Why poor countries are not catching up

Milanovic-small.jpgOne of the difficult questions in the economics of developing countries is why poor countries are not closing the gap on rich countries.  With both more rapid policy convergence and deepening globalization, most economists would have expected poor countries to grow more rapidly than rich countries, so closing the gap.

An interesting new paper by Branko Milanovic looks at this question.  Branko is on leave from being the lead economist in the World Bank research department.

Branko finds that the main cause of slow growth in least developed countries (LDCs) is that they are much more likely to be involved in wars and civil conflict.  He estimates that this factor alone accounts for an income loss of about 40 percent over 20 years.  Wars alone explain the entire relative decline of least developed countries compared to middle-income countries.  In other words, had prevalence of war among LDCs been at the same level as elsewhere, the LDCs would have at least kept pace with the rest of the world.

Branko finds that the delay in reform in LDCs – which undertook comprehensive economic reforms from the mid-1990s, about ten years after middle income countries – has made virtually no difference (at most 1 percent in total over 20 years).

Neither can slow growth be attributed to lack of democratisation nor failure to create the conditions for direct foreign investment; as according to Branko’s results, neither of these have made any statistical difference to growth rates.

There is some, rather marginal effect from trade policy reforms.  Exchange rate liberalization appears not to have positive effects; and (paradoxically) countries with high tariff rates do better than countries with lower tariffs, but—for a given country—reducing tariff rates is marginally helpful. 

Interestingly, Branko finds that lending from the World Bank and IMF has also had an indifferent effect on LDC growth.  He does not find evidence to support the suggestion from some quarters that aid has been harmful; but nor does it appear to have made a positive contribution. (His analysis does not include aid from bilateral donors.)

If you believe this analysis, the the lesson is that reducing war and civil strife is the key to enabling poor countries to catch up and share the benefits of globalisation.  In the absence of peace, there are unlikely to be a signficant benefits for economic development from increases in aid, democratisation, investments in higher education, economic reforms, the environment for inward investment, or trade liberalisation.

My own take on this analysis is that it provides a useful reminder that helping to end to conflict and wars is an absolutely essential pre-requisite to economic development.   But, as with all such cross-country growth regressions, it is almost impossible to divine causality, and to distinguish the underlying causes.  Both extreme poverty and poor governance are causes of conflict, as well as caused by it.  And poor governance and extreme poverty are causes of each other.  It would be a mistake to look for a single lever we can pull to make the problem of extreme poverty go away.  We can tackle this, but to do so requires a long, sustained and commited campaign on all fronts: to break into the vicicous cycle of extreme poverty, high mortality, low investment, low growth,  poor governance, and protracted conflict by providing support for positive change at every point in circle. Branko is right to say that while conflict continues, pretty everything else is hopeless; and to point up the lack of evidence for the supposed miraculous powers of any other silver bullet solution. 

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