CHAPTER 27 POPULATION'S EFFECTS II: ECONOMIES OF SCOPE AND EDUCATION CHAPTER 27: TABLE OF CONTENTS The Theory The Statistical Evidence Quantity and Quality of Education Summary The phenomenon called "economies of scope" (a related term is "economies of scale") - meaning the greater efficiency of larger- scale production - has been known for centuries. William Petty, a predecessor of Adam Smith, made the point when talking of the advantages of a large city like London over a small city: "...the Gain which is made by Manufactures, will be greater, as the Manufacture it self is greater and better...each Manufacture will be divided into as many parts as possible, whereby the Work of each Artisan will be simple and easie; As for Example. In the making of a Watch, If one Man shall make the Wheels, another the Spring, another shall Engrave the Dial-plate, and another shall make the Cases, then the Watch will be better and cheaper, than if the whole Work be put upon any one Man. And we also see that in Towns, and in the Streets of a great Town, where all the Inhabitants are almost of one Trade, the Commodity peculiar to those places is made better and cheaper than elsewhere.... The Theory Economies of scope stem from (1) the ability to use larger and more efficient machinery, (2) the greater division of labor in situations where the market is larger, (3) knowledge creation and technological change, and (4) improved transportation and communication. We shall take up each of these factors briefly at first, then in more detail. Please keep in mind as we proceed that there is no easy and neat distinction between increases in productivity due to increased knowledge and increases in productivity due to economies of scope; they are interdependent, and both are accelerated by population growth. (1) A bigger population implies a bigger market, all else equal. A bigger market promotes bigger manufacturing plants that likely are more efficient than smaller ones, as well as longer production runs and hence lower setup costs per unit of output. (2) A larger market also makes possible a greater division of labor and hence an increase in the skill with which goods and services are made. Adam Smith emphasized the importance of the division of labor and used the famous example of pinmaking. (Petty, quoted above, cited a more vivid example.) Specialization can also occur with respect to machinery. If the market for a firm's goods is small, it will buy multipurpose machines that can be used in the production of several kinds of products. If its market is larger, the firm can afford to buy more efficient specialized machines for each operation. Larger markets also support a wider variety of services. If population is small, there may be too few people to constitute a profitable market for a given product or service. In such a case there will be no seller, and people who need the product or service will suffer by not being able to obtain the good they want. Increased population must be accompanied by an increase in total income if there is to be a bigger market; more babies do not automatically mean a bigger total income, especially in the short run. But under almost any reasonable set of assumptions, when the increment of population reaches the age at which youths begin to work, total income and total demand will be larger than before. (3) Economies of scope also stem from learning. If you are putting your first set of tires onto a car, the second tire goes much faster than the first one. The more airplanes or bridges or television sets that a group of people produces, the more chances they have to improve their skills with "learning by doing" - a very important factor in increasing productivity. The bigger the population, the more of everything that is produced, which promotes learning by doing. (4) A bigger population makes profitable many major social investments that would not otherwise be profitable - for example, railroads, irrigation systems, and ports. The amount of such construction often depends upon the population density per given land area, as is discussed in chapter 25 on population and capital. For example, if an Australian farmer were to clear a piece of land very far from the nearest neighboring farm, she/he might have no way to ship his/her produce to market and will have difficulty in obtaining labor and supplies. But when more farms are established nearby, roads will be built that will link him/her with markets and supplies. Such reasoning lay behind Australia's desire for more immigrants and a larger population, as it did in the American West in the last century. Also, public services such as fire protection often can be provided at lower cost per person when the population is larger. There may also be diseconomies of increased scale, however, such as congestion. As the number of sellers and activity in, say, a city's wholesale fruit-and-vegetable market increases, transacting one's business may become more difficult because of crowding and confusion. Each additional person imposes some costs on other people by decreasing the space in which the other person can move around and by inflicting his pollution (soot, noise, litter) on other people. Therefore, the more people there are, the less space each person has and the more pollution each suffers from, all else equal. These effects would be felt both in a decreased ease and joy of living, and in higher prices due to the higher costs of production caused by congestion. This sort of diseconomy of scope is very much like the concept of diminishing returns from a given acre of land that is at the heart of Malthusian reasoning. It eventually must occur as long as there is some factor of production that remains fixed in size, be it land for the farmer or the market area for the wholesaler. But if that factor can be increased rather than remaining fixed - by building a bigger market, or by bringing new land into cultivation - then the diseconomies of scale, especially congestion, can be reduced or avoided indefinitely. THE STATISTICAL EVIDENCE Because there are a variety of forces associated with economic scope that affect activity in opposite directions, and because these factors cannot readily be studied separately, we must examine the overall net effect of greater population and larger markets upon productivity and technological change. Let's begin with an estimate of the overall effects of population size on productivity in less-developed countries (LDCs). Hollis B. Chenery compared the manufacturing sectors in a variety of countries and found that, all else being equal, if one country was twice as populous as another, output per worker was 20 percent larger. This is a very large positive effect of population size no matter how you look at it. Moving from the national level down to the industry level, and shifting from LDCs to more-developed countries (MDCs) because most of the available information pertains to MDCs: In every industry, there is some minimum size of operation that must be attained to reach a reasonable operating efficiency - one person for a hot-dog stand, tens of thousands for an auto plant. But though this is the sort of economy of scale that has been most studied in the past (because of its industrial applications), it is not the economy of scale that is most relevant to population questions. Also, the range of feasible plants is very large in many industries - the restaurant industry ranges from firms with one person to firms with thousands - and a small country may bear no disadvantage, or even have an advantage over larger countries in some industries. More relevant are studies of industries as wholes. As mentioned above, it is an important and well-established phenomenon that the faster an industry grows, the faster its efficiency increases - even compared with the same industry in other countries. Though the best analyses are dated, their data are surely still valid. In figure 27-1 we see comparisons of the productivity of U.S. industries in 1950 and 1963, and of U.K. industries in 1963, with U.K. industries in 1950 - and also comparisons of U.S. industries in 1963 with those of Canada in the same year. The larger the industry relative to the U.K. or Canada base, the higher its productivity. This effect is very large. Productivity goes up roughly with the square root of output. That is, if you quadruple the size of an industry, you may expect to double the output per worker and per unit of capital employed. Figures 27-1a and 27-1b here (old 14-2a and b) The effect Chenery saw in economies as wholes, together with the effects seen in individual industries, constitute strong evidence that a larger and faster-growing population produces a greater rate of increase in economic efficiency. The phenomenon called learning by doing is surely a key factor in the improvement of productivity in particular industries and in the economy as a whole. The idea is a simple one: The more units produced in a plant or an industry, the more efficiently they are produced, as people learn and develop better methods. Industrial engineers have understood learning by doing for many decades, but economists first grasped its importance for the production of airplanes in World War II, when it was referred to as the "80 percent curve": A doubling in the cumulative production of a particular airplane led to a 20 percent reduction in labor per plane. That is, if the first airplane required 1,000 units of labor, the second would require 80 percent of 1,000 (that is, 800) units, the fourth would require 80 percent of 800 (that is, 640) units, and so on, though after some time the rate of learning probably slows up. Similar "progress ratios" have been found for lathes, machine tools, textile machines, and ships. The economic importance of learning by doing clearly is great, and the role of a larger population in speeding learning by doing is clear. The effect of learning by doing can also be seen in the progressive reduction in price of new consumer devices in the years following their introduction to the market. The examples of room air conditioners and color television sets are shown in figure 27-2. FIGURE 27-2. Sales Prices of Room Air Conditioners and Color The various studies of productivity discussed earlier automatically subtract costs of congestion from the benefits of scale. Congestion should be reflected more sharply in the cost- of-living data for cities of different sizes. Therefore it may be surprising that no strong relationship between size of city and cost of living is apparent - at most a tiny effect; the largest estimate being a 1 percent increase in the overall cost of living for each additional million people, for people living on a high budget; other estimates range downward to no effect at all. (See Appendix, figure [old] A-21.) Furthermore, a study of the relationship of city size to the prices of over 200 individual goods and services found that although more prices go up with increasing city size than go down, for almost every good or service, workers are found to be more productive in the larger cities after the higher wage in bigger cities is allowed for. And the higher incomes in larger cities more than make up for the higher prices, so that the overall purchasing power of a person's labor is greater in the bigger cities. This suggests that the disadvantages of congestion are less than the positive effects of larger population - including better communications and more competition - on the standard of living in larger cities. QUANTITY AND QUALITY OF EDUCATION A reduction in the quality or quantity of education that children receive was long thought to be a negative effect of population growth. Human capital as well as physical capital is crucial in the productivity of an economy. And people might not wish to provide (or authorities might not demand) enough additional tax revenues to maintain an equivalent level of schooling in the face of population growth. If so, a larger population, with its larger proportion of children, might lead to less education on the average, and thus less increase in the stock of knowledge, than a smaller population. The conventional theory of population growth's effect upon the amount of education per child is straightforward Malthus: A fixed educational budget of money and resources divided among more students implies less education per student. But as we know from a host of evidence, people and institutions often respond to population growth by altering the apparently fixed conditions. In agricultural countries, for example, having more children causes parents to increase their labor on the land. And in industrial countries, when there are additional profitable opportunities for investment, people will shift some resources from consumption to investment; children's education constitutes such an opportunity. Therefore, we must allow for responses contrary to the simple Malthusian pie-sharing theory. There is no way of knowing from theory alone which of the two effects - dilution of resources or increase of work - will dominate. Therefore we must turn to empirical data. A comparison between rates of population growth in LDCs and the amounts of education given to children shows that an increase in the fertility reduces educational expenditures per child and secondary enrollment, but not primary or post-secondary enrollment. Perhaps the most meaningful result is that the negative effect is nowhere near as great as the simple Malthusian theory would suggest, and in general the effect does not seem to be large if it exists at all. Many people have assumed that a larger family implies less education per child because of the supposed tradeoff between expenditures on additional children versus more education for fewer children. And there is some research supporting that theory. But it is very difficult to ensure that the research is not confounded by underlying causes that predispose to both more children and less education. And one study in Kenya has found the hypothesized effect to be absent; indeed, in the very largest families, the youngest children receive larger amounts of education than in less-large families - overall, a very complex pattern. Yet in any case the effects are so small that it is safe to assert that allowing parents to have as many children as they desire will not drag down economic development by reducing the educational level. This chapter has discussed children as if they are a homogeneous lot, making equal contributions to society. The reader may wonder, however, whether some classes of children, particularly the poor, may be a drain upon the economy even if most children make a positive contribution. There seems to be no evidence for this view, however. page # \ultres\ tchar27 February 3, 1994