Daniel Altman on International Development

Edit: Prof Altman corrects me, log purchasing power was used to facilitate interpretation by keeping constant the % changes across different values of the dependent variable. Although, using log scales seems to be valid regardless to account for diminishing returns to the dollar.

Daniel Altman is out with a new white paper, Are international differences in living standards really so hard to explain? It’s not a long paper, and I’d recommend it to anyone curious about the so-called gap between “the west and the rest”. There’s tons of literature (both general and technical) about international development and the best place, by far, to get a thorough exposure to this material is Development Economics @ MRUniversity. Frequently cited factors include:

• Institutions (extractive vs inclusive)
• Geography
• Natural resources

Niall Ferguson cites six “killer apps”:

1. Competition
2. The scientific method
3. Rule of law via democracy
4. Modern medicine
5. Consumer society (“the idea that everyone should have a set of clothes”)
6. A “Protestant Ethic”

Altman’s paper considers the share of national output that doesn’t come from natural resources like oil or gas. This, arguably, captures the essence of a thriving society: i.e. that which it earned through its culture or institutions (by this logic, it might not make sense to include geography, either, but the results are very interesting). Altman considers three least-squares regressions to understand the portion of economic variance that can be attributed to selected factors. Here are the regressions:

A few quick explanations on the methodology. The log per capita income is used (presumably) to account for the diminishing marginal utility of money. Most of the data is from the 2010 World Bank’s World Development Indicators database though, where 2010 figures aren’t available, Altman considers the 2009 report.

The third regression (which considers gender equality – GII – on top of legal frameworks) is the most appropriate. However, it’s also arguably the most subjective. Perhaps Ferguson would do well to look at this data, which might quell his ancient imperial tendencies, because imperial institutions account for only about 5% of the overall variation in living standards.

But the most striking part of the data is what should be “low-hanging fruit” – landlocked countries. That countries are landlocked is an artifice of false political boundaries dictated in London or Paris and these closed borders, unfortunately, stifle trade and commerce between nations. There’s nothing qualitatively different between a landlocked country and the state of Iowa yet, because of political borders, being landlocked is almost as bad as gender inequality. The curse of these borders is even then understated knowing that this is a binary variable that (should be) easy to fix.

Of course, port cities will always be richer, but only because of the trade industry itself. After landlocked nations get access to international (or even continental) trade, surely economic variance should decline as nations previously excluded from trade prosper.

Indeed, Africa (and, to a lesser extent, Latin America) seem to be the last vestiges of a landlocked era. North American countries are large, each with access to the sea. Australia is an Island. Europe has a customs union. Most of Asia doesn’t live in a landlocked country. Africa is moving towards freer markets in pockets with the East African Community etc. Further, it’s probably not smart to move towards fully free markets immediately. Industrial policy is important in a world of capital, particularly so for Africa to be competitive in the future. However, moves towards regional customs unions so that no nation is locked from trade will be a real boon.

Indeed, it would be interesting to consider a regression that considers not a binary access to seaports, but some index that captures the cost of access to international trade from regulations, tariffs, or any other such policies.

Altman notes that countries with the lowest negative residuals (those that performed worse than expected) were, unsurprisingly, locked in generations of civil conflict, extractive dictators, and war. So comes the cost of having a fancy British legal system.

I wasn’t surprised to see the extent to which Arab countries, like Qatar, exceeded their predicted output considering the ridiculous rents on oil, but was surprised to see that even the United States had a very high residual. Altman points out, this residual can be explained completely by a relatively high GII indicating, perhaps, the subjective nature of the index or, perhaps, a culture that thrives despite gender inequality.

This is an empowering report because about 50% of the variation in output can be reduced to eminently solvable problems (I don’t consider draught to be solvable, though it may be in the future). As development economists have noted for a few years now, Africa isn’t intractable. Jeffrey Sachs noted that almost 30% of economic output can be explained by malaria.

It’s time to get that 30% back.