Kremer's O-Ring Theory

of Economic Development
1.

2.
3. Add your title

4. Add your title

01 Add your title
 The O-Ring Theory of Development
(Michael Kremer 1993),
> O-ring production:
>Production depends on completing a series
of tasks
>Failure of any one task reduces value of the
entire product, perhaps to zero (weakest link
problem)
>Can't subsitute quantity for quality
> E.g microchins , soufflé , musicali
 " I believe that has some significance for
our problem ".
Richard Feynman's
testimony at Rogers
Commission panel, Feb. 1986
EExplosion of the challenger space shuttle
The O-Ring Production Function

• Assume N tasks , one worker per task .

• be the quality level of worker i.
•
-90% chance of completing task perfectly and
10% chance of comeplete failure or, say,
-50% probability of completing task perfectly and
50% chance of reducing value by 20%, .8=.9
•
Quality Matching
 Implications:Inequality (International )

•In competitive economy

with quality matching higher
output means higher
wages.

•Recall that the effect of

quality on output/wages is
non-linear.
Implications:Ineaquality (National)
 Implications: Investment Incentives
•Workers performing the same task earn higher wages in a high-
skill firm than in a low-skill firm.
-e.g. the highest quality secretaries will work with the
highest quality CEOs.
• Same idea applies to the economy as a whole.
- High quality workers are paid more when there are more
high quality workers to work with.
•Greater incentive to invest in skill/quality the more high
quality workers are already in your economy.
•Potential for multiple equilibria.
 Implications: Investment Incentives

•In an O-ring model capital also wants to work with

high quality workers.

-Best workers with most expensive machines.

•Poor countries will have more workers in less capital

intensive, primary production.
 Bottlenecks Linkages & Complementaries

•Think of N industries each performing task.

•Suppose that quality falls by half in two of these tasks (industries)
-E.g. electricity production becomes more spotty and subject to
blackouts.
•Output falls immediately by 75% (1/2*1/2)
•Wages in all other sectors also fall, thus greatly reducing incentive to
invest in quality in other sectors which reduces output further in the
long-run.
•Importance of trade to avoid bottlenecks.
 O- Ring Production Final Thoughts

• Not every industry is an O-ring industry but perhaps more

industries are moving in this direction.
-Inequality
• Complexity, team production, organizational capital.
•Virtuous and vicious cycles, growth miracles and growth
disasters.
• Coordination and culture.
 The Hausmann-Rodrik-Velasco
Growth Diagnostics Framework

•Focus on a countr's most binding constraints on (investment

and) economic growth
•No "one size fits all" in development policy
•Requires careful research to determine the most likely binding
constraint
202X-202X Add your title

Add your title

Add your words here
Add your words here

Add your title

Add your words here
Add your words here
 202X-202X Add your title

Add your title Add your title

Add your words here Add your words here
Add your words here
01 Add your words here

04
Add your title 02 Add your title
Add your words here
Add your words here
03 05 Add your words here
Add your words here
 BUSINESS TEMPLATE

THANK YOU