Why nations fail: Nobel laureates unlock the secrets of inequality

Why nations fail: The 2024 Sveriges Riksbank Prize in Economic Sciences, popularly known as Economics Nobel, was awarded to Daron Acemoglu, Simon Johnson, and James A. Robinson for their groundbreaking research on the vast inequality in wealth across nations and the critical role institutions play in determining prosperity. Their work sheds light on one of the most pressing questions in economics: why are some countries rich while others remain poor? This comprehensive research has far-reaching implications for policymakers, economists, and global leaders in their quest to reduce inequality and foster long-term economic development.

At the heart of the trio’s research is the concept that societal institutions — the broad set of rules governing a country’s political and economic life — are the key determinant of whether a nation succeeds or fails. Their work draws a sharp distinction between two types of institutions: inclusive and extractive.

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Institutions and economic prosperity 

Inclusive institutions, which encompass property rights, democracy, rule of law, and economic opportunity, create environments conducive to long-term growth. These institutions give individuals a say in their government, protect private property, and encourage investment in future prosperity. Countries with inclusive institutions tend to promote widespread prosperity, as individuals and businesses are incentivised to invest, innovate, and contribute to economic growth.

In contrast, extractive institutions are those where power is concentrated in the hands of a few, typically through autocracy, and where institutions are designed to exploit the population rather than protect their rights. In such systems, the incentives to pursue long-term growth are undermined, as elites prioritise retaining power and wealth over the broader prosperity of society. This institutional framework stifles innovation, curtails opportunities, and leads to economic stagnation.

Why nations fail: The legacy of colonisation 

One of the most important aspects of Acemoglu, Johnson, and Robinson’s research is their focus on how institutions were shaped by European colonisation. Their landmark 2001 study, The Colonial Origins of Comparative Development, showed how the institutions established by colonisers had lasting effects on the economic fortunes of nations.

In regions where European settlers faced high mortality rates due to disease or hostile conditions, they set up extractive institutions designed to exploit resources and labour for short-term gain. In places where settlers could live and thrive, they built more inclusive institutions aimed at fostering long-term prosperity. This dual approach explains why countries with similar geographic conditions, like the divided city of Nogales on the U.S.-Mexican border, can have vastly different levels of wealth and prosperity. Residents on the U.S. side of Nogales benefit from inclusive institutions that guarantee property rights and political freedoms, while their counterparts in Mexico suffer from less inclusive, more extractive systems.

Their research also provides a nuanced understanding of colonialism’s legacy. While colonialism was undoubtedly exploitative in many contexts, the differences in the type of institutions established during the colonial period had profound long-term effects on a country’s development trajectory. As the laureates have demonstrated, it is not merely geography or culture that determines prosperity, but the institutions left in place by colonisers.

Global inequality: A persistent challenge 

The jury awarding the Nobel Prize highlighted that despite economic growth in some poorer nations, the gap between the richest and poorest countries has remained persistent. According to the laureates, the wealthiest 20 percent of countries are now 30 times richer than the poorest 20 percent. This alarming statistic underscores the challenge of global inequality. While globalisation and technological advances have allowed poorer nations to grow, they are not catching up with the richest nations at the pace required to close the gap.

The trio’s work provides a vital insight: addressing inequality requires more than just economic growth. It requires institutional reform. Nations that wish to bridge the gap with richer countries must build and strengthen inclusive institutions that enable broad-based participation in economic life. Without this foundation, efforts to foster growth will continue to be hampered by corruption, autocracy, and a lack of long-term investment.

Implications for policy and development 

The practical implications of this research are profound. It suggests that policymakers should focus on building and reforming institutions to create more inclusive political and economic environments. Efforts to reduce poverty and inequality should prioritise democracy, the rule of law, and the protection of property rights. Moreover, international organisations, such as the United Nations and the World Bank, should emphasise institutional reform as a key pillar of their development strategies.

The lessons are especially relevant for emerging economies like India. While India boasts one of the world’s largest democracies, the persistent inequality and regional disparities in development raise questions about the quality of its institutions. As Acemoglu, Johnson, and Robinson’s research has shown, regions that were historically under British presidencies, such as Mumbai, tend to fare better than regions where different institutional legacies persist. This divergence highlights the importance of examining the institutional fabric at a granular level to identify pathways for reform.

The laureates’ research also addresses contemporary challenges posed by technological advancements. Acemoglu has pointed out that until the 1990s, jobs displaced by new technologies were often replaced by new sectors and opportunities. However, the rise of automation, robotics, and artificial intelligence is creating a structural break where displaced jobs are not being adequately replaced. The research thus raises questions about how societies can build institutions that ensure technological progress benefits all members of society, rather than exacerbating inequality.

The work of Daron Acemoglu, Simon Johnson, and James A. Robinson offers a powerful explanation for why some nations are rich while others remain poor: institutions. Their research underscores that while geography, culture, and natural resources matter, it is the rules that govern a society — its political and economic institutions — that ultimately determine whether it will prosper or stagnate.

For nations grappling with persistent inequality, the path to prosperity lies not only in fostering economic growth but in building and maintaining inclusive institutions that guarantee broad-based participation, protect individual rights, and ensure long-term stability. As the world faces rising inequality and growing political instability, the insights of these Nobel laureates provide a valuable roadmap for the future.

In an era where many countries are experiencing democratic backsliding, their work serves as a reminder that the health of institutions is paramount. The challenge of reducing global inequality may be daunting, but the tools to address it — as shown by the Nobel-winning research — are within reach.