What To Do About Development In Poor Nations

Dani Rodrik writes that he like to ask his economic development students whether they would rather be rich in a poor country or poor and rich country? He clarifies the question by defining a rich nation as being in the top 10% of all nations ranked by average per capita income and a poor nation as being in the bottom 10%. He defines being rich as being someone in the top 10% of the country’s income distribution, while being poor means being in the bottom 10%. He notes that most of his students respond by saying they would rather be rich in a poor country, but argues that the data shows that his students are way off.
According to Rodrick’s calculations, the average poor person in a rich country earns three times more than the average rich person in a poor country. Adjusted for differences in purchasing power parity, the median income of the bottom 10% in rich nations is $9,400, while the median income of the richest 10% in poor nations is only $3,000. He goes on to note that other indicators of well-being, such as infant mortality, also support the argument that it is better to be poor in a rich nation, then rich and poor nation (Rodrik, 2011, p 135-136) [All references listed here]

What this strongly suggests is that, somehow or other, the richer nations in the world have developed a political economic system that is unarguably superior to those of poor nations. Underlying this conclusion is, of course, the view that wealth is created, not expropriated and, therefore, the rich nations have not got rich by exploiting the poor nations. However, even if we make this intellectual leap over the theories of Marx, Lenin, and Wallersteen, we are left with the question of what it is about the political economies of rich nations that make them rich, and how can poor nations can improve their own systems?

In answering these questions, it may be helpful to categorize the obstacles to development as being in political, economic, or social realms. In the political realm, the more prosperous nations have created a powerful central government that has, in Bates’s (2001) terms, domesticated violence in the society and have resolved what Weingast (1995) calls the fundamental political dilemma of the state by restraining state power so that its policies are not predatory. According to Selectorate Theory (Bueno de Mesquita et. al. 2003), this latter condition will only be met if the nation’s political leader depends on a large coalition of supporters so that the leader must provide public rather than private goods to supporters. In the economic realm, rich nations have established what Acemoglu and Robinson (2012) describe as inclusive economic institutions that provide the freedom and incentives necessary for the larger part of the population to actively participate in economic production and wealth generation. In the social realm, the rich nations have both provided their citizens with adequate education and information to exploit the economic opportunities available to them as well as providing the mental space needed to do so as described by Banerjee and Duflo.

These categories or realms are far from distinct.  They overlap in many places as well as have causal effects on one another. For instance, a small coalition political regime will not only be predatory but will tend to set up extractive economic institutions (Acemoglu and Robinsons, 2012) and provide limited education to the population (Bueno de Mesquita and Smith, 2011). At the same time, as poor and uneducated population will lack the information and mental space either to fully exploit the economic opportunities available to them (Banerjee and Duflo, 2011) or challenge the political system (Bueno de Mesquita and Smith, 2011).

Therefore, the question of how to spur the development of poorer nations does not admit to simple answers. Focusing on changes in one category runs the risk of overlooking needed changes in the others or, worse, failing to foresee how aspects of the other categories might confound the desired effects of changes in the first.

Economic theories of development are arguably prone to making this mistake to a greater or lesser extent. Neoclassical growth theory is perhaps most open to this criticism as it assumes that property rights are established and enforced in the political realm and that individuals are fully informed and rational in the social realm. Even when economic theories of development, such as North’s theory of institutions, recognize the inadequacy of institutions and the limits of the assumption of economic rationality, they still tend to assume that the government has an interest in improving the economic performance of the economy at large.  This assumes away the political problems that must be solved in order for their policy prescriptions to be effective.

This is not to say that economists are unaware or willfully ignorant of these political problems.  They are very aware of them and some, like Acemoglu and Robinson (2012), try to incorporate political factors into their theories and analysis. However, everybody has an area of expertise within which they focus and a set of analytic tools which give them more leverage on one set of issues than on another.  Therefore, each researcher gives answers to a subset of the questions involved in economic development.
It is all too natural to suggest that researchers should expand their scope and bridge gaps between different approaches. Better yet, one might seek a unifying theory to simultaneously consider political, economic and social issues at the same time.  However, bridges take a long time to build, unifying theories tend to be elusive, and, in the meantime, policy makers must act. (Not to mention that students must answer essay questions about what advice to give them.).

So what can we glean from the partial answers of extant research with regard to the political, economic and social realms?

Political: It is tempting to give the political realm pride of place in fostering development over the economic and social realms for two reasons.  First, establishing a central political power that can domesticate violence seems to be prerequisite for any meaningful economic growth. Second, once a hegemonic state is established, reining it in becomes the primary concern, which is itself a political problem.  This suggests that Bate’s (2001) domestication of violence and resolution of Weingast’s (1995) fundamental political dilemma must historically precede other changes needed to spur long term economic growth.  Selectorate Theory and Acemoglu & Robinson (2012) would both argue that the fundamental political dilemma would only be solved by having a political system that required leaders to have large coalition of support. In theoretical terms, these political developments are necessary conditions for growth and prosperity.

It is important to note that a necessary condition is, by definition, one that must be met for something to occur, but is not sufficient to produce the occurrence of that thing.  Therefore, the argument is not that the establishment of a strong central government that requires a broad coalition of support will produce long term economic growth but that a lack of such a government will prevent it.

Acemoglu and Robinson (2012) would also provide an important caveat that short to medium term growth, perhaps lasting as long as several decades, is possible under extractive political institutions (what Selectorate Theory would call a small coalition regime)  if the ruling elites are confident in their power and can control the flow of resources.  However, this growth will fizzle out once all the opportunities for growth through investing and adopting existing technologies are exploited. At that point, further growth would require domestic innovation and significant creative destruction which the elites will not allow to occur.

Economic: In this realm in particular, Acemoglu and Robinson argue that prosperity depends on having inclusive economic institutions, which they define as follows:

those that allow and encourage participation by the great mass of people in economic activities that make best use of their talents and skills that enable individuals to make the choices they wish. To be inclusive economic institutions must feature secure property rights, an unbiased system of law, and provision of public services that provides a level playing field in which people can exchange and contract; it must also permit the entry of new businesses and allow people to choose their careers. (Acemoglu and Robinson, 2012, p 74-75)

Of course, this definition is very broad and focuses on what the institutions do more than on the particular form they take. This means that the problem of designing the right institutions to “encourage participation by the great mass of people in economic activities” is far from trivial.  Once fairly inclusive institutions are established (though their development and refinement will be ongoing), the majority of the economic theories of development also come into play.

Social: This is the realm in which people actually live and make the choices that the incentive structures of the economy and polity are intended to influence. As Banerjee and Duflo point out repeatedly, efforts to help the poor often fail for five reasons

1. The poor often lack critical pieces of information or believe things that are not true.
2. The poor bear too much responsibility for making decisions about too many aspects of their life.
3. Markets may not be viable for things the poor need or they may face unreasonable prices for goods and services where markets are viable.
4. Program failures in poor countries often have more to do with ignorance, ideology and inertia (the three I’s) than with poor governance and institutions.
5. Expectations about what poor people are able and unable to do often turn into self-fulfilling prophesies. (Banerjee and Duflo, 2011, p 268-272)

It should be pointed out that Banerjee and Duflo (2011) argue against the notion that efforts to help the poor are doomed if the political and economic institutions are inadequate. They point to research that shows that much can be done within bad institutions and that these efforts may produce incremental changes in the institutions themselves.  For their part, Acemoglu and Robinson (2012), though arguing that such humanitarian efforts will not bring about prosperity, argue that, even if 90% of aid is siphoned off by elites, the 10% that gets to the poor may be very important for relieving their suffering. Indeed, Acemoglu and Robinson suggest that if aid is structured in a way that empowers people who are excluded by the political institutions, it may lead to future changes in the institutions.

So what do we do to promote development?

One approach, suggested primarily by Selectorate Theory, would be to distinguish between countries with small and large coalition regimes. Large coalition regimes would be expected to be motivated to improve the well-being of the larger society as the cheapest way to provide benefits to their supporting coalition. While they will still be biased towards policies that favor the segments of society that are in the supporting coalition and will be far from corruption free, the leaders of these governments will be held accountable for their nation’s economic performance. Therefore, they will be somewhat reliable partners in international efforts to promote development.

In contrast, leaders of small coalition regimes face incentives that require them to provide private benefits to a small group of supporters. Therefore, they can be expected to make every attempt to twist aid to that purpose.  Foreign aid is, therefore, likely to fail in its intended purpose and have the unintended consequence of bolstering the leader’s hold on power. This is particularly true of aid during an economic crisis when the leader is in danger of not being able to pay off his/her essential supporters and, thus, losing power.
Selectorate Theory suggests that the best approach is one of tough love and suspicious vigilance towards small coalition regimes. Aid should either be withheld to hasten the regime’s demise or tied to political reforms that will have the same effect. Humanitarian aid must be closely monitored and, if possible, given directly to its recipients.

Another, more incremental approach to political change is suggested by Acemoglu and Robinson (2012). As noted above, they argue that aid which empowers people excluded from political decision making may contribute to institutional drift towards more inclusiveness.

Of course, it could be argued that any international efforts at fostering political change in small coalition regimes will be resisted by the government if those efforts actually threaten (or appear to threaten) its hold on power.  Russia’s current crack down on NGOs seems to be a case of this.

Banerjee and Duflo (2011) seem to favor dealing directly with the dire needs of the impoverished and focusing on testing the effectiveness of programs to determine what works and what does not. Though their approach does not directly address the broader political questions, their focus on measuring effectiveness and only doing what is demonstrated to work implicitly takes government interference into account. That is to say if the government thwarts the program’s intended purpose, the data will show it. Thus, their emphasis on accountability based on scientific research methods provides an inherent and political neutral check on government interference.