1. Prebisch-Singer Hypothesis:
Prebisch, along with Hans Singer, argued that over time, the terms of trade for primary commodity-exporting countries (mainly developing nations) deteriorate relative to those of industrialized countries exporting manufactured goods. This hypothesis challenges the classical belief in mutual benefits of trade.
2. Reasons for Terms of Trade Deterioration
- Low Price Elasticity of Demand for Primary Commodities:
Primary commodities have inelastic demand. A fall in prices does not significantly increase demand, causing income from exports to decline disproportionately. - Technological Advancements in Manufactured Goods:
Industrialized nations experience rapid productivity growth, reducing the cost of manufacturing. These cost reductions are often not shared equitably with primary commodity exporters. - Market Structure Differences:
- Commodities: Produced in competitive markets, leading to price volatility and weak bargaining power for exporters.
- Manufactures: Produced in concentrated markets with stronger pricing power, enabling industrialized nations to maintain higher prices.
- Income Elasticity of Demand:
Demand for manufactured goods grows faster with rising incomes than for primary commodities. This asymmetry leads to a structural disadvantage for primary exporters.
3. Implications for Developing Countries
- Declining Export Revenues:
Deteriorating ToT reduces foreign exchange earnings, limiting the ability of developing countries to import essential goods and services. - Vulnerability to External Shocks:
Reliance on volatile primary commodity markets exposes developing economies to price shocks, exacerbating instability. - Stunted Economic Development:
Reduced export income limits investments in diversification, perpetuating dependence on low-value commodity exports.
