Why Nations Fail

Drivers of democracy

Acemoglu and Robinson's theory on what drives democracy is rooted in their prior game theoretic work.^[2] This paper models mathematical reasons for oscillations between non-democracy and democracy based on the history of democratization of Western Europe and Latin America. The paper emphasizes the roles of the threat of revolution and social unrest in leading to democratization and of the desires of the elites to limit economic redistribution in causing switches to nondemocratic regime.

A number of assumptions underlie their game theoretic model, and allow for the authors' simplified model of society. First, Acemoglu and Robinson assume that society is simply divided between a small rich class and a large poor class. Second, they assume that regimes must be either democratic or nondemocratic; there is nothing in between. Third, people's preferences in society are defined only by monetary redistribution from the rich ruling class. The more monetary benefits they get, the more they prefer the ruling class. Fourth, people care not only about redistribution today but also redistribution in the future. Therefore, people would not only want more redistribution today but also they want to see a guarantee for more or stable redistribution in the future. Fifth, the economic output of a country fluctuates year by year, which means revolution is less costly for the ruling class during economic downturn. Finally and most importantly, each individual in the society tries to maximize their own utility.

In their model, a country starts as a nondemocratic society in which a small rich group controls most of the wealth and rules the poor majority. As the ruling class, the rich receive taxation from the economy's output and they decide on the taxation rate as the only means of extraction. The poor majority can either take what is offered to them by the rich after they tax the output (the economy's output after tax divided by the population size), or they can choose to revolutionize against the ruling class, which comes with a certain cost. In a revolution, the poor's ultimate payoff is the benefit of the revolution minus the cost of the revolution. Under that circumstance, the payoff of the rich ruling class is split between, when the poor revolutionizes, the punishment for the ruling class and when the poor acquiesces, the taxation income.

That is, the authors describe a two-stage sequential game (diagrammed below) in which the rich first decide on the taxation rate and the level of redistribution and then the poor decide whether revolution is the optimal choice. Because of the potential loss of economic benefits by revolution, knowing what the poor majority would prefer, the rich have an incentive to propose a taxation rate that doesn't provoke revolution, while at the same time not costing the rich too many benefits.

Thus, democratization refers to the situation where the rich willingly increase monetary redistribution and thus franchise to the poor in order to avoid revolution.

There are several variables that determine the decision-making of both sides:

E – Economy's output of a certain year

C – Cost of revolution

P – Punishment for the ruling class if revolutionaries take over

T – Tax rate imposed by the rich

B – Benefits of revolution

These variable affect the game as follows:

Based on the analysis above, it is not hard to conclude that the threat of revolution constantly incentivizes the rich to democratize. The theory also resonates with a paper by Clark, Golder and Golder in which the government decides between predate and not to predate citizens based on the payoff while the citizen has the option to exit (migrate to other countries), remain loyal and voice their concerns at a cost (protest).^[3] Similarly, this game also provides insights into how variables like exit payoff, cost of voicing and value of loyalty change state's behavior as to whether or not to predate.

How democracy affects economic performance

Given that the factors leading to democratic vs. dictatorial regimes, the second part of the story in Why Nations Fail explains why inclusive political institutions give rise to economic growth. This argument was previously and more formally presented in another paper by Acemoglu and Robinson, Institutions as the Fundamental Cause for Long-Run Growth.^[4] With this theory, Acemoglu and Robinson try to explain the different level of economic development of all countries with one single framework.

Political institutions (such as a constitution) determine the de jure (or written) distribution of political power, while the distribution of economic resources determines the de facto (or actual) distribution of political power. Both de jure and de facto political power distribution affect the economic institutions in how production is carried out, as well as how the political institutions will be shaped in the next period. Economic institutions also determine the distribution of resources for the next period. This framework is thus time dependent—institutions today determine economic growth tomorrow and institutions tomorrow.

For example, in the case of democratization of Europe, especially in England before the Glorious Revolution, political institutions were dominated by the monarch. However, profits from increasing international trade extended de facto political power beyond the monarch to commercially-engaged nobles and a new rising merchant class. Because these nobles and the merchant class contributed to a significant portion of the economic output as well as the tax income for the monarch, the interaction of the two political powers gave rise to political institutions that increasingly favored the merchant class, plus economic institutions that protected the interests of the merchant class. This cycle gradually empowered the merchant class until it was powerful enough to take down the monarchy system in England and guarantee efficient economic institutions.

In another paper with Simon Johnson at Massachusetts Institute of Technology called The Colonial Origins of Comparative Development: An Empirical Investigation,^[5] the authors use a natural experiment in history to show that different institutions result in different levels of economic growth. The paper examines institutional choices during the colonial period of several nations in relation to the same nations' economic development today. It found that in countries where the disease environment meant that it was hard for colonizers to survive (high mortality rate), they tended to set up extractive regimes, which resulted in poor economic growth today. In places where it was easier for colonizers to survive (low mortality rates), however, they tended to settle down and duplicate institutions from their country of origin—especially from Britain, as we have seen in the colonial success of Australia and United States. Thus, the mortality rate among colonial settlers several hundred years ago has determined the economic growth of today's post-colonial nations by setting institutions on very different paths.

The theory of interaction between political and economic institutions is further reinforced by Acemoglu, Johnson and Robinson in The Rise of Europe: Atlantic Trade, Institutional Change, and Economic Growth,^[6] which covers the economic rise of Europe after 1500. The paper finds that the Atlantic Trade (slavery, commodities and so on) after the year 1500 increased profits from trade and thus created a merchant class that was in a position to challenge monarchical power. By conducting regression analysis on the interaction variable between institution type and the Atlantic trade, the paper also demonstrates a significant interaction between the Atlantic Trade and the political institution: the presence of an absolutist monarch power hampers the effect of the Atlantic Trade on economic rise. It explains why Spain, despite the same access to the Atlantic Trade fell behind England in economic development.

Acemoglu and Robinson have explained that their theory is largely inspired by the work of Douglass North, an American economist, and Barry R. Weingast, an American political scientist. In North and Weingast's paper in 1989, Constitutions and Commitment: The Evolution of Institutions Governing Public Choice in Seventeenth-Century England,^[7] they conclude that historical winners shape institutions to protect their own interests. In the case of the Glorious Revolution, the winning merchant class established property rights laws and limited the power of the monarch, which essentially promoted economic growth. Later on, North, Wallis and Weingast call this law and order open access, in their 2009 paper Violence and the Rise of Open-Access Orders.^[8] With open access—inclusiveness, equality and diversity—societies are more able to flourish and prosper.

Arvind Subramanian

Indian economist Arvind Subramanian points out the potential problem of reverse causality in Acemoglu and Robinson's theory in his publication in The American Interest.^[9] Why Nations Fail takes political institutions as causes and economic performance as results for granted. However, according to Modernization theory, causation can also go the other way around—improvement of political institutions can also be a result of economic modernization. The book thus fails to explain why this alternative perspective doesn't work.

Subramanian also points out the limitation of book to explain the recent economic development in China and India. Under an authoritarian regime (theoretically extractive political institutions), China has achieved rapid economic development while democratic India (theoretically inclusive political institutions) has lagged much behind. According to Surbramanian, one can say that China and India are outliers or that it is still too early to decide (that is, China might collapse and India might catch up according to the book's prediction). However, it is still unsatisfying that the theory is unable to explain the situation of 1/3 of the world's population, and it is unlikely that China or India will change drastically in the near future, according to the prediction.

Acemoglu and Robinson counter^[10] that their theory distinguishes between political and economic institutions and that it is not political institutions that contribute to growth directly but economic institutions shaped by the political institutions. In the case of China, even though the political institutions on a higher level are far from inclusive, the incentive to reform Chinese economy does come from political institutions; in 1978 from Deng Xiaoping's Opening up policy at the end of the internal political feud during the Cultural Revolution. This exactly fits into the theory that the change in political institutions has shaped economic institutions and thus has influenced economic performance. This economic growth is further expected to shape the political institutions in China in the future. One can only say that China is an outlier to the theory when in the future China becomes as wealthy as U.S. or Germany but still remains an authoritarian regime.

Regarding the case of India, the authors deny an equivalence between inclusive political institutions and electoral democracy. Electoral democracy is the de jure system adopted by a country while political institutions refer to the de facto structure and quality of political system of a certain country. For example, India's political system has long been dominated by the Congress Party; the provision of public goods is preyed upon by political Patrimonialism; various members of Lok Sabha (the Indian legislature) face criminal charges; and caste-based inequality still exists. The quality of democracy is very poor and thus the political institutions are flawed in India, which explains why economic institutions are equally poor and economic growth is stymied.

David R. Henderson

David R. Henderson wrote a generally positive review in Regulation^[11] but criticized the authors for inconsistency when talking about a central government's role in promoting development. In some parts of the book, the authors attribute the failure of the states like Afghanistan, Haiti and Nepal to the lack of a strong central government that imposes rule and order. However, in other parts of the book, the authors seem to embrace weak government for growth, as in the example of Somalia after losing its central government. In addition, Henderson asserts the authors have made two errors in the book about the United States. First, the authors falsely accuse "monopolists" like Rockefeller of being the extractive power. But in fact Rockefeller didn't raise the price of oil but lowered the price to gain market share rather than to extract from the economy. Second, he says the authors are oblivious of the mainstream scholarship on American economic history between the American Civil War and civil movements in America. Rather than diverging from the rich North, the South was actually converging.^[11]

Francis Fukuyama

In his article in The American Interest, Francis Fukuyama criticized Acemoglu and Robinson's approach and argument for being very similar to a book by North, Wallis and Weingast in 2009, Violence and Social Order.^[12] Fukuyama argued that the conception of states being inclusive or extractive oversimplifies the problem. He also pointed out that the approach is too conceptual and fails to unpack the practical meaning of different institutions. The historical approach to prove the argument was also subjected to interpretation. Finally, Fukuyama specifically pointed out that the argument by Acemoglu and Robinson does not apply to the case of modern China, as China has extractive institutions but still flourishes economically.

In response to Fukuyama's comments, Acemoglu and Robinson replied on their blog.^[13] First, they agreed that their work is largely inspired by North, Wallis and Weingast's work but explained that they build on and complement each other's work. Second, with reference to the criticism of oversimplification, they countered by describing the oversimplification as an approach to decompose complex political institutions; that it is necessary to conceptualize and to avoid focusing too narrowly on a single aspect of institutions. Last, on China, they attribute the rapid economic growth in China to the some (but yet limited) level of inclusiveness, as was also seen in the example of the Soviet Union in the 1970s.

Jacques Rogozinski

Economist, public servant and Mexican writer; published an article on November 6th 2017 in several Mexican media (Milenio, El Financiero, El Informador) alleging there are multiple falsehoods published in the book, particularly in reference to the privatization process of the Mexican telecommunications company (Telmex) and Carlos Slim´s businesses in the United States. In his article Rogozinski provides access to specific evidence, historical substantiation and documentation consistent with his allegations. Rogozinski alleges the authors in efforts to portray Carlos Slim as having unsuccessful business tactics in the United States due to the justice system, the authors reference Slim losing a CompUSA franchise court case in a Dallas Texas. In actuality, Slim won this case both in the Texas Appeal Court and the Texas Supreme Court. This fact took place 6 years prior to the publication of the book was selectively ignored, although multiple newspaper articles in the United States published the story. Ever since 2013 he has contacted the authors and the editors with the intention of learning of the foundations on which they based their research, and to provide them with evidence to clarify the truth of the documented facts. Unlike Harvard University, MIT and the Mexican editorial (Grupo Planeta), only Random House “decided to change the text in future printings]" (December 2013).^[14]

Jared Diamond

In Jared Diamond's book review on The New York Review of Books,^[15] he points out the narrow focus of the book's theory only on institutions, ignoring other factors like geography. One major issue of the authors' argument is endogeneity: if good political institutions explain economic growth, then what explains good political institutions in the first place? That is why Diamond lands on his own theory of geographical causes for developmental differences. He looks at tropical (central Africa and America) vs. temperate areas (North and South Africa and America) and realizes that the differences of wealth of nations are caused by the weather conditions: for example, in tropical areas, diseases are more likely to develop and agricultural productivity is lower. Diamond's second criticism is that Acemoglu and Robinson seem to only focus on small events in history like the Glorious Revolution in Britain as the critical juncture for political inclusion, while ignoring the prosperity in Western Europe.

In response to Diamond's criticism,^[16] the authors reply that the arguments in the book do take geographical factors into account but that geography does not explain the different level of development. Acemoglu and Robinson simply take geography as an original factor a country is endowed with; how it affects a country's development still depends on institutions. They mention their theory of Reverse of Fortune: that once-poor countries (like the U.S., Australia, and Canada) have become rich despite poor natural endowments. They refute the theory of "resource curse"; what matters is the institutions that shape how a country uses its natural resources in historical processes.

Diamond rebutted^[16] Acemoglu and Robinson's response, reinforcing his claim of the book's errors. Diamond insists geographical factors dominate why countries are rich and poor today. For example, he mentions that the tropical diseases in Zambia keep male workers sick for a large portion of their lifetime, thus reducing their labor productivity significantly. He reinforces his point that geography determines local plantations and gave rise to ancient agrarian practices. Agricultural practice further shapes a sedentary lifestyle as well as social interaction, both of which shape social institutions that result in different economic performances across countries.

Diamond's review was excerpted by economist Tyler Cowen on Marginal Revolution.^[17]

Jeffrey Sachs

According to Jeffrey Sachs,^[18] an American economist, the major problem of Why Nations Fail is that it focuses too narrowly on domestic political institutions and ignores other factors, such as technological progress and geopolitics. For example, geography plays an important role in shaping institutions, and weak governments in West Africa may be seen as a consequence of the unnavigable rivers in the region. Sachs also questions Acemoglu and Robinson's assumption that authoritarian regimes cannot motivate economic growth. Several examples in Asia, including Singapore and South Korea, easily refute Acemoglu and Robinson's arguments that democratic political institutions are prerequisites for economic growth. Moreover, Acemoglu and Robinson overlook macroeconomic factors like technological progress (e.g. industrialization and information technology).

In response to Sachs' critique, Acemoglu and Robinson replied on their book blog with twelve specific points. First, on the role of geography, Acemoglu and Robinson agree that geography is crucial in shaping institutions but do not recognize a deterministic role of geography in economic performance. Second, on the positive role authoritarian governments can play in economic growth, especially in the case of China, the fast economic growth could be part of the catch-up effect. However, it does not mean that authoritarian governments are better than democratic governments in promoting economic growth. It is still way too early, according to Acemoglu and Robinson, to draw a definite conclusion solely based on the example of China. Last, on industrialization, they argue that industrialization is contingent upon institutions.

Based on Acemoglu and Robinson's response, Sachs wrote a rebuttal on his personal website.^[19] Rather than replying to the specifics of their reply, Sachs proposes the structural differences between two groups of scholars and comments on them. Sachs disagrees with the historical determinism that Acemoglu and Robinson propose, as Sachs believes that the actions taken by colonists two hundred years ago had no power in explaining economic performance today. Sachs insists on retaining complexity (geography, technological progress, etc.) in explaining differences in economic performance, rather than just simplifying to one factor (institutions). As Sachs describes, the evidence suggests that economic development is a multidimensional dynamic process, in which political, institutional, technological, cultural, and geographic factors all play a role. Such a view of history might not be "powerful" in the sense that Acemoglu and Robinson would like, but it has the virtue of being accurate and useful.

Mitt Romney

Though Republican Party presidential candidate Mitt Romney never explicitly mentioned the book during his campaign, his comment "culture makes all the difference"^[20] when commenting on what causes the different level of economic development between Israel and Palestine invoked a response from the two authors. In an article called "Uncultured" on Foreign Policy,^[21] the authors point out Romney's fallacy. First, Romney conflated culture and institution. What he called "good work ethic" could be seen as culture on the surface but is essentially shaped by institutions with incentive structures. Furthering the arguments in the book, Acemoglu and Robinson refer to the Jewish education system and historical contingencies, none of which is cultural. Why Palestine is less developed is simply because inclusive economic institutions were not able to develop there, due to the colonial occupation and regional political machination. Lastly, the authors mention South and North Korea as an example against "culture" as determinant for economic development, as South and North Korea both came from the same homogeneous culture before splitting up and adopting different institutions.

Paul Collier

Development economist Paul Collier from the University of Oxford reviewed the book for The Guardian.^[22] Collier's review summarizes two essential elements for growth from the book: first, a centralized state and second, inclusive political and economic institutions. Based on the case of China, a centralized state can draw a country out from poverty but without inclusive institutions, such growth isn't sustainable, as argued by Acemoglu and Robinson. Such process is not natural, but only happens when the elites are willing to cede power to the majority under certain circumstances.

Peter Forbes

Peter Forbes reviewed the book for The Independent: "This book, by two U.S. economists, comes garlanded with praise by its obvious forebears – Jared Diamond, Ian Morris, Niall Ferguson, Charles C. Mann – and succeeds in making great sense of the history of the modern era, from the voyages of discovery to the present day."^[23] Besides singing high praises for the book, Forbes links the message of the book and contemporary politics in developed countries like the United States and the United Kingdom. Though the two countries are by far some of the most inclusive economies in the world, various parts of them are, by nature, extractive—for instance, the existence of a shadow banking system, of conglomerate manufacturers, and so on. He warns against extractive practices under the guise of an inclusive economy.

Robert J. Barro

Although Robert Barro, an American economist from Harvard University, did not directly respond to the arguments posed by the book, his research on the relationship between democracy and growth disagrees with the argument that inclusive institutions give rise to economic growth. According to Barro's 1996 paper Democracy and Growth,^[24] the econometric analysis reveals a weak relationship between democracy and growth in a study of 100 countries from 1960 to 1990. After fixing factors like rule of law and free market, democracy has a statistically insignificant influence on economic growth. At the same time, raising the standard of living—including health service, education—will substantially raise the probability of political freedom. Barro is essentially arguing the reverse of Acemoglu and Robinson: that economic growth gives rise to better political institutions, especially when a country is poor.

Warren Bass

Warren Bass reviewed the book for the Washington Post, writing: "It's bracing, garrulous, wildly ambitious and ultimately hopeful. It may, in fact, be a bit of a masterpiece."^[25] Despite his applause, Bass also points out several imperfections of the book. First of all, the definition of extractive and inclusive institution is vague in a way that cannot be utilized in policymaking. Second, though Acemoglu and Robinson are ambitious in covering cases of all nations across history, this attempt is subjected to scrutiny of regional experts and historians. For example, their accusation of Ottoman Empire as "highly absolutist" might not be correct, given the level of tolerance and diversity inside the Empire as compared to its European counterparts.

William Easterly

In a mixed review of the book in the Wall Street Journal, William Easterly was generally supportive of the plausibility of the book's thesis but critiqued the book's failure to cite extant statistics-based evidence to support the validity of the historical case studies.^[26] For example, in the book's example about Congo, the stated reason Congo is impoverished is that Congo is close to slave trade shipping points. The approach of this historical case study only offers one data point. Moreover, Easterly also points out the danger of ex-post rationalization that the book only attributes different levels of development to institutions in a way a bit too neat. For example, to explain the fall of Venice, it could be the extractive regime during the time or it could also be the shift from Mediterranean trade to Atlantic trade. The historical case studies approach might be biased.