Econ365.3 Characteristics of Developing Countries

Characteristics of the Developing World

Commonalities and Differences

5. Adverse Geography and Colonial Legacies

1. Income Inequality

2. Low Levels of Human Capital

6. External Influences

3. High Population Growth Rates

7. Are Developing Countries Catching Up?

4. Greater Social Fractionalization

Shares of Global Income, 1970 and 2009

High Levels of Inequality and Poverty

Low Levels of Human Capital

Globally, the poorest 20% of people receive just 1.5% of global income

The most unequal income distributions are in the poorest countries

• The poor in poor countries are worse off than the poor in rich countries

Define "Human Capital" as the set of skills and know-how used in the production of output

15.5%

15.1%

• Literacy, knowing how to operate a computer, fluency in a language, etc.
• Also include measures of health as part of human capital, as healthy workers are more productive

Human Capital is significantly lower in the Developing World

• One of the key explanations for why poor countries are not catching up to rich countries despite diminishing returns to capital

Is Inequality Fair?

The Ultimatum Game

Suppose you have an eccentric aunt who left you and a sibling a sizeable $1 million inheritance

A Timeline of Income Inequality

High Population Growth Rates

The inheritance comes with a catch...

• You must offer your sibling some fraction of the $1 million
• If they accept your offer, then they get what you offered and you keep the remainder
• If they reject, neither of you gets anything
• Your sibling knows the rules of the game and knows how much you are going to keep for yourself if they take your offer

Hunter-gatherer societies

Invention of Agriculture

Modern World

Then Came the Farmers

• Income levels rise
• Superior technology, though perhaps more work

• Kings and rulers vs. common people
• The formation of the first states

Inequality now possible within groups

Much more inequality within groups than between

Global Population, 1700-2050

Fertility and Population Growth Across Countries

Population, 1980-2050

Inequality since the Enlightenment and Industrial Revolution

I.R. began in NW Europe in mid 18th century

That gap has never closed

• Not surprising, as these technologies have generally come out of rich countries for rich country problems
• While they haven't necessarily hurt poor countries, they have widened between country inequality
• Between country inequality accounts for most of global income inequality

• Bourguignon and Morrison (AER 2002) found that global inequality worsened between 1820 and WWI
• At first within countries, then between

10,000 years ago

The last 300 years

New technologies have benefited richer countries more than poor countries

Inequality in Hunter-Gatherer Societies

• We are much richer than our ancestors in the 18th c
• The Congolese are not
• The world is has become enormously more unequal

• Arguably, the poorest countries in the world are as poor as any society in human history

Growth has made a world of difference

Some temporal and spatial income variation across groups

Most of human history spent in small hunter-gather groups

• Groups were egalitarian
• Food was shared (no storage)
• No leaders, no one ordered anyone else around
• People who tried were first laughed at, then killed

• Nearly all of human history...haven't evolved that much since then!
• Concepts of fairness are likely hard-wired into us

• Richer hunting and foraging grounds
• People got poorer after the big mammals were killed off (and shorter from skeletal remains)

So why do we care about these people?

Growth and Inequality

The global population is growing

1.8 million-10,000 years ago

• More than 5/6 of the world's population lives in developing countries
• Most future population growth will be in developing countries

How much do you offer?

• What if you were the sibling? What is the least amount of money that you would accept?

Developing Countries tend to have younger populations

• What if you were making this deal with a complete stranger?

• Define the dependency ratio as the Population under 15 and over 64 divided by the Population between 15-64
• Higher youth dependency ratios (under 15) in developing countries
• Potential development stimulus if fertility rates continue to decline
• Could also be a labor market crisis!

• Developed countries have high old-age dependency
• Worsening with improved old-age health
• Potential pension crisis
• Impetus for increased immigration from developing countries

Dependency Ratios across Countries

Adverse Geography and Colonial Legacies

Greater Social Fractionalization

Does geography affect development?

More ethno-linguistic fragmentation in developing countries

Larger number of distinct ethnic, linguistic, and religious groups within a country's borders

It appears that most of the developing world is in tropical climates

External Influences

Why would this pose a problem?

Benefits of ethno-linguistic fragmentation

Costs of ethno-linguistic fragmentaton

To what extent is underdevelopment a result of factors occurring outside a country's borders?

Why would climate affect development?

• People may be less productive in hotter climates

Supranational organizations like the World Trade Organization (WTO) and International Monetary Fund (IMF) have not always acted in the best interests of poor countries

• Multiple points of view and ways of doing things can be better than just one
• Greater diversity allows for greater understanding, reduces the potential for external conflict
• Governments that are forced to rule by consensus may be more democratic and stable

• Harder to reach a governing consensus
• Government is less likely to be representative of all groups
• Greater chance of internal conflict if groups feel marginalized
• Greater chance of external conflict if marginalized groups find ethnic allegiances in neighboring countries

Vote Shares at the IMF

Country

Vote Share

Quota

($ millions)

• Tropical regions may suffer from more endemic diseases like malaria

16.8%

6.2%

5.8%

4.3%

4.3%

3.8%

3.2%

2.8%

2.6%

2.4%

$65,207

$24,194

$22,548

$16,624

$16,624

$14,747

$12,202

$10,814

$9,860

$9,204

United States

Japan

Germany

France

United Kingdom

China

Italy

Saudi Arabia

Canada

Russia

These organizations are more heavily influenced by rich countries and often act on their behalf

Empirical Evidence is Mixed

• Relatively homogenous countries like Korea, Singapore, and Taiwan have prospered, while diverse nations like Afghanistan, Congo, Sudan, and the former Yugoslavia have suffered

Is it Ethnic Fragmentation or Polarization that Matters?

• High settler mortality rates in the past may have led to the formation of extractive institutions

• No single group in Country 2 has enough power to act unilaterally, must form coalitions
• Higher coordination costs reduce the chance of conflict in Country 2
• Greater likelihood of a democratic process
• Less of an "Us vs. Them" mentality as the lines between groups are likely blurred

Ex: WTO rules have protected agricultural subsidies in developed countries at the expense farmers in poor countries

• However, some diverse nations like China, Malaysia, and the United States have done very well

Ex: IMF bailout packages (SAP's) for developing countries in debt crises have been criticized as making sure that developed country lenders are compensated at the expense of crippling austerity measures

Colonial Legacies

Settler Mortality Rates and Economic Institutions

Acemoglu, Johnson, and Robinson (AER, 2001) argue that in countries where settlement was possible (low mortality rates), institutions mirrored those of the colonizer

Quote: "The European commandant is not posted to observe nature…He has a mission…to impose regulations, to limit individual liberties…to collect taxes.”

• Settlers demanded strong property rights to protect their own small claims, principally from their own governments
• Settlements that prospered drew in more settlers, increasing their political influence

• Colonizers set up large state-owned monopolies to extract resources
• Authoritarian and absolutist states consolidated power, while leaving day to day operations to small domestic elite

Colonies with high mortality rates developed institutions favoring extraction by the colonizing power

Many developing countries are former colonies

• The legacies of the colonial area are still visible today in the institutions in these countries

Log Real GNI p.c. in 1970 and the Growth Rate of Real GNI p.c. between 1970-2010

Economic Institutions

Economists use the term “institutions” to refer to a broad set of structures that are required for markets to operate efficiently

Property Rights

• Without "good" institutions, markets fail to efficiently allocate resources to their highest valued use and economic development lags

Without strong property rights, markets fail to provide the socially optimal level of investment, since the expected return on investment falls as the risk of appropriation rises.

Examples

Economic Mobility

Without mobility, human capital will be too low. The return on education and training will differ between social classes and there will be a tendency toward stagnation among the elites.

Lack of Discrimination

Willful discrimination by employers shrinks the pool of available labor, leading to inefficiently high production costs. Discrimination in legal systems gives an unearned advantage to certain groups, disrupting market allocations

Economic institutions are the set of structures and mechanisms that organize economic activity in a country

Estimated Slope = 0.0

Institutions are slow to change, so countries often have the institutions they inherited from their colonizers

Institutional Persistence

Are Developing Countries "Catching Up?"

Colonies without settlement (high settler mortality rates) developed extractive institutions

Colonies with long term European settlement developed institutions promoting long term growth

Ex: Australia, South Africa, USA

Ex: D.R. Congo, India, Peru

Two reasons to believe they are/will

Diminishing Returns

Technology Transfer

• Developing countries need not "reinvent the wheel"
• Allows countries to bypass stages of development
• Ex: 60 years for the UK to double its output at the outset of the industrial era. 45 years for the US, 11 for South Korea

• Diminishing returns to capital suggest that capital will have a higher return in capital scarce (i.e. poor) countries
• More investment in poor countries should accelerate their economic growth rates

No evidence of unconditional economic convergence

Log Real GNI p.c. in 1970 and the Growth Rate of Real GNI p.c. between 1970-2010 by Initial Income

Log Real GNI p.c. in 1970 and the Growth Rate of Real GNI p.c. between 1970-2010 by Geographic Region