Exclusive institutional theory of market inclusivity: A review of ‘Why Nations Fail’

“The power of a framework comes from its ability to focus on the most important elements at the exclusion of the rest and in so doing in providing a way of thinking about these elements, how they function, how they have come about, and how they change” – Daron Acemoglu and James Robinson [1]

Daron Acemoglu and James Robinson’s 2012 book, Why Nations Fail: The Origins of Power, Prosperity and Poverty, is a bold attempt at providing a theoretical framework for explaining the great divergence in the living standards between the prosperous and poor countries in the world. What has been limiting the full realization of the great convergence in the global lay of the land for the last two hundreds years or so, their framework implies, is the nature of institutions that have been established. They divide these into inclusive and extractive institutions. Expectedly, the inclusive ones – whether they are economic or political institutions – are theorized as providing the impetus and incentives for fostering plurality and safeguarding of property rights that they associate with large-scale accumulation and distribution of wealth in a society.

What readily follows from this simple and thus appealing theoretical framework is a number of binaries that smacks of modernization theory although they vigorously critique this linear theory that has many lives (p. 443-444). These range from what is dichotomized, albeit implicitly in line with political correctness, as good and bad colonialism, to good and bad centralization. If the same institutional form ostensibly succeeds, relatively, to produce prosperity in society A and fails to do so in society B, for Acemoglu and Robinson, the problem becomes the degree of inclusivity rather than the essence of that institution in a historical context of uneven relations between particular societies. The following contrast illustrates how this framework operates:

“Though in 1346 there were few differences between Western and Eastern Europe in terms of political and economic institutions, by 1600 they were worlds apart. In the West, workers were free of feudal dues, fines, and regulations and were becoming a key part of a booming market economy. In the East, they were also involved in such an economy, but as coerced serfs growing the food and agricultural goods demanded in the West. It was a market economy, but not an inclusive one (p. 101).”

Such a framework enables one to easily explain away the failure of market reforms in countries that have been coerced to implement them so as to, purportedly, promote growth. In other words, Acemoglu and Robinson’s institutional theory, is implying that if the market economy is not leading to economic growth in the developing world as it has ostensibly done in the developed world then all that is needed is to make it booming by making it more inclusive. But, ironically, their aforementioned case shows how, historically, it has been essentially structured to be exclusive within a skewed global economy. The said inclusive market economy in developed countries has been booming in the world market partly because it tends to subject developing countries to the vagaries of unequal trade hence the recurring calls for fair trade.

It is important to note that they subscribe to the definition of a market economy as “an abstraction that is meant to capture a situation in which all individuals and firms can freely produce, buy, and sell any products or services that they wish” (p. 64). “When these circumstances are not present”, they further elaborate on this definition in relation to a theory of world inequality, “there is a ‘market failure’” whereby the more they “go unaddressed, the poorer a country is likely to be” (Ibid.)
Even though they do not categorically state that such a failure is the raison d'être for the existence and persistence of poverty across the global divide it is clear that, in their conception, an inclusive market institution is one that has significantly reduced such failures. This is evident in their analysis of Ghana’s currency crisis during the premiership of Kwasi Busia in the early 1970s: “Yet Busia’s experience underscores the fact that the main obstacle to the adoption of policies that would reduce market failures and encourage economic growth is not the ignorance of politicians but the incentives and constraints they face from the political and economic institutions in their societies” (p. 67).

For sure, and to their credit, Acemoglu and Robinson aptly distance themselves from explicitly claiming, in line with neoclassical economy, that the wholesale reign of the invisible hand of the market is the panacea for poverty. When left to their own device, they assert, markets increasingly become “dominated by the economically and politically powerful” (p. 323). However, what is problematic is that they apply this disclaimer within a society and shy away from extending it to international relations between societies of the world they dichotomize in terms of prosperity and poverty.

But even within a given society, such as their favorite case study of England, the domestic market did not simply become more inclusive internally just because the Glorious Revolution of 1688 expanded it. The majority of the English people were first excluded from the commons through enclosure and by the time the Industrial Revolution set in, in the latter half of the 1700s, England had access to what Kenneth Pomeranz has aptly referred to as an “ecology relief provided by Europe’s relations with the New World.” [2] This “relief”, as he elaborates, “was predicated not merely on the natural bounty of the New World, but also on ways in which the slave trade and other features of European colonial systems created a new kind of periphery, which enabled Europe to exchange an ever-growing volume of manufactured exports for an ever-growing volume of land-intensive products” (Ibid.) These were market relations.

Once again Acemoglu and Robinson’s own illustration ironically shows how these relations were exclusive. In their analysis of the letter that the innovator James Watt wrote to his father in 1775 to inform him that his patent had been renewed by an Act of Parliament, they note: “First, Watt was motivated by the market opportunities he anticipated, by the ‘considerable demand’ in Great Britain and its plantations, the English overseas colonies”
(p. 104). Their analysis of why Kongolese eagerly adopted the gun and not the plow at the turn of the 16th century also illustrates the exclusivity that resulted from skewed market demands outside Africa: “They used this new and powerful tool to respond to market incentives: to capture and export slaves” (p. 59).

In Acemoglu and Robinson’s bifurcating institutional theory, the slave market was not an inclusive institution. As they elaborate in the case of Barbados in the 17th century, “markets in slaves were in fact one part of the economic institutions systematically coercing the majority of the population and robbing them of the ability to choose their occupations and how they should utilize their talents” (p. 77). Gone are the days when one could openly and freely disagree with that. A close examination of their analysis, however, reveals that the tendency to look at the slave market as an internal market within a given society or country with extractive institutions that they are contrasting with those with apparent inclusive institutions conceals the fact that this was a world slave market – a global market economy of slavery. Unmasking this enables a very different reading of this case that they provide to explain why Africans lagged behind:

“Instead of investing to increase their productivity and selling their products in markets, the Kongolese moved their villages away from the market; they were trying to be as far away from the roads as possible, in order to reduce the incidence of plunder and to escape the reach of slave traders” (p. 88-89).

They were surely moving away, albeit, from the international market of slaves that rendered them marketable commodities in the world marketplace. It is the fact that the global market of the day was – in a capitalist sense and imperial essence – exclusive, which made them to even shun their own local marketplaces. For them the then rise of modern capitalism, and its accompanying need of a constantly expanding market for its products around the world in exchange with humans and raw materials, is what excluded them from participating equally and fairly in the local and global economy.

When one thus look at it in a global perspective, he/she realizes that, essentially, this was a far cry from what Acemoglu and Robinson hails as a key provision of inclusive institutions, that is, “inclusive markets that create a level playing field and economic opportunities for the majority of the people” (p. 323). It is thus quite unfortunate that a book that historicizes the world overlooks such a global aspect of market relations.

This oversight, it can be argued, stems from what informs the theoretical framework of the authors. “Is a counterfactual world where the Glorious Revolution and the Industrial Revolution take place in Peru, which then colonizes Western Europe and enslaves whites”, they ask together with a set of other questions, “possible, or is it just a form of historical science fiction?
(p. 429). To answer these questions regarding “why some nations are prosperous while others fail and are poor”, they assert, one needs a theory that “delineates both the factors that create and retard prosperity and their historical origins” (Ibid).
However, for them a theory or “framework that says there are 17 factors, each of them hugely important is no framework at all.” [3] One can hardly dispute such parsimony. “A successful theory”, indeed, “does not faithfully reproduce details, but provides a useful and empirically well-grounded explanation for a range of processes while also clarifying the main forces at work”
(p. 429).

Their proposed theory is successful in that regard. However, by opting to operate on two levels – “the distinction between extractive and inclusive economic and political institutions” and “explanation for why inclusive institutions emerged in some parts of the world” (Ibid.) –
without unmasking the interplay between market institutions at the local and global levels masks the dialectical relationship between exclusivity and inclusivity that continues to shape the relationship between rich and poor countries.

Their book, as they note elsewhere in defense of why it does not really provide extraordinary evidence to back up its assertions, is for “a general audience” hence not “the right forum for presenting academic research.” [4] A close reading of their seminal academic paper that informs the book, however, reveals that the dual institutional theory also stems from an attempt to marry two mutually exclusive accounts of the rise of Western Europe relative to the ‘Rest’– the Marxist analysis of the political economy of global capitalism and the neoclassical analysis of political institutions. [5]

The former emphasizes the role of the Atlantic slave trade and colonialism in the development of Western Europe at the expense of Africa, Asia and Latin America whilst the latter emphasizes the role of liberal institutions in securing private property rights and promoting market relations that, ostensibly, accelerated economic growth. [6]

The empirical evidence that they provide regarding the role of the Atlantic trade in the growth of European cities with Atlantic ports relative to non-Atlantic ports after 1500 C.E is compelling. It is evident – in line with the Marxist perspective – that this trade contributed to the remarkable growth of Euro-America. However, the caveat they introduce, that the volume of this trade was not entirely responsible for this growth, is what makes them gravitate to, and thus primarily lean on, the position they have persistently taken in their book. They hypothesize, in line with the neoclassical perspective, that it is the development of better institutions that this trade induced.

They thus opt to resolve the proverbial chicken-egg question by putting the cart before the horse. While agreeing that “Atlantic trade—the opening of the sea routes to the New World, Africa, and Asia and the building of colonial empires—contributed to the process of West European growth between 1500 and 1850”, their interpretation of the data on volume of trade leads them to hypothesize that this contribution was “not only through direct economic effects, but also indirectly by inducing fundamental institutional change.” [7] But as far as market institutions are concerned, how can their radical change towards what they hail as inclusivity in Western Europe occur before creating exclusive market relations in the then Atlantic World? The weight of evidence from their research, ironically, indicates that the changes, in terms of innovations in financial markets, were underway prior to the Atlantic commercial encounter and developed rapidly to create and maintain an exclusive global market.

END NOTES

[1] Daron Acemoglu and James Robinson’s (2012) ‘Response to Jeffrey Sachs’: http://whynationsfail.com/blog/2012/11/21/response-to-jeffrey-sachs.html>

[2] Kenneth Pomeranz (2000). The Great Divergence: China, Europe, and the Making of the Modern World Economy. New Jersey: Princeton University Press (p. 20).

[3] Daron Acemoglu and James Robinson’s (2012) ‘Response to Jeffrey Sachs’: http://whynationsfail.com/blog/2012/11/21/response-to-jeffrey-sachs.html>

[4] Ibid.

[5] Daron Acemoglu, Simon Johnson and James A. Robinson (2005) “The Rise of Europe: Atlantic Trade, Institutional Change and Economic Growth,” American Economic Review, 95: 546-579.

[6] Ibid., 551.

[7] Ibid., 562.