How Rich Countries Got Rich

I’ve mentioned before what I see as the most important economic analysis for our times. This is “How Rich Countries Got Rich . . . and Why Poor Countries Stay Poor” by Eric Reinert. $11.99 on Kindle, used copies from $2.21. A few days ago I did an analysis of an earlier work which raised the same points raised by Reinert. The main issue is that if a country wants to be rich, it needs to develop, defend, and maintain its manufacturing sector. Given that we have foolishly shipped our manufacturing sector overseas, these ideas are hugely critical for the US at this time in history.

This post continues the examination of Reinert’s work. In this case I’ve scanned and OCR’d a chunk of his introduction to the book, where he discusses his ideas chapter by chapter. I’ve interspersed some comments, and all emphasis is mine. He starts with an overview.

This book begins by describing different types of economic thinking and goes on to argue why the virtual world monopoly of the current dominant theory should be broken. English economist David Ricardo’s trade theory, dating from 1817 has become the linchpin of our world economic order. Even though we can see that free trade in some contexts makes people poorer, Western government are still complacently insisting on it and are offering more aid as an incentive for accepting it.

Ricardo’s theories of “comparative advantage” and “free trade” are unfortunately the gospel these days. I say unfortunately because Ricardo is wrong. In my post entitled “Why Free Trade Isn’t” I gave one of many examples of how free trade has made people poorer, this time in the Solomon Islands, in contradiction to Ricardo and just as Reinert says.

Thus, the good intentions of those who call for more aid obscure the folly of the current economic orthodoxy as it is carried out in real policies. In this way the dogma of global free trade survives, while idealism and generosity act to cover up a surreal and sometimes even criminal and corrupt reality. Understanding the problems underlying today’s ruling economic theory and resurrecting alternative approaches is a necessary starting point.

Foreign aid in general is NOT any kind of long-term help to a country. For example, if we ship free food as foreign aid to some area hit by famine, we wildly distort the local food market and we can and do put local farmers and food suppliers out of business … it’s hard for a farm or a business to compete with “free”.

Chapter 1 of this book explains the existence of different types of economic theory, and the gap that is frequently found between ‘high theory’ rhetoric and practical reality in terms of economic policy.

Theory says that NAFTA should have made everything much better. Instead, it has destroyed the US manufacturing sector.

Chapter 2 traces the evolution of today’s canonical sequence of authors from Physiocracy via Adam Smith and David Ricardo to standard textbook economics. This tradition ia contrasted with a much older and less abstract Other Canon of economics that provided the guidelines for economic policy when today’s presently wealthy nations made their historical transition from poverty to wealth; for example, England’s progression from 1485 through to the post-Second World War Marshall Plan.

Reinert distinguishes the current economic theories leading up to Ricardo’s defense of free trade, and contrasts them to earlier theories such as the one I discussed in True Wealth.

In Chapter 3 I argue that what Enlightenment economist called emulation, rather than ‘comparative advantage’ and ‘free trade’, lies at the heart of successful development. In this context emulation means imitating in order to equal or excel. If the tribe across the river has taken the step from the Stone Age to the Bronze Age, your own tribe is faced with the choice of either sticking to its comparative advantage in the Stone Age or trying to emulate the neighbouring tribe into the Bronze Age.

Before David Ricardo there was little doubt that emulation would be the best strategy, and historically the most important contribution of Ricardo’s trade theory was that, for the first time, it made colonialism morally defensible. Today we have totally dismissed the idea that a strategy of emulation was a mandatory passage point for all nations that are presently rich: we have outlawed the key tools needed for emulation. This chapter uses the history of economic policies – the knowledge of which policies created successful development in the past – in order to create a theory of uneven economic development. In today’s economics, neither of these is regarded as a legitimate academic field. Instead, in today’s trade theory, economic harmony is already built into its basic assumptions.

This is a key concept. It’s better to be a semi-successful Bronze Age tribe than a totally successful Stone Age tribe. Ricardo argues that each country should utilize its “comparative advantage”, what the country naturally has to offer. Reinert says no, you’re better off to be a poorly industrialized country than to be sentenced to eternal life as a supplier of raw materials. The Solomon Islands agrees.

There are plenty of good arguments for free trade, but Chapter 4 argues that David Ricardo’s is not one of them. Delving deeper into the economics of production reveals that the best arguments for globalization are also the best ones for preventing poor countries from prematurely entering the world economy. Ricardo’s theory appears to be right in many contexts, but is essentially right for the wrong reasons. However, aspects of Ricardian theory are deeply cherished both by the political left and the right, and criticizing it is problematic. On the political right, Ricardian trade theory provides the ‘proof’ that capitalism and instant unrestrained international trade are in the interests of all inhabitants of the planet. The proof of the benefits of free trade is based on what economists call the labour theory of value, i.e. that human labour is the sole source of all value, and the Marxist world-view is also based on this same theory.

As I see it, the labour theory of value was probably better suited to make nineteenth-century industrial workers take to the streets than to explain the wealth and poverty in today’s world. Polish mathematician Stanislaw Ulam once asked American economics Nobel prizewinner Paul Samuelson – who in 1949 theorized that free trade will tend to level out world wages – whether he could point to an idea in economics that was universally true but not obvious. Samuelson’s response was the ‘principle of comparative advantage” according to which two countries necessarily benefit from engaging in free trade with each other, provided their relative production costs are not identical. Thus, an attack on the philosophical basis of the free trade doctrine exposes one not only to attacks from both sides of the right-left axis, but also undermines the claim of economics to be a ‘hard science’. This book brings back traditions in which economics is not and never can be a ‘hard science’.

In Chapter 4 he discusses the many difficulties of trying to overthrow a theoretical framework that benefits both the right and the left … but does not benefit the poor.

Chapter 5 argues that today in many poor countries we can observe the opposite of development and progress, that is, retrogression and primitivization. The mechanisms causing this primitivization are explained, using Mongolia, Rwanda and Peru as examples. To go back to the example of the two tribes given above, logic in use only a few decades ago admitted that a higher standard of living could be achieved by entering into the Bronze Age, even though your own tribe might not be as advanced as the leading tribe. The logic that died with the Berlin Wall was that it is better to have an inefficient manufacturing sector than not to have a manufacturing sector at all, and such an approach has led to falling real wages in many countries in Eastern Europe, Asia, Africa and Latin America.

His examples are of interest, but you’ll have to read the book for that. The examples are again in support of the idea that you’re better off being a not-so-good Bronze Age society than you are staying in the Stone Age, even if you’re really good at stones and not so good at bronze.

The recent responses from mainstream economics to the challenges of poverty are discussed in Chapter 6. In order to find remedies, it is necessary to distinguish core aspects of economic development from what are collateral effects or even just symptoms. It is argued that by being unwilling to critically evaluate these core metaphors, assumptions and postulates of economics, economists have recently been distracted by a string of red herrings – they have looked everywhere but at the core issues in the realm of production. The same people who were in charge in the 1990s are still the ideological leaders of what is supposed to be a reconstruction. It is rather like asking Attila the Hun for advice on urban regeneration.

Chapter 6 is about the many misunderstandings of the mainstream economists, who are looking everywhere but at the idea of moving people from the Stone Age to the Bronze Age.

In Chapter 7 I argue that knowledge of the historical process of development can prevent us from adopting policies that seem logical but are in fact very damaging. In comparison to the free trade that is forced on poor countries, rich countries restrict imports of agricultural products from the Third World and subsidize their own agriculture. Intuitively the highest priority is put on rectifying these unfair practices, but, as we shall see from eighteenth-century examples, the removal of agricultural tariffs is a long-standing weapon in the colonial armoury. However unfair the practices may seem, focusing too much on them may lead us into the Panglossian trap of assuming that if we only had perfectly free trade and laissez-faire, the visions of economic harmony would actually become a reality. Present World Trade Organisation (WTO) rhetoric is that the South stays poor because the North protects its agriculture. I shall attempt to show that the world is not so constructed that the starving South would get rich if they were only allowed to sell their food to the North.

We cannot make the poor rich merely through our direct and naive kindness. The world is so complex now that we have to think through the systemic and long-term effects of our actions. It is natural that people who observe backward agriculture in Africa wish to help Africa by making that agriculture more efficient. Enlightenment philosopher and economist David Hume, however, suggested that the best way to improve agriculture is through the roundabout way of first improving manufacturing industry – and we now have half a millennium of historical data to back up Burne’s insight. Achieving an· optimum balance between different economic sectors in a nation used to be an important part of Enlightenment economics, but has become totally lost as a theme today.

Just as we do not create more food in the Third World by eating less ourselves – at the moment famines are essentially caused by a lack of purchasing power rather than a lack of world supply – we do not create development in the Third World by closing down First World agriculture. This book argues that a deal should be struck by which the First World is allowed to protect its own agriculture (but prevented from dumping its surpluses on the world markets} while the Third World is allowed to protect its manufacturing and advanced service sectors. This is the only policy that can be consistent with successful development policy over the last 500 years.

We have collectively forgotten how to create wealthy nations – an art that was successfully employed as recently as fifty years ago – and so our responses to the challenges of poverty today, however well intentioned, amount to an attack on the symptoms of poverty rather than its deep causes. Chapter 7 focuses on the Millennium Development Goals that include worthy goals like reducing by half the number of people living on less than a dollar a day and the proportion of people who suffer from hunger, reducing diseases and child mortality, as well as educational and environmental goals. I argue that both the Millennium Goals and the campaign to ‘Make Poverty History’ are far too heavily biased towards palliative economics, aimed at easing the pains of poverty rather than at making the fundamental structural changes that result in true economic development.

Rather than creating democracy and development, this approach [free trade] – regardless of the nobility of the intentions – will produce a crippling welfare colonialism in which rich countries maintain their political power over poor countries. This is not to say we should not do what we can to relieve suffering through aid, but we must also take on the more important task of understanding how poor countries can become richer by themselves. Advocates of free trade often use similar rhetoric for their policies, but there is a crucial difference: while I argue for development over assistance as the priority for the world’s poor, I want to advocate development that serves the world’s poor, not passive transfers that in the end take the form of covert colonialism.

Not much I can say about that except that it certainly agrees with my experience from my years working in overseas development in Asia, Africa, Central and South America, and Oceania.

The concluding Chapter 8 charts how it is possible to create middle-income countries, where all inhabitants have a purpose and a claim on the necessities of life and at least some of its pleasures. In terms of theory and economic policy, this needs nothing more . radical than going back to the practices of trade and development as they were practised in the period immediately following the Second World War, as exemplified in the 1948 Havana Charter of the defunct International Trade Organization (ITO), that is, the subjugating of the goal of free trade to other goals directly involving human welfare.

To summarize: for centuries, we only had two ways to create wealth—agriculture and extraction (mining, logging, fishing, etc.). The invention of manufacturing was so huge we describe it as the “industrial revolution”. The yields from manufacturing are much larger than from either agriculture or extraction, in part because manufacturing can convert those raw materials into finished products of a much, much higher value, and in part because of manufacturing economies of scale.

For a nation to become rich, then, it needs to develop its manufacturing sector. As my previous discussion of the Honiara nail mill showed, free trade is antithetical to this process.

It gets worse. We had a vibrant manufacturing sector in the US, but in an act of unparalleled economic stupidity, we took down our trade barriers, signed on to NAFTA, and moved our manufacturing overseas … and of course, the jobs moved overseas as well.

The solution, of course, is obvious—trade barriers, just like we had before we became infatuated with the deadly siren of free trade.

I know that many people have a knee-jerk reaction against protectionism, but one fact is clear—protectionism is how all of the rich countries got rich. The exporting of 70,000 factories and over a million jobs since NAFTA is clear evidence that we ignore the benefits of protectionism at our own peril.

Rain again today, and despite lots of water outside we have no water in the house. The shower control valve decided it wasn’t such a control freak after all and it was tired of having to be in control all the time, it wanted to get in touch with its feelings  … so an ongoing leaking shower has me abusing my big box of plumbers’ tools and saying bad words. Yeah, I could call in the man, he’s a good buddy of mine, but he charges one Benjamin per hour … my crystal ball sees me crawling under the house in the near future.

So … what’s not to like? Life is good.

w.

PS: Please … QUOTE THE EXACT WORDS THAT YOU ARE DISCUSSING in your comments so we can all understand the subject of your objection.

PPS: For more info without buying the book, check out the first review at the Amazon link above. It’s a very detailed concordance of Reinert’s main ideas.