WHY DID THE POOREST COUNTRIES FAIL TO CATCH UP

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What really happened, 1980-early 2000s
Lectures 1 and 2
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Can you teach development? The answer is No!

• You can teach how to build a dam, or construct
  the road, or possibly to improve school
  curriculum
• Or how to negotiate a project, or how to keep
  accounts
• But not development development consists of
  myriads of actions conducted by individuals who
  are motivated by own objectives
• If devt projects are not built within the
  existing incentive structure, they are like
  cathedrals in the desert (useless)
• Thus, IFIs can provide money if finance is the
  constraint do actual projects (although they
  may turn useless) or provide technical (macro
  and micro) advice (although it usefulness is
  often doubtful because IFIs have other objectives
  than the wellbeing of a country in question)

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Discontinuity in development trends around
1978-80

• The watershed years (Bairoch)
• Tripling of oil prices
• Increase in real interest rates (from 1 to 5
  in the USA and the world)
• Debt crisis
• Chinas responsibility system introduced
• Latin American begins its lost decade, E.
  Europe/USSR stagnate

4
The outcome

• Middle income countries declined (Latin America,
  EEurope/former USSR)
• China and India pulled ahead
• Africas position deteriorated further
• Developed world pulled ahead
• World growth rate decreased by about 1
  (compared to the 1960-78 period)

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Different ways to look at world growth rates
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Annual per capita growth rates 1980-2002
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Assessment

• World income growth slowed down by 1 percentage
  point per capita p.a.
• Poor and populous countries grew much faster and
  average (population-weighted) growth rate even
  increased
• Countries growth record became much more
  diverseand systematically so

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Theory and empirics going apart?

• In theory emphasis on conditional or
  unconditional convergence (based on OECD
  convergence)
• In empirics 25 years of unconditional divergence
• This focus on conditional convergence has tended
  to obscure the fact that, across the globe,
  income levels have actually been diverging rather
  than converging over the past forty years
  (Dowrick and Delong, 2001, p. 25)

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Real income stagnation of countries, 1960-2001
(based on Reddy and Minoiu)

• Incomet three-year moving average centered at t
• Stagnation if income is lower than in the
  previous 2 years and higher than in the next 4
  years
• Turning point income 1 higher than in the
  previous year and 1 lower than in the subsequent
  year
• Spell of stagnation from the onset to the
  turning point
• Depth of stagnation (Income at outset Income
  at the minimum) / Income in 2001

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• Depth of stagnation shows income loss, that is by
  how much would the end period income be higher if
  instead of stagnation (decline), country had a
  zero real growth (during the stagnation period)
• It is therefore a conservative estimate of income
  (welfare) loss

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The overall loss of income is measured in of
2000 output (under the Ho that instead of
stagnation there were zero growth).
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Stagnation during the four decades
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Some conclusions

• Big contrast between Africa and L. America (on
  the one hand) and the rich world (old OECD)
• The 1980s were the worst decade one-half of
  countries were stagnators, the average length of
  stagnation almost 7 years, (unweighted) income
  loss 20
• Average income loss in the 1960s was only 14,
  and only 12 of countries were stagnators

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Factors associated with stagnation (probit on
stagnators)
Not significant initial (1960) GDP per capita,
literacy rate, growth of domestic credit, growth
of exports Model 1, Table 4
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Growth over 1980-2002 period as function of
initial (1980) income
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Least developed countries (LLDC) did not grow
between 1980 and 2000
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Distribution of population (in year 2000)
according to how country did over 1980-2000
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LLDCs over the period 1980-2002

• Big time winners
• Lesotho
• Uganda (20001970)
• Bangladesh

• Big time losers
• Djibouti
• Madagascar
• Niger
• Sierra Leone
• Togo
• Zambia
• Haiti

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Top 15 relative winners with respect to the USA,
1980-2006
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Top 15 relative losers with respect to the USA,
1980-2006
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Main gainers and losers (excluding oil-producers)
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The relative decline of Latin America and the
Caribbean (1980-2006) (globalnew.dta)
twoway scatter gama gdpppp if year1980
region3, xscale(log) yline(0) ytitle(percent
gain with respect to usa) xtitle(GDP per capita
in 1980 in 2005 PPPs) xlabel(1000 2000 10000
20000) mlabel(contcod)
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And of Africa
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But the relative gain of Asia..
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Why is divergence of incomes puzzling in an era
of globalization?
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Definitions of globalization

• Official World Bank Freedom and ability of
  individuals and firms to initiate voluntary
  economic transactions with residents of other
  countries.
• Stiglitz Globalization is a closer integration
  of the countries and peoples of the worldbrought
  about byreduction in costs of transportation,
  and the breakdown of artificial barriers to the
  flow of goods, services, capital, knowledge, and
  people across borders (Globalization and its
  discontents)

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A puzzle of bad performance of LLDC

• Globalization should benefit more LLDC than the
  rich countries (the convergence hypothesis)
• Adoption of successful policies from the rich
  world should benefit LLDCs (and even more than
  the rich)
• But the very opposite happened gt divergence of
  per capita incomes

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Reform and growth in LAC
From World Bank, Lessons of the 1990s based on
Eduardo Lora
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Transition countries continued output divergence
despite policy convergence
twoway (line EBRD_sd year) (line gdpppp_sd year,
yaxis(2)), legend(off) text(6.2 1997 "standard
deviation of all gt EBRD indicators") text(3.5
2000 "standard deviation of GDI per capita")
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LAC countries continued output divergence
despite policy convergence
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Convergence and divergence

• Unconditional or s convergence (original studies
  by Baumol for OECD countries based on Maddison
  data). All countries end up with the same
  steady-state equilibrium level (NCGT).
• Slower growth of richer countries as MPK falls
  and they get closer to technological frontier
  (technology is freely available to all)
• Conditional or ß convergence (Barro with human
  capital only on the RHS instead of K and L).
  Growth regressions based also on endogeneous
  (new) growth theory each country ends with its
  own steady-state equilibrium

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Relationship between d and ß convergence

• Sigma (or any other inequality measure)
  convergence direct judgment about dispersal of
  income levels
• Beta convergence indirect (regression-based)
  regularity thus not very useful except that it
  allows us to retrieve a structural parameter in a
  growth model
• ß does not imply d convergence but d convergence
  implies ß convergence (Wodon and Yitzhaki 2006
  Economic Letters).

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• Endogeneous growth in response to increasing
  returns to scale (no ? MPs), monopolistic
  competition (no free competition), and no free
  diffusion of technology (see Romer below).
• All key neoclassical assumptions abandoned, role
  of policies and institutions important
• Noted Lucas paradox capital flows from rich to
  rich countries mean country incomes diverge
• But ß convergence compatible with greater
  dispersal of growth rates and incomes
• Often meaningless if Ethiopia had education
  level and institutions of the US, it would grow
  faster than the US! (These factors are
  concomitant with high income, not independent of
  it.)

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Endogenous growth Romers key points on
technology

• Technological change propels growth
• Technological change endogenous (responds to
  incentives)
• Technological change (knowledge) is a non-rival
  but partially excludable good (non-rival can be
  used by many excludable you can exclude some
  people from using it)
• Excludability (intellectual property rights) is
  crucial to cover fixed costs of research and
  leads to increasing economies of scale (and hence
  to divergence in incomes)
• (Romer The origins of endogenous growth, JEP,
  1994)

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Only similar countries gain through trade

• Trade in goods is welfare improving only fort
  countries at the similar level of development
  (reducing redundancy in research effort)
• If countries have very different factor
  endowments, an increased supply of cheap labor
  (after trade opens up) reduces incentive for the
  K-rich country to innovate its better for the
  US to trade with Europe than with Mexico
• (Romer The new growth theory, p. 101)

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The bottom line

• s convergence among rich countries since WW2 and
  possibly earlier at least in terms of wage-rates
  (Williamson), and even during the Inter-war years
  (Milanovic, Restat)
• s divergence for the world recently, but also
  historically, since the Industrial revolution
• The world of increasing returns to scale PF is a
  world of high income and very high inequality
  (examples of Sylicon valley, soccer)

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Can we explain the bad performance of the poorest
countries?
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The openness premium turned from being pro-poor
to pro-rich

• Sachs and Warner (1985) find an openness premium
  of 2.5 pa (higher growth of open countries) for
  the period 1970-90
• A country closed if (i) tariff rategt40, (ii)
  non-tariff barriers cover 40 of all imports,
  (iii) socialist, (iv) state monopoly of major
  exports, (v) black market premium gt20.

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Dowrick-deLong results for the two periods
From Dowrick and deLong, Convergence and
Globalization, Table 3
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Why did it change?

• The openness premium declined from 2 extra
  growth to only 1.3
• May be due to other factors omitted in regression
• Are openness and highly skilled human capital
  complements? (We shall see a similar story with
  respect to globalization and inequality)

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• Openness premium still positive, in the post-1980
  world but,
• It now favors the rich (openness x initial GDP
  per capita) has a positive sign, rather than
  negative as in 1960-80 period
• (The results persists when more controls
  schooling, population growth, investment arte
  introduced)

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Looking for proximate causes the likelihood of
war is 3 times higher in LLDC
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Intensity of reforms gap in 1990-95
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Policy appropriateness as judged by the World Bank
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Net appropriateness index difference between
LLDC and middle income countries much less
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Democracy index (PolityIV) major improvement in
the 1990 and then deterioration
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Average tariff rate continued decline
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How much do LLDC trade (in terms of their GDI)?
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How much investment do they get (in terms of
their GDI)?
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First cutLLDC vs. middle income countries

• Much greater likelihood of war
• Very slow reforms in the 1990s but pick up later
• Policies not significantly less appropriate
• Decreasing average level of protection
• Increasing trade/GDI but still 20 below middle
  income countries
• DFI/GDI about the same and increasing
• Lower democracy and deterioration since around
  1995

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The effect on ROG pc pa (country fixed effects
in percent)
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So why did a typical LLDC fail to catch up?