Why is it so hard for developing countries to make progress?

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1 Why is it so hard for developing countries to make progress? Ricardo Hausmann Harvard Kennedy School of Government & Center for International Development at Harvard University Lecture presented at the UN General Assembly October 6th, 2008

2 Global inequality is huge Income per capita in the United States is over 50 times larger than in Malawi, Burundi, the Democratic Republic of Congo, Tanzania, Niger, Sierra Leon and Guinea-Bissau. Life expectancy in Japan, Australia and Norway is about twice that in Angola, Central African Republic, Mozambique and Zambia What can explain this? Differences in growth rates over a long period of time

3 Why is growth important? It accumulates over time Remember the 69 rule! Time to double income = 69/Rate of growth You care about your children On average, mothers are about 25 years older than their children

4 Why is growth important? Rate of growth Time to double income % increase Child - parent Grandchild/ grandparent % % % % % % % % % If two countries start at the same level of income and diverge in growth rates by 6 percent per year, after 50 years one country will be 18.4 times richer than the other

5 Growth rate in vs. initial GDPpc Growth in per capita GDP G25YPCLCU CHN IND BTN IDN LKA THA BW A MUS MYS CHL VCT IRL SGP HKG TCD EGY BLZ BGDLSO PAK TUN TU R DOM EST PRT ESP GBR NOR NPL SDN BGR LVA HUNLBY AUS FIN BEL DEUDNK AUT USA MOZ JPN ALB FRA CAN CRI GRC ISR ISL ITA NLDSWE MAR SWZ BFA IRN COL JAM PAN SYC NZL TTO GHA FJI BHR GUY ROM CHE BEN SEN MEX MLI SLB PHL SYR AGO ECU URY DZA JOR BRA ARG GMB KIR PNG VUT SLV MRT KEN CMRCOG HND COM BOL GTMNAM KW T GNB MWI NGA PER SUR RWA PRY ZAF NIC GABVEN BDI SLE ZMB CAF MDG TGO ZWE NER MDACIV SAU KOR MLT L25.LYPCUSD Log of GDPpc in 1980 LUX

6 Global inequality is a recent phenomenon When Adam Smith wrote The Wealth of Nations, the richest country in the world (The Netherlands) had a per capita income about 4 times richer than the poorest country in the world (Nepal) Today, the poorest countries in the world are: Malawi, Burundi, DR Congo, Tanzania About US$ 700 per capita at PPP A bit less than US$ 2 per day Four times richer are: Bolivia, Vietnam and Lesotho (~US$ 2,800 per capita) Four times richer are Russia, Malaysia, South Africa (~ US$ 11,000 per capita) Four times richer are Norway, USA (US$ 44,000 per capita) Today the Netherlands are 21 times richer than Nepal

7 Growth is a relatively recent phenomenon

8 The great divergence: it did not happen simultaneously across regions of the world

9 Could these differences be explained by Imperialism?

10 Is imperialism the reason? Spanish colonialism between 1500 and 1800 did not cause increases in income per capita in Spain Latin American independence circa 1820 was not followed by a catch up Africa fell behind before the scramble of the 1890s and after independence Countries never colonized also fell behind Afghanistan, Thailand, Turkey, Ethiopia Countries that never had colonies also became rich Switzerland, Italy, Norway, Singapore, Korea Countries that became independent in the Caribbean fell behind those that are still dependent today Huge variation of growth within formerly colonized regions

11 There is huge variation in individual country performance in every region of the world Imperialism?

12 East Asia: Korea vs. the Philippines Real Gross Domestic Product per Capita (PWT 6.2) year Korea Philippines

13 Africa: Botswana vs. Zambia Real Gross Domestic Product per Capita (PWT 6.2) year Botswana Zambia

14 Latin America: Chile vs. Venezuela Real GDP per capita (Laspeyres, PPP) (PWT 6.2) year Chile Venezuela

15 Africa vs. Western Europe since 1820 In 1820, Western Europe had an income per capita 2.9 times that of Africa Today, the difference in income is about 13.1 times What was the differential in growth rates between Western Europe and Africa during the intervening period that is behind today s income differential? 0.9 percent per year from 1820 to 2000 This is a small difference compared to what we have seen over the past 25 to 50 years Divergence may be gaining strength

16 The transition to modern growth: what is involved? Demographic transition Fertility decline Mortality decline Urbanization Education Technology Exports Growth

17 Why the differences in growth rates? Many possible answers Some countries have yet to go through the demographic transition others face other challenges I will focus on a particular mechanism

18 Question: How many of the 24 developed countries had their highest GDP per capita before 2000

19 None Frequency MAXPCTIME 20

20 Take the US as an example GDP per capita (constant 2000 US$)- WDI (2005) year

21 Out of 112 developing countries with data since 1980, how many had their maximum GDP per capita before 2000?

22 67 (58 percent) had their peak before 2000 Frequency MAXPCTIME

23 Out of 112 developing countries with data since 1980, how many had their maximum GDP per capita before 2000?

24 67 (58 percent) had their peak before 2000 Frequency MAXPCTIME

25 Zambia GDP per capita LYPCLCUK year

26 Most growth collapses coincide with export collapses Date of growth collapse KWT SEN NER ZMB BDI NCL KEN BHS ROM JOR CMR DZA COG VUTCOM GMB RWA SLE PRYPER ANT GTM AGO HND HTI ZAF NAM TGO IRQ CIV SLVSUR AFG BOL VEN CAF NIC NGA SAU IRN GAB KIR ZAR ZWE ARE LBR JAM GHAMDG ATG CRI CYP LKA MEX MRT PHL USA VCT PAN WSMBLZ FJIFRA AUS AUT BEL BEN BFA BGD BGR BRA BTN BWA CAN CHL CHN DEU DNK ECU EGY ESP FIN GBR GRC GUY HKG HUN IND IRL ISL ITA JPN KOR LBY LSO MAR MOZ MUS MYS NOR NZL PAK SDN SGP SWE SWZ TCD THA TTO TUN TUR BHR MLI DOM NPL CHE BRBDMAGRD ISR MLT MMR NLD OMN PRT PYF SYC LCA MWI ARG KNA URY SYR BMU COL GNB IDN SLB PNG LOCMAXTIMEX MAXPCTIME LOCMAXTIMEX Date of export collapse

27 Collapses in exports were typically larger than those in output Fall of output ISR DOM MLT NPL URY LBR IRQ KWT ZAR KIR ARE NIC SLE GAB NER HTI CIVIRN MDG RWA SAU ZMB CMR SURVEN GHA TGO COG JAM CAF SLV SLBNGAGNB BDI PER ROM BOL ZWE SEN VUT GTM ZAF PNG DZA NAM COM IDN PRY HND GMB AFG ANT BHS DMA KEN GRDMWI NCL SYR LCA KNA BRB OMN GAPXPC GAPPCGDP GAPXPC Fall of exports

28 The growth collapse in Zambia LYPCLCUK Log of real GDP per capita LXPCKUS Log of real exports per capita

29 A different perspective on the development process

30 Rich Countries Produce Rich Country Goods Relationship between per-capita GDP and EXPY, 2003 Sophistication of exports is measured as the income per capita of countries with a comparative advantage in the country s export basket Rich countries do not just produce more of the same They produce different goods To grow rich, countries need to change what they produce and export -30-

31 Sophistication Today Determines Tomorrow s Growth: Countries become what they export Strong evidence that countries converge to the level of income of the countries they compete with. Growth in , controlling for initial income NER SDN UGA RW A MWI BDI CHN KOR IRL MAC SGP HKG MUSTHA CHL MYS MLT BLZ NOR ESP IND BHR PRTGBR AUS USA AUT CAN DNK CRI DOM GRC FIN JPN ISL LKA IDN TTO NLD ISR SW E HUNITA MOZ TUR URY NZL ARG BGDFJI GUY JAM COL WSMIRN ALB EGY BGR SLV MEX GHA MAR PHLPAN PAK SAU BRA GTMNPL MNG ECU SYR PER ZAF MLI BOLDZA PNGPRY HND NGAJOR VEN ETH BFA SEN GMB NIC GAB KEN BEN TGO MDG CIV CMR CAF SLE ZWE l20l Sophistication in

32 How To Advance? Monkeys & Trees Our metaphor: Products are like trees Firms are like monkeys Structural transformation: process whereby monkeys move from the poor part to the rich part of the forest Easier for monkeys to jump short distance (i.e. to change to products that use similar capabilities) -32-

33 Moving to different products is more difficult New products face a chicken and egg problem: Why create inputs for an industry that does not exist? How can the industry exist, if the inputs are not there? In practice, new products use inputs that have been accumulated to serve other nearby products This creates very strong path dependence -33-

34 Step 1: Maximum Spanning Tree Our Approach: Distance between trees depends on similarities of required capabilities Distance measured by probability that, if a country is good in one product, it s also good in another product. What is the shape of a forest? Homogenous or Heterogeneous? What does it look like? -34-

35 Step 2: Overlay Strong Links 0.4 > < -35-

36 Step 3: Insert Products Nodes sized according to PRODY, darker links are stronger (red is strongest) -36-

37 CA Hidalgo, B Klinger, A L Barabasi, R Hausmann. Science (2007)

38 Where are the monkeys?

39 Where are the monkeys?

40 Malaysia

41 Countries face different opportunities to jump to other trees Open forest: option value of jumping to other trees lnopen_forest1b POL CZE HUN ESPITAUT TUR SVK GRC DEU GBR NLD CHN UKR SWE DNK USA IND ROM BRA HRV PRT IDN THA KOR FIN JPN ISR CAN RUS HKG ZAF ARG LTU MEX MDA URY NZL AUS EGY COL MYS IRL NOR MAR JOR PER SG P PAK LBN PANLVACHL LKA ALB PHLBLR GEO KGZ ZWE KAZ DOM BOL ECU PRY GTM MOZ KEN ARM VEN CRI TZA MDG NPL BGD AZE GHAHND SYR CIV SLV SLE MLI TJK MNG JAM IRN BFA SENHTI NIC ZMB TKM ETH BEN SDN MWI UGA PNG SAU TGO NERNGA GIN DZA OMN RWA CMR BDI CAF lngdppcppp Income per capita

42 Strategic approaches High Stairway to heaven Let it be Ease to jump to new products: open forest Low Parsimonious industrial policy Help jump short distances to other products Bridge over troubled waters Strategic bets Little space to improve quality and few nearby trees It ain t broke Ample space to move in all directions Hey Jude: make it better Competitiveness policy Improve the quality of what already exists Low High Space to grow in existing products

43 Where are the countries? Residuals BEN BDI BGR SVN ESTMDA MKD BLR KGZ CZE ZMB SVK LTU HRV LVA GTM GEO POL ROM HUN TUR UKR HND CYP CRIIND SEN THA TUN URY ZAF TZA IDN MWI TGO VCT PER DMA MAR CHN NER NIC COL MNG BRA ARG BOL CHL GMB MEX MUS PAN UGA KOR MYS SGP LCA KNA ECU GUY RUS TTO KAZ AZE BLZ IRN VEN SDN SAU PHL Residuals

44 Some implications Why do many poor countries not catch up to rich countries? Because there is no stairway to heaven or sequence of nearby trees that can get them to the denser parts of the product space What causes the resource curse? (i.e. bad performance by resource rich countries) Poor connectedness of the resource intensive sectors Why do countries fall into protracted slumps? Because their existing export products get into trouble when they are in a part of the forest where there are no nearby trees How to think of the next products? Not by adding value to your limited raw materials The example of Finland: from wood to where? Follow the capabilities, not the products

45 What should governments do? The public policy challenge Public and private inputs are deeply complementary How to provide highly specific public inputs that are complements in private production? Private inputs: Prices: information Profit-motivated firms: incentives Capital markets: move resources Public inputs: No price: where to get the information? What are the incentives? Political? Even with incentives, how would resources move?

46 Four principles for public policy design Transparency and accountability Demands, evaluations and decisions should be public knowledge Open Architecture Whenever possible, elicit information about Four required principles public inputs Co-financing Experimentatio n and Evaluation Bold moves, tolerance for failures, frequent monitoring, correction over time Self- Organization Allow selforganization around critical inputs. Imposing industry definitions / requiring agreement is inefficient

47 Appendix

48 Income per capita in Spain did not go up during the Colonial period ( ) GDP per capita 0 (Maddison 5000 ( International Geary-Khamis dollars)) Income per capita (left axis) Income per capita relative to US (right axis) Independence year Y GDP per capita (Maddison (1990 International Geary-Khamis dollars)) Y

49 Latin America fell behind after Independence circa 1820 GDP per capita 0 (Maddison 1000 ( International 3000 Geary-Khamis 4000 dollars)) Income per capita relative to US (right axis) Income per capita (left axis) year Y GDP per capita (Maddison (1990 International Geary-Khamis dollars)) Y

50 Table 8: Level of GDP per capita within the Caribbean: still dependents, recent independents, old independents Country name Independent from PPP GDP per capita Still dependent Anguilla AGI. 8,200 Aruba ABW. 28,000 Bermuda BMU. 33,000 British Virgin Islands BVI. 16,000 Cayman Islands CYM. 24,500 French Guiana GUF 6,000 Guadeloupe GLP. 9,000 Martinique MTQ 11,000 Netherlands Antilles ANT. 24,400 Puerto Rico PRI. 10,000 Virgin Islands VIR. 15,000 Average 16,827 Median 15,000 Recent Independents St. Kitt KNA BRITAIN 7,000 Antigua ATG BRITAIN 8,200 Belize BLZ BRITAIN 3,200 St. Lucia LCA BRITAIN 4,500 St. Vincent VCT BRITAIN 2,800 Dominica DMA BRITAIN 4,000 Suriname SUR NLD 3,400 Grenada GRD BRITAIN 4,400 Bahamas BHS BRITAIN 15,000 Barbados BRB BRITAIN 14,500 Guyana GUY BRITAIN 4,800 Jamaica JAM BRITAIN 3,700 Trinidad TTO BRITAIN 9,500 Average 6,538 Median 4,500 Old independents Cuba CUB. 1,700 Dominican Rep. DOM. 5,700 Haiti HTI. 1,800 Average 3,067 Median 1,800

51 World growth between 1820 and 2000 Region Cumulative Annual Africa % Asia % East European Countries % Former USSR % Latin America % Western Europe % Western Offshoots % Western Europe vs. Africa Source: Maddison (2005) %

52 How different are country growth rates over the last 40 years? Between 1965 and 2005, the median country grew at 2.9 percent (in a sample of 103 countries, WDI) The difference between the 25 th and the 75 th percentile was 2 percent per year The difference between the 10 th and the 90 th percentile was 3.7 percent Histogram of per capita growth rate Frequency G40YPCLCU Much greater than the growth differences that caused the Great Divergence

53 China

54 Mexico

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