And the increase of

technological change is measured by the distance from frontier 1 to frontier 2.

After we go through the estimates of the frontier production function as shown in Table 2

(captured from the article) indicate that traditional inputs are still important to agriculture of

China. But the importance of traditional inputs of land, labor, and manurial fertilizer is

decreasing rapidly. In contrast, the coefficients of modern inputs, chemical fertilizer and

machinery were small in 1965 but increased rapidly onward until 1985.

The results of this study indicate that technological change accounts for 15.7% of total

agricultural production growth in China. However, if compared to other countries, this

proportion is very small because underinvestment in agriculture of China. From 1960 to 1980 in

Japan, 47.4% of total production growth stemmed from technological change. And technological

change accounted for 84.2% of growth in USA as well.

The underinvestment in agriculture may explain the slow technological change in China. In

1985, the agricultural sector produced 28.1% of total national output and 41.1% of national

income, although the agricultural investment was only 3.4% of total investment. Hence, an

increase in agricultural investment is needed to stimulate technological change, especially in

research and development.

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The Knowledge Economy - K.S. Pang (2011)

“Hybrid Corn: An Exploration in the Economics of Technological Change” by Zvi Griliches

(Oct 1957) Econometrica, 501-522

One of the first studies of the diffusion of new technologies was carried out in 1957 by Zvi

Griliches, an outstanding economist from Harvard University. He looked at the diffusion of

hybrid corn in different state in United State. Producing hybrid corn entails crossing different

strains of corn to develop a type of corn adapted to local conditions. The introduction of hybrid

corn can increase the corn yield by up to 20%. Although the idea of hybridization was first

developed at the beginning of 20th century, but the first commercial application did not take place

until the 1930s in United States.

This is figure we captured from the article; Figure 1 shows the rate at which hybrid corn was

adopted in few particular states (Iowa, Wisconsin, Kentucky, Texas and Alabama) in United

States from 1932-1956.

The figure shows two dynamic processes at work: First, is the process through which varieties of

hybrid corn appropriate for each state were discovered. Hybrid corn became available in

southern states (Texas and Alabama) more than 10 years after it had become available in

northern states (Iowa, Wisconsin, and Kentucky). Second, the speed at which hybrid corn was

adopted within each state. Within 8 years of its introduction, practically all corn in Iowa was

hybrid corn. The process was much slower in the south. More than 10 years after its introduction,

hybrid corn accounted for only 60% of total acreage in Alabama. This is because speed of

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adoption in each state was a function of the profitability of introducing hybrid corn. And this

means that, profitability was higher in northern states than southern states.

Basically, this article indicate that at least the process of innovation, adapting and distributing a

particular invention to different markets and its acceptance by entrepreneurs is amenable to

economic analysis. As shown in figure 1 again, the lag in the development of adaptable hybrids

for particular areas and the lag in the entry of seed producers into these areas can be explained on

the basis of varying profitability of entry.

What planning and strategies should a developing nation to adopt?

As refer to the 2 articles abovementioned. Technology progress did showed its significant

contribution to push up the productivity level. Therefore, human capital is become considerably

more valuable as the need for skilled labor came with newfound technological advancement. The

20th century is often revered as the "human capital century" by scholars such as Claudia Goldin.

The policy maker of developing country should treat human capital as a crucial resource for its

future economic growth and taken this into consideration while they are developing their

countries. Some important issues that cannot be ignored about human capital are human capital

accumulation, government’s expenditure allocation for education, how to impede human capital

flow out or brain drain and so on. It is suggested by several economists about the less developed

countries have not established a set of institutions favoring equality and role of education for the

masses and therefore they have been incapable of investing in human capital stock necessary for

technological growth. Hence, to sustained economic development is ultimately due to human

capital and technological progress. Perhaps the most important things that we need to concern in

the growth theory are the determinants of technological progress.

An age-old worry is that technology progress will become less and less fertile, that most major

discoveries have already taken place, and that technological progress will slow down. But this is

only an analogy because so far there is no evidence to prove it is correct.

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