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Introduction
Since the dawn of economics, there has been a heated debate on the causes of economic
growth; Economists tried to answer one of the most controversial questions: what drives
economic growth? Moreover, how to sustain it? Despite the progress achieved in
measuring and modelling economic growth, we are still not capable of finding elusive
growth in different economies. Early theories stated that countries should focus its
efforts on sectors in which they have comparative advantages. Thus they can produce
at a lower both marginal and opportunity cost compared to other economies to trigger
growth. On the other hand, While modern theories claim that countries should
Nicolas Kaldor is considered one of the leading representatives of the modern theorists
that support the idea of focusing efforts on strategic sectors that have higher productivity
In his work described later as "The Three Laws of Economic Growth", in the first one
economic growth, in other words when the share of manufacturing of GDP is rising
then the economy is increasing faster with time. Also, Kaldor found that the productivity
manufacturing sector.
This growing debate about the engines of economic growth - especially in developing
countries such as Jordan- encourages the importance to analyse the role of the
Therefore, this paper will test if the manufacturing sector is the engine of economic
growth in the Jordanian economy. Moreover, this paper aims to extend the test to cover
the service sector to accept or reject the hypothesis that the manufacturing sector is the
only engine behind economic growth in Jordan and to examine the possibility that the
service sector could act as the only escalator of economic growth. To achieve the
The structure of this paper is as follows: section 2 will set the theoretical overview
regarding the theories of economic growth in general, then will discuss the kaldorian
approach to understand the economic growth mechanism highlighting the first law in
particular, also will discuss the transmission mechanisms between manufacturing and
economic growth. Section 3 summarises the literature review about the topic. Section 4
will present the contribution of both manufacturing and service sectors in GDP of
Jordan. Section 5 devoted to explaining the data and methodology and the empirical
finding of the model chosen to examine the validity of Kaldor's law. The last two
Theoretical Background
After the industrial revolution in late 1800's was the changing point for the world
economy. Most of the large economies of the world witnessed an increase in the Gross
Domestic Product. All them started on the growth path. This increase in the National
Income led to analysing of the growth structure of the economies. The great depression
of 1929 was another crucial year which entailed new ideas. Economist starting from
Adam Smith to very recent have tried to explain the growth process.
Adam Smith in his book Wealth of nation talked about completely free and open market
where perfect competition will prevail and following Say's law, supply will create its
demand in the economy. He conceptualised division of labour and opined that it would
lead to higher productivity ultimately leading to higher level of growth. He could not
have envisaged any market failure or absence of a free market in the labour market. He
did not consider the issue of wage ceiling for which the supply cannot create similar
Post great depression era in 1937 John Maynard Keynes showed that the importance of
governmental control and the need for new technologies. These new economic growth
theories emphasised on the innovation of new technology. They pointed out that in the
case of a perfect competitive market the short run profit being zero, the firms engaged
in the production process may not show interest in technological innovation as that
instrumental in advocating more govt. control and the tried to emphasise on the issue of
productivity both capital and labour. Place emphasis on increasing both capital and
labour productivity. They advocated that labour productivity and capital productivity
must increase for an economy to grow. New economic argue that labour productivity
increase not always lead to diminishing returns it might sometimes increase it.
Neo classical growth theories are more reliant on the theories developed by Adam
Smith, David Ricardo, and Malthus. They opined that the increased productivity leads
to diminishing returns. Therefore, only increase savings rate will not be sustainable in
the long run. The increase in the savings rate only increases the capital available to the
hands of the firms, but once the economy reaches a steady state, then an exogenous
factor will be needed for that economy to grow further. They opined that is possible
only if there happens a technological progress which will lead the economy from the
steady state or the low-level equilibrium. They also showed that low-income economies
or the developing economies having same savings rate and population increase rate
might not reach the same steady state in the long run. Neo classical economists were
successful in explaining the huge economic gap between the developed countries and
countries have ten times more per capita income than the developing countries of low-
income countries. They emphasised the importance of growth as that leads to increase
in technological know-how and increase in the workforce and capital to increase. One
point needs to be mentioned here that the empirically it has been observed that in some
economies the labour force increased many folds even with the absence of growth.
By early 1970's and 1980's, it was observed that the neo classical growth theories could
no longer explain the economic phenomenon of the world. The previous theories took
the savings rate, technological growth rate to be exogenous. They could not explain why
technological advancement takes place across continents. One has to remember that
U.S. and other developing countries experienced a bane in their productivity growth
rate around this time. After the Bretton wood conference in 1944, the importance of
equal distribution of wealth or wealth inequality became a burning topic. Neo classical
growth theories could not explain the vast difference in income in countries. As the
saving and investment rate was exogenous in these models, the policy makers could not
find the way to influence the economic variables so that they reach higher growth
trajectory. Paul Romer in his seminal work in 1986 showed that the main underlying
counterintuitive. This was a major move from the prior assumptions to facilitate such
significant departure. Romer and the other endogenous growth modellers included the
human capital and the knowledge capital in the capital function. They showed that if
capital is not limited to only physical capital, then it might be the case that the
production function has increasing returns. They included both embodied and
disembodied technological change in their models. They incorporated the technical
In his attempt to explain the economic growth patterns for the UK economy, Nicholas
Kaldor (1966,1978) has highlighted the vital role of manufacturing in economic growth;
between industrialised (developed) countries. These laws presented the role of the
The first law describes the relationship between manufacturing and economic
growth as known as Engine of economic growth, Kaldor stated that the faster the
manufacturing sector value added (MVA) grows, the faster the GDP grows. In this
The mathematical formulation of the model built on pooled cross sectional data
= + + ..(1)
Where is the growth rate of gross domestic product and is the growth
rate of manufacturing sector value added. Kaldor concluded that when grows
1%, the will increase by 0.614. Although the previous formula reflects a
relatively strong and positive correlation, but it is also significantly less than unity,
larger EMN the faster the overall economy growth rate (Thirlwall, 1983). The next
= + ( ) + ..(2)
strongly supporting the positive relationship between GDP growth and EMN. In
and must not differ from zero due to the fact that the economy is industry
led economy. Also the agricultural sector exhibit diminution return to scale
(Drakopoulos and Theodossiou, 1991), on the other hand the, Kaldors model
also implies that the regression coefficiant of the relation between Service sector
unity because of the fact that the demand on service is derived from the demand
The first law has attracted considerable attention of many economists over the
past decades, many researchers criticism was on the basis of the uncertainty in
but it could be true the other way around, and the model does not reflect a very
faster then the faster due to increasing return to scale. The idea
behind this formulation is that the bigger size of a certain sector the lower
average cost of production, also from dynamic point of view the effect that
output has on capital acumulation and tichnical progress are vital in the context
There are two versions or two main ways of testing Kaldor-Verdoorn law, a
faster growth rate of manufacturing output the faster rate productivity grows.
follows:
= ..(3)
Where is manufacturing sector output, and is the capital used as inputs in
the manufacturing sector, and finally is imployment used as inputs in the
manufacturing sector.
= + ..(4)
= + ..(5)
= + ( ) ..(7)
1
= ..(8)
Assuming that the ratio between capital and output is fixed = , taking logs
(1)
= ..(9)
= 0 + 1 ..(10)
= 0 + 1 ..(11)
pointed out that the previous formulation might suffer from spurious regression
= 0 + (1 1 ) ..(12)
Bibliography
12_1006024.pdf.
http://mesharpe.metapress.com/openurl.asp?genre=article&id=doi:10.2753/PKE0
160-3477350105.