Not something you can drop on your foot ...
September 11, 2007 4:27 AM   Subscribe

A recent article in Reason magazine discusses a World Bank report that comes to some unexpected conclusions, not the least of which is that "human capital and the value of institutions (as measured by rule of law) constitute the largest share of wealth in virtually all countries." Worldwide, the study finds, "natural capital accounts for 5 percent of total wealth, produced capital for 18 percent, and intangible capital 77 percent." In other words, rich countries are not rich because they have cheap natural resources (or exploited those of other countries), they are rich because of their social institutions.

"[This report] convincingly shows what countries need to do to create wealth and lift billions of people out of abject poverty: Establish the rule of law and educate their people. That's a lot harder to do than building giant dams or aluminum factories, but it would be a lot more effective in reducing poverty. ... An economy with a very efficient judicial system, clear and enforceable property rights, and an effective and uncorrupt government will produce higher total wealth."

But given that the institutions present in developed countries are the result of hundreds of years of incremental change, this would seem to be, at bottom, a very pessimistic message for the developing world.
posted by woodblock100 (31 comments total) 10 users marked this as a favorite
Hm, didn't england emerge as a world power (I imagine its wealth in 1780 comparable to developing countries today) with the rule of kings still intact and wide spread illiteracy? At that same time of course, it was wholesale taking natural resources to feed an otherwise troubled manufacturing sector and deporting its urban poor (many of whom were until recently farmers).

I intended to read the report for its methodology (the actual report is here ), but it has to be said: Reason Magazine and the World Bank: two of economics most impartial observers.
posted by a robot made out of meat at 4:53 AM on September 11, 2007

To clarify what I meant with the England bit: where the wealth is today does not say how that wealth came to be, or what the best path to achieving it would be in modern conditions. Hard to disagree with rule-of-law, but when it doesn't sprout up what do you do? Experiments in imposing it have not gone well.
posted by a robot made out of meat at 4:56 AM on September 11, 2007 [1 favorite]

Institutional integrity as capital functionary is not a particularly controversial notion (this is, for example, a regular suggestion for explaining India vs. post-Colonial Africa—the judicial system, democracy, rule of law and so on.) I honestly can't think of any approach to development economics—all the way from hardcore libertarian types to welfare economists—who don't stress things like education, functioning civil order etc. above natural resource abundance or whatever.

I disagree that good institutional capacity can't evolve rapidly in developing countries. This is a complex issue and "a lot harder to do than building giant dams or aluminum factories" is too binary a take on the matter. An educated populace is screwed without good transportation, communication and public health infrastructure!

The notion that the first-world didn't get to where it is by exploiting resources of other countries is laughable, and more of a Reason-style agenda item than a prerequisite for the "institutions über alles" thesis. Yeah I bet mercantilism and colonialism were just accidents. Wealth creation depends on moving inputs around—unless you have an economy pulled out of thin air, it does come down to who's combining whose inputs into artifacts of value.

Good article and interview, great link. Thanks.
posted by Non Prosequitur at 4:56 AM on September 11, 2007 [1 favorite]

a robot: how the wealth came to be where it is today isn't that much more of a guide to creating wealth under modern conditions.
posted by Non Prosequitur at 5:04 AM on September 11, 2007

In other words, rich countries are not rich because they have cheap natural resources (or exploited those of other countries), they are rich because of their social institutions.

I'm going to second robot and add that this is a bit like saying "I've been working 12 hour days for 40 years, but today I won a blackjack game and thats where my money really comes from." Its an incredibly short-sighted thing to say.
posted by Avenger at 5:08 AM on September 11, 2007

The notion that the first-world didn't get to where it is by exploiting resources of other countries is laughable,

Well, how about the example of post-war Japan? From '0 to 60' in a couple of decades. Of course they had development assistance and inward investment, but nothing like on a scale that would account for their subsequent success.

I don't think anybody would try and argue that exploitation of overseas resources played no part in first world development, but I think the insight here is that such natural resources weren't the source of the subsequent wealth. The quote from Peter Bauer discussing third-world development encapsulates the entire argument (where 'aid' can be replaced with 'resources'): "If all conditions for development other than capital are present, capital will soon be generated locally or will be available...from abroad....If, however, the conditions for development are not present, then aid...will be necessarily unproductive and therefore ineffective. Thus, if the mainsprings of development are present, material progress will occur even without foreign aid. If they are absent, it will not occur even with aid."
posted by woodblock100 at 5:11 AM on September 11, 2007 [2 favorites]

didn't england emerge as a world power...with the rule of kings still intact and wide spread illiteracy
I believe the answer's no. Can't remember who did the study, but someone showed that revolutionary tipping points in early modern Europe largely followed rising levels of literacy in societies. England reached unprecedented levels of popular literacy in the run-up to the civil war (all those merchant-funded grammar schools etc). The latter and the subsequent Glorious Revolution hardly left the monarchy "intact."
I always find lectures on human development a bit rich, given the history of the institution, but will be reading this with interest and then offering some fatuous remarks!
posted by Abiezer at 5:15 AM on September 11, 2007

lectures on human development *from the World Bank*.
I wonder if they do adult literacy classes too. Sigh.
posted by Abiezer at 5:17 AM on September 11, 2007

England has usually been at the forefront of classical liberal institutionalism.

woodblock100: colonialism didn't involve just taking natural resources from abroad though, it also involved creating markets in the colonized countries, which is the important last link (ie. manufacturing at home and selling abroad.) A properly globalized economy offers everyone the opportunity to try their hand at that (and some succeed spectacularly, e.g. Japan). I totally agree with the general point here. Given that we optimize inter-industry and international specialization based as much on who knows what as who 'has' what I agree that human capital is key. And institutional capacity is the medium within which human capital is transformed into wealth.

I just think we need to be on the lookout for shenanigans that take this too tautologically and deny the need for aid based on lack of current development and so on. Physical infrastructure (roads, etc.) matters. It matters a lot.
posted by Non Prosequitur at 5:29 AM on September 11, 2007

woodblock Actually, I'd argue that the post-WWII rebuilding of Japan is not particularly remarkable. Europe also rebuilt from close to as much devistation in about the same time. Further, due to the proxy war the USA and PRC fought in Korea there was substantial US investment in Japan's heavy insustry. Remember that prior to WWII Japan already had a perfectly good First World economy, and the social institutions that went along with it, same as France or Germany or England, etc.

Also, while Japan was indeed bombed like nobody's business, and the industrial machine was severely damaged by both the bombing and wartime demands, the industrial situation was not quite so dire as people often think it was.

More interesting, from my POV anyway [1], is the initial bootstrapping of Japan from a pseudo-Medieval economy to a full industrial economy that took place between 1868 and 1920, and was sufficiently advanced by 1895 that Japan was able to defeat China militarially and fight Russia to a standstill by 1905.

And, in that, I think that the article is quite correct. Japan has no natural resources worth talking about. What they *did* have was a leadership committed to modernizing the country, changing the institutions that they saw holding them back, and uplifting the population to a better standard of living. Also a citizenry that was willing to go along with that.

So many of the truly poverty stricken nations have nothing resembling national unity [2], a leadership committed to making it easy for the First World to exploit their natural resources and thereby fatten their own Swiss bank accounts, etc. Part of economic bootstrapping, I think, involves a leadership willing to insist on a fair price for the goods a nation does produce rather than one willing to make deals that are disasterous for the producers but benefit the foreign buyers and the political leaders. If the government is actively opposed to its citizens getting a good life, its kinda hard for that to happen.

I agree that social institutions are more a symptom than a cause when it comes to wealth. OTOH the underlying cultural artifacts that produce those social institutions do seem to be a cause of wealth, though of course its pretty much impossible to force those underlying cultural causes on an unwilling populous.

But in the end it does make sense. If you've got a goverment intent on shortsightedly looting a national economy, and assisting foreign "investors" in doing the same, its going to be pretty difficult for that economy to prosper. Similarly if you have a government that's spending a fortune on draconian clampdowns on society (which you pretty much have to have if you're looting an economy) its going to be damn hard for innovation to take place, and of course, that rather limits wealth.

[1] Interesting enough that its my area of specialty.

[2] One could even go conspiricy theory and propose that the national lines so arbitrarially set down in, say Africa, were almost deliberately intended to include so many rival tirbes and whatnot that its impossible to achieve national unity there without completely redrawing the political map.
posted by sotonohito at 5:38 AM on September 11, 2007 [2 favorites]

sotonohito, I don't follow what you're saying regarding culture vs institutions. I think if you took 10 arbitrary economically-well-functioning countries, and you compared their cultures and institutions, you'd find that institutional similarity is a better predictor of wealth than cultural similarity. Would you agree?
posted by Non Prosequitur at 5:48 AM on September 11, 2007

It's like Reason just noticed what Doug North was doing 20 years ago.
posted by ROU_Xenophobe at 5:49 AM on September 11, 2007 [1 favorite]

This feels a bit like "What did the Romans ever do for us?"

To which I'd like to add that of course England exploited people, but it also had the most advanced technology in the world at the time. 18th and 19th century Britain saw one of the greatest flowerings of applied science the world has ever seen.

Also, socially speaking, by 1780, the power of the monarchy waning fast. The UK has had a parliament since the 11th century and the balance of power gradually (then far more quickly) shifted from monarch to legislature. The shift was more or less complete by the 20th century.

BTW, we still have a queen who is head of state but she wields no real power. A disturbing number of people, especially Americans, find this relatively simple concept infuriatingly difficult to understand.
posted by rhymer at 5:53 AM on September 11, 2007

I think the reason that I found this article particularly interesting was that it does seem to imply that a major change in attitude is taking place (has taken place?) within such institutions as the World Bank - facing the by now incontestable reality that Mega Projects just don't work.

But where do we go from here? After all the billions and billions poured into African aid with next to nothing to show for it, what _do_ we do to help those people develop these necessary institutions? If they can't be imposed from outside, and would take hundreds of years to develop 'naturally', then what can we do? It would seem as though African development is a completely lost cause ... it's difficult to avoid feeling totally pessimistic about the whole thing.
posted by woodblock100 at 5:54 AM on September 11, 2007

So many of the truly poverty stricken nations have nothing resembling national unity [2], a leadership committed to making it easy for the First World to exploit their natural resources and thereby fatten their own Swiss bank accounts, etc.

The article doesn't address how much of the existence of wealth in the First World requires the existence of poverty in the Third World.
posted by aeschenkarnos at 5:54 AM on September 11, 2007

Hm, didn't england emerge as a world power (I imagine its wealth in 1780 comparable to developing countries today) with the rule of kings still intact and wide spread illiteracy?

Illiteracy was probably widespread, but I would guess that the rates were lower then pretty much everywhere else in the world. And having a king doesn't make you 'corrupt' as long as that king is not regularly subverting judicial affairs in individual matters.
posted by delmoi at 6:01 AM on September 11, 2007

England has had the best organized government institutions since the Norman Conquest of 1066, and since that time it has also had a reputation of being a "rich" country (from the King's coffer perspective). Medieval scholars have studied this for a long time, in fact America's first medievalist, Charles H. Haskins (1870-1937), who championed the notion that Democracy started in the 12th century with the rise of institutions (and other things), was chosen by Woodrow Wilson as one of only three advisers at the Paris Peace Conference of 1919 where the Treaty of Versailles was worked out. This belief in the power and evolution of institutions was very popular in the first half of the 20th century which saw a countries best and brightest going into positions of public service, but sadly this notion has gone out of fashion, now the best and brightest join private mercenary armies or financial firms, while the mediocre become president.
posted by stbalbach at 6:18 AM on September 11, 2007

What about the former Soviet Union? Vast natural resources; lots of well-educated scientists and engineers; crappy social instutions (other than schools, perhaps). Absolute failure as an economy.
posted by ZenMasterThis at 7:13 AM on September 11, 2007

Non Prosequitur Sorry, didn't mean to be unclear.

I mean that the institutions themselves, banks, courts, semi-open government offices, etc cannot exist (other than as false fronts) without certain mental processes existing among large segments of the population. That without a general agreement that the institution holds value, can be trusted [1], and is worth the effort necessary to maintain it, the institution won't work. That's what I meant by "cultural artifacts".

In a place where "court" means "pit of corruption and good ole boy-ism that will screw me because it serves the foreigners and/or cursed elites" you can't really have rule of law and justice. It'd take years, decades even, of dedicated work by people who do passionately believe in courts as a place of law and justice before the general populace can throw its weight behind the idea.

Etc. To an extent I suppose I'm making a circular argument, but that's part of the whole bootstrapping process. A depends on B, which depends on C, which depends on A. This can, I think, be speeded up by a popular revolution (as Japan experienced in 1868 [2]) if the leaders of the revolution really are committed to making changes, not merely enriching themselves.

The problem is that, almost universally, the "revolutionaries" are really just in it to set themselves up as the same sort of dictators they fought against. Like Orwell said:
Power is not a means, it is an end. One does not establish a dictatorship in order to safeguard a revolution; one makes the revolution in order to establish the dictatorship. The object of persecution is persecution. The object of torture is torture. The object of power is power.
Revolutionaries regrettably tend to prove him right more often than not. On the rare occasions that Orwell's cynicism is wrong, it works out amazingly well (see: the USA, France, Japan, etc). But mostly the personality type that can successfully lead a revolution isn't the same type that is either able to lead a free country or willing to surrender power to one who can.

[1] At least to a degree.

[2] Note for any Meiji era historians, I am fully aware of the argument that the Meiji Restoration was not really a revolution. I, however, fall into the "it was so a revolution" camp.
posted by sotonohito at 7:17 AM on September 11, 2007 [2 favorites]

stbalbach (and others): I did mean it as a question. My post-civil-war english history is rusty, especially where those beneath the surface details are concerned. I think that I will pick up one of Haskin's works. I could envision an argument that in that time the crucial functions of the rule of law were not too badly abused by the power struggle around the elected parliament, the nobility, and the military. However, the image which a lot of people have of industrialization is of the elite acquiring more education and technology, and the lower classes playing a minor role. It's the image of the factory worker who doesn't know anything more than a farm peasant does, but by virtue of a change in the elites' activity is 100 times as productive. Probably because we like Dickens novels. I imagine that the causes (and the facts of) the massive wealth generation of that era are hotly debated.

Of course I'm not saying that developing countries should recapitulate development elsewhere, just that there was a scaffold which lead to human capital being so important.
posted by a robot made out of meat at 7:42 AM on September 11, 2007

it is futile to explain the current global state entirely as a function of orderly evolution of societies and institutions, because this leaves no room for fortuity and chaos. the greatest fortuity of all is the fact that earth spins eastward. imagine what might have happened if it spun the other way:

westward atlantic crossings would be much more difficult, but eastward pacific crossings would be easier. hurricanes forming in the atlantic would move eastward to ravage the ports of the greatest pre-american maritime powers. there would be no jamestown or plymouth rock as they are currently known, but santa monica and malibu would have even more mythic status, and 99% of the people in oregon where i live would be fluent in chinese. there is no discounting the importance of initial conditions, which is the essence of chaos theory.
posted by bruce at 7:48 AM on September 11, 2007 [3 favorites]

See this recent previous post about a theory that takes the exact opposite approach - it is not institutions, but natural selection.
posted by stbalbach at 8:07 AM on September 11, 2007

The World Bank does all sorts of great studies. The ones that aren't ignored are then "interpreted" by the IMF.

I give it a month before this is skilfully spun in to a justification for further privatization and Structural Adjustment Plans under the guise of foreign aid for "institutional development." Oh, and, carry on with the denudation of the planet, since all that natural stuff is marginal wealth at best. Who needs a landbase when you have corrupt Western courts and Northern investment, right?
posted by poweredbybeard at 8:55 AM on September 11, 2007

By 1780 in England, the King's power had already been severely curtailed, and the beginning of modern institutions had already taken form. It wasn't necessarily a "democracy" in the modern sense, but they had courts and property rights and lawsuits and a central bank, and perhaps most importantly, they had a large, powerful, and growing middle/merchant class, who realized that the land was not the only source of wealth.

The late 18th century was still a rough place by modern standards, and it certainly wasn't a good time to be poor, but it wasn't the Middle Ages or anything. If you went back there and looked around, and then went an equivalent time back from that (to say 1570), you'd see a lot more similarities between 1790 and 2007 than 1570 and 1790.

That said, no matter how much time I study modern economics, I can't help but feel, deep down, as though the idea of "intangible capital" is a bit of a shell game, a way of reassuring people in the West that things are OK, even as we move further and further down a path where we're nothing but the middle-men of the world.

Maybe it's just the steel-town boy in me, but there's something vaguely disquieting about the idea of an all-service-sector economy. It seems almost masturbatory; as if there's no possible way that you can really sustain a country that way for very long, particularly when you import everything and export nothing.

I just hope they know what they're doing.
posted by Kadin2048 at 9:16 AM on September 11, 2007 [2 favorites]

I searched for "social capital" in the article but did not find it ?

It's pretty clear to me that Wealth of social capital and a healthy middle -- technocratic -- class are intrisinicly linked.

And for kadin's point about service-sector economies immediately above, IMO service sectors redistribute wealth but do not create it, which is why we are seeing 10% of economy being subsidized by our trading partners ATM.

The agument and ideas are horribly fascinating, pity I have to go to work now.
posted by Heywood Mogroot at 9:40 AM on September 11, 2007

Are you thinking human capital? Social capital is just who knows who, who values what tastes, etc. It's more about movement within a society's social networks than a tradeable sort of thing? I guess if country A is full of furiously networking entrepreneurs and country B is full of shepherds who don't know each other well you could say the former has more social capital but I don't think it makes sense as an aggregate measure, more of a comparative one.
posted by Non Prosequitur at 10:42 AM on September 11, 2007

I don't want to get into this right now, but the economist Hernando de Soto (no relation to the conquistador) is a good figure to bring up here, since he's been saying this for years.
posted by nasreddin at 11:01 AM on September 11, 2007

Here's a plan for lifting billions out of poverty: the first world stops using the world bank to steal billions from the third world and turn them into functional colonies.
posted by Pope Guilty at 11:43 AM on September 11, 2007

"social capital", to me at least, is evident in the middle-class/working-class values of the traditional so-called "Protestant Work Ethic" . . . being a good neighbor, honest dealer, etc &c, and the institutions that inculcate and transfer these individual ethical Qualities from one generation to the next.

Social Capital is the absence of societal rot, essentially, where rot can be defined as societal acceptance of rent-seeking, graft, thievery & violence, 'I've got-mine-so-sod-off' self-centeredness, uncouthness, prejudice/discrimination/bigotry.
posted by Heywood Mogroot at 1:00 PM on September 11, 2007

Heywood Mogroot, I see what you're getting at, but in the social sciences that would fall under the rubric of 'cultural values'—since 'social capital' is a specialized term, the World Bank wouldn't use it to describe what you're describing.
posted by Non Prosequitur at 3:54 PM on September 11, 2007

Yeah, the wiki article on Social Capital also describes my competing definition as Cultural Capital. . . perhaps Societal Capital would be a better term to distinguish the capital one gets from one's extended social network.
posted by Heywood Mogroot at 4:06 PM on September 11, 2007

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