The success of this book mirrors the progress of the "inclusive institutions" idea it talks about.
The author wrote about this stuff six years ago but did not capture the imagination of the general public. What Acemoglu does not know about growth is not worth knowing, he's the author of an excellent graduate textbook on the subject. But two transformational events have happened since 2006 that have made his ideas relevant and current: the financial crisis and, by dint of having survived it well, the emergence of China in the public's consciousness as a financial superpower.
My prejudice has always been that, warts and all, our pluralistic, capitalist, free-market system works very well. With an eye on the recent performance of markets and the increasing and often justified perceptions of stagnation and inequality in our western society, however, many people these days argue that there's another way and that China holds many of the answers. This is the book that gives you all the ammunition to demolish that theory. I think that is the secret of its massive success.
But that's a mere bonus, and the theory itself is quite beautiful. Here it is, in ten quick bullet points.
1. You can totally forget about growth if nobody holds the "monopoly on violence." You get places like Somalia, Afghanistan etc.
2. There are two types of politics: inclusive and extractive
3. There are two types of economic institutions: inclusive and extractive
4. Extractive political institutions often don't care at all for growth or innovation, lest a new order arises and the new order challenges these extractive political institutions. The author quotes examples from English history where kings and queens stifled innovation in weaving, Austrian history, where the king did not build any railways and Ottoman history where the sultan pretty much banned books.
5. Regardless, growth has occurred in history under extractive political and economic institutions. The Soviet Union provides such an example. The manner in which this was achieved was not through innovation, but through the reallocation of resources from less productive activities (agriculture) to more productive activities (industry). The Soviet Union grew for 30 consecutive years at 6% per annum on the back of this planned reallocation of resources (eat that, China!) and was fully expected by nonpartisan observers to overtake the US economy by the turn of the 20th century. This never came to pass because once the resources had been fully reallocated there was no further productivity gains to be gleaned and thus no growth to be had. The ugly facet of extractive economic institutions reared its ugly head, as people simply refused to give their best if they could not enjoy the fruit of their labor. Draconian punishments for people who shirked their duties could not compensate for the lack of personal incentive and the Soviet empire crumbled.
6. The combination of inclusive political institutions with extractive economic institutions is typical of empires and it can work for a while. Rome is the example here. Rome was a republic, but was a ruthless extractor of wealth from its empire. It grew, but only by increasing the size of the empire, as the economic agents (the conquered lands) did not really push the boat out just to send the whole harvest back to Rome. So when Rome stopped expanding at the necessary pace, that was the end of growth at the pace that was necessary to support inclusive political institutions (lots of guys in Rome sitting around pondering on the greater issues in life and citing poetry to one another). What happened next is the political institutions reversed back to extractive, as factions in Rome fought each other for the loot. This occurred hundreds of years before the empire itself fell, significantly. But it was at the core of the decline.
7. The combination of inclusive economic institutions under extractive political institutions has also been tried and ultimately fails if there is no success in transforming the politics. Venice is the example here, and China is the current laboratory. The idea here is more subtle. The inclusive economic institutions go away and do their thing and produce growth. The Venetians ploughed the seas and dominated commerce through the invention of limited companies. The Chinese have set up the factory of the world by partnering with foreign manufacturers. This has brought serious wealth to both Venice and China. Trouble is, the fact that the political institutions are extractive means that the speed limit is lower. Intellectual property rights (not mentioned by the author, NB) spring to mind in China. You would not invest in an idea in China, because you just don't know that a government controlled company won't take it from you immediately. The lower speed limit means you at some stage hit a limit on growth. At that stage, you get reversal. China, for example, is stuck assembling phones designed in California. (again, the author is not stupid enough to write this, he wants his book to sell in China too) The authorities in Venice (the extractive political institutions) closed down the right any layman had to be part of a limited company and wrote in a "libro d'oro" the names of those who could. The extractive political institutions reversed the progress and forced the economic institutions to go extractive.
8. The main problem is that there is a strong vicious cycle between extractive economic and extractive political institutions. It's also called the "Iron law of oligarchy" apparently. If the inclusive economic institutions are not producing enough to feed the beast, their masters fall prey to the extractive political institutions they are perceived to be challenging. If they are producing too much, too quickly, they are usurped. And to get there in the first place is a rather large challenge to begin with. Fortunately, there's also a virtuous circle between inclusive economic and inclusive political institutions. Acemoglu quotes as an example the case where FDR thought 56% of the popular vote was enough of a mandate for him to stuff the Supreme Court with his own guys. Did not work for him.
9. More often than not, unfortunately, the starting point of societies is some sort of king lording it over a bunch of subjects. So you start with extractive politics sitting on top of extractive economic institutions. How do you make any headway? It takes all of the following: (i) a benign monarch / king / bunch of "elders" / dictator / potentate / senate / whatever / who "gets it" (ii) some kind of plurality on the ground. Like maybe layers of power, or a variety of tribes or a variety of jobs people do. Or some type of nominal alternative (even dormant) power structure left from years before. That way there are many "interests" on the ground that both push for change from many angles, but also fail to move things in any single direction after change has occurred (iii) a significant transformational event, such as the discovery of America that enriched the merchant class or the black plague that made labor so thin on the ground that it was able to negotiate better terms or at least led it to revolt and plant the seeds of transformation later. What happens next is you travel a few yards toward more inclusive institutions and with a bit of luck you don't lose that ground. History is not destiny. The UK did not have to become a pluralistic economy, it had all of the above and good luck, and it got it all at regular instalments. An important point the author makes is that the same events work for some and don't' work for others and the difference on the ground that made it click in England but not in Austria could be truly tiny. You really need the luck. That said, once you get your "first down" things get easier. The guys on top have less of a good thing to defend and the guys at the bottom get a better idea of how much there is to gain!
10. The best way to get there, though, is to send a bunch of guys from a highly developed place, who command the latest technology, to a sparsely populated remote land where nobody is around to challenge them. Provided there isn't enough of them to go around, all extractive political baggage they bring gets checked at the door as they all need to knuckle down to work to avoid starving. The author quotes North America and Australia, but Magna Grecia is a fantastic example from antiquity, when Spartan settlers (Sparta being the Soviet Union of antiquity) set up some very inclusive cities in southern Italy and Sicily. Does not work nearly as well if they land in the middle of a highly evolved and densely populated extractive civilization, on the other hand. The temptation there is to exterminate the local leader and sit on his throne. It's pretty much what the Spanish did in Latin America.
AND THAT'S REALLY IT
Acemoglu is not happy to just discuss his theory, he also spends some time going over alternative theories, such as the theory that the tropics are not conducive to growth and such like, but dismisses them in a manner that is polite enough not to offend. Proponents of such theories even praise him in the jacket of the book. There's a single exception. He spends quite some time toward the end of the book to deal with a theory he considers pernicious. He takes issue with the idea that if we trade enough with the Chinese they will get rich enough that they will come around to espousing democracy. Or that if we install democracy in Iraq the locals will pick up where we left off. He applies the tools discussed above and as far as I'm concerned he succeeds in debunking one of the main pillars of modern western policy. Read more ›