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The Perfect Recipe for Development

I decided to study economics when I was sixteen years old. Back then I did not know much about the subject, and although I am already in the second year of my bachelors, I must admit that I still know very little about it. Sure, now I understand terms like inflation, monopoly, and depreciation. But the truth is, most of the questions that drove me to study this subject have remained tragically unanswered. One of these questions is: Why are some countries rich and others poor? Although it might seem like a simple question no one has actually managed to provide a complete answer to this issue. Nonetheless, in the following text, I intend to take you, the reader, through some of the theories that in my opinion, manage to explain best the origins -or thereof lack- of wealth. Let us begin then.

What’s the impact of geography on wealth?

The previous map displays the level of GDP per capita around the globe, in 2016. If we look closely, it is possible to notice a pattern. As you can see, countries in the northern and southernmost parts of the globe seem to be more prosperous than those within the tropics. This is not a coincidence, the geographical location of a country is immensely related to its economic development. This difference could already be seen during the colonization period, as colonies located in temperate regions such as Argentina or Chile performed better than their tropical counterparts, even though they were managed by the same empire. And, albeit it is possible to find some temperate economies that are not as rich or developed as others, most of the time there is a concrete explanation to their situation, such as years under communism or geographical isolation.

But why this? Let’s start with food production. While one might think that the harsh winters that come with temperate weather create a disadvantage for the countries that have to endure them, in reality, data has proven that periods of cold temperatures kill off bacteria and pests that would be even more disadvantageous for farmers, than a few months without crops. Because tropical countries lack these periods, they are more prone to the devastation brought by both plant and human diseases since warmer temperatures also attract more ticks and mosquitoes.

Besides this, the soil in the tropic is much more fragile than that in temperate areas. In fact, most of the nutrients in a tropical forest are actually above ground, and the nutrients that make it into the soil tend to be washed away by rainfall. On the contrary, winter frost increases the buildup of organic compounds and provide richer topsoils to temperate areas, thus increasing their agricultural productivity. And then there is also the fact that tropical ecosystems have immense biodiversity, which means that they oppose the monoculture system that characterizes food production in the northern or southern-most regions.

What about natural resources?

Well, when it comes to natural resources the story gets even trickier. Intuitive logic tells us that countries with large oil, gold, and any other mineral reserves should be the most prosperous. But instead, the current situation is quite the opposite. In fact, countries with an abundance of natural wealth tend to grow the slowest. Why is this the case?

For starters, natural resources reduce the incentive to innovate; it has been seen that resource-rich countries lack entrepreneurship. This can be attributed to the fact that humans are risk-averse, therefore, we tend to go for the safest available option. In this case, working in an available industry might seem much more attractive than diverging and creating a new business. And this adds up to the fact that countries with plenty of resources have fewer incentives to develop their people, given that it is more attractive to invest in a project that gives you short-term profits, such as an oil refinery, than education where you only see long-term results.

Besides this, there is also the renown “Dutch Disease”, a paradoxical situation in which seemingly good news, such as the discovery of natural reserves, can actually harm the economy. The logic behind this is that when countries export too much of a certain resource, their currency appreciates to the extent that exports in their other industries become uncompetitive, and as a result, they become increasingly dependent on one single resource. This dependency then delves into another issue, since the price of commodities such as oil and gas tends to be extremely volatile.

Finally, institutions.

Here, we need to take a look at the past, as this theory states that the political and economic control of developing countries during the period of European settlement had long-lasting effects in the economy that persist to the present day. The argument behind this statement is that, back then, countries could be assigned two types of governmental institutions, either an extractive  government for countries that were only meant to supply the empires with certain commodities or inclusive institutions for those that were supposed to become a “second Europe”.

The problem with extractive institutions is that they allow a small group of people to control all the resources of the state at the expense of the rest of the population, being designed to “extract resources from the many by the few”. Meanwhile “inclusive” institutions work in such a way that many people are included and taking into account in the process of governing. In the book “Why nations fail” the authors, Daron Acemoglu, and James Robinson, provide a great example of this situation. Take the two towns of Nogales Arizona, located in the US and Nogales Sonora, located in Mexico. Besides having the same name, they also share almost the same people, culture and geography. But Nogales Arizona is noticeably richer than Nogales Sonora. Evidently, this case cannot be explained by any of the two previous theories covered in this article. And of course, the same can be said for places like North and South Korea.

Of course, like in any other economic theory, there has to be some exceptions to these findings. Take Singapore, a tropical country that has an immense richness despite being located just north of the equator. Or Norway, that despite getting 20% of its revenues from oil and gas production anticipated the problem that came with being too dependent on a single export, and solved the dependency dilemma by creating a giant sovereign wealth fund currently worth about $800 billion that allows them to have a steady level of spending even when oil or gas prices drop.

All in all, there is a vast number of explanations for this issue. Some other factors important to mention include premature deindustrialization and modernization theories. And sure, we cannot entirely blame the tropics or its natural resources for poverty, but they undoubtedly play an important role in the economic development of countries.

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