OxfordAQA International AS and A-level Economics: Factors that affect economic development (9640)

This guide covers section 3.4.3.2, Factors that affect economic development, of the OxfordAQA International AS and A-level Economics (9640) specification (version 1.2). Section 3.4 is the extra International A2 content, assessed in Unit 4, Economic development and the global economy. The specification says AS content is essential when you analyse these factors, so expect to use elasticity, supply and demand and macroeconomic ideas.

All data below are invented and illustrative. Related pages: revision notes, practice questions, the OxfordAQA Economics hub, the printable checklist and the free diagnostics. For measurement and policy see the neighbouring units on 3.4.3.1 and 3.4.3.3; this page covers neither.

What the specification lists

Factor	Where it appears below
Physical capital and infrastructure; saving and investment; Harrod-Domar	Section 1
Access to financial services; natural environment	Section 2
Demographic factors	Section 3
Human capital; health care and basic needs	Section 4
Inequality; inequality and environmental Kuznets curves	Section 5
Primary product dependency; Prebisch-Singer	Section 6
Foreign trade; public and private sector debt; budget deficits	Section 7
Industrialisation and urbanisation	Section 8
Rule of law, property rights, governance, corruption, instability, war	Section 9

The specification stresses that these factors are interrelated. A good answer links them rather than listing them.

1. Capital, saving, investment and the Harrod-Domar model

Physical capital includes machinery, factories and infrastructure such as roads, ports, power and broadband. It raises output per worker and lowers firms’ costs. Investment is the flow that adds to the capital stock; saving is where the funds come from. In a low-income economy, low incomes leave little to save, so investment is small, growth is slow and incomes stay low. This is a vicious circle.

The Harrod-Domar model gives the principle. You do not need the derivation. The growth rate is:

g = s / k

where s is the savings rate (saving as a share of GDP) and k is the capital-output ratio (units of capital needed to produce one extra unit of output).

Worked example (Country A, illustrative). s = 15% and k = 3.

• g = 15 / 3 = 5.0% a year.
• Raise s to 21%: g = 21 / 3 = 7.0%.
• Or keep s = 15% and make capital more productive so k = 2.5: g = 15 / 2.5 = 6.0%.
• Target growth of 6% with k = 3 needs s = 6 × 3 = 18%. The savings gap is 18 − 15 = 3 percentage points. With GDP of 200 billion, that is 0.03 × 200 = 6 billion a year, which could be filled by foreign borrowing, aid or foreign direct investment.
• If population grows 2%, growth per head is about 5 − 2 = 3% (exactly 1.05 / 1.02 − 1 = 2.94%).

Limitations to appreciate. The model assumes k is constant and that all saving becomes productive investment. It ignores depreciation, technology, skills and institutions. Saving may flow abroad or into land and luxury goods, and capital without skilled workers adds little. Growth is also not the same as development.

2. Financial services and the natural environment

Access to financial services. Banks, savings accounts, credit, insurance and payment systems let households smooth income and firms invest. Where most people have no formal account, saving sits as cash or livestock and is not lent on. Small firms without credit cannot buy equipment. Insurance means a failed harvest need not force a family to pull children out of school. Chain: better access → more saving captured → more lending → more investment → higher output and income → more saving.

The natural environment. Climate, soil, water and raw materials shape what a country can produce.

• Fertile land, mineral deposits or energy sources can raise income and export earnings.
• Poor access to ports (a landlocked country) raises trade costs.
• Drought, floods, cyclones and rising sea levels destroy capital and crops and divert government spending to recovery.
• Rich resources can bring problems: dependence on one export, loss of competitiveness when a booming resource pushes the exchange rate up, and weak institutions if revenue is captured by a few.

3. Demographic factors

Population size, growth, age structure and migration all matter.

Dependency ratio = (population aged 0 to 14 + population aged 65 and over) ÷ population aged 15 to 64 × 100.

Worked example (Country B, illustrative).

• Year 1: 30m aged 0 to 14, 60m aged 15 to 64, 10m aged 65 plus. Ratio = (30 + 10) / 60 × 100 = 66.7.
• Year 20: 20m, 65m and 15m. Ratio = (20 + 15) / 65 × 100 = 53.8.

A falling ratio means more workers per dependant. If those workers have jobs, saving and output per head can rise, giving a possible demographic dividend. If jobs are not created, youth unemployment and unrest follow. Rapid population growth also spreads capital, schools and clinics thinly (capital widening rather than deepening). Emigration of skilled workers (brain drain) lowers human capital but remittances may offset it.

4. Human capital, health care and basic needs

Human capital is the skills, knowledge and health embodied in workers. Education and training raise labour productivity, help adoption of new technology and raise earnings; health care reduces days lost to illness and raises life expectancy, which lengthens the payoff to education.

Worked example (illustrative). A year of extra schooling costs a family 3,000 in fees and lost earnings. It raises annual earnings from 4,000 by 8%.

• Gain = 4,000 × 0.08 = 320 a year (new earnings 4,320).
• Payback = 3,000 / 320 = 9.4 years. Over a 40-year career this is a high return, but poor families may not be able to borrow for it, which is why access to finance and inequality interact.

Basic needs. Clean water, sanitation and housing cut disease, free time (especially for girls and women who collect water) and healthcare costs. Poor access holds back both health and school attendance. Spending on these has long lags, and education without jobs for graduates can waste resources.

5. Inequality and the Kuznets curves

Inequality of income, wealth and opportunity can hurt development: talented children of poor families cannot afford school; credit-constrained households cannot invest; small domestic markets limit demand for local firms; and unequal societies may suffer instability and weak political support for reform. Others argue some inequality rewards effort and funds saving.

Worked example (illustrative quintile shares). Country C: top 20% of households get 55% of income, bottom 20% get 4%. Ratio = 55 / 4 = 13.75. If reform gives the top 48% and the bottom 6%, ratio = 48 / 6 = 8.0.

Inequality Kuznets curve. Inequality first rises and then falls as income per head grows (an inverted U). Illustrative points:

Income per head	1,000	3,000	6,000	10,000	20,000
Gini (0 to 100)	30	38	45	40	34

The peak is at 6,000. Explanation: workers move from low-income farming to higher-paid industry, widening gaps at first, and later education, taxation and welfare spread gains.

Environmental Kuznets curve. Pollution per head rises with income, peaks, then falls as richer societies demand cleaner air, can afford cleaner technology and shift to services.

Critiques. Evidence is mixed; there is no automatic turning point, and many countries do not follow the curve. Policy and institutions, not income alone, cause the fall. Pollution may only fall because dirty production is moved to poorer countries. Some pollutants (such as carbon dioxide) keep rising with income. Damage may be irreversible before the peak, and global warming does not wait.

6. Primary product dependency and Prebisch-Singer

Primary products are agricultural goods, minerals and fuels. A country that relies on one or two for most export earnings faces three risks: unstable prices, falling long-run prices relative to manufactures, and few gains from learning and manufacturing.

Price fluctuations. Supply of crops is volatile (weather, disease) and in the short run supply is inelastic, while demand is inelastic. Small supply shifts cause large price swings.

Worked example (illustrative). Demand for a crop has price elasticity −0.4. A bad harvest cuts supply by 10%.

• Price must rise about 10 / 0.4 = 25% to restore balance.
• Revenue = 0.90 × 1.25 = 1.125 of before, up 12.5% for the sector as a whole.
• A bumper harvest of +10% needs price to fall 25%. Revenue = 1.10 × 0.75 = 0.825, down 17.5%.
• Farmers with a ruined harvest gain nothing from the high price. Export earnings, tax receipts and incomes swing from year to year, which hampers planning and investment.

Prebisch-Singer hypothesis. The terms of trade of primary exporters decline over time because income elasticity of demand for primary products is low and for manufactures high. As world income rises, demand for manufactures grows faster.

Terms of trade = (export price index ÷ import price index) × 100.

Worked example (Country D, illustrative). Base year 100. Later the export index is 80 and the import index 110.

• Terms of trade = 80 / 110 × 100 = 72.7, a fall of 27.3%.
• To buy the same imports, export volume must rise by 110 / 80 = 1.375, or 37.5%.
• With world income up 4%, income elasticity of 0.5 gives primary demand +2.0%, while 1.8 for manufactures gives +7.2%.

Critiques. Price data show long periods without a decline; some primary prices boomed; countries have diversified; and some manufactures (basic assembly) are low-value too. The hypothesis is about averages, not every product.

7. Foreign trade and debt

Importance of foreign trade. Trade gives access to bigger markets (scale economies), imported capital goods and technology, competition that raises efficiency, and foreign exchange. Openness ratio = (exports + imports) ÷ GDP × 100. Country E: exports 30, imports 36, GDP 120 gives (30 + 36) / 120 × 100 = 55%, with a trade deficit of 6. Dependence on trade also exposes a country to world recessions and price shocks.

Public and private sector debt. Borrowing finances investment that saving cannot, but must be repaid with interest.

• Debt to GDP: external debt 30 on GDP 60 is 50%.
• Debt-service ratio = interest and repayments ÷ export earnings. Debt service of 3 on exports of 12 is 25%.
• Foreign-currency debt is risky if the currency falls or if interest rates are variable: on 20 of variable debt, a rise from 4% to 6% costs 0.4 more a year.

Budget deficits. For: finance infrastructure, schools and health that raise productive capacity (investment-led), and support demand in a downturn. Against: higher interest costs, crowding out private borrowing, inflation if money creation finances it, and a debt trap if borrowing funds consumption or corruption. Debt dynamics matter: with debt of 40 and GDP 100, a deficit of 5 and nominal growth of 6% gives (40 + 5) / (100 × 1.06) = 42.5% of GDP. The ratio rises if growth is slow. In LEDCs, debt is often in foreign currency and the interest rate is higher, so the margin for error is smaller than in MEDCs.

8. Industrialisation and urbanisation

Moving workers from low-productivity farming to manufacturing raises output per worker and creates learning, skills, tax revenue and higher-value exports. Urbanisation brings agglomeration benefits: shared infrastructure, bigger labour pools and markets. Costs appear when cities grow faster than housing and services: slums, congestion, pollution and informal work. Industrialisation without decent jobs may raise GDP but not development.

9. Institutions

Rule of law, secure property rights and good governance let people save, invest and contract with confidence. Corruption raises costs, diverts public money and discourages investment. Political instability, war and conflict destroy capital, drive out skilled workers, disrupt trade and divert spending to the military. A farmer without a land title cannot use land as collateral, linking property rights to financial access.

Evaluating: interrelationships

Capital needs skills to use it; skills need health and school access; investment needs stable institutions; finance needs saving. Ask which factor is the binding constraint in the case given. A fair conclusion is rarely “all matter equally”.

Common errors

• Writing Harrod-Domar as g = k / s, or forgetting the model ignores technology.
• Dividing terms of trade the wrong way round.
• Treating the Kuznets curves as laws.
• Listing factors without a chain of reasoning to development.

Official syllabus

OxfordAQA International AS and A-level Economics (9640), specification version 1.2, section 3.4.3.2, first teaching September 2020 (OxfordAQA).