Sustainable economic development occurs when an economy creates and maintains economic institutions and practices that enable ongoing economic growth and substantive improvements in people's quality of life. Sustainable economic development requires that people make responsible economic choices in the present so as not to impinge on future generations' ability to meet their economic needs. It is also alert to the interconnectedness of peoples and the effects of production and consumption decisions on the environment, worker and human rights, and local cultures. Finally, it recognizes that neither level of economic development nor poverty is a permanent condition.[1]

The Virtuous Cycle

The virtuous cycle refers to the upward spiral of savings, investment, and production in an economy. The virtuous cycle leads to sustainable economic development. A convergence of many mutually supporting economic, political, and social factors is necessary to enable the virtuous cycle of development to replace the vicious cycle of poverty in the world's poorer regions. Broad factors that accelerate the virtuous cycle are higher national savings, the efficient use of resources, and good governance.

National savings provides the fuel for productive business investment. Broadly speaking, savings refers to the pool of financial resources available for people to borrow. In the advanced economies national savings is distributed to borrowers through a sophisticated

Structure of Output: Low-Income and Middle-Income Economies

Figure 13.2 Structure of Output: Low-Income and Middle-Income Economies, 2010

Source: World Bank, World Development Indicators: 2012, 218–220. Some rounding.

capital market. A capital market consists of several types of financial intermediaries such as banks, stock markets, bond markets, venture capital funds, and other institutions that pool money for businesses to borrow. Supplementing domestic savings, especially in the poorer countries, are investments by transnational corporations, foreign banks, and development institutions. The ultimate goal is capital deepening, which occurs when consistent investment increases the amount of real capital per worker over time. Real capital, or capital goods, takes many forms such as tools, equipment and machinery, buildings, software, and so on. Capital flight, on the other hand, slows the virtuous cycle. Capital flight occurs when wealthy people in poorer countries invest their money, or financial capital, in safer or more profitable ventures abroad. Capital flight is a recurring problem in the developing world.

ECONOMICS IN HISTORY: The Rise of Development Economics

Development economics is a specialized field of study in economics that deals with sustainable economic development. Development economics gained acceptance as a field of study after World War II. The spread of independence movements and the process of nation-building during the postwar era forced government leaders and economists to consider the impact of decolonization on developing countries.

Some early development economists stressed linear development, which outlined uniform, sequential, and predictable stages of economic development. W. W. Rostow was a leading advocate of the linear theory of development. In his book The Stages of Economic Growth: A NonCommunist Manifesto (1960), Rostow identified five developmental stages that began with traditional societies and progressed to the modern age of mass consumption and capital-intensive production.

Other early development economists stressed how specific forces promoted growth and development. For example, Sir Arthur Lewis focused on the benefits of investment, including foreign direct investment (FDI), to advance a poor country's transition from subsistence agriculture to modernity. At about the same time, economist Robert M. Solow argued that the main drivers of economic growth were new technologies and knowledge.

In recent decades development economics has embraced a more comprehensive view of human progress. For example, Peruvian economist Hernando de Soto favors the extension of property rights to the poor and the inclusion of the informal sector into the formal economy. De Soto views these reforms as necessary for capital formation, growth, and prosperity. Another current theme in development economics is the need to infuse information and communications technologies (ICTs) into developing economies. These economists believe the use of ICTs bridges the digital divide, fosters connectivity, and enables poorer countries to leapfrog into the twenty-first century.

The efficient use of society's productive resources is a second factor that supports the virtuous cycle. The efficient use of natural resources avoids waste and environmental degradation, and supports the use of renewable resources. The efficient use of human resources is enhanced by improvements in people's health, education, and incentives structures— including entrepreneurial opportunities. These and other policies could mitigate the losses resulting from the brain drain—the exodus of well-educated professionals from poorer countries to greener pastures in richer countries. Finally, capital deepening increases the productivity of workers. Investments in information and communications technologies (ICTs), for example, reduce the digital divide between richer and poorer economies. Policies to attract responsible foreign direct investment (FDI) also infuse new physical capital, technology, and management skills into host economies.

Good governance is a third foundation of the virtuous cycle. Good governance refers to the work of honest and competent public officials in pursuit of society's goals. Democratic governments in the advanced countries developed principles of good governance over time. These principles were built on the rule of law—the understanding that all participants in the economic or political life of the country must abide by the same rules. The rule of law encourages business activity by guaranteeing equal access to business opportunities and equal protections for private property and profits. Good governance is also concerned with providing other support structures for a progrowth business environment such as a quality economic infrastructure and a safety net of social services. Multilateral development institutions have extended financial and technical assistance to help developing countries achieve good governance. Their assistance works to establish effective tax systems, fair business codes, uniform accounting principles, sound financial institutions, and appropriate regulatory systems.

  • [1] UN, “Section 3: Sustainable Development, 27-30,” Report of the World Commission on Environment and Development: Our Common Future, Brundtland Commission Report (New York: UN, 1987)
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