was not appropriate for developing countries. As development was enlarging
the stock of resources, concern had to be with investment and growth. Lewis
divided the economy of a developing country into two sectors: modern-capital-
ist and traditional-subsistence – not, as many have assumed, industry and agri-
culture. Labour he argued is available to the capitalist sector at a wage
determined by earnings or consumption in the traditional sector. The key impli-
cation is that abundant unskilled labour in the traditional sector ensures an
effectively unlimited supply of labour to the capitalist sector at a wage just
above its existing subsistence-level earnings. Using modern machinery and
factory-based production methods the capitalist sector has a higher productivity
per worker than the traditional sector. The surplus of output over wages is
captured by the capitalists as profit. If the capitalist reinvests a part of this profit
the capitalist sector will grow, absorb more labour and generate more profit.
This process will slow down and halt when the capitalist sector has absorbed all
the surplus labour; wages will then rise, while profits and so the incentive to
invest will decline. Structural change, according to the Lewis model, sees
profit-seeking investment driving a traditional-subsistence economy towards a
modern-capitalist one. This process is accompanied by rising inequality as
wages remain fixed and the share of profits in national income increases.
There are various theoretical and empirical critiques of the Lewis model. One
long-standing critique is that Lewis assumes that food flows from the traditional
agricultural sector to the capitalist industrial sector at a fixed price, while any rise
in price (shift in the terms of trade) may undermine capitalist profits. This critique
is mistaken:the capitalist sector in the model could very well comprise modern
productive farms mass producing cheap food – as Lewis does make clearer in
various other works. A second and more serious criticism is a seeming contradic-
tion at the heart of the model linking investment and demand. Capitalists are
assumed to appropriate and reinvest the rising share of profits, which leads to an
expansion of the capitalist sector. If workers are all earning wages just above
subsistence,then who is going to consume the rising modern-sector output? It
may also be the case that capitalists do not invest their surplus in ‘productive
capacity’ but instead divert resources to investments in agricultural land, ostenta-
tious consumption, urban real estate, and capital flight (Hunt, 1989). Then where
does the investment and growth come from? Third, the persistence of unemploy-
ment and underemployment in the shanty towns and favelasof the developing
world indicates that workers are not automatically absorbed by the expanding
capitalist sector as suggested by the model, but that they migrate from rural areas,
often to a between-sector limbo in an informal sector waiting for a modern-sector
job. Fourth, in practice wages do not obligingly wait at subsistence levels until the
labour surplus has been fully absorbed. In India, for example, trade unions won
strong employment rights for workers in the early 1950s that protected formal-
sector employment, raised wages and slowed down the transfer of labour to
the modern/formal sector. Forty years later there were only around thirty million
modern/formal-sector workers in India and around 93 per cent of total employ-
ment remained in the traditional/informal sector (Bhalotra, 1998).
Economic Growth and Economic Structure since 1750 167