MENTAL MODEL · M4286

Balassa-Samuelson Effect

BusinessHigh supportEconomics

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Version 1.0.0 · Updated 2026-07-30

CORE DEFINITION

In rapidly developing countries, productivity in the traded goods sector (manufacturing) increases quickly, driving up wages; this pushes up wages in the non-traded goods sector (services), but productivity in the services sector does not increase as fast, resulting in overall prices (inflation) being higher than in developed countries, and the real exchange rate appreciating.

SCAFFOLDING EFFECT

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It explains the inevitable inflation in developing countries. It tells us that in a high-growth economy, the prices of services such as haircuts and meals become increasingly expensive as an economic law, not a pathology.

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The traded goods sector with faster productivity growth pushes up domestic wages, and wages in the non-traded goods sector rise accordingly, leading to higher overall prices and exchange rates, and an appreciation of the real exchange rate. It explains why prices are generally higher in rich countries.

MINIMUM ACTION

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Practice this model in one real situation:

Compare productivity differences between the traded and non-traded goods sectors of two countries
Use relative productivity to explain differences in real exchange rates and price levels
When predicting exchange rates or making cross-country purchasing power comparisons, incorporate this effect to avoid simply applying the law of one price.

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Source support: Explicit

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en.wikipedia.orghttps://en.wikipedia.org/wiki/Balassa%E2%80%93Samuelson_effectZH · Explicit
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