Balassa-Samuelson Effect


DEFINITION of 'Balassa-Samuelson Effect'

Countries with high productivity growth also experience high wage growth, which leads to higher real exchange rates. The Balassa-Samuelson effect suggests that an increase in wages in the tradable goods sector of an emerging economy will also lead to higher wages in the non-tradable (service) sector of the economy. The accompanying increase in inflation makes inflation rates higher in faster growing economies than it is in slow growing, developed economies.

The effect was proposed by economists Bela Balassa and Paul Samuelson in 1963.

BREAKING DOWN 'Balassa-Samuelson Effect'

The Balassa-Samuelson effect suggests that the optimal inflation rate for developing economies is higher than it is for developed countries. Developing economies grow by becoming more productive and using land, labor and capital more efficiently. This results in wage growth in both the tradable good and non-tradable good components of an economy. People consume more goods and services as their wages increase, which in turn pushes up prices.

As emerging economies develop and become more productive they also see increased wages, but they see these increases in both tradable and non-tradable goods sectors of the economy. When wages increase at a slower rate than productivity, countries wind up producing more than they can consume. These countries then have a current-account surplus. When wages grow faster than the productivity rate, workers consumer more goods and the current-account surplus falls.

The effect an appreciating real exchange rate has on an emerging economy depends on whether the country has a fixed exchange rate or floating exchange rate. Fixed exchange rate economies will see an increase in overall prices, while floating exchange rates will see increases in the exchange rate.

  1. Exchange Rate

    The price of a nation’s currency in terms of another currency. ...
  2. Floating Exchange Rate

    A country's exchange rate regime where its currency is set by ...
  3. Fixed Exchange Rate

    A country's exchange rate regime under which the government or ...
  4. Zero-Sum Game

    A situation in which one person’s gain is equivalent to another’s ...
  5. Surplus

    The amount of an asset or resource that exceeds the portion that ...
  6. Factor Market

    A marketplace for the services of a factor of production.
Related Articles
  1. Personal Finance

    Investing In Emerging Market Debt

    This asset class has left much of its unstable past behind. Find out how to invest in it.
  2. Forex Education

    The New World Of Emerging Market Currencies

    Take advantage of foreign currency markets without stepping out of your house.
  3. Economics

    The Difference Between Finance And Economics

    Finance and economics are often taught as separate subjects, but they are interrelated disciplines that influence one another in many ways.
  4. Economics

    Understanding Tragedy of the Commons

    The tragedy of the commons describes an economic problem in which individuals try to reap the greatest benefits from a given resource.
  5. Markets

    Can Deflation Be Good?

    General economic theory consensus rules that deflation is bad for the economy. But the Swiss economy, which is growing despite a drop in prices for the last four years, is proving otherwise. ...
  6. Economics

    Understanding a Free Market Economy

    Why would we want a free market economy?
  7. Economics

    How a Monopoly Works

    In economics, a monopoly occurs when one company is the sole (or nearly sole) provider of a good or service within an industry. This potentially allows that company to become powerful enough ...
  8. Economics

    5 Economic Concepts Consumers Need To Know

    Economics impact every moment of our lives, and there are some basic concepts that everyone should understand.
  9. Economics

    A Brief History of Income Inequality in the United States

    Income inequality is plaguing the U.S. economy, but a peek into the past reveals that the current situation is largely a result of government policy.
  10. Economics

    Could Europe's Migrant Crisis Help its Economy?

    Middle class migrants are uniquely positioned to contribute to economic growth in Europe.
  1. Is Chile a developed country?

    As of 2015, Chile is the only country in Latin America that is generally recognized as a developed country. In 2010, the ... Read Full Answer >>
  2. Is Nigeria a developed country?

    Nigeria is not a developed country by any reasonable standard. The country's per capita gross domestic product (GDP) is much ... Read Full Answer >>
  3. Is Colombia an emerging market economy?

    Colombia meets the criteria of an emerging market economy. The South American country has a much lower gross domestic product, ... Read Full Answer >>
  4. Is Mexico an emerging market economy?

    Mexico meets all the criteria of an emerging market economy. The country's gross domestic product, or GDP, per capita beats ... Read Full Answer >>
  5. Is Argentina a developed country?

    Argentina is not a developed country. It has one of the strongest economies in South America or Central America and ranks ... Read Full Answer >>
  6. Is Brazil a developed country?

    Brazil is not a developed country. Though it has the largest economy in South America or Central America, Brazil is still ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Barefoot Pilgrim

    A slang term for an unsophisticated investor who loses all of his or her wealth by trading equities in the stock market. ...
  2. Quick Ratio

    The quick ratio is an indicator of a company’s short-term liquidity. The quick ratio measures a company’s ability to meet ...
  3. Black Tuesday

    October 29, 1929, when the DJIA fell 12% - one of the largest one-day drops in stock market history. More than 16 million ...
  4. Black Monday

    October 19, 1987, when the Dow Jones Industrial Average (DJIA) lost almost 22% in a single day. That event marked the beginning ...
  5. Monetary Policy

    Monetary policy is the actions of a central bank, currency board or other regulatory committee that determine the size and ...
  6. Indemnity

    Indemnity is compensation for damages or loss. Indemnity in the legal sense may also refer to an exemption from liability ...
Trading Center