Question

Prebisch - Singer hypothesis?

Answer 1

The Prebisch-Singer Hypothesis (PSH) is more of an observation rather than a complex theory. It suggests that over the long run the price of primary goods such as coal, coffee cocoa declines in proportion to manufactured goods such as cars, washing machines and computers.

If the PSH holds true then countries with a high export dependence on primary products (i.e. low diversification in their commodity pattern of trade) may lose out from a worsening of the terms of trade. They will have to import a greater quantity of exports to pay for essential imports such as raw materials, consumer goods and capital goods.

The PSH suggests that revenue windfall gains from high world commodity prices may to be temporary and threaten the macroeconomic stability of such countries – for example a fall in world demand and prices for a primary commodity will cause a rise in the trade deficit and the fiscal deficit for an exporting country

Those who believe in the PSH tend to be “export pessimists" who believe that exporting low value-added products will not generate enough foreign exchange currency to pay for much needed exports

Based on the PSH, the advice for these countries is to use revenues from primary commodity exports to fund education, the development of skills and expand technological capacity. Developing manufacturing capacity and greater diversity of output is also important.

This chart from the Economist (published in December 2014) illustrates clearly the countries that are most heavily dependent on primary commodities either as a net exporter or a net importer:

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