Why are some countries rich and others poor?

The Industrial Revolution and the Rise of the West.

Bob AllenProfessor of Economic History

Oxford University

Since 1500, incomes have risen in most of the world, however:

• Incomes have risen fastest in the countries that were richer in 1500

• Consequently, world inequality is much greater today than in 1500

• In 1500, average income in the UK was only 30% higher than in India

• Today, the average UK income is ten times that in India.

• Only a few poor countries have bucked the trend and caught up—Japan, S. Korea, China?

The graph shows when the West got rich.

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Industrialization and de-industrialization have a lot to do with divergent development.

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The Big Question is: Why are some nations rich and others poor?

• Technological change is the fundamental cause of economic growth

• Other changes—urbanization, rising incomes, capital accumulation are results of more efficient production

• The Rise of the West, therefore, comes down to the invention and utilization of labour saving technology.

Why is bread baked in ovens like this in poor countries?

But with equipment like this in rich countries?

Bread slicing machine!

I focus on three determinants of economic success:

• Technology– Labour augmenting Technical Change is source of growth– Inventions increasing capital and energy use are not cost

effective in low wage countries—Poverty Trap• Globalization

– Amplifies effect of technology differences intensifying industrialization & deindustrialization

• Policy– Can speed invention & adoption of technology– Can turn globalization to a country’s advantage

My analysis differs from others.

• Most explanations emphasize factors like:– Culture– Political institutions– Property rights– Scientific knowledge

• These do not distinguish Britain from other countries.

• They may have been necessary, but they were not sufficient.

Six historical episodes

• First globalization (1500-1750)• IR as Britain’s response to that challenge• Globalization and creation of underdeveloped

countries• Convergence among today’s rich countries • How the rich countries invented the modern

world• How have poor countries caught up?

Episode I: First Globalization

• Columbus ‘discovered’ Americas in 1492 and Vasco de Gama reached Calicut in India in 1498.

• Their aim was to make money in the spice trade.

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Real Price of Pepper, England & Indiaprices of 1745-54

Leading countries created empires in 16th-19th centuries

• Spain and Portugal looked like the big winners but their empires led nowhere.

• The Dutch and, especially, the English had the ‘best’ empires that led to Modern Economic Growth.

• The British Empire gave England high wages and cheap energy that led to the Industrial Revolution.

‘Good Empires’ transformed economic structures.

Economic success had a big impact on wages.

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London and Amsterdam had (roughly) constant and high real wages:

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While real wages elsewhere steadily dropped to one!

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Commerce and high wages led to high levels of schooling in Northwestern Europe:

The distribution of numeracy was similar.

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England 6% 53%

Netherlands 10% 68%Belgium 10% 49%

Germany 6% 35%France 7% 37%Austria/Hungary 6% 21%Poland 6% 21%

Italy 9% 22%Spain 9% 20%

Eighteenth century Britain was unique because its labour was very expensive relative to capital.

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The growth of London led to the English coal industry, which gave northern Britain

the cheapest energy in the world.

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Episode II: The Industrial Revolution was Britain’s creative

response to globalization.• High wages and cheap energy prices made

Britain unique in world.• High wages and cheap energy created a

demand for technology that substituted capital and energy for labour.

• High wages increased the supply of technology by acquiring schooling and skills to meet that challenge.

First example: 18th century British silk mills were water powered (capital-intensive).

Lombe brothers’ Silk Mill (reconstructed)

Expensive water wheel

In 19th century Japan, the Tsukiji silk mill was powered by humans (labour

intensive).

Credit: Metropolitan Museum of Art New York

Here’s the man turning the crank!

Credit: Metropolitan Museum of Art, New York

Second example:Inexpensive British coal meant that pottery kilns were built cheaply and

wasted energy.

Image: Dianne Frank

In contrast, Chinese kilns used much capital and labour to conserve

expensive energy.

Image: Dianne Frank

Third example: High wages meant that the British invented cotton machines, while the French and Indians

continued with hand methods.

Rate of return to building an Arkwright mill around 1780.

• England = 40% > 15% cost of capital• France = 9% < 15% cost of capital• India = negative %• Profitability was high in England because labour

was expensive compared to capital.• Even if French and Indian institutions had been

‘perfect,’ the Industrial Revolution would not have happened there because it would not have paid to mechanize.

The revolutionary technology was only profitable to invent in Britain.

• All of these inventions entailed R&D costs.– Arkwright, for instance, spent £13,000 to perfect

his cotton inventions.• There was no point going to such expense if

the invention was not going to be used.• The Industrial Revolution was British

because it would not have paid to invent it anywhere else.

By the 1840s, the IR transformed entire economy.

• Initially, textiles were transformed.• By 1840s, steam engine was perfected so it

could be used widely.• Also mass produced iron was very cheap.• In mid-19th century, steam powered, iron

machinery was applied to all industries, raising productivity generally.

The railway and steamship were among the most important extensions,

for they reinforced globalization.

Episode III: British IR de-industrialized Asia and Africa

• China and India were the biggest cotton textile producers in 1750– Bengal alone produced 85 million pounds versus 3

million pounds in England• Machines made Britain the low cost producer.• Asian and African industries were destroyed.• The reason that the British cotton industry got

so big is because it displaced India, China, the Ottoman Empire, etc.

Cheaper transport caused cloth prices to converge. English prices drop below Indian, which kept falling—

so England exported cloth to India.

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Raw cotton prices converge and Indian price rises—so India exports raw cotton.

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Less Developed Countries were made not born.

• LDC’s are mainly agricultural.• This is not ‘traditional economic structure.’• It is the result of biased technical change and

19th century globalization.

Episode IV: Convergence among the Rich

• In the nineteenth century, the industrial revolution spread to Western Europe and North America.

• These countries caught up to Britain• Jointly, these countries have achieved

remarkable economic growth.• How did they do it?

Around 1800, industrial technology of was not cost effective on the continent.• Wages in France and Germany were lower and

coal costs were higher than in Britain.• However, British engineers improved their

technology, saving all inputs, and it became cost effective everywhere.

• Then the IR could spread to the whole world!

It took 150 years of British engineering genius to improve the steam engine enough to make it cost effective even where fuel was expensive. And that’s when the steam engine spread abroad.

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North America and Western Europe caught up to Britain with the

Standard 19th Century Development Model

• Create unified national market by eliminating internal tariffs and constructing infrastructure—roads, canals, railways

• External tariff for protection against British goods.

• Banks to stabilize currency and for investment• Mass education.

Model first worked out in USA• 1788 constitution abolished state tariffs• Alexander Hamilton, Report on Manufactures (1792)

– Internal improvements– External tariff– Bank of United States

• These were eventually adopted• High level of schooling in USA colonial period that

was extended in 19th century with Common School Movement, Land Grant Colleges, and in 20th century with universal secondary schools, huge public universities.

Germany is a good European example:

• Defeated by Napoleon, Prussia reformed itself• 38 states after Congress of Vienna (1815)• Prussia was largest.

Zollverein (+ railways) created internal market and external tariff

German railways, 1840 & 1880

Investment banks mobilized capital

• Origins in private German banks and Credit Mobilier

• Large, joint stock banks, industry ties, bank over draught credit

• Credited with assembling capital and financing heavy industrial development especially after 1870

• Note: little foreign borrowing

Education: Prussia was a model• Prussia

– 1763 compulsory attendance ages 5-13– 1788, universal in 1812—Arbitur secondary school

examination– 1809 teacher certification

• USA– Northern colonies had high literacy rates in 18th century– Common school movement began in MA in 1838 and

copied Prussian model in 1852. Adopted by other states to integrate immigrants and prepare population for industrial work.

• Japan—copied Prussian model after Meiji restoration.

Episode V: Economic growth in the West became self-reinforcing

• High wages provide incentive to invent more mechanized technology.

• More mechanized technology raised wages.• High (and growing) levels of education aided

pure and applied research.• Over time Western technology became larger

scale and more capital intensive.• Result was mass prosperity in West.

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There is a ‘world production function’ that represents the technological options of all countries.

Key feature: all change is due to rich countries inventing more capital intensive technology.

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All improvementsare here!

No Progress here

This has been the story since IR

• Rich countries grew and created today’s technological possibilities.

• After the rich countries abandoned a particular capital intensity, no other country has done anything to raise efficiency.

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UK, USA & GermanyThese countries were poor in 1800

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historical paths = today's options

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The Poorest Countries have gained NOTHING from technical progress for 200 years!

Poor Countries are poor because they use antique technology

• Low capital-labour on world production function.

• The main industry in which poor countries achieve export success is clothing manufacture– Treadle sewing machine—1850s– Electric sewing machine—1889

Why don’t poor countries use modern technology?

• Because it would not pay• When labour is cheap, it is not worth spending

a lot on machinery in order to save it.

View from the Souk: Marrakech wood turners use bow lathes

Close up of the toe work

Low K/L: Bow lathe in Europe in 1283

Higher K/L: pole lathe c. 1640

The popularization of science and technology sparked an upper class interest in craft

hobbies in the 18th century.

Here is a gentlemanwith his lathe anddrill press (very highK/L).

Photo: Hugo Maertens, Bruges

The ruling ideas of theage are the hobbies ofthe ruling class?

This is a close-up of Louis 16th’slathe (high K/L).

Yet higher K/L for artisans: metal treadle lathe,

c. 1850

Highest K/L: modern electric lathe

Why don’t the Moroccans use electric lathes?

• It’s not that they do not know about them.• The joke in the Souk is that their equipment is

“Black and Decker, Berber style”• Maybe it’s not worth spending all that money

on equipment when labour is so cheap?

Episode VI: How can poor countries catch up?

• Arithmetic of catch-up– Per capita income grows at 2% per year in rich – Poor countries have income = 25% of rich– To catch up in two generations (60 years) poor

countries must grow faster than rich—4.3%/year– That means total GDP must grow at over 6% per

year for 60 years to catch up.

Three options for technology

• Wait for foreigners to improve their technology enough to make it cost effective in your country (eg steam engine story).

• Do your own R&D to accelerate that process (Meiji Japan)

• Go for capital-intensive, large scale factories even if they are not ‘appropriate’ (planning)

Colonies could do little since their policies were subordinated to the

interests of the imperial power• Indian nationals wanted the standard model but

did not get it.• No state educational program—only 1% in

school in 19th century, literacy was 6%.• Tariffs low and for revenue only• No policy to promote banking and industrial

capital• Railway building (61000 km) aimed at

promoting farm exports—no industrial spin-offs.

Some Poor Countries tried versions of Standard Model, e.g. Mexico

• Tariff and small investment bank in 1830s• National market only created after 1880 with

abolition of state tariffs and building RRs.• Mass education only since World War II.• Innovation in 1880s: relying on foreign firms• GDP grew but slowly (2.3% pc 1870-1911) and

real wages stagnated leading to revolution in 1911.

Tsarist Russia

• National market: 71000 km of railway by 1913• High tariffs• Increase in education: 50% literacy by 1913• Like Mexico, relied on foreign borrowing for

capital and foreign direct investment for technology.

• GDP/capita grew at 1.9%, real wages stagnated, revolution in 1917

ISI in Latin America was the last hurray for the standard model

• Railways built—90000 km by 1913• Tariffs since the first world war• Foreign investment and local development

banks• Universal education since WWII• 1955-80, GDP/head grew at 2.7% per year

ISI failed for two reasons• Reliance on foreign borrowing made accumulation

hostage to international financial issues.• Not only had capital/labour ratios become very high,

but size of efficient factory became very large– In 1960s, MES for vehicle assembly plants was

200,000/year and engine plants 1 million/year– Largest Argentine firm produced 57,000/year– Result: Argentine industry was very inefficient

• This not true in 19th century– In USA in 1850, market was 2000 times bigger than MES

of cotton mill, 160 times MES of a blast furnace– Standard model did not result in inefficient industry.

What worked in late 20th century? Ten countries grew at more than 4.3%/person/year in1955-2005

• Oman, Botswana, Equatorial Guinea– Natural resource discoveries

• Hong Kong, Singapore– city states

• Japan, S. Korea, Taiwan, Thailand, China, USSR (earlier in century).– Planning and a Big Push

Big Push Industrialization

• Growth this fast requires simultaneous creation of all parts of modern economy and society

• Everything built before supply and demand• Every investment requires faith that

complementary investments occur.• That requires planning.• Many forms of planning.

Japan reversed its pre-war policy• 1870-1940, GDP/head grew at 2% pa in Japan

compared to 1.5% in USA• At those rates, it would have taken 329 years starting

in 1950 for Japan to catch up to USA • Instead of adapting foreign technology to its factor

prices, Japan decided to go for the most capital-intensive, largest scale investments possible.

• This required exporting to foreign (USA) markets.• USA heavy industry destroyed—flip side of East

Asian miracle• Why did USA allow it? Japan was bulwark against

communism in Asia.

Lessons of History• Washington consensus policies of free trade and open

capital markets have never been followed by large, successful countries.

• Following comparative advantage has led to underdevelopment—not progress.

• Building up domestic technology capabilities and savings has been more successful than relying on foreign investment.

• To catch up to West, growth has to be very fast for two generations, and that requires planning investment, technology, and education.