Why Nations Fail

Why Nations Fail: The Origins of Power Prosperity and Poverty by by Daron Acemoglu and James Robinson

🚀 The Book in 3 Sentences

1. Politics, not just pure economics, needs to be factored into our understanding as to why nations fail and why there is world inequality.

2. Inclusive political centralisation is required for nations to move towards prosperity. This means a singular authority that distributes power widely and evenly.

3. There is a strong link between inclusive economic and political institutions and prosperity.

🎨 Impressions

This book really opened up my macro view of the world. It gives insights on the interactions between politics and economics from a perspective of a country's development. This book was thoroughly researched and in depth and provided a very insightful view as to how country's develop and become more prosperous.

How I Discovered It

This book was mentioned in an article from Mark Manson that I thought was interesting, and wanted to explore more.

Who Should Read It?

If you are interested in global economics and politics this is a must read. If you are interested in history, the gradual change of nations and how we can reduce world inequality this is a great starting point.

✍️ My Top 3 Quotes

The most common reason why nations fail today is because they have extractive institutions.

As we will show, poor countries are poor because those who have power make choices that create poverty.

A businessman who expects his output to be stolen, expropriated, or entirely taxed away will have little incentive to work, let alone any incentive to undertake investments and innovations.

📒 Summary + Notes

What the Book Aims to Argue

To understand world inequality we have to understand why some societies are organised in a very inefficient and socially undesirable ways. Nations do sometimes manage to adopt efficient institutions and achieve prosperity, but these are rare cases. Most economists and policymakers have focused on ‘getting it right’ whilst what is really needed is why poor nations ‘get it wrong’. Poor countries are poor because those who have power make choices that create poverty. They get it wrong, not by mistake or ignorance but on purpose. This aims to get beyond economics and expert advice on the best thing to do and instead to study how decisions actually get made, who makes them and why people decide to do what they do.

Traditionally economists have ignored politics, but understanding politics is vital for explaining world inequality.

The book argues that achieving prosperity depends on solving some basic political problems. It is because economists have presumed that political problems are solved that it has not been able to come up with a convincing explanation for world inequality. Explaining world inequality still needs economics to understand how different types of policies and social arrangements affect economics incentives. But it also needs politics.

Inclusive Economics

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 provides a level playing field that gives them the opportunity to do so.

Those that have good ideas can start businesses and workers will tend to go to activities where their productivity is greater and less efficient firms can be replaced by more efficient ones.

Inclusive economic institutions pave the way for: technology and education. Sustained economic growth is always accompanied by technological improvements that enable people, land and existing capital to become more productive. These improvements follow from science and from entrepreneurs, like Thomas Edison, who applied science to create profitable businesses. This process of innovation was made possible by economic institutions that encourage private property, uphold contracts, create a level playing field an encourage and allow the entry of new businesses that can bring new technologies to life.

Closely linked to technology are the education, skills, competencies and know-how of the workforce, acquired in schools, at home and on the job. We are more productive because of the know-how we possess. The skills of the workforce that generate the scientific knowledge upon which our progress is built and that enables adaption and adoption of these technologies in diverse lines of business.

The low education levels of poor countries is caused by economic institutions that fail to create incentives for parents to educate their children and by political institution that fail to induce the government to build, finance and support schools and the wishes of children and parents. The price these nations pay for low education and lack of inclusive markets is high. They fail to mobilize their talent.

Political Institutions

The political institutions of a society are a key determinant of the outcome. 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 this power can be used. If the distribution of power is narrow and unconstrained, the political institutions are absolutists. Where this is the case, political institutions who wields this power can set up economic institutions to enrich themselves and augment their power at the expense of the society.

In contrast, political institutions that distribute power broadly in society and subject to it constraints are pluralistic. Instead of being vested in a single individual or a narrow group, political power rests with broad coalition or a plurality of groups.

Extractive Institutions

There is a strong link 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. Economics institutions are often structured by this elite to extract resources from the rest of society. Extractive economics institutions naturally accompany extractive political institutions. They in fact rely on extractive political institutions for their survival.

Extractive institutions have a powerful logic. They can generate some limited prosperity while at the same time distributing it into the hands of the elite. For this growth to happen there must be political centralisation. Once this is in place, there are incentives to invest and generate wealth, encourage others to invest so that the state can extract resources from them and even mimic some processes that would normally be set in processes by inclusive economics and politics.

Political Centralisation

Political power was widely dispersed in Somalia society, almost pluralistically. But without authority from a centralised state to enforce order and property rights, this leads not to inclusive institutions as nobody is the respected authority and so nobody can impose order. In such a climate, it would have been unimaginable to invest in or adopt new technologies or indeed create the organisations necessary to do so.

Political Centralisation is resisted for the same reason that absolutist regimes resist change: the often well-placed fear that change will reallocate political power from those that dominate today to new individuals and groups. Therefore, as absolutism blocks moves towards pluralism and economic change, so do the traditional elites and clans dominating the scene in societies without state centralisation. As such, societies that lacked such centralisation were particularly disadvantaged in the age of industry.

England and the Industrial Revolution

The Industrial Revolution started and made its biggest strides in England because of its uniquely inclusive economic institutions. They were built on foundations laid by the inclusive political institutions bought about by the Glorious Revolution. It was the Glorious Revolution that strengthened and rationalised property rights, improved financial markets, undermined state-sanctioned monopolies in foreign trade, and removed the barriers to the expansion of industry. It was a Glorious Revolution that made the political system open and responsive to the economic needs and aspirations of society. These inclusive economic institutions gave people of talent and visions such as James Watt the opportunity and incentive to develop their skills and ideas and influence the system in ways that benefited them and the nation. Naturally, once they had become successful, have the same urges as any other person. They wanted to block others from entering their businesses and competing against them and feared the process of creative destruction that might put them out of business, as they had previously bankrupted others. But this became harder to accomplish.

England developed a pluralistic political institution and broke away from extractive institutions, because the political developments leading up to the Glorious Revolution was shaped by several interlinked processes. Central was the political conflict between absolutism and its opponents. The outcome of this conflict is not only put a stop to the attempts to create a renewed and stronger absolutism in England, but also empowered those wishing to fundamentally change the institutions of society.  The opponents of absolutism did not simply attempt to build a different type of absolutism. Instead, the Glorious Revolution involved the emergence of a new regime based on the constitutional rule and pluralism. The outcome was a consequence of the drift in English institutions and the way they interacted with critical junctures. These important moments included: The Black Death, Magna Carta, political mobilisation of rural communities ,the already reduced power of the Monarchy that could no longer raise taxes, greater Parliamentary power that could not monopolise the expansion of trade into the Atlantic, a new class of merchant businessmen, who aggressively opposed the plan to create absolutism in England.

A Comparison Between England and Ethiopia

Today Ethiopia is one of the poorest countries in the world. The income of an average Ethiopian is about one fortieth of that of an average citizen in England. Most people live in rural areas and practice subsistence agriculture. They lack clean water, electricity and access to proper schools and healthcare. Life expectancy is about fifty-five and only one third of all adults are literate. A comparison between Ethiopia and England spans world inequality. Ethiopia had absolutism that persisted until the recent past. With absolutism came extractive economic institution and poverty for the mass of Ethiopians, though the emperors and nobility benefited hugely. But the most enduring implication of absolutism was that Ethiopian society failed to take advantage of industrialisation opportunities during the ninetieth and twentieth centuries, underpinning the abject poverty of its citizens today.

Technological Development

Some took advantage of new technologies and methods of organisation that it brought with it, others did not. The institutional dynamics described determined which countries took advantage of the major opportunities present in the nineteenth centuries onwards and which ones failed to do so. The roots of world inequality we observe today can be found in this divergence. With few exceptions, the rich countries of today are those that embarked on the process of industrialisation technological change starting in the nineteenth centuries.

Rule of Law, Media and Virtuous Circles

The rule of law is needed, which is not imaginable under absolutist political institutions. It is a creation of pluralist political institutions and of the broad coalitions that support such pluralism. It is only when individual and groups have a say in decisions and political power to have a seat at the tale, that the idea they should all be treated fairly makes sense.

A virtuous circle arises, partly from the inherent logic of pluralism and the rule of law, but also because inclusive political institutions tend to support inclusive economic institutions. This then leads to a more equal distribution of income, empowering a broad segment of society and making the political playing field even more level. This limits what one can achieve by usurping political power and reduce the incentives to re-create extractive political institutions.

Pluralism also creates a more open system and allows independent media to flourish, making it easier for groups that have an interest in the continuation of inclusive institutions to become aware and organise against threats to these institutions. Also, information about the abuse of power is spread and channelling empowerment to a broad societal segment.

Because inclusive political institutions support inclusive economic institutions, this creates another mechanism for the Virtuous Circle. Inclusive economic institutions remove the most egregious extractive relations, such as slavery, reduce the importance of monopolies and create a dynamic economy, which reduces the economic benefits that one can secure, but in the short-term usurping political power. There is less to gain from clinging to power, and more to lose by using widespread repression against those wanting democracy.

However, you can get extractive vicious cycles, as extractive political institutions lead to extractive economic institutions, which enrich a few at the expense of many. They have an interest in defending the system, so build armies, and rig elections. Power is valuable with extractive political institutions, because power is unchecked and brings economic riches. There are also few constraints on the exercise of power so no institutions to restrain the use and abuse of power by overthrowing previous dictators and assuming control of the state and extractive economic institutions imply there is great profit to made by controlling power, setting up monopoles and expropriating the assets of others.

Furthermore, when extractive institutions exist, huge inequalities, great wealth and unchecked power, there will be many wishing to fight to take control. Extractive institutions pave the way for more extractive regimes but also result in civil wars and infighting. These cause more human suffering, destroy the little centralisation in place, start a descent into lawlessness, state failure, political chaos and reduce future chances of economic prosperity.

Three Factors that Created Inclusiveness Following the Glorious Revolution and the French Revolution:

• New merchants and businessmen wish to unleash the power of creative destruction from which themselves would benefit, they did not want to see more extractive institutions

• The formation of a broad coalition, a movement backed by diverse political groupings

• A background was created for new, more inclusive regimes could develop.

Solutions

The solution to the economic and political failure of nations today is to transform their extractive institutions towards inclusive ones. The vicious circle means this is not easy or automatic. A confluence of factors, in particular a critical juncture coupled with broad coalition of those pushing for reform or other propitious existing institutions, is often necessary for a nation to make strides towards inclusive institutions. In addition, some luck is key as history always unfolds in a contingent way.

Media and new communication technology and the mobilisation of a broad societal segment to create political change is needed; not for their personal benefit but to transform extractive institutions to be more inclusive.

A Summary

Central to the theory proposed in this book is the link between inclusive economic and political institutions and prosperity. Inclusive economic institutions that impose property rights, create a level playing field and encourage investments in new technologies and skills are conducive to economic growth compared with extractive economic institutions that are structured to extract resources from the many by the few and it fails to protect property rights or provide incentives for economic activity. Inclusive economic institutions are in turn supported by, and supports, inclusive political institutions, that is, those that distribute political power widely in a pluralistic manner and are able to achieve some amount of political centralisation as so to establish law and order, the foundations of secure property rights, and an inclusive market economy. Similarly, extractive economic institutions are linked to extractive political institutions, which concentrate power in the hands of the few, who will then have the incentives to maintain and develop extractive economic institutions for their benefit and use the resources they attain to cement a hold on political power.

These tendencies do not imply the extractive economic and political institutions are inconsistent with economic growth. On the contrary, every elite would, all else being equal, like to encourage as much growth as possible in order to have more to extract. Extractive institutions that have achieved at least a minimal degree of political centralisation are able to generate some amount of growth. What is crucial, however, is that growth under extractive institutions will not be sustained, for two key reasons. First, sustained economic growth requires innovation and innovation cannot be decoupled from creative destruction, which replaces the old with the new in the economic realm and also destabilises established power relations and politics. Because elites dominating extractive institutions fear creative destruction, they will resist it, and any growth that germinates under extractive institutions will ultimately be short lived. Second, the ability of those institutions that benefit greatly at the expense of the rest of society institutions are highly coveted, making many groups and individuals fight to retain it. As a consequence, there will be a powerful force pushing society under extractive institutions towards political instability.

The synergies between extractive economic and political institutions create a vicious circle, where extractive institutions once in place, tend to persist. Similarly, there is a virtuous circle associated with inclusive economic and political institutions. But neither the vicious know the virtuous circle is absolute. In fact, some nations live under inclusive institutions today because, though extractive institutions have been the norm in history, societies have been able to break the mould and transition towards inclusive institutions. The explanation for these transitions is historical, but not historically predetermined. Major institutional change, the requisite for major economic change, takes place as a result of the interaction between existing institutions and critical junctures. Critical junctures are major events that disrupt existing political and economic balance in one or many societies,  such as the Black Death, which killed possibly as much as half the population of most areas in Europe during the fourteenth century; the opening of Atlantic trade routes, which created enormous profit opportunities for much of Western Europe; and the Industrial Revolution, which offered the potential for rapid but also disruptive change in the structures of economies around the world.

Existing institutional differences among societies themselves are a result of past institutional changes. Why does the path of institutional change differ across societies? This is due to institutional drift. In the same way that the genes of two isolated populations of organisms will drift apart slowly because of random mutations in a so-called process of evolutionary or genetic drift, two otherwise similar societies will also drift apart institutionally, albeit very slowly. Conflict over income, power, and indirectly over institutions, is a constant in all societies. This conflict often has a contingent outcome, even if the playing field over which it transpires is not level. The outcome of this conflict leads to institutional drift. This is not necessarily a cumulative process. It does not imply that the small differences that emerge at some point will necessarily become larger over time. On the contrary, small differences open up and then disappear and then reappear again. However, when a critical juncture arrives, the small differences that have emerged as a result of institutional drift may be the small differences that matter in leading otherwise quite similar societies to diverge radically.

Key Points to Takeaway:

• Differences between extractive and inclusive economic and political institutions.

• Understanding why inclusive institutions emerged in some parts of the world and not others.