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Fostering Economic Growth: How Institutions Are the Catalyst of Change for the Bottom Billion

Until roughly three hundred years ago, if you endeavored to uncover all of the literature on economic growth and its implications for the global economy, your pursuit would leave you empty handed. There was no growth before then. There wasn’t even a “global economy.” Suddenly and tenaciously, the free enterprise system utilized human innovation to create wealth which drove the per capita income of the world skyward. Our distant forefathers lived in a society where the rich were few and far between. Oh, how the times have changed…

We live in a society where the absolute poor represent a minority of the world population. Nonetheless, scarcity and inefficiency are still a formidable force. In 2007, Oxford University professor Paul Collier published a book entitled The Bottom Billion that would reshape how economists viewed poverty. Though planet earth has come a long way, many countries have been left behind. And they are struggling. Really struggling.

Recently, I had the pleasure of participating in the American Enterprise Institute’s Values & Capitalism Summer Honors Program. I sat alongside twenty-six sharp-minded students under the direction and teaching of Dr. Stephen Smith (Hope College). We sought to undertake the big, difficult questions about international development and growth. As the week progressed and the discussions grew evermore critical, I began to see economics in a wholly different way. Intangible concepts started to have concrete repercussions.

An anonymous economist once remarked, “Making policy decisions while being economically illiterate is the intellectual equivalent to drunk driving.” It would be difficult to argue against the credibility of this statement. Thus, we are posed with a crucial reality: international policy has colossal consequences.

After a brief but hefty perusal of the literature, a theme began to emerge: a country cannot reach its potential without proper institutions. Dr. Art Carden of Samford University defines institutions as the “rules” in a society. They are the laws, both informal and formal, and the enforcement thereof. Institutions also include social norms. Without appropriate institutions, developing countries will never see the light of day.

What is shocking, however, is how many policy choices ignore this truth. Many scholars have argued that the silver bullet for development in Sub-Saharan Africa or Southeast Asia is foreign aid. In response, Dambisa Moyo, a Zambian-born international economist, released her book entitled Dead Aid which dismantled the validity of nearly all official development assistance (ODA). She exposes aid to be void of any true benefits and even quite detrimental in multiple cases. This has shifted the political thought processes regarding ODA.

There was a simple sentence in her piece that perked my attention. Reflecting on the failures she illuminated in the preceding section, Moyo writes, “What is perhaps most amazing is that there is no other sector, whether it be business or politics, where such proven failures are allowed to persist in the face of such stark and unassailable evidence.” Aid cannot and will not affect change without suitable institutions and we have no reason to believe ODA has played any significant role in establishing them. Somehow our political leaders persist down a road that is doomed. This should be infuriating to the common citizen, but far too many of us are uninformed and unaware. The ignorance of the populace is the lifeline that allows a disastrous international agenda to survive.

Furthermore, some claim that non-western civilizations lack democratic regimes and cannot succeed without them. Though there may be some insight worth gathering from this argument, it misses the mark. Many developing countries have experienced destructive democracies. It cannot be deemed the “fix-all” to any desperate economic situation.

Capitalism is a remarkable invention. But it is not self-sustaining. Numerous developing countries have pursued capitalist policies with negligent effects. Some say that capitalism requires sufficient capital to flourish and these countries do not have proper access to it. I would argue that this is a false assumption. Peruvian economist Hernando de Soto contributed to the discussion by publishing The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else. His research shows that, “If the United States were to hike its foreign-aid budget to the level recommended by the United Nations—0.7 percent of national income—it would take the richest country on earth more than 150 years to transfer to the world’s poor resources equal to those they already possess.” The capital, though small compared to developed countries, is there. Why, then, does it not work?

The answer to this question concludes my exposition: Institutions. Institutions. Institutions. De Soto goes on to say that “because the rights to these assets are not adequately documented, these assets cannot be readily turned into capital.” Why won’t capitalism work? There are no property rights. This is a fundamental institution of a flourishing society.

This is but one example among a myriad of compelling literature pieces and research projects. The institution of honest government (or lack thereof) manifests itself throughout the struggling African continent. Broken or nonexistent judicial systems create insurmountable problems for the global poor (talk to Gary Haugen of the International Justice Mission if you disagree). Civil unrest squashes any hope of a stable economy. The list goes on and on.

From fear of sounding naïve, I do understand that collectively, economists understand the importance of institutions. This is not a groundbreaking discovery. I will, however, suggest that the general public is kept in the dark. Without a demand from the people to hold our politicians accountable to these truths, instrumental change will be washed over in the wake of overbearing special interest groups. Too many of our politicians are engaging in the “intellectual equivalent of drunk driving.” But before we make haste to cast blame, we must remember that as a whole, we too are broadly economically illiterate. As a final call to any and every reader who values the alleviation of poverty, hear this: Sober up. Your voice has the power to change lives. Use it wisely.