Transcript Simon Johnson: How do good institutions influence economic growth?

00:01 Variation in income per capita around the world is enormous. it’s 40 or 50 to one from the richest countries to the poorest countries. Ideas can flow, capital can flow, people more or less can move, skilled people certainly can move, and yet there is these enormous income differences. Why is that? Part of the explanation could be institutions and that’s what we wanted to investigate.

00:25 The problem, if you’re interested in understanding the relationship between institutions and GDP per capita, is a question of which way does the causation flow? We were thinking institutions could well be causing income but a lot of people feel that income caused institutions. In fact, when I talk around the world to say, “Oh yes, you’re from the US and you were born in the UK, those are rich countries. You got good institutions, but perhaps you just bought better institutions when you got rich.” How do you sort that out?

00:50 So the logic of what we did was to look for a variable that determined institutions, the right hand side variable in the regression, and the variable that we thought would affect GDP per capita. We wanted something that would affect institutions today but not affect GDP per capita today, because otherwise, how do you know its an institutions effect. So it has to be something that works only through institutions.

01:16 Our big idea, which probably seems a bit obvious in retrospect, was to look back in history and to sort of roll the clock back and say “OK, what came first, the chicken or the egg, the institutions or the GDP per capita?” Where did the institutions come from? Who imposed these institutions? What’s the history of many countries? It’s about European colonisation and it’s about what the Europeans did and what the Europeans chose to do. We looked into records of all kinds. We were trying to understand why these European colonisers did what they did in various places.

01:44 And if we could figure that piece out, then we could unlock the rest of the puzzle. The European colonisers were aggressive, they were avaricious. They wanted to make a lot of money around the world, but they weren’t stupid. And they saw that when they went to some places and tried to stay for any period of time, they died.

02:03 The key point is that the European colonisers who were coming in from outside. They weren’t born in places that had malaria and yellow fever and they understood it and they communicated with the public, “We don’t want to go live in West Africa. We’ll go there and run the slave trade. We’ll go there and take gold. We’ll go to live in the West Indies for seven years. We’ll go be officials in India for five years, seven years but we don’t want to go live there. But we will go live in Australia, New Zealand, northern United States and Canada or Argentina because those places are relatively healthy for us.

02:31 Colonisation strategy had a big effect on institutions that were established. Tropical diseases, including malaria and yellow fever, that was so burdensome on the Europeans historically, those are not a major or significant factor on GDP per capita in most countries today.

02:50 So if we look within the sample of former European colonies, we know for sure that this explanation of institutions today can explain between 50% and 70% of the variation in GDP per capita. How much that explains of institutions relative to income per capita for other countries depends on whether you believe the colonial sample is representing fully the range of experiences in countries that weren’t European colonies. But actually, when you look at key variables, it’s pretty close.

03:20 The amount of dispersion, the amount of variation you have in former European colonies is very close to what we see for all countries, including those that were never colonised by Europeans. Colonisation played a major role in determining who is rich and who’s poor today. But I don’t think history is predestination. There are certainly countries that have done much better than you might have expected, given how they were colonised.

03:46 I think Singapore, would be probably the top of that list. And there are countries that definitely had bad institutions, in this case, it wasn’t from the Europeans, but South Korea, for example, had a lot of corruption, a lot of problems with political institutions in the 1960s. It’s now pretty well-off middle income or upper middle income country. So you can find pathways to escape a difficult institutional legacy or historynbut institutions are hard to escape and difficult institutions stay with you for a long time.

04:18 Some people think that if you’ve got bad institutions, you’re doomed, you can’t do anything and I think China is a really interesting counter-example because they had a difficult legacy from the imperial period and the communist period was very oppressive, and they had low GDP per capita when they started the reforms at the end of the 1970s. They established stronger economic rights. They had special economic zones, they had protection for foreign investors. They had various ways that investors could feel they were going to get their money back. They had not political representation of the kind you see in the West, but at least they stopped the oppression of the Cultural Revolution the outright killing of people and the re-education camps and so on. So those are pretty big shifts in institutions and I think that has helped them get better economic outcomes. Now, will it last?

05:00 Can you sustain stronger economic rights without more of a democracy? We don’t know. My own take away from this experience, and the work we’ve done over the past 25 years is, look back in history. Figure out the backstory. Where did this come from? It’s always interesting and it’s never quite what you’re expecting. And if you’re lucky, you may find something you can use in a regression. And if you’re really lucky, you might find an instrumental variable that gets people’s attention and launches you on the path to Stockholm.