Why Nations Fail

             This book was a best-seller when was released and says what I have been saying in this blog for many years: for a better and successful country, we need a better education, and an effective democracy with an inclusive political system. This post is a summary of the book with the incomplete title above published in 2012 at  http://norayr.am/collections/books/Why-Nations-Fail-Daron-Acemoglu.pdf

              This book is about the huge differences in incomes and standards of living that separate the rich countries of the world, such as the U.S. the U.K. and Germany, from the poor, such as those in sub-Saharan Africa, Central America, and South Asia. As we write this preface, North Africa and the Middle East have been shaken by the "Arab Spring." By January, 2011, President Zine El Abidine, who had ruled Tunisia since 1987, had stepped down, but far from abating, the revolutionary fervor had already spread to the rest of the Middle East. Hosni Mubarak, who had ruled Egypt with a tight grip for almost thirty years, was ousted on February 2011. The roots of discontent in these countries lie in their poverty. 20% of the population is in dire poverty. What are the constraints that keep Egyptians from becoming more prosperous?  A natural way to start thinking about this is to look at what the Egyptians themselves are saying about the problems they face and why they rose up against the Mubarak regime. Noha Hamed, a worker at an advertising agency in Cairo, made her views clear as she demonstrated in Tahrir Square: "We are suffering from corruption, oppression and bad education. We are living amid a corruption system which has to change." The protestors in Tahrir Square spoke with one voice about the corruption of the government, its inability to deliver public services, and the lack of opportunity in their country. They particularly complained about repression and the absence of political rights. When the protestors started to formulate their demands more systematically, the first twelve were posted by Wael Khalil, a blogger who emerged as one of the leaders of the Egyptian movement, were all focused on political change. Issues such as raising the minimum wage appeared only later. To Egyptians, the things that have held them back include an ineffective and corrupt state and a society where they can not use their talent, ingenuity, and education they can get. But they also recognize that the roots of these problems are political. When they reason about why a country such as Egypt is poor, most academics emphasize different factors. Some stress that Egypt's poverty is determined primarily by its geography, by the fact that the country is mostly a desert and lacks adequate rainfall. Others instead point to cultural attributes that are supposedly inimical to economic development. Egyptians, they argue, lack the same sort of work ethic and cultural traits that have allowed others to prosper, and instead have accepted Islamic beliefs that are inconsistent with economic success. A third approach, is based on the notion that the rulers of Egypt simply don't know what is needed to make their country prosperous, and have followed incorrect policies and strategies in the past. In this book we'll argue that the Egyptians in Tahrir Square have the right idea. In fact, Egypt is poor precisely because it has been ruled by a narrow elite that have organized society for their own benefit at the expense of the vast mass of people. Political power has been narrowly concentrated, and has been used to create great wealth for those who possess it, such as the $70 billion fortune apparently accumulated by ex-president Mubarak. Countries such as Great Britain and the U.S. became rich because their citizens created a society where political rights were much more broadly distributed, where government was accountable and responsive to citizens, and where the great mass of poeple could take advantage of economic opportunities. We'll see that the reason that Britain is richer than Egypt is because in 1688, Britain (or England, to be exact) had a revolution that transformed the politics and thus the economics of the nation. People fought for and won more political rights, The result was a fundamentally diferent political and economic trajectory. Between 1820 and 1845, 40% of those who took out patents had only primary schooling or less, just like Thomas Edison. Moreover, they often exploited their patent by starting a firm, again like Edison. Just as the U.S. in the nineteenth century was more democratic politically than almost any other nation in the world at the time, it was also more democratic than others when it came to innovation. This was critical to its path to becoming the most economically innovative nation in the world. The real way to make money from a patent was to start your own business. But to start a business, you need capital, and you need banks to lend the capital to you. Inventors in the U. S. were once fortunate. During the nineteenth century there was a rapid expansion of financial intermediation and banking that was a crucial facilitator of the rapid growth and industrialization that the economy experienced. By 1914 there were 27,864 banks, with total assets of $27.3 billion. Potential inventors in the U.S. had ready access to capital to start their businesses. Moreover, the intense competition among banks and financial institutions meant that this capital was available at fairly low interest rates. The reason that the U.S. had a banking industry that was radically better for the economic prosperity of the country had nothing to do with differences in the motivation of those who owned the banks. Indeed, the profit motive, which underpinned the monopolistic nature of the banking industry in Mexico, was present in the U.S. , too. But this profit motive was channeled differently because of the different U.S. institutions. The banks also quickly got into business of lending money to the politicians who regulated them, just as in Mexico. But this situation was not sustainable in the U.S. Unlike in Mexico, in the U.S. the citizens could keep politicians in check and get rid of ones who would use their offices to enrich themselves. The broad distribution of political rights in the U.S. guarantted equal access to finance and loans. This in turn ensured that those with good ideas and inventions could benefit from them.The reason that Nogales, U.S. is richer than Nogales, Mexico, is simple; it is because of the very different institutions on the two sides of the border, which create very different incentives for the inhabitants. The U.S. is also richer today than either Mexico or Peru because of the way its institutions, both economic and political shape the incentives of businesses, individuals and politicians. It is the political process that determines what economic institutions people live under, and it is the political institutions that determines the ability of citizens, albeit imperfect, or that they have usurped, to amass their own fortunes and to pursue their own agendas. It is also necessary to consider more broadly the factors that determine how political power is distributed in society. The people of South Korea have living standards similar to those of Portugal and Spain. To the north, in the in the so-called North Korea, living standards are akin to those of a sub-Saharan African country, about one-tenth of average living standards in South Korea. These striking differences are not ancient. In fact, they did not exist prior to the end of the World War II. But after 1945, the different governments in the north and the south adopted very different ways of organizing their economies. In the North Korea not only did industrial production fail to take off, but in fact experienced also a collapse in agricultural productivity. Lack of private property meant that few people had incentives to invest or to exert effort to increase or even maintain productivity. The stifling, repressive regime was inimical to innovation and the adoption of new technologies. North Korea continues to stagnate economically. Meanwhile, in the South Korea, eonomic institutions encouraged investment and trade. South Korea politicians invested in education, achieving high rates of literacy and schooling. South Korea companies were quick to take advantage of the educated population, the policies evcouraging investment, industrialization, exports, and the transfer of technology. South Korea quickly became one of the most rapidly growing nations in the world. The economic disaster of North Korea, which led to the starvation of millions, when placed against the South Korean economic success, is striking: neither culture nor geography nor ignorance can explain the divergent paths of North and South Korea. We have to look institutions for an answer. Those in the North Korea grow up without adequate education, creativity or entrepreneurial initiative. Much of the education they receive at school is pure propaganda, meant to shore up the legitimacy of the regime. These teenagers know that they will not be able to own property, start a business. They are even unsure about what kind of human rights they will have. Those in the South obtain a good education, and face incentives that encourage them to exert effort and excel in their chosen vocation. South Korean teenagers know that, if successful as entrepreneures or workers, they can one day improve their standard of living. Inclusive economic institutions create inclusive markets, which not only give people freedom to pursue the vocations in life that best suit their talents but also provide a level playing field that gives them opportunity to do so. Inclusive economic institutions also pave the way for two other engines of prosperity: technology and education. Sustained economic growth is almost always accompanied by technological improvements that enable people to become more productive. Intimately linked to tecnology are the education, skills, competencies and know-how of the workforce, acquired in schools, at home, and on the job. All the technology in the world would be of little use without workers who knew how to operate it. It is the education and skills of the workforce that generate the scientific knowledge upon which our progress is built and that enable the adaptation and adoption of these technologies in diverse lines of business. The low education level of poor countries is caused by economic institutions that fail to create incentives for parents to educate their children and by political institutions that fail to induce the government to build, finance, and support schools and the wishes of parents and children. The price these nations pay for low education of their population and lack of inclusive markets is high. They fail to mobilize their talents. They have many potential Bill Gates and perhaps some Albert Einstein who are now working as poor, uneducated workers, being coerced to do what they don't want to do or being drafted into the army, because they never had the opportunity to realize their vocation in life. Political and economic institutions, which are ultimately the choice of society, can be inclusive and encourage economic growth. Or they can be exclusive and extractive and become impediments to economic growth. Nations fail when they have exclusive and extractive institutions, supported by extractive political institutions that impede and even block economic growth. We have to understand why the politics of some societies lead to inclusive institutions that foster economic growth, while the politics of other to extractive institutions that hamper economic growth. The fundamental problem is that there will necessary be disputes and conflict over economic institutions. Different institutions have different consequences for the prosperity of a nation, how that prosperity is distributed, and who has power. This was clear during the Indusrial Revolution in England, which laid the foundations of the prosperity we see in the rich countries of the world today. It centered on a series of pathbreaking technological changes in steam power, transportation, and textile production. Even though mechanization led to enormous increases in incomes and became the foundation of modern industrial society, it was bitterly opposed by many. Such opposition to economic growth has its own logic. Economic growth and technological change are accompanied by what the great economist Joseph Schumpeter called creative destruction. They replaced the old with the new. New sectors attract resources away from old ones. New technologies make existing skills and machines obsolete. Fear of creative destruction is often at the root of the opposition to inclusive economic and political institutions. European history provides a vivid example of the consequences of creative destruction. On the eve of the Industrial Revolution in the 18th century, the governments of most European countries were controlled by aristocracies and traditional elites, whose major source of income was landholdings or from trading privileges they enjoyed thanks to monarchs. Consistent with the idea of creative destruction, the spread of industries and towns took resources away from the land, reduced land rents, and increased the wages that landowners had to pay. Urbanization and the emergence of a socially conscious middle and working class also challenged the political monopoly of landed aristocracies.