When economic power is wielded by a small elite...

How did some nations, like Japan, China and United Stated become wealthy and powerful, while others remain stuck in poverty? And why do some of those powers, from ancient Rome to the modern Soviet Union, prosper for periods and then collapse?

Politics makes the difference, say economists Daron Acemoglu of MIT and James Robinson of Harvard University in their new book, ‘Why Nations Fail’. Countries that have what they call “inclusive” political governments — those extending political and property rights as broadly as possible, while enforcing laws and providing some public infrastructure — experience the greatest growth over the long run.

By contrast, Acemoglu and Robinson assert, countries with “extractive” political systems — in which power is wielded by a small elite and family — either fail to grow broadly or wither away after short bursts of economic expansion. Sri Lanka is tragic a case in point. 

Politics

Many years ago, as primary students, we were taught that geography matters more than politics. Later they argued the political system is the key component. Some countries at that time demonstrated that good geography could trump bad politics and the best politics require a top effort to offset bad geography.

At the same time they argued that rich countries were in the north of the globe and most poor countries are in the south, but, Australia and New Zealand are part of the southern hemisphere and both are doing fine. You couldn’t say this of Papua New Guinea, which is the Asian country closest to Australia and New Zealand. 

Later on, when we joined higher education, we were taught that it was not geography alone that causes wealth or poverty. A superficial view is to blame racial differences. Black Africa is the poorest and most disordered part of the world and Haiti, with an almost entirely black population, is the poorest country of the Americas. But the coincidence is accidental. 

What makes some countries rich and others prone to poverty is not related to skin colour or racial factors. Many immigrants from poor nations do very well in the US and Canada though one has to admit that both countries make immigration easy only for the best and the brightest of those who hail from the Third World countries.

It is also not the presence or lack of natural resources what makes a country rich or poor in the long run. Japan is a country with very limited natural resources but has been the richest country in Asia for a long time. 

Natural resources 

On the other hand, it is easy to predict that some Third World countries that currently are rich because of immense reserves of natural wealth while not being burdened with large populations will slide back when the natural resources are depleted. While a handful of countries thanks to great leadership managed to achieve economic prosperity that has helped them to escape the perils of poverty, while many other countries fail in this respect and continue to be trapped in poverty. 

Was it chance? Their people? Their products and services? Their markets? The growth experiences of countries from north to south as we all know is filled with success and a great deal of disasters, which has had huge implications for the living standards of ordinary people. Then countries with “extractive” political systems — in which power is wielded by a small elite — either fail to grow broadly or wither away after short bursts of economic expansion.

Drivers of prosperity

Economics has sometimes a narrow scope. It studies a nation’s prosperity through trade flows, monetary, fiscal and budget policies. The analysis of companies is a bit broader. It encompasses strategy, structure and finance but also less “rational” fields such as human resources, corporate culture or consumer behaviours. 

Competitiveness provides a broader basis for analysis. It looks at all the elements that can explain the success of a nation. Industries often thrive when they are forced to overcome high labour costs or lack natural resources. When their customers won’t accept inferior, outdated products, when their local competitors are “murderous” and when government offers no protection from their competition and sets tough technical and regularity standards. 

For instance, the Italian shoe industry is prodded by sophisticated consumer demand that encourages entry by many new firms. Many of them, family-owned, compete very jealously. The shoemakers are compelled to spew out new models continuously and must keep improving to increase efficiency to stay competitive within Italy’s quirky, high-cost infrastructure. 

When the home market got saturated, Italian manufacturers went overseas and achieved international success. According to Professor Porter, competitive advantage based on only one or two factors is unsustainable. South Korea’s construction industry grew rapidly during the mid ‘80s simply by applying low-cost labour to projects that did not require sophisticated engineering. It lost out when other countries that had cheap labour jumped in.

Resources-based advantages too frequently suffer the same fate. Two additional variables, “chance” and “government”, have a big impact. Chance is outside the control of industries; wars and embargoes can reshape the industry structure in a country for or against it. A government can improve or retard competitive advantage. 

Vigorous enforcement of antitrust laws encourages competition and stimulates innovation. For an industry to flourish, domestic rivalry is nearly always necessary. It drives companies to move beyond whatever initial advantage that led to the founding of the industry and to develop their international potential.

Strong government 

To maintain competitive advantage, the industry must normally broaden and upgrade from its original sources of success and take it to the next level. In the early stage of economic growth, many believe that a country needs a strong government that can mobilize and direct resources that are important. 
Therefore, the success of poor countries, according to them, hinges critically on the quality of government leadership, i.e. its development-oriented leadership, its ability to promote good talent to head critical institutions and its approach for policy formulation with industry. China is a case in point. 
On the other hand, India, even though is poor in resource, is super rich in human talent and in technology. Knowledge is perhaps the most critical competitiveness factor. As countries move up, it is only knowledge that will ensure their prosperity and help them to compete in world markets. How that knowledge is acquired and managed is each nation’s responsibility and will determine a nation’s future prosperity. 

(Dinesh Weerakkody is a thought leader)