Why some countries are rich while others are poor is a question that has been debated by economists for a long time now. Representational file image.
| Photo Credit: AP

The story so far: The 2024 Economics Nobel prize was awarded to U.S. economists Daron Acemoglu, Simon Johnson and James A. Robinson on Monday “for studies of how institutions are formed and affect prosperity.” The prize committee credited the winners for enhancing our understanding of the root causes of why countries fail or succeed.

Also read | Economics Nobel Winners 2024 and their studies on ‘how institutions are formed and affect prosperity’

What is the significance of the work of this year’s economics Nobel prize winners?

Why some countries are rich while others are poor is a question that has been debated by economists for a long time now. According to the Nobel committee, the richest 20% of countries in the world today are 30 times richer in terms of average income than the poorest 20%. Ever since the Industrial revolution led to the “Great Divergence” in living standards between the East and the West, various theories have been proposed to explain the huge difference in living standards in rich versus poor countries.

Some have blamed Western colonialism as the primary reason for the Western world’s prosperity even today. Other scholars have argued that disparities in natural resource endowment explains differences in economic prosperity across countries. Some others have argued that intelligence and even historical accidents could explain a nation’s fate.

The 2024 Nobel laureates, however, have argued that differences in the quality of economic and political institutions is what best explains the divergence in the economic fates of countries. This thesis is most famously elaborated in the 2012 book Why Nations Fail: The Origins of Power, Prosperity, and Poverty written by Daron Acemoglu and James A. Robinson, and also in the 2004 paper Institutions as a Fundamental Cause of Long-Run Growth, written together by all three of this year’s Nobel laureates.

Explore this year’s Nobel winners, and their achievements with this interactive guide

Why is the quality of institutions so important?

According to Douglass North, a Nobel laureate and a pioneer of New Institutional Economics, institutions are the “rules of the game” that define the incentives that human individuals face when dealing with each other. For example, institutions that stop the State from seizing the property of honest citizens would give ordinary citizens the incentive to work hard without the fear of expropriation and that in turn would lead to general economic prosperity. Institutions that legalize expropriation, on the other hand, would affect individual incentives negatively and cause economic stagnation.

Now, Acemoglu and Johnson argued in their book that institutions can either be “inclusive” or “extractive”. Inclusive institutions are characterized by secure private property rights and democracy while extractive institutions are marked by insecure private property rights and the lack of political freedom. They tried to empirically demonstrate that inclusive institutions lead to long-run economic growth and higher living standards while extractive institutions lead to economic degradation and poverty.

To this end, they studied the kinds of institutions that colonists set up in different colonies and the impact that this had on the long-term economic fate of these colonies. When a colonial power did not want to settle in a certain country for various reasons (such as higher mortality rates due to geography), it set up institutions that were extractive in nature and inimical to long-term economic growth. This may have been the case in India where the British set up institutions that were mostly devised to plunder the maximum resources within a short span of time rather than to promote long-term economic growth. But in countries where colonists wanted to settle for the long-run, they set up inclusive institutions that encouraged investment and long-term economic growth over short-term plunder. This may have been the case in the United States where the British set up inclusive institutions that promoted long-term economic prosperity.

It should be noted that institutions can also include factors like culture, which influence the more explicit “rules of the game” expressed by political and economic institutions.

If inclusive institutions are so good for growth, why don’t we have more of them?

The Nobel laureates have also shed light on why inclusive institutions, which are found to be extremely important for long-term economic growth, have not been adopted by more countries in the world. They attribute this to the different choices that rulers face in their respective countries. When the rulers of a country are able to safely extract sufficient resources for their personal gains through extractive institutions, the laureates argue, they have little reason to bring in political and economic reforms (or inclusive institutions) that can benefit the wider population over the long run. In such cases, extractive institutions may prevail for a really long time as long as the masses do not revolt against the status quo. But if there is a real threat of a popular uprising against extractive institutions, at least some rulers may decide to yield to popular demand and reluctantly set up more inclusive institutions which aid economic growth.

What’s special about the Nobel prize given to Acemoglu, Johnson, and Robinson?

The economics Nobel prize is usually awarded for ground-breaking academic research into topics that are of significant real-world importance. In the last two years, for instance, the Nobel prize was awarded to scholars who worked on important questions such as the gender pay gap and the fragility of the banking system. While these topics are no doubt important for economists to think about, they still do not delve deep enough into the more fundamental questions that economics as a discipline was founded to answer. This year’s Nobel prize corrects this flaw by bringing the world’s focus back onto the crucial topic of institutions, which determine the very “rules of the game” in any economy and thus affect literally everything that happens in it.

Economics Nobel winners Daron Acemoglu, Simon Johnson and James A Robinson being announced at the Royal Swedish Academy of Sciences in Stockholm, Sweden, on October 14, 2024.
| Photo Credit: Reuters

The Royal Swedish Academy of Sciences on Monday (October 14, 2024) awarded the Nobel Prize in Economics to Daron Acemoglu, Simon Johnson and James A. Robinson for “studies of how institutions are formed and affect prosperity”. The trio demonstrated how societies with a poor rule of law and institutions that capitalise on its population with an exploitative intent neither generate growth nor change for the better. In fact, a similar theme was explored by Mr. Acemoglu and Mr. Robinson in an earlier book Why Nations Fail: The Origins of Power, Prosperity and Poverty (2012).

Explore this year’s Nobel winners, and their achievements with this interactive guide

The co-authors tracing political and economic divergence

Why Nations Fail was the second of the three books authored by Mr. Robinson and Mr. Acemoglu together. Each of them traced the prevailing political scenarios of a region to their economic histories. Their first, Economic Origins of Dictatorship and Democracy (2005) proposed “a theory of the emergence and stability of democracy and dictatorship”. The third book, titled The Narrow Corridor: States, Society and the Fate of Liberty, examines “the incessant and inevitable struggle between states and society. Its purpose was to throw light on the deep historical process that have helped shape the modern world.

One of the fundamental principles of the duo’s research has been demonstrating the exploitative role of “extractive economic institutions” — that do not create incentives needed for people to save, invest and innovate. “Extractive political instructions support these economic institutions by cementing the power of those who benefit from the extraction,” an excerpt from Why Nations Fail reads, elaborating, “Extractive economic and political institutions, though their details, vary under different circumstances, are always at the root of this failure.” 

Robinson’s interest in sub-Saharan Africa and Latin America

The MIT professor holds a particular interest in issues relating to sub-Saharan Africa and Latin America. During his career, Mr. Robinson has conducted fieldwork and collected data in Bolivia, Colombia, Haiti, the Democratic Republic of Congo, Nigeria, Sierra Leone, South Africa and Zimbabwe. In fact, the Nobel laurate is a Fellow at the Institute of African Studies at the University of Nigeria at Nsukka. Furthermore, he taught a summer school at the University of the Andes in Bogota between 1994 and 2002.

To lend perspective into his reading: a 2008 paper titled ‘Governance and Political Economy Constraints to World Bank’s Country Assistance Strategy Priorities in Sierra Leone’ – having described the developing political scenario in the West African nation, held, “Though political institutions are not the whole story, they do heavily influence political incentives and the history of Sierra Leone makes clear that they have first order-effects”. He stated that whilst the financial institution correctly fostered decentralisation (back then), the reform process had to be “deepened” and “complemented by the reduction of executive autonomy, the strengthening of Parliament and the introduction of greater democracy into the institution of chieftaincy”.

Presently, Mr. Robinson is the Reverend Dr. Richard L. Pearson Professor of Global Conflict Studies and a University Professor at the Harris School of Public Policy and Department of Political Science at the University of Chicago. The scholar becomes the 101st recipient associated with the University to have won the Nobel.

He completed his Ph.D. from Yale University in 1993, after having attended University of Warwick (1985-86) and the London School of Economics and Political Science (1979-82).

Daron Acemoglu: The tryst with the political and economics

The Institute Professor of Economics of Turkish-descent at MIT’s research extends to cover a wide array within economics. They include political economy, economic development and growth, human capital theory and network economics, among others.

An IMF publication (March 2010) had described how potentially a night in jail underscored (to him) the importance of regulation in the market system. Then a teenager and an unlicensed driver, Mr. Acemoglu had been careening around a deserted highway in Istanbul (Turkiye) – typically used for practice by such drivers. However, it was on a day that Police intervened leading to him and other being arrested and bundled into cells downtown “pending a stern dressing down the next morning”. “A few hours’ perusal of his cell’s cement decor, and the administrative chastisement that followed, left a lasting recognition of the importance of importance of impartially adjudicated rules, even in overtly free markets,” the profile read.

Mr. Acemoglu completed his bachelor’s degree in 1989 from the University of York (England). Thereafter, he attended the London School of Economics for his Masters’ and Ph.D. He joined the MIT in 1993 and has been at the institute ever since.

Other than the mentioned areas of research, Mr. Acemoglu has also made notable contributions in research relating to labour economics — examining the relationship between skill and wages, and the effects of automation on employment and growth.

Though presently revered for his political economics’ research, the MIT professor, notwithstanding the positive overall feedback, was warned against pursuing the same when he was up for tenure. Thus, he hid the work for the next two years until he got his tenure. However, as noted in the IMF profile, “By the time Acemoglu secured a tenured position at MIT in 1998, his political economy approach had become almost mainstream.”

Simon Johnson: The academic with policy experience

Mr. Johnson is the Ronald A. Kurtz Professor of Entrepreneurship at the MIT Sloan School of Management. The academic’s 20-year long career in policy making has primarily focussed on crisis prevention and mitigation (in financial markets and economy), alongside issues relating to economic growth. In other words, how policymakers can limit the impact of shocks and manage the risks faced by their countries. The MIT professor borrows his expertise from previous engagements as the Chief Economist of the IMF (March 2007 to August 2008) and as a member of the U.S. Securities and Exchange Commission’s Advisory Committee on Market Information (2000-01). In fact, his observations relating to the need for continued strong market regulation were published as part of the final report from the committee.

Other than regulatory policies, Mr Johnson has also delved focus on developmental economics, including fiscal policy and the ways technology can either enhance or restrict broad prosperity.

He completed his Ph.D. at the MIT itself. This was after having attended the University of Manchester for his Masters and the University of Oxford for Bachelor’s.