Recently, the Nobel Prize in Economics was awarded to a trio of scholars for their research into “how institutions are formed and affect prosperity.” The prize was well deserved, but their theory is partly flawed.
No doubt Daren Acemoglu and James Robinson of MIT and Simon Johnson of the University of Chicago have each contributed fresh insights to their field and have written bestselling books on economics, but the theory they lay out in their research shows signs of silver-bullet oversimplification that clashes with real world data on the topic.
Essentially, their research looks into determining factors of wealth among nations — undoubtedly one of the most important and challenging questions of economics. The bottom line of the ideas of Acemoglu and his colleagues is that extractive political and economic institutions, controlled by the few, may provide gains for the people in power, whereas inclusive institutions, will create long term prosperity for the many.
In their book, Why Nations Fail, our newest Nobel Laureates give plenty of examples of nations built on extractive institutions, including the Soviet Union, North Korea, and colonial Latin America, and show how these nations saw ruling elites living lavish lives and amassing huge wealth while the populations they governed suffered stagnation or declining income. And these are certainly powerful examples.
However, the problem comes with their assumption that, of all institutions, the political ones lead. In their view, it all starts with democracy; the political institutions come first, and prosperity follows. And if a nation does not have inclusive political institutions which distribute power broadly, then growth and prosperity will never arrive.
That’s not always the case.
It is true that democracies on average deliver better economic growth than authoritarian led countries. As Acemoglu finds in his research, countries that democratize usually see a 20% increase in GDP over the next 25 years — much better than they would have done without the switch. But there are many nations that do not fit this theory. Two obvious examples are South Korea and Taiwan, where economic growth came first and democracy later.
China and Vietnam too clash with their theory. Both countries were built on extractive institutions and have never democratized; nevertheless, they have achieved booming economies.
Then there’s Argentina, which declined economically during decades of democracy, while its neighbor across the Andes, Chile, started a period of rapid growth under Pinochet’s dictatorship.
Finally, if you look at the way western countries have launched over the last 200 years, you find that in most cases the economic booms precede democracy.
Acemoglu, Robinson and Johnson’s theory tries the impossible: to find the one silver bullet factor that explains why nations become prosperous or not. But it doesn’t hold up under scrutiny.
In the real world, there are many factors behind the reason why a nation fails or succeeds. And it seems clear that free markets have a stronger correlation with economic growth than inclusive political institutions. Several nations without inclusive political institutions, but with a free market that invests in infrastructure and education and has a decent rule of law have achieved strong and sustained growth.
Even if we are proponents of democracy for economic development and many other reasons, we should not let this conviction dim our views of the complex issue of why nations fail or succeed.
