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Why Doesn't Capital Flow from Rich to Poor Countries?

Why Doesn't Capital Flow from Rich to Poor Countries?,ROBERT E. LUCAS

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Why Doesn't Capital Flow from Rich to Poor Countries?   (Citations: 544)
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The egalitarian predictions of the simplest neoclassical models of trade and growth are well known and easy to explain, as they follow from entirely standard assumptions on technology alone. Consider two countries producing the same good with the same con- stant returns to scale production function, relating output to homogeneous capital and labor inputs. If production per worker dif- fers between these two countries, it must be because they have different levels of capital per worker: I have just ruled everything else out! Then the Law of Diminishing Returns implies that the marginal product of capital is higher in the less productive (i.e., in the poorer) economy. If so, then if trade in capital good is free and competitive, new investment will occur only in the poorer economy, and this will continue to be true until capital-labor ratios, and hence wages and capital returns, are equalized. We do, of course, see some investment by wealthy countries in poorer ones, but an example with some rough numbers will help to make clear just how far the capital flows we observe fall short of the flows predicted by the theory I have just sketched. Accord- ing to Robert Summers and Alan Heston (1988, Table 3, pp. 18-21), production per person in the United States is about fifteen times what it is in India. Suppose produc- tion in both these countries obeys a Cobb- Douglas-type constant returns technology with a common intercept:
Published in 1979.
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