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The Growth of Service Industries

The Paradox of Exploding Costs and Persistent Demand

Edited by Thijs ten Raa and Ronald Schettkat

Problems arise if budgets for services are held constant whilst prices rise. Education, cultural activities and health services are under constant budgetary pressure. The authors argue that the price of commodities is linked to demand and price increases would therefore seem to threaten the very existence of these services. The paradox of these services is that in spite of their exploding costs, demand persists.
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Chapter 7: Are prices unimportant? The changing structure of the industrialized economies

Eileen Appelbaum and Ronald Schettkat


* Eileen Appelbaum and Ronald Schettkat 1 INTRODUCTION The distribution of employment among economic sectors in the industrialized economies has changed dramatically. One popular explanation for these shifts relies on the assumption of a hierarchy of needs that distinguishes among basic needs for food and shelter, needs for other material goods, and more sophisticated needs for non-material goods, including services (Maslow, 1970). According to this theory, income elasticities of demand are functions of per capita income and differ by sector. In particular, the income elasticity of demand for services increases with rising income as the hierarchy of needs favours the fulfilment of more sophisticated desires at higher levels of income. This pattern of sectoral income elasticities, in combination with rising income and a slower productivity growth in the service sector compared with manufacturing, leads to an increase in the output and employment shares of services in industrialized economies as income increases – that is, to postindustrial society (Clark, 1940; Fourastie, 1963 [1949]; Bell, 1973; Cornwall and Cornwall, 1994). In this approach, however, demand depends solely on income and on a psychologically based hierarchy of needs. No role is ascribed to prices in the discussion of changes in industrial structure. In contrast, many economists, while noting the rising share of services in nominal output and the shift of employment to service industries, find that the share of services in real output remained constant as per capita income increased. (See, for example, Baumol, Blackman and Wolff (1989) for the USA over the period...

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