Revisiting the Cactus Theory of Development

by Mike Kimel

Revisiting the Cactus Theory of Development

Tyler Cowen links to this paper by this paper by Allen, Murphy and Schneider (warning, PDF!!).

Cowen notes:

It is a common view that North America had to play catch-up, but the extensive data sets in this paper suggest that North American wages were up to twice as high as the general level of wages further south.

Honestly, I don’t know how anyone could be surprised. I think I covered the topic fairly well a few years ago so I’ll reproduce it in its entirety below.

I mentioned one of my old Professors, Arnold Harberger, a few times in recent posts. I can be argumentative, and I got into a lot of arguments with him. As a general rule, when I argued with Harberger, I was wrong. There is one thing, and one thing only that I can think of that I disagreed with him that to this day I still think I was right about. So here’s that story…

When I finished my comps, I had a few rudimentary germs of ideas I was considering for thesis topics. My favorite was a theory of economic development. I had spent some time thinking about Mexico and Brazil and the United States – each was the flagship, so to speak, of a colonial power, but the first two are charitably described as developing countries, and the last, well, is the United States.

I also thought about the period from World War 2 onward. At the end of the war, much of the world was in pitiful shape. There wasn’t much to differentiate, say, West Germany from East Germany, or Taiwan from China, or South Korea from North Korea, or England or France from Poland or Czechoslovakia. And Mexico and Brazil were probably in better shape than most, if not all of those countries. And yet, 50 years later there were definitely winners and losers among those countries.

So what was the difference? Here’s what I thought… the difference between Mexico and Brazil and the United States in the 1500s had nothing to do with Mexico, Brazil, and the US, but rather with Spain, Portugal, and England. Spain and Portugal were dying empires, and they basically looted everything they could, often destorying much that they couldn’t loot in the process. England was the most advanced country on earth; it didn’t need anything from the New World, and if anything, there was an outflow of capital (mostly human capital) from England to its colony.

I also thought a bit about Mexico and Brazil and other countries: South Korea, Taiwan, Japan, West Germany, East Germany, Poland, England and China. At the end of World War 2, arguably Mexico and Brazil were in better shape than the other countries I mentioned. South Korea and Taiwan had never been particularly advanced; Japan and West Germany were in ruins. And yet, 50 years later, Mexico and Brazil were lagging behind South Korea and Taiwan and Japan and West Germany. Not so much East Germany and Poland.

What’s the difference? Well… the winners were those that the United States effectively colonized. (And if you don’t think we effectively colonized, say, England, bear in mind there are still US military bases there. As to Taiwan, they were colonized twice – first, when the Nationalists took everything that wasn’t nailed down in China and much that was to Taiwan, and second, with US participation after Quemoy and Matsu. South Korea, Japan, and the rest of Western Europe – I think colonization was self-evident.) In other words, there was an inflow of human capital from the most advanced country on earth. East Germany and Poland were effectively colonized by an empire that was already dying – there was more of a transfer of capital toward that empire (consider reports of Soviet soldiers stealing toilets from German apartment buildings) than the other way.

Now, what is magical about being colonized by whatever the most advanced country on earth? Well… I think it’s a few things. I would imagine that when a country leads the world, it is generally because it has better institutions and a relative strong economic situation. And the institutions, along with capital (human and otherwise) get transferred to the colonies. All of that happened in England and South Korea and so forth, but it did not happen in Mexico or Brazil or Argentina. (Some wag once called them the MBA countries.)

Note that I am not advocating colonization as a way of development. (No “Mouse that Roared” scenario here.) I believe the same effects could be accomplished by copying the institutions from countries that are successful and getting massive infusions of resources.

And yes, I note there are exceptions – places like Luxembourg and the Scandinavian countries – but these seem to have pretty good institutions of their own. Other exceptions include countries where oil was discovered (but an argument could be made the US effectively colonized, if not Saudi Arabia, at least its economy), or one-off special cases; trading posts like Hong Kong and Singapore.

Anyway, Harberger thought this didn’t make sense, and wasn’t a good topic, so I scratched it off the list of thesis topics. But it was one of the things about which he didn’t convince me. And its been over a decade and I still think about this now and then, I still believe there’s something to this. Your thoughts? Am I missing something obvious?

As I said earlier, I think it holds up reasonably well. Looking back a few years, I think I didn’t emphasize enough the transfer of capital and overemphasized human institutions. As I get older and more cynical, I start to think more and more that the supposedly “honest” countries that succeed often have the same corruption as the dishonest ones that don’t, but success sweeps problems under the rug.

For instance, I’m starting to think that Brazil is no less corrupt now than it was, say, in 2000, but since then it discovered oil and gas, and its ethanol has become far more valuable due to rising prices of oil and gas. The Japan that spawned so many scare stories in the American press in the 1980s had a society no different than the Japan of today. Ditto the Argentina of 1990 and the Argentina of today, the Russia of mid-1990s and the Russia of today, the Baltic Tigers of the late 1990s and the Baltic Tigers of today, etc.

Capital flows are vital, and they often flow for reasons that are divorced from reality. (Put another way – the people who allocate capital don’t understand the real world any better than anyone else, its just that by allocating capital they do change reality a little bit at least for a time.)

Agree? Disagree? What else is this little theory missing?