History, coordination and optimality: some policy lessons

Abstract

Within a two-sector dynamic framework with external economies in one sector (which give rise to the possibility of multiple equilibria) and convex adjustment costs, this paper provides a welfare ranlung of movements towards the two stable equilibria, solves for the optimal speed of industrialization and derives the shape of the social planner's optimal resource allocation path. These results show that one should be cautious in drawing policy implications from static models of coordination failures. Moreover, this paper also argues that a reduction in adjustment costs (e.g. through the provision of public education facilities) is an essential precondition for industrialization when the existing industrial base is thin.