Full Report - Subregional Office for East and North-East Asia - escap

DEVELOPMENTAL MACROECONOMICS: THE CRITICAL ROLE OF PUBLIC EXPENDITURE CHAPTER 3
accelerate structural change and to promote exports
so that the current account remained sustainable,
and in a good number of cases, was in surplus.
The closed or managed capital account not only
prevented banking and financial crises but also
helped widen policy space. These fiscal, monetary
and exchange rate policies were supplemented by
domestic savings, investment, wage, industrial and
other sectoral policies aimed at enhancing the
developmental role of macroeconomic policies.
Macroeconomics following the Second World War
supported the “golden age”, a period of high
economic growth and price stability that lasted
for nearly three decades until the commodity and
oil price shocks of the 1970s. In industrialized
countries, active expansionary macroeconomic
management delivered rapid reconstruction and
prosperity underpinned by full employment and low
inflation. Developing countries as a group experienced
impressive economic growth and structural change
in their economies. Industry was the fastest-growing
sector, resulting in a rapid rise in its share in GDP
in “virtually all the developing economies”, according
to the first World Development Report 1978 of the
World Bank report. 6 In reviewing the performance of
developing countries over a 25-year period (1950-
1975), it was noted in the same publication that:
The developing countries have grown
impressively over the past twenty-five years:
income per person has increased by almost
3 percent a year, with the annual growth rate
accelerating from about 2 percent in the 1950s
to 3.4 percent in the 1960s…. Moreover, it
compares extremely favourably with growth
rates achieved by the now developed countries
over the period of their industrialization: income
per person grew by less than 2 percent a year
in most of the industrialized nations of the
West over the 100 years of industrialization....
The progress made by developing countries
is more impressive considering that their
populations have been growing at historically
unprecedented rates. During 1950-75, their total
population increased at 2.4 percent a year. This
is substantially faster than the population growth
rates – typically about 1 percent a year – that
the now developed countries had to contend
with during the period of their industrialization. 7
Economic conditions became difficult in the 1970s
for both industrialized and developing countries with
the breakdown of the Bretton Woods system of fixed
exchange rates and the oil price shocks that occurred
in that decade. For the first time industrialized
countries faced “stagflation”, characterized by the
co-existence of high unemployment and high inflation.
Developing countries, which borrowed recycled petrodollars
8 from commercial banks, faced debt crises in
the 1980s when interest rates were raised sharply
in the United States and the United Kingdom to
control inflation. Only a few economies, most of
them in East and North-East Asia, continued to grow
rapidly despite high inflation and steep import bills.
The developments in the 1970s and
1980s led to the abandonment of
the principle of balancing growth, full
employment and price stability
The developments in the 1970s and 1980s provoked
a shift in macroeconomic policy and the role of the
State. Internal balance came to be confined to price
stability, and full employment was no longer an
integral part of the macroeconomic policy objective
in the belief that once price stability is achieved
the market would achieve full employment, as long
as the labour market is fully flexible, and all else
including growth would follow.
The paradigm shift led not only to the de facto
abandonment of the principle of balancing growth,
full employment and price stability that was
enshrined in the Charter of the United Nations and
the IMF Articles of Agreement but also to a very
narrow definition of price stability – less than 3%
for industrialized countries and less than 5% for
developing countries. Furthermore, such quantitative
targets attained the status of virtually a universal
law applicable to all countries at all times, 9 thus
contradicting the IMF Articles of Agreement which
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