A Nobel for explaining why nations fail

(Source – The Hindu, International Edition – Page No. – 10)

 Understanding Economic Disparities

• The question of why some countries are rich and others are poor has puzzled economists for a long time.
• Currently, the richest 20% of countries have an average income that is 30 times greater than that of the poorest 20%.
• Since the Industrial Revolution caused a significant gap in living standards between the East and West, various theories have emerged to explain these differences.

Theories Behind Economic Success

• Some theories attribute wealth in the West to the effects of colonialism, while others cite disparities in natural resources.
• Some scholars even suggest that intelligence or random historical events could determine a nation’s economic fate.

Importance of Institutions

• Acemoglu, Johnson, and Robinson argue that the quality of economic and political institutions is the main factor explaining the economic outcomes of countries.
• This idea is extensively detailed in their 2012 book, Why Nations Fail: The Origins of Power, Prosperity, and Poverty, and their 2004 paper, “Institutions as a Fundamental Cause of Long-Run Growth.”
• Institutions that protect property rights encourage hard work, leading to economic growth, while those that permit expropriation can cause stagnation.

Types of Institutions

• The Nobel laureates categorise institutions as either “inclusive” or “extractive.”
• Inclusive institutions promote secure property rights and democracy, while extractive institutions are characterised by insecurity and lack of political freedom.
• They demonstrated that inclusive institutions foster long-term economic growth, whereas extractive ones result in poverty.

Historical Context of Institutions

• The researchers studied how colonisation influenced the types of institutions established in different regions.
• In areas where colonists were unwilling to settle due to high mortality risks, extractive institutions were created, leading to long-term economic challenges.
• In contrast, colonists who settled aimed to establish inclusive institutions that supported investment and economic growth, as seen in the U.S.

Challenges in Implementing Inclusive Institutions

• The Nobel laureates explored why more countries have not adopted inclusive institutions.
• They argue that rulers may prefer extractive institutions that allow for personal gain, thereby resisting reforms that would benefit the broader population.
• These extractive institutions can persist until there is a significant threat of rebellion, prompting some rulers to create more inclusive systems to promote growth.