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Development gaps and institutional structure
After the World War II, Korea split into two. In 1948 when the split actually took place upon the elections carried out in the South, level of per capita income was almost the same in the South and in the North. In the process, the two countries established quite different economic and political institutions. Currently South Korea is almost twenty times richer than the North Korea. The two countries clearly share the same culture and the geography. In that case, this source of this significant development gap should be searched in institutional differences.
In his book Modern Economic Growth (2009, Princeton University) Daron Acemoğlu states that the Korea example is not sufficient to verify that the main reason for development gaps between countries is institutional differences. After all, Korea example is only an observation; we need further observations.
Starting from the fifteenth century, Europeans invade all over the world and establish colonies. They modify the existing institutions there. But the institutions they introduce are quite different than each other. For instance, while a democratic institutional structure which prioritizes the property rights of small shareholders was established in the North America; an oppressive slavery regime was set in the Caribbean.
Apart from the luck factor, which I addressed last week and found to be insignificant, there are three factors that can explain the development gap between countries: geography, culture, and institutions. In that case, the colonization 'experiment' allows us to examine whether there is a link between development gaps between countries and institutions. First, income gap among countries become more evident beginning with the fifteenth century. Second, since the geography of colonies did not change, it becomes easier to link development differences with institutional differences. The core ideas in what Acemoğlu et al showed in a series of research are:
The level of wealth in colonized countries turns into the opposite of the conditions before colonization. For instance, in 1500s India was a highly rich country under the body of Babur Empire just like Aztec and Inca empires who ruled over America back then. But the countries currently located on the mentioned territories are among the poorest whereas North America, New Zealand, and Australia, where poorly developed civilizations were located back then, are currently among the richest countries of the world.
This is a major transformation of wealth. In the first group wealth heads to bottom while in the second group it elevates gradually. This transformation is not limited to regions or countries. Acemoğlu et al, using some certain criteria, compare the level of per capita income in 1500s and 1995 in colonized countries. There exists an inverse relationship: as wealthy as a colonized country in early 1500s, as poor as it currently is; and vice versa. What is more, this situation does not apply to countries not colonized by Europeans and European countries themselves.
In that case, for colonized countries we have to consider that this significant transformation of wealth is related with colonization. Colonization modifies the institutional structure of the relevant countries: in countries, which were rich already before getting colonized and thus where urbanization was prominent, there existed an already established institutional structure. In order to conquer and exploit such countries easily, colonizing countries used force and set oppressive regimes. On the other hand, in poor countries where urban population is small, Europeans directly introduce the structure they live with as the majority of the population is composed of Europeans.
It is doubtless that the scholars emphasizing the importance of institutional differences in explaining income gaps are not limited with those of Acemoğlu et al. Though they have made a significant contribution to the literature, other scholars also studied on this subject. Particularly the studies of Douglass C. North are important. North won the Nobel Prize in Economics in 1993 with his studies on the role of institutions in economic development. The definition of institutions North's book Institutions, Institutional Change, and Economic Performance published in 1990 is used in many studies following him. I will not repeat the definition.
But, what institutions are we talking about? Which type of institutions should be established to ensure rapid and sustainable growth? Should this setting be formed quickly? These questions are evidently important. Next Sunday, I will talk about Dani Rodrik's studies.
This commentary was published in Radikal daily on 07.03.2010