Criticisms and Defences of the Balance-of-Payments Constrained Growth Model: Some Old, Some New

PSL Quarterly Review, Vol. 64, No. 259, pp. 353-392, 2011

40 Pages Posted: 2 May 2012

See all articles by John McCombie

John McCombie

University of Cambridge - Department of Land Economy

Date Written: December 15, 2011

Abstract

This paper assesses various critiques that have been leveled over the years against Thirlwall’s Law and the balance-of-payments constrained growth model. It starts by assessing the criticisms that the law is largely capturing an identity; that the law of one price renders the model incoherent; and that statistical testing using cross-country data rejects the hypothesis that the actual and the balance-of-payments equilibrium growth rates are the same. It goes on to consider the argument that calculations of the 'constant-market-shares' income elasticities of demand for exports demonstrate that the UK (and by implication other advanced countries) could not have been balance-of-payments constrained in the early postwar period. Next Krugman’s interpretation of the law (or what he terms the '45-degree rule'), which is at variance with the usual demand-oriented explanation, is examined. The paper next assesses attempts to reconcile the demand and supply side of the model and examines whether or not the balance-of-payments constrained growth model is subject to the fallacy of composition. It concludes that none of these criticisms invalidate the model, which remains a powerful explanation of why growth rates differ.

Keywords: balance-of-payments, growth, Thirlwall’s law

JEL Classification: E12, O41

Suggested Citation

McCombie, John S. L., Criticisms and Defences of the Balance-of-Payments Constrained Growth Model: Some Old, Some New (December 15, 2011). PSL Quarterly Review, Vol. 64, No. 259, pp. 353-392, 2011, Available at SSRN: https://ssrn.com/abstract=2049746

John S. L. McCombie (Contact Author)

University of Cambridge - Department of Land Economy ( email )

19 Silver Street
Cambridge, CB3 9EP
United Kingdom

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