Explaining the Relative Decline of Agriculture: A Supply-Side Analysis for Indonesia

The relative decline of agriculture in growing economies is a central feature of economic development and a major influence on agricultural policies. The literature on the causes of this decline has focused on the relative price effects arising from demand factors, especially Engel's law, rather than on supply-side influences, such as changes in relative factor endowments and differential rates of technical change. This article develops a simple structural model of the transformation of the Indonesian economy, applying an error correction mechanism to capture the dynamics resulting from disequilibria and the costs of adjustment. The decline in agriculture's share of gross domestic product is found to be caused much less by the relative price effects typically emphasized in the literature than by capital accumulation and rapid technical change in agriculture.