Why Nations Fail: The Origins of Power, Prosperity, and Poverty (13 page)

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 nascent talent. They have many potential Bill Gateses and perhaps
one or two Albert Einsteins who are now working as poor, uneducated farmers, 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.

The ability of economic institutions to harness the potential of inclusive markets, encourage technological innovation, invest in people, and mobilize the talents and skills of a large number of individuals is critical for economic growth. Explaining why so many economic institutions fail to meet these simple objectives is the central theme of this book.

All economic institutions are created by society. Those of North Korea, for example, were forced on its citizens by the communists who took over the country in the 1940s, while those of colonial Latin America were imposed by Spanish conquistadors. South Korea ended up with very different economic institutions than the North because different people with different interests and objectives made the decisions about how to structure society. In other words, South Korea had different politics.

Politics is the process by which a society chooses the rules that will govern it. Politics surrounds institutions for the simple reason that while inclusive institutions may be good for the economic prosperity of a nation, some people or groups, such as the elite of the Communist Party of North Korea or the sugar planters of colonial Barbados, will be much better off by setting up institutions that are extractive. When there is conflict over institutions, what happens depends on which people or group wins out in the game of politics—who can get more support, obtain additional resources, and form more effective alliances. In short, who wins depends on the distribution of political power in society.

The political institutions of a society are a key determinant of the outcome of this game. They are the rules that govern incentives in politics. They determine how the government is chosen and which
part of the government has the right to do what. Political institutions determine who has power in society and to what ends that power can be used. If the distribution of power is narrow and unconstrained, then the political institutions are absolutist, as exemplified by the absolutist monarchies reigning throughout the world during much of history. Under absolutist political institutions such as those in North Korea and colonial Latin America, those who can wield this power will be able to set up economic institutions to enrich themselves and augment their power at the expense of society. In contrast, political institutions that distribute power broadly in society and subject it to constraints are pluralistic. Instead of being vested in a single individual or a narrow group, political power rests with a broad coalition or a plurality of groups.

There is obviously a close connection between pluralism and inclusive economic institutions. But the key to understanding why South Korea and the United States have inclusive economic institutions is not just their pluralistic political institutions but also their sufficiently centralized and powerful states. A telling contrast is with the East African nation of Somalia. As we will see later in the book, political power in Somalia has long been widely distributed—almost pluralistic. Indeed there is no real authority that can control or sanction what anyone does. Society is divided into deeply antagonistic clans that cannot dominate one another. The power of one clan is constrained only by the guns of another. This distribution of power leads not to inclusive institutions but to chaos, and at the root of it is the Somali state’s lack of any kind of political centralization, or state centralization, and its inability to enforce even the minimal amount of law and order to support economic activity, trade, or even the basic security of its citizens.

Max Weber, who we met in the previous chapter, provided the most famous and widely accepted definition of the state, identifying it with the “monopoly of legitimate violence” in society. Without such a monopoly and the degree of centralization that it entails, the state cannot play its role as enforcer of law and order, let alone provide public services and encourage and regulate economic activity. When
the state fails to achieve almost any political centralization, society sooner or later descends into chaos, as did Somalia.

We will refer to political institutions that are sufficiently centralized and pluralistic as inclusive political institutions. When either of these conditions fails, we will refer to the institutions as extractive political institutions.

There is strong synergy between economic and political institutions. Extractive political institutions concentrate power in the hands of a narrow elite and place few constraints on the exercise of this power. Economic institutions are then often structured by this elite to extract resources from the rest of the society. Extractive economic institutions thus naturally accompany extractive political institutions. In fact, they must inherently depend on extractive political institutions for their survival. Inclusive political institutions, vesting power broadly, would tend to uproot economic institutions that expropriate the resources of the many, erect entry barriers, and suppress the functioning of markets so that only a few benefit.

In Barbados, for example, the plantation system based on the exploitation of slaves could not have survived without political institutions that suppressed and completely excluded the slaves from the political process. The economic system impoverishing millions for the benefit of a narrow communist elite in North Korea would also be unthinkable without the total political domination of the Communist Party.

This synergistic relationship between extractive economic and political institutions introduces a strong feedback loop: political institutions enable the elites controlling political power to choose economic institutions with few constraints or opposing forces. They also enable the elites to structure future political institutions and their evolution. Extractive economic institutions, in turn, enrich the same elites, and their economic wealth and power help consolidate their political dominance. In Barbados or in Latin America, for example, the colonists were able to use their political power to impose a set of economic institutions that made them huge fortunes at the expense of the rest of the population. The resources these economic institutions generated enabled these elites to build armies and security forces to
defend their absolutist monopoly of political power. The implication of course is that extractive political and economic institutions support each other and tend to persist.

There is in fact more to the synergy between extractive economic and political institutions. When existing elites are challenged under extractive political institutions and the newcomers break through, the newcomers are likewise subject to only a few constraints. They thus have incentives to maintain these political institutions and create a similar set of economic institutions, as Porfirio Díaz and the elite surrounding him did at the end of the nineteenth century in Mexico.

Inclusive economic institutions, in turn, are forged on foundations laid by inclusive political institutions, which make power broadly distributed in society and constrain its arbitrary exercise. Such political institutions also make it harder for others to usurp power and undermine the foundations of inclusive institutions. Those controlling political power cannot easily use it to set up extractive economic institutions for their own benefit. Inclusive economic institutions, in turn, create a more equitable distribution of resources, facilitating the persistence of inclusive political institutions.

It was not a coincidence that when, in 1618, the Virginia Company gave land, and freedom from their draconian contracts, to the colonists it had previously tried to coerce, the General Assembly in the following year allowed the colonists to begin governing themselves. Economic rights without political rights would not have been trusted by the colonists, who had seen the persistent efforts of the Virginia Company to coerce them. Neither would these economies have been stable and durable. In fact, combinations of extractive and inclusive institutions are generally unstable. Extractive economic institutions under inclusive political institutions are unlikely to survive for long, as our discussion of Barbados suggests.

Similarly, inclusive economic institutions will neither support nor be supported by extractive political ones. Either they will be transformed into extractive economic institutions to the benefit of the narrow interests that hold power, or the economic dynamism they create will destabilize the extractive political institutions, opening the way for the emergence of inclusive political institutions. Inclusive economic
institutions also tend to reduce the benefits the elites can enjoy by ruling over extractive political institutions, since those institutions face competition in the marketplace and are constrained by the contracts and property rights of the rest of society.

Political and economic institutions, which are ultimately the choice of society, can be inclusive and encourage economic growth. Or they can be extractive and become impediments to economic growth. Nations fail when they have extractive economic institutions, supported by extractive political institutions that impede and even block economic growth. But this means that the choice of institutions—that is, the politics of institutions—is central to our quest for understanding the reasons for the success and failure of nations. We have to understand why the politics of some societies lead to inclusive institutions that foster economic growth, while the politics of the vast majority of societies throughout history has led, and still leads today, to extractive institutions that hamper economic growth.

It might seem obvious that everyone should have an interest in creating the type of economic institutions that will bring prosperity. Wouldn’t every citizen, every politician, and even a predatory dictator want to make his country as wealthy as possible?

Let’s return to the Kingdom of Kongo we discussed earlier. Though this kingdom collapsed in the seventeenth century, it provided the name for the modern country that became independent from Belgian colonial rule in 1960. As an independent polity, Congo experienced almost unbroken economic decline and mounting poverty under the rule of Joseph Mobutu between 1965 and 1997. This decline continued after Mobutu was overthrown by Laurent Kabila. Mobutu created a highly extractive set of economic institutions. The citizens were impoverished, but Mobutu and the elite surrounding him, known as Les Grosses Legumes (the Big Vegetables), became fabulously wealthy. Mobutu built himself a palace at his birthplace, Gbadolite, in the north of the country, with an airport large enough to land a supersonic Concord jet, a plane he frequently rented from Air France for
travel to Europe. In Europe he bought castles and owned large tracts of the Belgian capital of Brussels.

Wouldn’t it have been better for Mobutu to set up economic institutions that increased the wealth of the Congolese rather than deepening their poverty? If Mobutu had managed to increase the prosperity of his nation, would he not have been able to appropriate even more money, buy a Concord instead of renting one, have more castles and mansions, possibly a bigger and more powerful army? Unfortunately for the citizens of many countries in the world, the answer is no. Economic institutions that create incentives for economic progress may simultaneously redistribute income and power in such a way that a predatory dictator and others with political power may become worse off.

The fundamental problem is that there will necessarily 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. The economic growth which can be induced by institutions creates both winners and losers. This was clear during the Industrial 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 total incomes and ultimately became the foundation of modern industrial society, it was bitterly opposed by many. Not because of ignorance or shortsightedness; quite the opposite. Rather, such opposition to economic growth has its own, unfortunately coherent, logic. Economic growth and technological change are accompanied by what the great economist Joseph Schumpeter called creative destruction. They replace the old with the new. New sectors attract resources away from old ones. New firms take business away from established ones. New technologies make existing skills and machines obsolete. The process of economic growth and the inclusive institutions upon which it is based create losers as well as winners in the political arena and in the economic marketplace. 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 eighteenth century, the governments of most European countries were controlled by aristocracies and traditional elites, whose major source of income was from landholdings or from trading privileges they enjoyed thanks to monopolies granted and entry barriers imposed by monarchs. Consistent with the idea of creative destruction, the spread of industries, factories, and towns took resources away from the land, reduced land rents, and increased the wages that landowners had to pay their workers. These elites also saw the emergence of new businessmen and merchants eroding their trading privileges. All in all, they were the clear economic losers from industrialization. Urbanization and the emergence of a socially conscious middle and working class also challenged the political monopoly of landed aristocracies. So with the spread of the Industrial Revolution the aristocracies weren’t just the economic losers; they also risked becoming political losers, losing their hold on political power. With their economic and political power under threat, these elites often formed a formidable opposition against industrialization.