Criteria for Investment in Developing Economy

Industrial growth is essential for economic development of a nation, but at the same time it is also essential that national resources should be so distributed that all sectors of national life take proper advantage of nation’s resources. In other words there should be investment in a planned way. There is no single criteria of investment in a planned economy.

Some of the important criteria which are as under:

1. Capital Output Criteria:

According to this there should be close relationship between the capital invested and the output, which the investment would give to the society. The lower is the capital output ratio, the higher would be the rate of growth of the economy.

This ratio helps in finding out the productivity of capital in various sectors of economy at a given point of time. Then the idea underlying is that projects in which money is to be spent are complete substitutes of each other. But this criteria has been put to several criticisms.

Some of the important points of criticism are:

The criteria proceeds on the assumption that in the economic world, there is substitutability, but that is not actually so. There can be projects which may be supplementary to each other and not their substitutes, e.g. industrial and agricultural projects.

Then another criticism advanced is that, it is believed that output at a given point of time is the indication of development, but that is not so because the real indication of proper investment is rate of growth over a period of time and not development. Capital output ratio might be influenced by political and social considerations.

The criteria proceeds on the presumption that capital output criteria is the sole one for determining output ratio, but that is not so. It can be only one of the criterion. There can be considerations about labour investment ratio, employment and distribution of wealth considerations as well.

2. Marginal Social Productivity Criteria:

This has been given by Prof. Kahn. According to him, “The correct criterion for obtaining the maximum return from limited resources is marginal productivity or from the point of view of society as a whole, social marginal productivity.” According to this criteria investment should be made in such projects in which social marginal productivity is the highest.

According to them the investment should be so made that it maximises the ratio of current output to investment on the one hand and that of labour to investment on the other. Investment should also be made in the projects which might help in improving the real income and which help in producing such goods, which meet basic needs of the society. While investing care should be taken to see that the projects should be such which help in promoting external economies and in which maximum use is made that of domestic raw material.

3. Rate of Turnover Criteria:

This criteria has been given by Polak and as such it is known as Polak’s Rate of Turnover Criterion. According to this criteria the basic principle of investment should be that the capital should be invested in such projects which yield the highest value of output, as compared with investment. Turnover is likely to be higher in consumer rather than capital goods industries. But again this criteria has been put to criticism.

If this criteria is accepted then maximum investment will have to be made in consumer goods industries, which may appear attractive for the present, but cannot, be termed as safe policy for the future development of the nation. Thus by this criteria of investment, rate of growth for the future will receive a serious set hack. Then another criticism is that if investment is linked with turnover, then in some cases it may happen that high turnover may be owing to high rate of depreciations, but actually the net rate of output may not be high.

4. Employment Absorption Criteria:

This is another criteria which is considered more appropriate for the poor countries. According to this criteria, capital should be invested in such projects where more labour and less capital is needed. It is because the poor countries are faced with the serious problem of unemployment and surplus man power.

This criteria may not be very appropriate for the countries, which are not faced with the problems of surplus man power. But this criteria has also been put to certain criticisms. If this criteria is applied, then one cannot be sure whether that would maximise output. It is just possible that some techniques which require some capital and less labour may give better output, but may not be applied because the criteria requires less capital and more labour.

Then another criticism advanced is that it makes labour employment an end in itself, rather than means to an end. In fact investment is made for the purposes of output. Thus output is end in itself, whereas employment is means to an end. Then it is also said that if this criteria is adopted in actual practice that would mean perpetuation of low labour productivity, which no nation can ever afford.

5. Local Community Works Criteria:

Almost all underdeveloped and undeveloped countries have agricultural economy. Usually land needs much more man power than what it needs. The result is that though apparently the people may appear to be engaged on work, yet in actual practice, they are unemployed. This type of unemployment is also known as disguised unemployment.

The criteria of local community works starts on the premise that there are many projects at the local community level, which can be undertaken by the society and turned as permanent assets. These projects though minor, can provide employment to the local people.

These include construction of a school building or road of the village or a community centre. But this criteria has been considered as very limited and narrow, particularly in the sense that it is bound to localise the capital and will surely not help in productivity. Of course a part of the investment can be diverted in this direction, but not the whole of it.

6. Balance of Payment Criteria:

Underdeveloped and undeveloped nations always have unfavourable balance of payment. It is primarily because, these nations are to depend on developed nations for meeting most of their requirements. Many nations even import consumption goods. The loans which are taken by the poor nations are a liability for the future generations.

This criteria of investment provides that amount should be so invested that unfavourable balance of payment is reduced, it means that the nation should spend and invest in such projects which help making the nation self-sufficient and less dependent on other nations.

Of course, it is a very good criteria of investment and no one can deny that each nation should make an attempt to become as much self-sufficient, as possibly it can. But at the same time it cannot be denied that no nation can spend all the resources on simply financing those projects on which it is to depend on other nations.

7. Time Lag Criteria:

This is another criteria which has been suggested for investment of capital. Every nation is required to spend in two types of projects. One project is of the types which is likely to take long time for its completion, the nation will be required to spend heavily on that and it will have to wait for a very long time, till the project has been completed, and the nation can reap the fruit of investment.

Then on the other hand there are short term projects. These do not need heavy investment. Much time is also not needed for their completion and nation begins to reap the fruit after sometime. Underdeveloped and undeveloped countries cannot afford to invest on long term projects, though that is a permanent investment.

It is simply because the capital is short and priority needs many. The desire of the people is to meet needs as quickly as possible. If the nation is taxed for reaping fruit after a very long time, the result will be that the people will get dissatisfied. They are likely to feel that they are not being rewarded for what they are paying.

Of course the criteria is good, particularly for the poor nations, where the people are usually impatient for the results. But at the same time no nation can afford ignoring long time projects. Take the example of agriculture. Every nation which has agricultural economy, must undertake major irrigation projects on hand and try to complete as quickly as possibly it can, if in the agricultural field it wants to become self-sufficient.

If the nation goes on postponing that then in practice, it will be postponing self-sufficiency. We also find that construction of dams and railway lines etc., are long term investments, but the question is whether can any nation afford to ignore them. Infact there might be situations in which investment on long term projects may get priority over investment on short term projects.

8. Market Demand Criteria:

Then it is said that the money should be invested in such projects, which have ready market. That market can be both at the national and international level. This would mean immediate return for the money invested.

It will also mean that the nation will not have to wait till the market is created and the goods are accepted by the society. Obviously when there is ready market for the goods, money gets into circulation very quickly and becomes available to the nation for reinvestment. This criteria is considered very useful for nations which have scarce money and short and shy capital.

These nations obviously cannot wait till market for their products is created. This becomes particularly difficult in so far as international market is concerned, where competition is tough and the nations which are already in the market, may not allow entry to other nations.

Of course, it is a good criteria, but greatest limitations of this in that in case investment is made only on such projects, where ready market is available, and then the nation can never go on the path of progress. It will never be in a position to explore market for the commodities which have potentialities of growth, in the international market it will remain backward.

9. Criteria of External Economies:

Some of the economists have come forward with the idea that the money should be invested in such projects which give benefits of external economies. According to them while investing particular care should be taken to see that investment is made in such industries, which give encouragement to the setting up of other industries. According to them, if this criteria is accepted then a chain of new industries will come up which will make the nation self-sufficient quickly and speedily.

Again in favour of this criteria, it can be said that it is good in so far as coming up of new industries is concerned. It must be accepted and appreciated that sooner new industries set up, better will it be for the nation, to get itself industrialise and become self- sufficient. Quicker industrialisation is bound to enhance the prestige of the nation.

But at the same time it must be accepted that it is not always essential that only those industries which give the benefit of external economies to the nation are good. There can be and always are many industries which must be expanded, maintained and strengthened simply because these are priority areas, no matter whether the benefits of extra economies are available to the nation or not.

10. Technique Intensive Industries Criteria:

Setting up of every industry needs certain techniques.

These techniques can be of two types namely:

(a) Managerial techniques and

(b) Machine techniques.

From managerial techniques we understand that the top level persons or supervisory personnel in good number are available to run the industry and to put the capital to maximum use. In case competent persons are not available, then the industry will suffer. Similarly machine needs competent people to run it, this aspect becomes particularly important when more and more sophisticated machines are set up.

A machine might be costly and prepared for giving extensive output, but in case there are no competent people to run that, then the same machine, instead of becoming an asset will become a liability.

The importance of this criteria is fully well realised and appreciated but for the poor countries, this is also loaded with some serious problems. First important serious problem is that what should be the policy of a poor nation in so far as labour intensive and machine intensive techniques are concerned. Poor nations are always faced with the problem of utilisation of surplus man power.

In case machine intensive techniques are adopted then in practice that will mean replacing man by machine. It will also mean rendering the people surplus and instead of solving the problems of unemployment, it will mean creation of unemployment problem.

If investment means creation of unemployment, then it cannot be a wise policy and no nation will ever cherish that. Then another difficulty with these nations is whether they should lay stress on techniques oriented or labour oriented investment. In case it is technique oriented, then the problem of employing labour will come to the front.

11. Leading Sectors Criteria:

This criteria has been given by Prof. Rostow. According to him sectors of economy can be divided into three categories. According to the exponents of this criteria, if investment is concentrated in a limited number of such leading sectors, which generate growth in multiple ways, then the investment will be most useful. But this criteria too has been subjected to criticism.

12. Reinvestment Criteria:

This criteria has been given by Walter Galenson and Harvey Leibenstein. It says that allocation of resources will be optimum when the marginal per-capita reinvestment quotient of capital is equalised in its various alternative uses. But this criteria has also been criticised. This is being discussed separately with some details.

13. Balanced Development Criteria:

Many economists have come forward with the idea that it is wrong to think that there are certain more priority whereas others are less priority areas. For the advancement of a nation, all the areas should be given full and proper attention.

They feel that it is difficult for the nation to decide whether industry or agriculture should fall in the priority category. Similarly, it is difficult for any nation to decide whether producer goods should have priority over consumer goods or vice versa. Therefore, according to these economists, every nation should invest in the projects without taking into consideration priorities. According to them it is only then that balanced development will be possible.

But again this criteria is loaded with difficulties. As we know that no nation in actual practice can forget that there are some priority and other non-priority projects. How can a nation suppose that all are priority projects? In case scarce resources are also utilised for non- priority projects, then the nation will not be in a position to have proper returns for the investment made and on the whole it will be the sufferer.