Endogenous Effort and Intersectoral Labour Transfers Under Industrialization

This paper discusses the welfare and one time growth effects from the intersectoral labour transfers that typically accompany early industrialization in the developing countries, suggesting that endogenous determination of effort is key to evaluating their significance. The significance of these transfers for growth performance has been discussed in recent literature, which focuses on capital accumulation as the engine of growth. We begin with traditional Lewis models, where an efficiency gain results from transferring labour from the traditional (family based) agricultural sector, in which labour receives its average product, to the modern (industrial) sector in which labourers are paid their marginal product. We show that as one moves closer to Pareto Optimality in this system (say by taxing the traditional sector’s output), there is a gain but this is typically small. We then formulate Lewis type models in which the product of effort and labour enters each sector’s production function, and individuals in the traditional sector only receive a fraction of the return to their incremental effort due to average product pricing of labour. In this case, the level of effort in each sector, is endogenously determined along with the intersectoral allocation of labour, since the representative household is modeled as having a utility function defined over goods along with the disutility of effort. Differences in effort levels across sectors support accompanying differences in average and marginal products of labour. We use this model to analyze growth processes in Thailand and South Korea over the period between the 1960s and 1990s. Results suggest significant contributions to growth from intersectoral labour transfers in Lewis models with endogenous effort, and negligible contributions from models without endogenous effort.