A general equilibrium analysis of production subsidy in a Harris-Todaro developing economy: an application to India

Abstract

Since 1950s India has advocated import substituting industrialization policies to promote its manufacturing sector. The end result was creation of a dual economy: highly favored manufacturing sector with high and rigid wages and neglected agricultural sector with low wages and poverty. Because of the higher wages in the manufacturing sector, the rural laborers migrate to the urban sector, a typical characteristic of the Harris-Todaro developing economy. Realizing this crisis, the Indian government recently initiated policies to boost agricultural production to curb the labor migration and improve the welfare of the rural population. In this study, we develop a computable general equilibrium (CGE) model for India by incorporating Harris-Todaro economic characteristics of unemployment, labor migration, farm dependant population, and labor-intensive agriculture. We use the model to analyze the effects of agricultural production subsidy policies on employment, factor price, output price, output levels, and welfare in agricultural and manufacturing sectors. Our findings show that agricultural production subsidy increases agricultural production, reduces unemployment, raises the wage rate in the agriculture sector, augments the consumption among the rural and urban households, and increases the rental rate for capital in agricultural sector.

Notes

¹Several extensions of the H–T model can be found in the trade literature analysing the welfare impacts of trade policies. These extensions include capital mobility across sectors [Corden and Findlay (1974); Batra and Naqvi (1987)] and imperfect labour mobility [Parai and Beladi (1997); Holland et al. (2004)].