prebisch singer hypothesis economics discussion

Prebisch-Singer Thesis: Assumptions and Criticisms | Trade | Economics

In this article we will discuss about:- 1. Introduction to Prebisch-Singer Thesis 2. Assumptions in the Prebisch-Singer thesis 3. Criticisms.

Introduction to Prebisch-Singer Thesis:

There is empirical evidence related to the fact that the terms of trade have been continuously moving against the developing countries. On the basis of exports statistics concerning the United Kingdom between 1870 and 1940, Raul Prebisch demonstrated that the terms of trade had secular tendency to move against the primary products and in favour of the manufactured and capital goods.

This viewpoint has been strongly supported by H. W. Singer. The essence of Prebisch-Singer thesis is that the peripheral or LDC’s had to export large amounts of their primary products in order to import manufactured goods from the industrially advanced countries. The deterioration of terms of trade has been a major inhibitory factor in the growth of the LDC’s.

Prebisch and Singer maintain that there has been technical progress in the advanced countries, the fruit of which have not percolated to the LDC’s. In addition, the industrialised countries have maintained a monopoly control over the production of industrial goods. They could manipulate the prices of manufactured goods in their favour and against the interest of the LDC’s.

ADVERTISEMENTS:

Except the success of OPEC in raising the prices of crude oil since mid 1970’s, there has been a relative decline in the international prices of farm and plantation products, minerals and forest products. Consequently, the terms of trade have remained unfavourable to the developing countries.

Assumptions in the Prebisch-Singer thesis:

The main assumptions in the Prebisch-Singer thesis are as under:

(i) As income rises in the advanced countries, the pattern of demand shifts from primary products to the manufactured products due to Engel’s law.

(ii) There is slow rise in demand for products in the developed countries.

(iii) The export market for product of LDC’s is competitive.

(iv) The export market for products of developed countries is monopolistic.

(v) Wages and prices are low in LDC’s.

(vi) The appearance of substitutes for products of LDC’s reduces demand for them.

(vii) The benefit of increased productivity is not passed by the producers of manufactured products in advanced countries to the LDC’s through lower prices.

(viii) The economic growth in the LDC’s is indicated by income terms of trade.

Singer has pointed out that the recent increase in debt problem of the LDC’s has imparted another twist to the hypothesis of secular deterioration of terms of trade for them in two ways. Firstly, a high proportion of proceeds from exports are not available for imports.

Secondly, there is an increased pressure upon the LDC’s to raise exports in order to repay external debts on account of IMF-induced adjustment polices. These pressures make the debt- ridden LDC’s to compete with other poor countries to enlarge their export earnings. It results in decline in the prices of export products of these countries.

Criticisms of Prebisch-Singer Thesis :

The Prebisch-Singer Thesis has come to be criticized on several grounds:

(i) Not Firm Basis for Inference:

The inference of secular deterioration of terms of trade for the LDC’s rests upon the exports of primary vis-a-vis manufactured products. In this regards, it should be remembered that the LDC’s export wide variety of primary products. Sometimes they export also certain manufactured products.

They, at the same time, do not import only manufactured products but also a number of primary products. It is, therefore, not proper to draw a firm inference about terms of trade just on the basis of primary versus manufactured exports.

(ii) Faulty Statement of Gains and Losses of Primary Exporters:

Jagdish Bhagwati has pointed out that the index of terms of trade employed in this thesis understates the gains of exporters of primary products. At the same time, there is over­statement of losses of primary producers.

(iii) Faulty Index of TOT:

The Prebisch- Singer hypothesis rests upon the index, which is the inverse of the British commodity terms of trade. This index overlooks the qualitative changes in products, appearance of new varieties of products, services like transport etc. The generalisation based on British terms of trade for the period 1870 to 1930, according to Kindleberger, is not true for the other developed countries of Europe.

(iv) Neglect of Supply Conditions:

In the determination of terms of trade, the Prebisch-Singer thesis considers only demand conditions. The supply conditions, which are likely to change significantly over time, have been neglected. The relative prices, in fact, depend not only upon the demand conditions but also on the supply conditions.

(v) Little Effect of Monopoly Power:

One of the arguments in support of this thesis was that the higher degree of monopoly power existing in industry than in agriculture led to secular deterioration of terms of trade for the developing countries. In this connection, it was also agreed that the monopoly element prohibited the percolation of benefits of technical progress to the LDC’s. The empirical evidence has not supported such a line of argument.

(vi) Inapplicability of Engel’s Law:

The secular decline in the demand for primary products in developed countries was attributed to Engel’s Law. But this is not true because this law is applicable to food and not to the raw materials, which constitute sizeable proportion of exports from, the LDC’s.

(vii) Benefits from Foreign Investment:

The deterioration of the terms of trade for the LDC’s is sometimes linked not to non-transmission of productivity gains to them by advanced countries through lower prices of manufactured goods, yet the benefits from foreign investments have percolated to the LDC’s through the product innovations, product improvement and product diversification. These benefits can amply offset any adverse effects of foreign investment upon terms of trade and the process of growth.

(viii) Difficult to Assess Variation in Demand for Primary Products:

The secular deterioration in terms of trade of the LDC’s during 1870 to 1930 period was supposed to be on account of the declining world demand for primary products. During that period, there were tremendous changes in world population, production techniques, living standards and means of transport. Given those extensive developments, it is extremely difficult to assess precisely the changes in world demand for primary products and the impact of those changes upon the terms of trade.

(ix) Export Instability and Price Variations:

The Prebisch-Singer thesis suggested that export instability in the LDC’s was basically due to variations in prices of primary products relative to those of manufactured products. Mc Been, on the contrary, held that the export instability in those countries could be on account of quantity variations rather than the price variations.

(x) Development of Export Sector not at the Expense of Domestic Sector:

In this thesis, Singer contended that foreign investments in poor countries, no doubt, enlarged the export sector but it was at the expense of the growth of domestic sector. This contention is, however, not always true because the foreign investments have not always crowded out the domestic investment. If foreign investments have helped exclusively the growth of export sector, even that should be treated as acceptable because some growth is better than no growth. It is far­fetched to relate worsening of terms of trade to the non-growth of domestic sector.

(xi) Faulty Policy Prescription:

Prebisch prescribed the adoption of protectionist policies by LDC’s to offset the worsening terms of trade. Any gains from tariff or non-tariff restrictions upon imports from advanced countries can at best be only short-lived because they will provoke retaliatory actions from them causing still greater injury to the LDC’s.

In the present W.TO regime of dismantling of trade restrictions, Prebisch suggestion is practically not possible to implement. There should be rather greater recourse to export promotion, import substitution, favourable trade agreements and adoption of appropriate monetary and fiscal action for improving the terms of trade in the developing countries.

(xii) Lack of Empirical Support:

The studies made by Morgan, Ellsworth, Haberler, Kindelberger and Lipsey have not supported the secular deterioration of terms of trade hypothesis, Lipsey has observed, “Although there have been very large swings in U.S. terms of trade since 1879, no long term trend has emerged. The average level of U.S. terms of trade since World War II has been almost the same as before World War I.” This objection of lack of empirical support against the Prebisch-Singer hypothesis is actually not very sound. A number of more recent empirical studies have, in fact, gone in favour of this hypothesis.

Despite all the objections raised against the Prebisch-Singer thesis, the empirical evidence has accumulated in support of it. The studies made by UNCTAD for 1950-61 and 1960-73 periods showed that there was a relative decline in the terms of trade of LDC’s vis-a-vis the developed countries. A study attempted by Thirlwall and Bergevin for the period 1973-82 indicated that there was an annual decline of terms of trade of LDC’s for all the primary commodity exports at the rate of 0.36 percent.

On the basis of their study related to exports of manufactured products for LDC’s to the advanced countries during 1970-87 period, Singer and Sarkar found that the terms of trade of LDC’s declined by about 1 percent per annum. Even the World Development Report 1955 recognised that the world prices of primary products declined sharply during I980’s and the terms of trade of LDC’s deteriorated during 1980-93 period.

According to the 1997 Human Development Report of UNDP, the terms of trade for the least developed countries declined by a cumulative 50 percent over the past 25 years. According to South Commission, compared with 1980, the terms of trade of developing countries had deteriorated by 29 percent in 1988. The average real price of non-oil commodities had declined by 25 percent during 1980-88 period compared with the previous two decades. The terms of trade of non-oil developing countries had deteriorated during 1980-88 period by 8 percent compared with 1960’s and 13 percent compared with 1970’s.

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• History of Political Economy

The Origins and Interpretation of the Prebisch-Singer Thesis

• J. F. J. Toye , Richard Toye
• Duke University Press
• Volume 35, Number 3, Fall 2003
• pp. 437-467
• View Citation

Additional Information

John Toye and Richard Toye

The Prebisch-Singer thesis is generally taken to be the proposition that the net barter terms of trade between primary products (raw materials) and manufactures have been subject to a long-run downward trend. The publication dates of the first two works in English that expounded the thesis were nearly simultaneous. In May 1950, the English version of The Economic Development of Latin America and Its Principal Problems , by Raúl Prebisch, appeared under the UN's imprint. In the same month Hans Singer published an article, "The Distribution of Gains between Investing and Borrowing Countries," in the American Economic Review . The continuing significance of the "Prebisch-Singer thesis" is that it implies that, barring major changes in the structure of the world economy, the gains from trade will continue to be distributed unequally (and, some would add, unfairly) between nations exporting mainly primary products and those exporting mainly manufactures. Further, inequality of per capita income between these two types of countries will [End Page 437] be increased by the growth of trade, rather than reduced. This could be, and has been, taken as an indicator of the need for both industrialization and tariff protection.

Prebisch and Singer identified two types of negative effects on primary producers' terms of trade. One effect occurs because of systematically different institutional features of product and factor markets, such as cost-plus pricing and the unionization of labor in industry. Another negative influence is that of technical progress, both from the asymmetric distribution of its fruits, but also from its asymmetric impact on future demand, favorable to that of industry while unfavorable to that of agriculture. The empirical significance of the thesis has been much disputed and continues to be controversial after more than fifty years. One recent investigation has claimed that these two effects have operated strongly in the forty years after the Second World War, and that they have indeed outweighed the positive influences on primary producers' terms of trade arising from capital accumulation and the growth of industrial production. This particular study suggested that the economic mechanisms that disfavor primary product producers, which were specified by Prebisch and Singer, have had significant impacts, even though the net secular decline of primary producers' net barter terms of trade has been found to be relatively small, at around 1 percent a year (Bloch and Sapsford 1998).

The Prebisch-Singer thesis contradicted a long tradition of contrary belief among economists. The nineteenth-century English political economists believed that the terms of trade of industrial manufactures relative to agricultural produce would tend to decline. This belief underpinned their pessimism about the sustainability of rapid population growth. That manufactures' terms of trade would decline, and that rapid population growth was therefore unsustainable, were two propositions that caused political economy to be dubbed the "dismal science." This basic framework of ideas remained remarkably stable throughout the entire century and a quarter from Robert Malthus to the early works of John Maynard Keynes. Although, by the late 1940s, this proposition was rarely stated explicitly, when Prebisch and Singer came to reverse the classical expectation of declining terms of trade for manufactures, their conclusions were immediately controversial, and are still so regarded by some today. 1 [End Page 438]

Prebisch is frequently credited with having formulated the declining terms of trade thesis before Singer did. Joseph Love (1980, 58–59) claimed that "Prebisch clearly seems to have reached his position earlier than Singer." Other authors have held that Singer discovered the thesis independently and simultaneously. Cristobal Kay (1989, 32) wrote that "Singer . . . reached his conclusions independently from Prebisch and around the same time [so that] the thesis on the deterioration in the terms of trade is known in the economic literature as the ‘Prebisch-Singer thesis.'" This second view was indeed that held by Singer himself. 2 Our account of the events surrounding the United Nations Economic Commission for...

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Declining Terms of Trade

• The Terms of trade refer to the relative price of exports/imports.

• A decline in the terms of trade means the price of exports falls relative to imports. Imports become more expensive.
• Typically a country will have lower living standards and less ability to import.

Impact of decline in terms of trade on a developing economy

Suppose a developing country exports coffee beans and imports manufactured goods.

• A decline in the terms of trade will mean a country will see the price of coffee beans fall relative to the price of imported manufactured goods. This means it has to export relatively more coffee beans to get the same quantity of manufactured goods.
• A prolonged fall in the terms of trade could be seen as a problem because it can lead to declining living standards and lower GDP.
• It could also reduce export revenue and make it harder to pay foreign external debt. This would be a problem for developing economies with high external debt. TO meet the debt repayments may require a relatively higher percentage of national income on meeting repayments in foreign currency.

Cost of decline in terms of trade

World Bank estimates suggest that between 1970 and 1997 declining terms of trade cost non-oil-exporting countries in Africa the equivalent of 119 percent of their combined annual gross domestic product (GDP) in lost revenues. It will also be more difficult to earn more foreign currency to pay external debt. [1. State of Agricultural Markets FAO]

Many developing countries concentrate on producing primary products, but according to The Prebisch-Singer hypothesis, there is likely to be a fall in the terms of trade when you concentrate on primary products. This is because:

• Low income elasticity of demand. As incomes rise, demand doesn’t rise so much.
• Increased productivity (fertilizers e.t.c.) increases supply and reduces price.

Between 1961 and 2001, the average prices of agricultural commodities sold by LDCs fell by almost 70 percent relative to the price of manufactured goods purchased from developed countries [2. The State of Agricultural Markets 2004 FAO ]

• A decline in the terms of trade is not necessarily a bad thing. For example, a decline in the terms of trade may occur due to a devaluation in the exchange rate. This devaluation may enable a country to regain competitiveness and increase the quantity of exports. For example, the UK in 1992 benefited from a decline in the terms of trade.
• The impact of a decline in the terms of trade will depend on the elasticity of demand. If demand is elastic, the lower price of exports will cause a bigger % increase in demand.
• Some LDC’s have seen an improvement in terms of trade because of rising price of commodities and food post-2008. It is not always LDCs who see a decline in the terms of trade.
• It is important to distinguish between a short-term decline in terms of trade and a long-term decline. A long-term decline is more serious for reflecting a fall in living standards.
• Terms of trade and balance of trade
• Terms of trade effect in the UK

3 thoughts on “Declining Terms of Trade”

Discuss the secular declining hypothesis of terms of trade and its implication to project management. And, explain also how it is also connected with an informal network circumventing the overriding objective of government, market and NGOs.

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Quickonomics

Prebisch–Singer Hypothesis

Definition of the prebisch–singer hypothesis.

The Prebisch–Singer hypothesis is a theory in economics that suggests that the terms of trade between primary products and manufactured goods tend to deteriorate over time. This theory, posited by Raúl Prebisch and Hans Singer in the late 1940s and early 1950s, respectively, argues that countries that export commodities (a term closely associated with primary products) will become relatively poorer in comparison to those that export manufactured goods. The hypothesis is based on the observation that the income elasticity of demand for primary products is lower than that for manufactured goods. Thus, in a growing global economy, the prices for primary products will increase at a slower rate than those for manufactured goods, leading to a decline in the terms of trade for countries specializing in the export of commodities.

Consider two countries: Country A specializes in the production and export of copper, a primary commodity, while Country B specializes in the production and export of electronic gadgets, a manufactured product. As the global economy expands, the demand for electronic gadgets (with high-income elasticity) grows faster than the demand for copper (with lower income elasticity). Over time, the price of electronic gadgets increases more rapidly than the price of copper. Consequently, for Country A to purchase the same amount of electronic gadgets from Country B, it needs to export more copper than before. This illustrates the deteriorating terms of trade for Country A, as represented by the Prebisch–Singer hypothesis.

Why the Prebisch–Singer Hypothesis Matters

The Prebisch–Singer hypothesis has significant implications for trade policies and economic development strategies, especially for countries heavily reliant on the export of primary products. It supports the argument for these countries to diversify their economies and to develop their manufacturing sectors. The hypothesis also underpins the rationale for economic policies aimed at protecting infant industries and reducing dependency on commodity exports. It highlights the vulnerability of commodity-exporting countries to volatile global market conditions and the potential benefits of economic diversification and value addition.

Frequently Asked Questions (FAQ)

What are the main criticisms of the prebisch–singer hypothesis.

The Prebisch–Singer hypothesis has faced criticism on several fronts. Critics argue that it oversimplifies the dynamics of international trade by not accounting for factors such as technological progress and productivity gains in the primary sector, which can influence the terms of trade. Others suggest that the hypothesis underestimates the capacity of commodity-exporting countries to diversify their economies and to upgrade their production processes. Additionally, some economists have highlighted empirical evidence showing periods during which the terms of trade for primary products improved, contrary to what the hypothesis predicts.

How have some countries responded to the challenges highlighted by the Prebisch–Singer hypothesis?

Some countries have taken proactive steps to mitigate the challenges highlighted by the Prebisch–Singer hypothesis through policies aimed at economic diversification and industrialization. This includes investing in education and technology to improve productivity and competitiveness, implementing policies to support the growth of the manufacturing sector, and pursuing value-added processing of primary products. Countries have also engaged in regional trade agreements to enhance market access for their manufactured goods and reduce dependence on commodity exports.

How does the Prebisch–Singer hypothesis relate to the concept of sustainable development?

The Prebisch–Singer hypothesis is relevant to discussions of sustainable development, particularly in how it underscores the need for economic diversification and resilience in the face of global market volatility. By highlighting the risks associated with over-reliance on primary commodity exports, the hypothesis indirectly points to the importance of pursuing economic development strategies that are environmentally sustainable, economically viable, and socially inclusive. This includes promoting industries that not only generate economic growth but also contribute to environmental conservation and social well-being.

In conclusion, the Prebisch–Singer hypothesis has played a pivotal role in shaping economic thinking and policy-making related to international trade and development. Despite criticisms and challenges to its empirical validity, the core message of promoting economic diversification and reducing dependency on volatile commodity markets remains highly relevant, especially for developing countries seeking to achieve sustainable and inclusive economic growth.

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The Prebisch-Singer Terms of Trade Hypothesis: Some (Very) New Evidence

Cite this chapter.

• David Sapsford &
• John-ren Chen  

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The chapters in this section of the book are concerned with various dimensions of an hypothesis which has become inextricably associated with the names Hans Singer and Raul Prebisch. According to this hypothesis, which was launched simultaneously by Singer (1950) and Prebisch (1950), the net barter terms of trade between primary products and manufactures have been, and could be expected to continue to be, subject to a downward long-run trend. Being in direct contradiction with the then prevailing orthodoxy, it is not surprising that the Prebisch-Singer hypothesis (P–S hereafter) attracted criticism from a number of quarters. The ensuing debate, which initially focused its attack on the basis of issues related to the treatment of transport costs and quality change, is well summarized by Spraos (1980), who showed that adjustments for shipping costs and changing quality left the hypothesis largely undented, in the sense that they failed to destroy its empirical validity. However, since the mid-1980s the debate surrounding the P–S hypothesis has shifted to the statistical arena. Indeed, such is the interest generated by the hypothesis amongst econometricians and time-series statisticians that it has established itself as one of the major test beds on which they routinely evaluate their latest methods of trend estimation!

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Sapsford, D., Chen, Jr. (1998). The Prebisch-Singer Terms of Trade Hypothesis: Some (Very) New Evidence. In: Sapsford, D., Chen, Jr. (eds) Development Economics and Policy. Palgrave Macmillan, London. https://doi.org/10.1007/978-1-349-26769-9_3

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Testing the prebisch-singer hypothesis since 1650: evidence from panel techniques that allow for multiple breaks.

By Rabah Arezki, Kaddour Hadri, Prakash Loungani, Yao Rao

August 15, 2013

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Format: Chicago

Subject: Agricultural commodities, Commodities, Commodity markets, Commodity price fluctuations, Commodity prices, Financial markets, Prices

Keywords: Agricultural commodities, Banana price volatility, Beef price volatility, Coal price volatility, Commodities, Commodity markets, Commodity price, Commodity price fluctuations, Commodity prices, Commodity prices of banana, Global, Gold price volatility, Lamb price volatility, Multiple, Nickel price volatility, Price volatility, Primary, Root tests, Structural breaks, Tin price volatility, Tobacco price volatility, Unit, Volatility, Volatility of commodity price, WP

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Working Paper No. 2013/180

WPIEA2013180

9781484341155

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Last updated 21 Mar 2021

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This is a short revision video looking at the Prebisch-Singer Hypothesis.

• Prebisch-Singer Hypothesis

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The Prebisch Singer Hypothesis

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