Leibenstein’s Critical Minimum Effort Thesis : Economic Growth

Harvey Leibenstein is of the view that UDCs are characterized by vicious circle of poverty (VCP) which keeps them around a low income per capita equilibrium state. The way out of this impasse is a certain 'Critical minimum effort' which would raise the per capita to a level at which sustained development could be maintained. In other words, a UDC will have to introduce 'Stimulus' in an amount which should be more than a critical level for the sake of change.

Leibenstein says that every economy is subject to 'Shocks and Stimulants'. A shock has the impact of reducing the per capita income initially; while a stimulant tends to increase it. Certain countries are poor and backward because of the reason that the magnitude of stimulant is small while that of shocks is large. On the other hand, if income raising forces are more than income depressing forces the economy will be having critical minimum effort which will take the economy on the path of development.

Growth Agents:

According to Leibenstein, if the income increasing forces expand at a higher rate than the income depressing forces, then the favorable conditions for economic development will be existing. In the process of development such conditions are created by the expansion of 'Growth Agents'. These growth agents comprise of entrepreneurs, investors, savers and the innovators. The growth contributing activities result in creation of entrepreneurship, the increase in stock of knowledge, the expansion of production skills of people and increase in the rate of savings and investment.

Leibenstein introduces two types of incentives for UDCs:

(i) Those incentives which do not increase national income, but they bring a change in the distribution of income. He calls them "Zero-Sum incentives".

(ii) Those incentives which result in expansion of national income. He calls them "Positive Sum incentives".

The entrepreneurs in UDCs are engaged in zero sum activities. They wish to attain monopolies; political influence; and social prestige. Thus as a result of zero sum activities the real national incomes of UDCs do not increase. They just cause a change in the distribution of income. The positive sum activities which are essential for development have limited scope in UDCs. Therefore, according to Leibenstein, there is a need to direct the zero sum activities of the entrepreneurs of UDCs to the positive sum activities. It is, therefore, necessary that 'minimum effort' should be sufficiently large to create an environment whereby the positive sum activities could flourish.

The following factors are responsible for depressing per capita income in UDCs:

(i) Zero sum entrepreneurial activities.

(ii) Conservative activities of organized and unorganized labor.

(iii) The resistance to new knowledge and ideas and attachment to old ideas.

(iv) Increase in consumption, and unproductive use of those resources which could be used for capital accumulation.

(v) Increase in population.

(vi) The high capital-output ratio.

Two Basic Propositions of Critical Minimum Effort:

Following are the two basic propositions underlying the ‘critical minimum effort’ thesis:

(1) The first proposition is the argument that the underdeveloped countries are poor because they have low capacity to save and invest. With their low per capita income, the magnitude of savings remains low. As a result, the rate of investment is very small resulting thereby in an almost negligible rate of growth of the national income. In this view, therefore, it is contended that if the per capita income is made to rise above a certain minimum level, a rising proportion of total income would be saved and invested. This will push up the rate of growth of national income.

(2) The second proposition is a recognition of the fact that population growth is the main obstacle to economic growth of developing countries.

Prof. Harvey Leibenstein holds the view that the population growth is a function of the level of per capita income. He argues that the developing countries possess a subsistence structure and are thus entrapped in a ‘Malthusian underemployment equilibrium’. He bases his view on the observed relationship between the per capita income and the fertility rate. With a rise in per capita income above the subsistence level, the mortality rate tends to fall without any commensurate reduction in the fertility rate. This gives rise to a high growth rate of population which tends to swallow up whatever small increases in per capita income occur. But this mechanism can work up to a point only. Beyond a certain limit, the increase in the per capita income tends to lower down the fertility rates as well. The population growth rate is contained and a momentum to the process of growth is therefore provided.

Prof. Leibenstein has sought to base his contention on Dumont’s ‘Social capillarity’ thesis. The realisation by the people that the opportunities for rising socially are far greater with the decrease in the number of children is the motive force behind people’s desire to limit their family sizes and thus attain higher levels of per capital income. Furthermore, with the rise in per capita income, the urge to have more children to supplement the parental incomes is very much diluted.

Three Stages of Demographic Evolution of a Society:

On this showing Prof. Leibenstein recognises following three stages in the economico-demographic evolution of a society:

(a) To start with when the per capita incomes are very low, the utility of having more children tends to outweigh the costs of rearing them. What happens is that due to a very high mortality rate, a large number of new children need to be constantly added in order to maintain the existing size of the population. The burden of having more children is, however, sought to be relieved by engaging them in work at premature ages.

(b) With the initial increases in per capita incomes, the mortality rate shows a decline in the next stage. However, the fertility rate lags behind because it takes some time for the social institutions and attitudes to undergo a change. Now with reduced mortality, more children will survive up to the productive age. As such, their contribution to production as a proportion of their maintenance costs tends to increase.

But Prof. Leibenstein holds that there is a biologically determined upper limit to the population growth rate. In fact, he says that the growth rate of population cannot be higher than 3.4% per annum.

(c) As further increases in per capita income occur, the significance of children as potential contributors to their parental incomes substantially declines. At the same time there is an increasing awareness of the benefits of having fewer children in order to rise up in the socio-economic ladder. Thus, an attitude favourable to the limiting of family sizes is induced. Consequently this stage (i.e., the third stage) is marked by lowness of both the birth and death rates, thereby tending to keep population more or less constant.

The Growth-Inhibiting Tendencies:

Prof. Leibenstein holds that underdeveloped countries are ‘trapped’ in the low-level income equilibrium as characterised by the first and second stages. There are also other ‘growth-inhibiting’ and ‘income-depressing’ tendencies operating in the underdeveloped countries which all the more keep them to the low-level income equilibrium trap.

These other tendencies which reinforce the backwardness of underdeveloped countries are as follows:

(i) The prevalence of ‘zero-sum ‘entrepreneurial activities:

The activities in which majority of the entrepreneurs of the underdeveloped countries are engaged are quite inert in respect of raising the national income. Such activities include “non-trading activities in order to secure for their interest a greater monopolistic position, increased political power, more prestige, etc.” They also include trading activities such as the speculative pursuits which rather than utilizing savings productively, tend to waste the scarce entrepreneurial resources or do not add to the aggregate resources.

Above all, the ‘zero-sum activities’ are characterised by those activities which “do use up net savings, but the investments involved are in the enterprises of such a nature that their social value is either zero, or their social value is very much lower than their private value.”

It is thus only the ‘positive-sum activities,’ according to Leibenstein, which can result in the growth of national income. But for the ‘positive-sum’ activities to be undertaken by the entrepreneurs, the essential condition is the anticipation of making profits. But anticipation of making profits is a sine qua non of growth in national income. Thus, even when a handful of entrepreneurs engage themselves in ‘positive-sum activities’, they would gradually tend to switch over to ‘zero- sum activities’ in the absence of any net growth in the national income. The precondition for the flourishing of the ‘positive-sum activities’ is the creation of a congenial investment climate. And this may not be possible to be attained by random piecemeal efforts. What is required is a concerted big developmental effort of a “critical minimum size”.

(ii) Conservative attitude:

In the underdeveloped countries there is also the gravitational pull exerted by the conservativeness of the attitudes towards change. Both the organised and unorganised labour are tradition-bound and opposed to change. For development to occur it is necessary that these pulls of conservatism are weakened to the maximum.

(iii) New ideas and knowledge not adopted:

Further, in the underdeveloped countries there is aversion to the adoption of new ideas and knowledge. The society is engulfed by old ideas and out- of-date knowledge. A climate conductive to the imbibing of new knowledge and idea is one of the basic prerequisites for the economy to march progressively on the road to economic development.

(iv) Conspicuous Consumption:

Further, there is a huge amount of wastage of scarce resources in conspicuous consumption. Such unproductive expenditures obtain a high priority on the agenda of both the private and public consumption. Hardly any viable expenditure is made in productive directions. The result is the formation of both the physical and human capital which remains at a lowest. For higher rate of capital accumulation to occur, it is necessary to plug these leakages.

(v) High Capital-Output Ratio:

Above all, there is the bottleneck posed by the prevalence of a high capital-output ratio. The rapid population growth tends to accentuate this problem reducing the per capita availability of capital.

All these ‘growth-inhibiting’ tendencies taken together with the fact that there are internal diseconomies of scale because of inherent indivisibilities of the factors of production and external diseconomies arising from the phenomenon of internal tendencies to consume to keep the economy shackled in a vicious circle. It is necessary, therefore, for the underdeveloped countries to resort to a big endeavour of a ‘critical minimum size’ in order to overcome these depressing forces.

The Incoming-Increasing Forces:

Leibenstein holds that it is possible to overcome this difficulty by creating an economic environment favourable to the flourishing of ‘income-increasing’ forces or what he calls the ‘growth agents’ (i.e., the entrepreneur, the saver, the investor and the innovators). But, this cannot occur all by itself. The necessary, though not sufficient, condition for the economy to cultivate an atmosphere of economic progress lies in securing a sufficiently high initial increase in income.

The initial increase in income could accrue through any one or a combination of a number of appropriate methods. For instance, this may be made possible either by importation of a large amount of foreign capital or through technological breakthrough or emigration of labour. Whatever be the method applied, if the initial increase in income is large enough it would by itself induce a decrease in the population growth. The result is that after a point further increases in per capita income become easier.

The time interval that would elapse before a stage of self-sustained growth is reached depends inter alia chiefly upon the rate of growth of population, the initial capital- labour ratio and the magnitude and momentum of the initial increase in income. Thus the slower the population growth, more favourable the capital-labour ratio and larger the size of the initial increase in income, the more quickly would a stage be reached after which the further growth in per capita income becomes easier.

However, the fact remains that more strenuous and momentous is the initial effort, the quicker and easier it would be for the attainment of subsequent higher levels of per capita income. The very fact that there is a biologically determined maximum rate of growth of population between 3 and 4% annually, the size of the critical minimum effort required to break through the low-level equilibrium trap cannot in any case be of Utopian magnitude. Given the urge and the necessity of achieving self- sustained growth, the underdeveloped countries can manage to put in such an effort.

Creation of Conditions Conducive to Sustained Growth:

Once the economy is able to cross over the population barrier as a result of the critical minimum effort, an atmosphere conducive to self-generating growth would be created. While the ‘zero-sum activities’ get nipped, the ‘positive-sum activities’ would be spurred. There is therefore, an increase in the saving and investment in the economy. This, in turn, would unleash a number of forces that ensure a socio-economic climate quite congenial to sustained growth. To overcome these influences which keep an economy in backwardness a sufficiently large critical minimum effort is required to sustain a rapid rate of economic growth. In this way, on the one side the zero sum activities could be overcome, and positive sum activities could flourish. As a result of critical minimum effort, the per capita income would rise leading to increase the level of savings and investment. They will in a turn would lead to:

Among these the following factors are worth mentioning:

(i) An expansion of growth agents. 

(ii) The capital-output ratio will come down.

(iii) The income depressing forces will get weaken.

(iv) Such a social environment will be created which will promote social and economic mobility.

(v) The secondary and tertiary sectors will expand and specialization will be encouraged.

(vi) An atmosphere will be created where there will be social and economic change leading to decrease the population.

Thus, it is evident that an underdeveloped country can jump over its ‘low-equilibrium trap’ by the application of a ‘critical minimum’ effort in the form of big doses of investment. However, the necessary condition for the success of the operation lies in the fact that the resulting ‘income- increasing’ forces should outweigh the ‘income-depressing’ forces.

Diagrammatic Illustration of Leibenstein’s Thesis:

We can explain Leibenstein’s thesis with the help of Fig. 25.1 . Here all the ‘income-increasing’ forces are represented by the curve XtXt .On the other hand, the curve ZtZt indicates all the ‘income- depressing’ forces. The 45° line has been drawn to measure the induced increases and decreases in per capita income. For instance, corresponding to the per capita income level X1 the ‘income- increasing’ forces are given by af while the ‘income-depressing’ forces amount to bf .Point E is the initial point of low level equilibrium with Oe as the per capita income (vertical axis) where the income-increasing and income depressing forces are in balance.

Now, let us suppose that the initial investment effort is of such a magnitude as to raise the per capita income level from the initial low-level equilibrium e to m (shown on the vertical axis).

This would induce ‘income-increasing’ forces of a magnitude given by af. On the other hand, the ‘income-depressing’ forces associated with the new level of per capita income are given by bf. And since the ‘income-depressing’ forces outweigh the ‘income-increasing’ forces, the economy will slip down along the path abcd shown by arrows till finally it again settles at its original low- level equilibrium trap point E. Similarly, any investment programme that entails a rise in per capita income less than that given by ek is going to meet the same fate.

The economy can climb up the path of sustained growth only if the investment programme is of such a magnitude as to ensure a rise in a per capita income at least to the level Ok. With this per capita income will rise by sG. Thus, if the initial income gain is sufficient enough to raise the per capita income level to Ok, the ‘income-increasing’ forces will out weight the ‘income-depressing’ forces. As a result the path of continued expansion of the economy would be ensured. This can be shown in the figure by the upwardly directed arrows emanating from G. As such, the size of the ‘critical minimum’ effort in this case is given by an investment that will raise the per capita income to at least the level of Ok. Thus, the crux of Leibenstein’s thesis is the application of a ‘critical minimum’ effort. Only then can the economy overcome the population barrier and free itself from the gravitational pulls of the ‘low-level equilibrium trap’. If the magnitude of the investment effort falls short of the ‘critical minimum’, the economy is bound to slip down to be entrapped again in the old low-level equilibrium.

The critical minimum effort need not to be made all at once. It would be more effective if it is broken up into a series of smaller efforts. Leibenstein's thesis is based upon this empirical evidence that the rate of population growth is a function of level of per capita income. At the subsistence level population growth declines. According to Leibenstein, at biological determined maximum growth rate of population, the equilibrium level of income, fertility mortality rates maximum consistent survival population. If the per capita income is increased above the subsistence equilibrium position, the mortality rate falls without any drop in fertility rate. As a result, the population will grow. But it will happen only up to a point. Beyond that the increase in per capita income lowers the fertility rate and as development gains momentum the rate of population growth declines. According to Leibenstein, a biological determined maximum growth rate of population is in between 3% to 4%. Now we use Fig. 2 to demonstrate it. 

Here the curve N represents that increase in per capita income which equalizes the increase in population to increase in national income while the curve P shows the growth rate of population at different levels of per capita. We start with point 'a' where the economy is in equilibrium at subsistence level. Here neither income nor population increases. If per capita is increased till Yb, the population growth rate and increase in national income are of 1%. If the level of per capita income is Yc, the growth of population is greater than growth rate of national income. Ycg > Ycc or 2% > 1%. Therefore, the need is to increase per capita income in such a way that increase in national income is more than increase in population. Therefore, if per capita income increases more than Ye, the population growth starts declining. At point e, the population growth rate is 3% per annum which is the maximum possible growth rate of population on biological grounds. Thus according to Leibenstein, the Ye is the minimum critical level of per capita income which is necessary for economic growth.

Phasing the ‘Critical Minimum Effort’:

One of the most creditable features of Leibenstein’s approach is that it is not necessary to apply the ‘critical minimum’ effort all at once. Indeed, Prof. Leibenstein contends that it is quite possible and effective to split up the ‘critical minimum’ effort into a series of smaller efforts. However, the applications of the smaller efforts (constituting the ‘critical minimum’) have to be optimally timed.

Magnitude of the ‘Critical Minimum Effort’:

Prof. Leibenstein has also tried to estimate the magnitude of the critical minimum effort in terms of the quantum of investment required. Considering an underdeveloped country with a starting population of one million, he bases his calculations on the fertility and mortality rates actually prevailing in the poor developing countries. He makes several projections about the ‘critical minimum’ size of investment on the basis of different assumptions. However, the projection most appropriate for countries like India is the one which assumes an annual rate of growth of population of 2.03 per cent and a capital-output ratio of 3:1.

On the basis of the above-stated assumptions, Prof. Leibenstein estimated that the required quantum of investment during the first five years is 13.2% of the national income. In the succeeding 25th-30th years, when the population growth attains a maximum rate of 2.42%, net investment of the order of 14.5% of national income was envisaged. Thereafter, the population growth starts declining so that the corresponding magnitude of the required dose of net investment was fixed at 13.08%. The corresponding annual rates of growth of national income during various periods have been estimated to be of the order of 4.40, 4.60 and 4.36 respectively.

Shortcomings of Leibenstein’s Theory:

Leibenstein’s thesis suffers from both theoretical weaknesses and practical lacunae. Some important factors which render the practical applicability of the thesis quite limited are explained here.

(i) Population, Growth and Per Capita Income: It has been assumed that the growth of the population is an increasing function of growth of per capita income in the beginning. While later on, it is a decreasing function. But, it is not so. Rather, the population growth takes place along with the increase in public health facilities.

(ii) Decline in Birth Rate and Per Capita Income: It has been assumed that whenever per capita income exceeds the critical minimum level the population goes on to decline. All is based upon the experience of the West. But as far as UDCs are concerned the population of UDCs decreases due to change in outlook of the people.

(iii) Role of State in Birth Control: No UDC can wait for this, that its per capita income could increase and then its birth rate would fall down automatically. Therefore, state will have to interfere with to check population growth. This was ignored by Leibenstein.

(iv) Complex Relationship Between Per Capita Income and Growth Rate: Prof. Myint says that there exists a complex relationship between per capita income, growth rate and national income. Leibenstein has over simplified such all, The relationship of per capita income with savings and investment is concerned with the distribution of income and effectiveness of financial institutions. Moreover, the capital-output ratio also does not remain same. It goes on to change along with changes in techniques of production.

(v) Closed Economy Model: Leibenstein theory does not show the effects of foreign capital on the income, savings and investment of UDCs.

First, if there are chances of obtaining foreign capital on a large scale and major technological breakthroughs as the means to effect the ‘critical minimum’ effort, are quite meagre in the poor developing countries. Therefore, for the initial income increase as required by Leibenstein’s thesis, recourse would necessarily have to be taken to the domestic savings. But it is quite difficult that the developing countries could by themselves generate a flow of savings to support an investment programme of the order envisaged by Leibenstein’s ‘critical minimum’ effort. In economies like India where the consumption levels of around 33 per cent of population are already at an almost the subsistence level the possibility of increase in domestic resources through forced savings is at best limited.

Secondly, the population problem in poor developing countries is not as simple and straight as has been conceived by Leibenstein. The contention that the changes in population growth are a direct consequence of the changes in per capita income level is open to serious objections. In particular, Leibenstein’s view that moderate increases in per capita income reinforce population growth but beyond a certain stage it tends to decelerate is a dubious hypothesis. Actually, the rise in population growth in the initial stages is not the outcome of moderate increases in per capita income. By and large, it is due to the improvements in medical and public health measures. And the availability of improved medical and public health facilities are in no way dependent upon any prior increases in per capita income. The fact is that even the most backward countries today have an easy access to all the known life-saving drugs and techniques which can be transported from abroad.

In the same way, the view that the decline in fertility is attributable simply to increases in per capita income above the critical minimum thesis is also unsustainable. Actually, fertility rate is more a function of the socio-cultural factors than anything else. Rise in per capita income above the ‘critical minimum’ level alone cannot be depended upon for attaining the desired change. Of course, it is true that an improvement in economic conditions may be a precursor to the creation of a socio- cultural fabric favourable to family delimitation. But this need not always be the case.