Book Reviews

Failure Is an Option

Two scholars scan history to find that nations fall because once-open institutions become closed and corrupt. If this sounds ominous, it should.

By James Kwak

Tagged Governance

Why Nations Fail: The Origins of Power, Prosperity, and Poverty By Daron Acemoglu and James Robinson • Crown Business • 2012 • 546 pages • $30

In 1776, Adam Smith published An Inquiry into the Nature and Causes of the Wealth of Nations. It was the heyday of the Enlightenment, when many European intellectuals believed they had unlocked the secrets to progress. According to the popular interpretation of Smith, human nature leads to prosperity. Pursuing our self-interest generates trade, cooperation, specialization, and productivity growth, so long as we are not impeded by irrational government policies such as trade barriers or state-sanctioned monopolies. Because free markets allocate resources efficiently, the government’s most important job is to ensure a minimal set of rights and otherwise stay out of the way—a central principle of the liberal Enlightenment political philosophy that helped inspire American democracy.

More than 200 years later, however, it is clear that human societies do not progress inevitably toward greater wealth. Creating the conditions in which self-interest will foster economic development is harder than optimistic Enlightenment thinkers believed. Economic growth is not predestined: Many countries have seen long-term declines in standards of living, as did Argentina in the twentieth century. Others, such as large parts of Africa, seem mired in strife and poverty. With even the United States and Western Europe facing economic stagnation, burdensome debt levels, unfavorable demographics, and rising global competition, it seems that sustained stability and prosperity may be the historical exception rather than the rule.

Why some societies stagnate while others thrive is the question addressed by economist Daron Acemoglu and political scientist James Robinson in Why Nations Fail: The Origins of Power, Prosperity, and Poverty. Nogales, Arizona, is far richer than Nogales, Mexico, even though the two have similar demographics, cultures, and climates. South Korea and North Korea, indistinguishable only 70 years ago, now seem separated by centuries of economic development. In the Democratic Republic of the Congo, the Bushong on one side of the Kasai River are better off than the Lele on the other.

These differences, Acemoglu and Robinson argue, can all be explained by institutions. Long-lasting institutions, not short-term government policies, are the key determinant of societal outcomes. Development is not as simple as adopting a smarter set of economic policies: Instead, “the main obstacle to the adoption of policies that would reduce market failures and encourage economic growth is not the ignorance of politicians but the incentives and constraints they face from the political and economic institutions in their societies.”

In Why Nations Fail, Acemoglu and Robinson outline a theory of how economic and political institutions shape the fate of human societies. They reinterpret the rise and fall of civilizations throughout history, showing how differences in institutions interact with changing circumstances to produce development or stagnation. But this is not simply a book about history. It also has implications for the contemporary United States, where increasing inequality and the growing influence of money in politics threaten to reshape our political institutions.

Countries differ in their economic success because of their different institutions, the rules influencing how the economy works, and the incentives that motivate people,” write Acemoglu and Robinson. Extractive institutions, whether feudalism in medieval Europe or the use of schoolchildren to harvest cotton in contemporary Uzbekistan, transfer wealth from the masses to elites. In contrast, inclusive institutions—based on property rights, the rule of law, equal provision of public services, and free economic choices—create incentives for citizens to gain skills, make capital investments, and pursue technological innovation, all of which increase productivity and generate wealth. Economic institutions are themselves the products of political processes, which depend on political institutions. These can also be extractive, if they enable an elite to maintain its dominance over society, or inclusive, if many groups have access to the political process. Poverty is not an accident: “[P]oor countries are poor because those who have power make choices that create poverty.” Therefore, Acemoglu and Robinson argue, it is ultimately politics that matters.

The logic of extractive and inclusive institutions explains why growth is not foreordained. Where a cohesive elite can use its political dominance to get rich at the expense of ordinary people, it has no need for markets and free enterprise, which can create political competitors. In addition, because control of the state can be highly lucrative, infighting among contenders for power produces instability and violence. This vicious circle keeps societies poor. In more fortunate countries, pluralistic political institutions prevent any one group from monopolizing resources for itself, while free markets empower a large class of people with an interest in defending the current system against absolutism. This virtuous circle, which first took form in seventeenth-century England, is the secret to economic growth.

Why Nations Fail makes this argument through dozens of case studies ranging from the Neolithic Revolution to contemporary China and passing by many corners of Latin America, Africa, and Southeast Asia. Although its core ideas were developed in a series of important academic papers examining the institutional conditions that give rise to economic development, the writing is accessible and free of jargon. The numerous examples and repetition of some central ideas can obscure the book’s overall organization, but most chapters conclude with a short summary that helps the reader maintain her bearings. The attempt to explain every type of societal evolution in terms of extractive and inclusive institutions can make the argument seem reductive. But that is the point: Any important theory of how societies develop must explain a wide range of historical phenomena with a few key concepts.

Acemoglu and Robinson differentiate their account from alternatives that they label the “culture,” “geography,” and “ignorance” hypotheses. An example of the first is Max Weber’s famous argument that Calvinism lay at the roots of capitalist development; the best-known recent example of the second is Jared Diamond’s explanation of the Spanish Conquest as the inevitable outcome of geographic differences between Eurasia and the Americas. Most economists, Acemoglu and Robinson assert, subscribe to the ignorance hypothesis, according to which “poor countries are poor because they have a lot of market failures and because economists and policymakers do not know how to get rid of them.” According to this view, development can be engineered through technocratic policies administered by enlightened experts.

In Acemoglu and Robinson’s telling, this focus on policy obscures the fundamental importance of politics. Their perspective is informed by New Institutional Economics, an approach developed in the last quarter of the twentieth century, and associated with prominent economists such as Douglass North and Oliver Williamson, that focuses on how economic forces are mediated by institutions such as political systems and legal codes. In Why Nations Fail, states are often controlled by elites whose top priority is maintaining their own power, which means rigging both political and economic institutions in their favor. But sustainable long-term growth based on technological innovation requires the active support of the state, and hence the ruling elite must be willing to extend property rights and economic opportunity to large segments of society. A state based on extractive institutions, whether the Kuba Kingdom of seventeenth-century Central Africa or more recently the Soviet Union, can generate growth, especially when starting from low levels of development. But in most of these cases, the ruling elite is unwilling to allow inclusive economic institutions because they would threaten its political supremacy; the inevitable result is economic stagnation. Acemoglu and Robinson controversially argue that this fate awaits contemporary China as well, unless it adopts inclusive political institutions: “Because of the party’s control over economic institutions, the extent of creative destruction is heavily curtailed, and will remain so until there is radical reform in political institutions.”

This leaves open the question of why some societies end up with inclusive rather than extractive institutions—why some are rich and some are poor. The answer, according to Acemoglu and Robinson, is that institutions evolve—and that history is messy. Institutions change in subtle ways over time, allowing societies to drift apart. When major shocks occur, small differences in institutions can send societies down vastly different historical paths. Early modern England, France, and Spain were all feudal societies with power-hungry monarchs. But the English Parliament had slightly more power than its continental relatives; as a result, the crown was unable to monopolize trade with the Americas, which made many merchants rich instead; in turn, this new commercial class became an important part of the coalition that overthrew James II in 1688, successfully fighting off absolutism. In Spain, by contrast, the monarchy controlled overseas trade, quashed internal challenges to its authority, and maintained extractive economic institutions—and the country went into long-term decline. Crucially, Acemoglu and Robinson remind us that these outcomes were not preordained. James II might have suppressed the Glorious Revolution, or the Spanish Armada might have succeeded a century earlier. History is like that.

In this light, the material prosperity of the modern world, unevenly distributed though it is, is a fortunate historical accident. Once the Industrial Revolution took root, it created and enriched a class of merchants and industrialists that became the principal advocate for and guarantor of political pluralism, secure property rights, and the rule of law—the conditions that class needed to make money. At the same time, these inclusive political institutions made it harder for an elite to capture the state and impose extractive economic institutions.

But inclusive institutions can also break down. In the late thirteenth and early fourteenth centuries, a small group of families transformed Venice’s semi-democratic institutions into a hereditary aristocracy and then monopolized long-distance trade, spelling the end of the city-state’s economic expansion. Inclusive political and economic institutions may be mutually reinforcing, but they are not indestructible.

Adam Smith sought to explain the wealth of nations; Acemoglu and Robinson, by contrast, examine why nations fail. Societies, in their telling, are like Tolstoy’s families: The success stories are similar—pluralist democracies with regulated capitalist economies—but failure comes in different forms. There are many ways in which elites can impose extractive institutions that cripple economic development. This is a critical lesson, even today in the country that has long been considered a paragon of dynamic capitalism and political democracy.

The United States is one of the happy families of Why Nations Fail. Although our institutions have often been deeply flawed, Acemoglu and Robinson show how crucial moments in history, from Jamestown to the Progressive Era to the civil-rights movement, have led to the expansion of political democracy and economic opportunity. Rather than as a series of inevitable triumphs, however, this history can also be seen as a warning—that our institutions are fragile, always at risk of being subverted by elites seeking to exploit political power for their narrow economic ends. That risk has reappeared today.

Distrust of economic elites has a long history in the United States. Thomas Jefferson accused Alexander Hamilton of plotting to establish a financial aristocracy; in the 1830s, fear of financial elites motivated Andrew Jackson’s successful campaign to eliminate the Second Bank of the United States. The specter of the robber barons—wealthy industrialists who built sprawling monopolies and amassed pliant supporters in Congress—motivated the Populist and Progressive movements, which eventually led to the breakup of the hated “trusts.” Half a century later, Dwight Eisenhower warned against the growing power of the military-industrial complex—which still wields enormous influence in Washington today.

The financial crisis and its aftermath recently revealed how tilted our economic and political playing fields can be. During the past three decades, large financial institutions rewrote their regulations, exploited the new rules to generate enormous profits, and poured a share of those profits back into politics. When several of these institutions collapsed after an orgy of creating, repackaging, and reselling mortgages, the federal government rushed to shore them up; many homeowners who took out those mortgages lost their houses to the same banks, leaving the impression that Washington is in Wall Street’s pocket.

The power of the financial sector is only one example of the broader threat to our inclusive political institutions: namely, the ability of the economic elite to translate their enormous fortunes directly into political power. In the wake of the Supreme Court’s 2010 decision in Citizens United, super PACs can mobilize unlimited amounts of money—and can accept contributions from 501(c)4 organizations, which do not have to identify their donors. Americans for Prosperity, backed by the Koch brothers, and American Crossroads, Karl Rove’s political vehicle, both plan to raise and spend more than $200 million in the current election cycle. Mitt Romney’s super PAC laid waste to the rest of the Republican presidential field; Barack Obama countered by encouraging supporters to contribute to his super PAC, despite his earlier criticisms of big money in politics.

This may seem like a level playing field. But money is not distributed evenly. American Crossroads, for example, has consistently raised more than 90 percent of its funds from billionaires (with a “b”). The recent, breathtaking rise in inequality has put unprecedented resources at the disposal of the super-rich. With the ability to secretly invest unlimited sums in political activities, they now have the opportunity to swamp all other participants in American politics.

Rising inequality and deregulation of political spending have made possible a new kind of class warfare. The 1 percent can blanket the airwaves, install their chosen representatives, and sway public policy in their favor. That political power can be used to extract resources from the population at large. In the sixteenth century, Spanish colonists used forced labor arrangements to marshal Native Americans to mine the famous silver mountain of Potosí. Since the 2010 elections, Republican-controlled state legislatures have been pushing “right-to-work” and other bills that weaken unions and limit collective bargaining rights. Though far less barbaric, the basic idea is the same: fewer rights for workers, making it easier for companies to obtain labor on favorable terms.

The most direct way to translate political power into cold, hard cash is to advocate for lower taxes. Republican presidential candidates spent the past year competing to offer the most bountiful tax cuts to the super-rich. While they talk about closing unspecified “tax loopholes,” they want to eliminate taxes on investment income altogether, creating the biggest loophole of all. Showering goodies on the rich would require draconian cuts to Social Security and Medicare—programs that are popular among the Tea Party rank and file. Republicans’ current anti-tax orthodoxy reflects the interests of their wealthy funders rather than their middle-income base.

As Warren Buffett observed, “there’s been class warfare going on for the last twenty years, and my class has won.” This should be little surprise: “My side has had the nuclear bomb. We’ve got K Street, we’ve got lobbyists, we’ve got money on our side.” What can be done? Acemoglu and Robinson argue that a free media can protect inclusive institutions against elite capture. But the helping hand that Fox News lent to the growth of the Tea Party has shown that media institutions owned by billionaires and led by political entrepreneurs can instead become an instrument of political warfare. Constitutional checks and balances may have torpedoed Franklin Roosevelt’s attempt to pack the Supreme Court in the 1930s, but Supreme Court justices appointed by Republican presidents were instrumental in unleashing unlimited corporate political spending in Citizens United, accelerating the concentration of political power in the hands of the super-rich.

But it is too early to declare victory for the 1 percent. American billionaires are far from unified, and President Obama has plenty of friends among the wealthy. The most potent bulwark of inclusive institutions is probably the rich variety of influential interest groups that all have the ability to participate in politics. Still, the accumulation of huge fortunes and their deployment for political ends has changed the nature of our political institutions. Funding by the economic elite is a major reason why Republicans advocate transfers from ordinary people to the rich in the form of tax cuts and reductions in government services—and why Democrats have been dragged to the right along with the GOP. In addition, as Why Nations Fail teaches us, political institutions shape economic institutions. Disinvestment in public education means less social mobility and economic opportunity—key elements of inclusive institutions. A country dominated by a hereditary aristocracy, whose wealth comes from investments in multinational companies with easy access to cheap labor here and abroad, is not likely to foster the technological innovation and creative destruction that produce long-term economic growth.

Are we likely to go the way of Venice? According to Acemoglu and Robinson, the greatest strength of inclusive institutions is that many groups in society have a stake in defending those institutions; as with the robber barons over a century ago, a threat posed by a powerful elite should evoke popular political resistance. Acemoglu recently said, “We need noisy grassroots movements to deliver a shock to the political system,” citing both the Tea Party and Occupy Wall Street as potentially helpful developments. As he recognized, however, the one with more staying power—the Tea Party—has been co-opted by well-funded, elite-dominated groups (including Americans for Prosperity). If a popular movement can be bankrolled as easily as an attack ad, it is hard to see what money can’t buy in politics. The next test for America will be whether our political system can fend off the power of money and remain something resembling a real democracy—or whether it will become a playground where a privileged elite works out its internal squabbles.

Read more about Governance

James Kwak is an associate professor at the University of Connecticut School of Law and a fellow at the Harvard Law School Program on Corporate Governance. He is the co-author, with Simon Johnson, of White House Burning: The Founding Fathers, Our National Debt, and Why It Matters to You.

Also by this author

Finance: Before the Next Meltdown

Click to

View Comments

blog comments powered by Disqus