Dynamic Modelling of a Three-Sector Transitional Economy

Rural industry provides inputs and markets for agriculture, which in turn provides inputs and markets for rural industry. As the mutually supportive linkages between rural industry and agriculture develop, the size of both sectors increases. Under certain conditions rural industry grows more rapidly than agriculture, resulting in the structural transformation of the rural sector. But the growth of rural industry may hurt the state-owned industrial sector if both sectors compete for similar resources and product markets. To protect their state enterprises, transitional economies have at times suppressed the growth of non-state rural industries. This can hurt the economy overall. We show how the growth rates of agriculture and rural industry may decline, and, surprisingly, how the growth of state industry might fall if rural industry is suppressed. This is especially so if agriculture supports state industry. By suppressing rural industry, agriculture is hurt. The decline in agriculture then hurts state industry, undermining the objective of protecting state industry. Depending on the magnitude of the relevant impacts, intervention to protect state industry may or may not be optimal, leaving governments with difficult policy decisions.