W
CHAPTER 7
Trade and Development II:
Neoliberalism and Institutionalism
hereas structuralism and import substitution industrialization (ISI)
shaped development strategies during the first 35 years of the
postwar period, the last 30 years have been dominated by neoliberalism
and export-oriented industrialization. In contrast to structuralism, with its
skepticism about the market and faith in the state, neoliberalism is highly
skeptical of the state’s ability to allocate resources efficiently and places
great faith in the market’s ability to do so. And in contrast to
structuralism’s advocacy of protectionism and state intervention,
neoliberalism advocates the state’s withdrawal from the economy, the
reduction (ideally, elimination) of trade barriers, and reliance on the
market to generate industries that produce for the world market. In
addition, the current consensus within the development community
stresses the critical importance for development outcomes of high-quality
political and economic institutions.
Like structuralism, neoliberalism has dramatically affected policy.
Across the developing world, governments have reduced tariffs and
removed other trade barriers, thereby opening their economies to imports.
They have sold state-owned enterprises to private groups. They have
deregulated their economies to allow prices to reflect the underlying
scarcity of resources. They have shifted their emphasis from producing for
the domestic market to producing for the global market. Countries that had
never joined the General Agreement on Tariffs and Trade (GATT) sought
membership in the World Trade Organization (WTO). Thus, the last 30
years have brought a complete reversal of the development strategies that
most governments had adopted. Belief in the power of states has been
replaced by belief in the efficacy of the market; skepticism about trade has
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been replaced by concerted efforts to integrate deeply into the world trade
system. Neoliberalism has replaced structuralism as the guiding
philosophy of economic development. And as the state retreated from the
economy, the development community began to place new emphasis on
how important it was to development to have good political and economic
institutions.
The shift from structuralism to neoliberalism emerged from the
interplay between three developments in the global economy. First, by the
early 1970s, ISI was generating economic imbalances. The emergence of
these imbalances suggested that economic reform of some type was
required, although it did not point to a specific solution. Second, at about
the same time, it was becoming apparent that a small group of East Asian
economies were outperforming all other developing countries based on
what many viewed as a neoliberal strategy. Third, a severe economic crisis
in the early 1980s forced governments to embark on reform, and as they
did, the International Monetary Fund (IMF) and World Bank strongly
encouraged them to base reform on the neoliberal model.
We examine each of these three developments. We look first at the
factors that caused ISI to generate economic imbalances. This examination
allows us to understand the problems ISI created and the reasons that
reform of some type was necessary. We then turn our attention to the East
Asian countries. We briefly compare their performance with that of the
rest of the developing world. We next examine two contrasting
explanations for this remarkable performance, one that emphasizes the
neoliberal elements of those countries’ strategies and one that emphasizes
the role East Asian states played in the development process. We then turn
to the economic crisis and reform. We look at how the crisis pushed
developing countries to the World Bank and the IMF, and at how these
two institutions shaped the content of the reforms governments adopted. In
the final section, the chapter explores the relationship between domestic
political institutions and economic development.
EMERGING PROBLEMS WITH IMPORT
SUBSTITUTION INDUSTRIALIZATION
By the late 1960s, ISI was generating two important economic imbalances,
which together suggested that it had reached the limits of its utility as a
development strategy. The first imbalance lay in government budgets. ISI
tended to generate persistent budget deficits because it prescribed heavy
government involvement in the economy. Since governments believed that
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the private sector would not invest in industries that were important for the
success of secondary ISI, governments themselves often made the
investments, either in partnership with private-sector groups or alone by
creating state-owned enterprises.
Yet, many of these state-owned enterprises never became profitable. By
the late 1970s, state-owned enterprises in developing countries were
running combined operating deficits that averaged 4 percent of gross
domestic product (GDP) (Waterbury 1992, 190). Governments kept these
enterprises afloat by using funds from the state budget. Government
investment and the subsequent need to cover the losses of state-owned
enterprises combined to generate large and persistent budget deficits
throughout the developing world.
Domestic politics aggravated the budget deficits generated by ISI. For
many governments, urban residents provided critical political support.
Governments maintained this support by subsidizing essential items.
Electricity, water and sewers, transportation, telephone service, and food
were all made available to urban residents at below-market prices. This
was possible only by using government revenues to cover the difference
between the true cost and the price charged. In addition, many
governments expanded the civil service to employ urban dwellers. In
Benin, for example, the civil service tripled in size between 1960 and
1980, not because the government needed so many civil servants, but
because the government used it to employ urban residents in order to
maintain support. Such practices added to government expenditures and
added nothing to government revenues, thereby worsening the budget
deficit.
ISI also generated a second important imbalance: persistent currentaccount
deficits. The current account registers a country’s imports and
exports of both goods and services. A current-account deficit means that a
country is importing more than it is exporting. Import substitution gave
rise to current-account deficits because it generated a considerable demand
for imports while simultaneously reducing the economy’s ability to export.
Somewhat ironically, ISI depended on imports. Industrialization required
countries to import the necessary machines, and once these machines were
in place, production required continued import of parts that were not
produced in the domestic economy.
Exports declined for two reasons. First, the manufacturing industries
created through import substitution were not competitive in international
markets. Production in many of the heavy industries that governments
targeted in secondary ISI was characterized by economies of scale. The
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domestic market in most developing countries, however, was too small to
allow domestic producers to realize economies of scale. These
inefficiencies were compounded by excess capacity—the creation of more
production capacity than the domestic market could absorb (see Little,
Scitovsky, and Scott 1970, 98). Consequently, the newly created
manufacturing industries could not export to the world market.
Second, the policies that governments used to promote industrialization
weakened agriculture. The decline in agricultural production was most
severe in sub-Saharan African countries, which, as a region, taxed farmers
heavily (Schiff and Valdés 1992). Heavy tax burdens reduced farmers’
incentives to produce, hence the rate of growth of agriculture declined. In
Ghana, for example, the real value of the payments that cocoa farmers
received from the government marketing board fell by about two-thirds
between 1960 and 1965. Falling prices gave cocoa farmers little incentive
to invest in order to maintain, let alone increase, cocoa output (Killick
1978, 119). In addition, cocoa farmers smuggled much of what they did
produce into the Ivory Coast, where they could sell cocoa at world prices
(Herbst 1993, 40).
These microeconomic inefficiencies were reinforced by the tendency of
most governments to maintain overvalued exchange rates. Ideally, a
government should maintain an exchange rate that equalizes the prices of
goods in the domestic and foreign markets. However, under ISI, many
governments set the exchange rate higher than that, and as a result, foreign
goods were cheaper in the home market than they should have been and
domestic goods were more expensive in foreign markets than they should
have been. Because foreign goods were underpriced in the domestic
market, capital goods and intermediate inputs could be acquired from
abroad at a lower cost than they could be produced at home. This
difference in price created a strong incentive to import, rather than creating
the capacity to produce the goods locally. The result was rising imports.
Because domestic goods were overpriced in foreign markets, domestic
producers, even when efficient, found it difficult to export.
The emergence of budget deficits and current-account deficits indicated
that ISI was creating an economic structure that couldn’t pay for itself.
Many of the manufacturing industries created during secondary ISI could
not sell their products at prices that covered their costs of production.
Many developing countries could not export enough to pay for the imports
demanded by the manufacturing industries they were creating. Such
imbalances could not persist forever; some reform was clearly necessary.
Yet, the domestic politics of ISI greatly constrained the ability of
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governments to implement reforms. The balance of power among domestic
interest groups created multiple veto players that limited the ability of
governments to alter policies. Because governments depended so heavily
on urban residents for political support, they could not easily reduce
benefits provided to that group (Waterbury 1992, 192). In 1971, for
example, the Ghanaian prime minister devalued the exchange rate in an
attempt to correct Ghana’s current-account deficit. Concern that
devaluation would raise the prices of many imported goods consumed by
urban residents contributed to a coup against the government a few days
later. Once in power, the new regime quickly restored the currency to its
previous rate (Herbst 1993, 22–23). What message did that send to
politicians who might be contemplating measures to address the economic
imbalances they were facing?
In addition, the administration of ISI had created opportunities for rent
seeking and other corrupt practices. Those who engaged in these activities
had a vested interest in the continuation of the system. On the one hand,
government intervention had established an environment conducive to
rent seeking (Krueger 1974; Bhagwati 1982)—efforts by private actors to
use the political system to achieve a higher-than-market return on an
economic activity. Consider, for example, the consequences of
government controls on imports. Governments controlled imports by
requiring all residents who wanted to import something to first gain the
permission of government authorities. Such restrictions meant that
imported goods were scarce, thus imports purchased at the world price
could be sold at a much higher price in the domestic market. The
difference between the world price and the domestic price provided a rent
to the person who imported the good. A government license to import,
therefore, was valuable. Consequently, people had incentives to pay
government civil servants to acquire licenses, and government civil
servants had incentives to sell them.
Such behavior was extraordinarily costly. It has been estimated, for
example, that rent seeking cost India about 7 percent and Turkey about 15
percent of their national incomes during the 1960s (Krueger 1974, 294).
Because so many people inside the government and in the economy were
benefiting from the opportunities for rent seeking, they had a very strong
incentive to resist any efforts by the government to dismantle the system.
Finally, even if governments could overcome these obstacles, it was
unclear what model they should shift to. Far-reaching reforms would
require them to re-evaluate the underlying strategy they were using to
industrialize. The only available alternative to ISI was a market-oriented
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 ■
 ■
 ■
development strategy (one we will look at in detail in the next section). In
the 1970s, however, it was precisely this strategy that the Group of 77 was
fighting against in the UNCTAD and with the NIEO. Even moderate
reforms held little appeal. Most governments were unwilling to scale back
their industrialization strategies. Instead, they looked for a way to cover
the twin deficits without having to scale back their ambitious plans.
Facing economic imbalances, unable and unwilling to change policy,
many governments sustained ISI by borrowing from abroad. Yet foreign
loans could provide only a temporary solution; foreign lenders would
eventually question whether loans could be repaid. When they concluded
that they couldn’t, they would be unwilling to lend more, and governments
would be forced to correct budget and current-account deficits. This point
arrived in the early 1980s and ushered in a period of crisis and reform.
Before we examine this period, however, we must look at economic
developments in East Asia as these developments played a critical role in
shaping the content of the reforms adopted throughout the developing
world after 1985.
THE EAST ASIAN MODEL
Whereas ISI was generating imbalances in Latin America and sub-Saharan
Africa, four East Asian economies—Hong Kong, Singapore, South Korea,
and Taiwan—were realizing dramatic gains on the basis of a very different
development strategy. The dramatic performance gap is evident in three
economic indicators (see Table 7.1).
Per capita income in East Asia grew almost three times faster than
in Latin America and South Asia and more than 26 times higher
than in sub-Saharan Africa.
Manufacturing output grew by 10.3 percent per year between 1965
and 1990. No other developing country came close to this growth
for the period as a whole.
Exports from East Asia grew 8.5 percent per year between 1965
and 1990 while exports from Latin America shrank by 1 percent
per year.
TABLE 7.1
Comparative Economic Performance, Selected
Developing Countries (Average Annual Rates of
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Change)*
1965–1990 1985–1995
Growth of per Capita GNP
East Asia and the Pacific  5.3  7.2
Sub-Saharan Africa  0.2  1.1
South Asia  1.9  2.9
Latin America and the Caribbean  1.8  0.3
Growth of Manufacturing
East Asia and the Pacific 10.3 15.0
Sub-Saharan Africa  n.a.  0.2
South Asia  4.5  5.3
Latin America and the Caribbean  8.3  2.5
Growth of Exports
East Asia and the Pacific  8.5  9.3
Sub-Saharan Africa  6.1  0.9
South Asia  1.8  6.6
Latin America and the Caribbean  2.1  5.2
Notes: n.a. = not available.
GNP = gross national product.
Source: World Bank, World Development Report, various issues.
As a consequence, manufacturing grew in importance in East Asia,
while the importance of agriculture diminished. This differed substantially
from ISI countries, where agriculture’s importance fell but manufacturing
failed to grow (see Table 6.1). The growing manufacturing sector
transformed the composition of East Asia’s exports (see Table 6.2). By the
mid-1990s, manufactured goods accounted for more than 80 percent of
East Asian exports. By contrast, only in Brazil, Mexico, India, and
Pakistan did manufactured goods account for more than 50 percent of total
exports by the 1990s, and most of these gains were realized after 1980.
Finally, per capita incomes in East Asia soared above those in other
developing countries (Table 7.2). In 1960, per capita incomes in East Asia
were lower than per capita incomes in Latin America; by 1990, East Asian
incomes were higher than—in some cases twice as large as—per capita
incomes in Latin America.
Why did East Asian countries outperform other developing countries by
such a large margin? Most people who study East Asian development
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agree that the countries in the region distinguished themselves from other
developing countries by pursuing export-oriented development. In an
export-oriented strategy, emphasis is placed on producing manufactured
goods that can be sold in international markets. Scholars disagree about the
relative importance of the market and the state in creating export-oriented
industries. One position, the neoliberal interpretation, is articulated most
forcefully by the IMF and the World Bank. This thesis argues that East
Asia’s success was a consequence of market-friendly development
strategies. In contrast, the state-oriented interpretation, advanced by many
specialists in East Asian political economy argues that East Asia’s success
is due in large part to state-led industrial policies.
TABLE 7.2
Gross National Product per Capita, Selected
Developing Countries (1996 U.S. Dollars)
1960 1990 2000 Percent Change 1960–2000
Hong Kong 3,090 20,827 26,699  764
Singapore 2,161 17,933 24,939 1,054
Taiwan 1,430 10,981 17,056 1,093
South Korea 1,495 9,952 15,876  962
Mexico 3,980 7,334 8,762  120
Malaysia 2,119 6,525 9,919  368
Argentina 7,371 7,219 11,006  49
Chile 3,853 6,148 9,926  158
Brazil 2,371 6,218 7,190  203
Thailand 1,091 4,833 6,857  528
Zaire/Congo  980  572  281  −71
Indonesia  936 2,851 3,642  289
Pakistan  633 1,747 2,008  217
India  847 1,675 2,479  193
Nigeria 1,033 1,095  707  −32
Kenya  796 1,336 1,244  56
Zambia 1,207 1,021  892  −26
Tanzania  382  494  482  26
Sources: Penn World Tables; Data for 1996, Data for 1997; Data for 1998.
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The IMF and the World Bank contend that East Asia’s economic
success derived from the adoption of a neoliberal approach to
development. This interpretation places particular emphasis on the
willingness of East Asian governments to embrace international markets,
and their ability to maintain stable macroeconomic environments (see
World Bank 1989, 1991, 1993; Little 1982; Lal 1983; for critiques, see
Toye 1994 and Rodrik 1999). Most East Asian governments adopted ISI
strategies in the immediate postwar period. Unlike governments in Latin
America and Africa, however, East Asian governments shifted to exportoriented
substitution once they had exhausted the gains from easy ISI. In
Taiwan, for example, the government shifted in 1958 from production for
the domestic market to a strategy that emphasized production for export
markets. South Korea adopted similar reforms in the early 1960s. A
second wave of newly industrializing countries (NICs)—a group that
includes Indonesia, Malaysia, and Thailand—followed the same path
starting in the late 1960s (World Bank 1993). The emphasis on exports
forced Asian manufacturing firms to worry about international
competitiveness. As a result, the World Bank and the IMF argue, Asian
societies invested their resources in domestic industries profitable in world
markets.
The shift to export-oriented strategies was followed by selective import
liberalization. Asian governments did not engage in wholesale import
liberalization. The Taiwanese and South Korean governments continued to
rely heavily on tariff and non-tariff barriers to protect domestic markets. In
Taiwan, for example, approximately two-thirds of imports were subject to
some form of tariff or non-tariff barrier greater than 30 percent, and as late
as 1980 more than 40 percent of imports faced protection greater than 30
percent (World Bank 1993, 297). A similar pattern appeared in South
Korea, where, as late as 1983, “most sectors were still protected by some
combination of tariffs and nontariff barriers” (World Bank 1993, 297).
However, selective liberalization helped promote exports by reducing the
cost of critical inputs. Reducing tariffs on key intermediate goods, such as
looms and yarn in the textile industry, enabled domestic producers to
acquire inputs at world prices. This kept exports competitive in
international markets.
East Asian governments also maintained stable macroeconomic
environments. Three elements of the macroeconomic environment were
particularly important. First, inflation was much lower in East Asia than in
other developing countries. Between 1961 and 1991, inflation averaged
only 7.5 percent in the East Asian economies. By contrast, annual inflation
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rates in the rest of the developing world averaged 62 percent (World Bank
1993, 110). Second, because governments kept inflation under control,
they could maintain appropriately valued exchange rates. In many
developing countries, high inflation caused the domestic currency to rise in
value against foreign currencies, making exporting difficult. In the East
Asian countries, by contrast, governments were able to maintain exchange
rates that allowed domestic firms to remain competitive in foreign
markets. Third, East Asian governments pursued relatively conservative
fiscal policies. They borrowed little, and when they did borrow, they
tapped domestic savings rather than turning to international financial
markets. This approach was in stark contrast to Latin American
governments, which accumulated large public-sector deficits financed with
foreign capital.
This stable macroeconomic environment had beneficial consequences
for Asian economic performance. Low inflation promoted high savings
rates and investment (World Bank 1993, 12). Savings rates in the Asian
NICs averaged more than 20 percent of GDP per year, almost twice the
level attained in other developing countries, whereas investment rates were
7 percentage points of GDP higher, on average, than in other developing
countries (World Bank 1993, 16, 221). A stable macroeconomic
environment also made it easier to open the economy to international
trade. Because inflation was low and exchange rates were maintained at
appropriate levels, trade liberalization did not generate large currentaccount
deficits. Finally, the ability to maintain relatively stable and
appropriately valued real exchange rates encouraged private actors to
invest in export-oriented industries.
The interaction between the export orientation, the relatively liberal
import policy, and the stable macroeconomic environment promoted
economic development. As Doner and Hawes (1995, 150) summarize the
World Bank perspective, the
pattern of limited government intervention in the market, coupled with cheap
labor and an open economy, [has] guaranteed the private sector stability and
predictability, the means to achieve competitiveness on a global scale, and
access to the international market so that entrepreneurs could actually
discover areas where they have comparative advantage. In shorthand, the
model is often reduced to “getting the prices right” and letting market-based
prices determine resource allocation. Doing so results in export growth that is
in turn positively correlated with broader economic growth.
According to the World Bank and the IMF, East Asia succeeded because
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markets played a large role, and states played a small role, in allocating
resources.
Other scholars have argued that East Asia’s success had less to do with
allowing markets to work and much more to do with well-designed
government industrial policies (see Wade 1990; Amsden 1989; Haggard
1990). In what has come to be called the East Asian model of
development, economic development is conceptualized as a series of
distinct stages. Government intervention in each stage identifies and
promotes specific industries likely to be profitable in the face of
international competition. In the first stage, industrial policy promotes
labor-intensive light industry, such as textiles and other consumer
durables. In the second stage, industrial policy emphasizes heavy
industries such as steel, shipbuilding, petrochemicals, and synthetic fibers.
In the third stage, governments target skill- and research and development
(R&D)-intensive consumer durables and industrial machinery, such as
machine tools, semiconductors, computers, telecommunications
equipment, robotics, and biotechnology. Governments design policies and
organizations to promote the transition from one stage to the other (Wade
1994, 70).
These three stages of industrialization are evident in the paths traced by
Taiwan and South Korea (see Table 7.3). In Taiwan, industrialization
focused initially on light manufacturing, textiles in particular. By the mid-
1950s, textiles were Taiwan’s most important export. The government also
encouraged production of simple consumer durable goods such as
television sets. In the late 1950s, the Taiwanese government began to
emphasize heavy industries. A joint venture between several Taiwanese
firms and an American firm was formed in 1954 to produce synthetic
fibers (Wade 1990, 80). In 1957, a plant to produce polyvinyl chloride was
constructed under government supervision and then was handed to a
private entrepreneur, Y. C. Wang (Wade 1990, 79). The government
created state-owned enterprises in the steel, shipbuilding, and
petrochemical industries. During the 1970s, attention shifted to skillintensive
industries, with particular emphasis on machine tools,
semiconductors, computers, telecommunications, robotics, and
biotechnology (Wade 1990, 94). By the mid-1980s, electrical and
electronic goods had replaced textiles as Taiwan’s largest export (Wade
1990, 93).
TABLE 7.3
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Stages of Industrialization in Taiwan and South Korea,
1880–1968
Commodity
Exports
1880–1930
Primary ISI*
1930–1955
Primary ExportOriented
Industries
1955–1968
Main
Industries
Taiwan:
Sugar, rice
South
Korea:
Rice, beans
Taiwan and South
Korea: Food,
beverages,
tobacco, textiles,
clothing, cement,
light manufactures
(wood, leather,
rubber, and paper
products)
Taiwan and South
Korea; Textiles and
apparel, electronics,
plywood, plastics
(Taiwan), wigs (South
Korea), intermediate
goods (chemicals,
petroleum, paper, and
steel products)
Major
Economic
Actors
Taiwan and
South
Korea:
Local
producers
(colonial
Japan)
Taiwan and South
Korea: Private
national firms
Taiwan and South
Korea: National private
firms, multinational
corporations, stateowned
enterprises
Orientation
of the
Economy
External
markets
Internal market External markets
* ISI, import substitution industrialization.
Source: Gereffi 1990, 19.
The South Korean government adopted similar policies (Amsden 1989).
In the 1950s, the government emphasized textile production, and textiles
became South Korea’s first important manufacturing export. During the
late 1960s, the South Korean state initiated the development of the
chemical and heavy-machinery industries. It created the Pohang Iron and
Steel Company, known as POSCO, which subsequently became one of the
world’s leading steel producers. The government also provided extensive
support to Hyundai Heavy Industry, a shipbuilder that subsequently
became a world leader in this industry. Then in the late 1970s, the South
Korean government began to give priority to skill- and R&D-intensive
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sectors, and it is during this period that the South Korean electronics and
automobile industries began to emerge (Amsden 1989).
In the East Asian model of development therefore, government policy
drives industrialization from low-skilled, labor-intensive production to
capital-intensive forms of production and from there to industries that rely
on high-skilled labor and technology-intensive production. Each stage is
associated with particular types of government policies, and as each stage
reaches the limits of rapid growth, emphasis shifts to the next stage in the
sequence (Wade 1994, 71). Moreover, at each stage, governments stress
the need to develop internationally competitive industries.
East Asian governments relied heavily on industrial policies. They used
industrial policy to achieve four policy goals: reduce the cost of
investment funds in targeted industries, create incentives to export, protect
infant industries, and promote the acquisition and application of skills.
Taiwan and South Korea created incentives to invest in industries that state
officials identified as critical to development. To do so, governments in
both countries provided firms investing in these industries with
preferential access to low-cost credit. In South Korea, the government
nationalized the banks in the early 1960s and in the ensuing years fully
controlled investment capital. Control of the banks allowed the
government to provide targeted sectors with access to long-term
investment capital at below-market rates of interest (Haggard 1990, 132).
Although the banking sector was not nationalized in Taiwan, the
government did influence banks’ lending decisions. During the 1960s,
banks were provided with government-formulated lists of industries that
were to receive preferential access to bank loans. During the 1970s, the
banks themselves were required to select five or six industries to target in
the coming year. As a result, about 75 percent of investment capital was
channeled to the government’s targeted industries (Wade 1990, 166).
Asian governments also implemented policies that encouraged exports.
One method linked access to investment funds at low interest rates to
export performance. In Taiwan, for example, firms that exported paid
interest rates of only 6–12 percent, whereas other borrowers paid 20–22
percent (Haggard 1990, 94). In South Korea, short-term loans were
extended “without limit” to firms with confirmed export orders (Haggard
1990, 65). Credit was also made available to exporters’ input suppliers and
to these suppliers’ suppliers (Haggard 1990, 65–66). In addition,
“deliberately undervalued exchange rates” improved the competitiveness
of exports in international markets (World Bank 1993, 125). Finally, a
variety of measures ensured that domestic firms could purchase their
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intermediate inputs at world prices. These measures often entailed the
creation of free-trade zones and export-processing zones—areas of the
country into which intermediate goods could be imported duty free as long
as the finished goods were exported. Export-processing zones allowed
domestic producers to avoid paying tariff duties that would raise the final
cost of the goods they produced.
The Taiwanese and South Korean governments also protected infant
industries at each stage. In some instances, the measures they used were
straightforward forms of protection. The South Korean government, for
example, enacted legislation in 1983 that “prohibited the import of most
microcomputers, some minicomputers, and selected models of disk
drives,” in order to protect domestic producers in the computer industry
(Amsden 1989, 82). POSCO initially produced steel behind high import
barriers. In other instances, protection was less transparent. Hyundai
Heavy Industry, for instance, was protected in part through a government
policy that required Korean oil imports to be carried in ships operated by a
merchant marine that Hyundai Heavy Industry had itself created (Amsden
1989, 273). Taiwan adopted similar policies.
Finally, the Taiwanese and South Korean governments put in place
policies that raised skill levels. Investments in education were made to
improve labor skills. In Taiwan, enrollment in secondary schools had
reached 75 percent of the eligible age group by 1980. Enrollment increases
were accompanied by rising expenditures on education; per pupil
expenditures increased eightfold in primary schools, threefold in
secondary schools, and twofold at the university level between the early
1960s and 1980s (Liu 1992, 369). Similar patterns are evident in South
Korea, where enrollment in secondary schools increased from 35 percent
in 1965 to 88 percent in 1987 and “real expenditures per pupil at the
primary level rose by 355 percent” (World Bank 1993, 43, 45).
Governments also invested in scientific infrastructure to facilitate the
application of skills to R&D activities. In Taiwan, the Industrial
Technology Research Institute was formed in 1973, and nonprofit
organizations were created during the 1970s to perform research and
disseminate the results to firms in the private sector. A science-based
industrial park designed to realize agglomeration effects was created in
1980 (Haggard 1990, 142). In South Korea, tax incentives were used to
induce chaebols, the large South Korean firms, to create laboratories for
R&D purposes. An industrial estate for computer and semiconductor
production was created, and the Electronics and Telecommunications
Research Institute, a government-funded institute oriented toward product
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development was established there (Amsden 1989, 82). These policies
raised skill levels and created an infrastructure that allowed the more
highly skilled labor force to work to its full potential. This skill upgrading
was critical to the transition to the third stage of the industrialization
process.
The two explanations discussed thus present different arguments for
East Asia’s success. One suggests that East Asia succeeded because
governments allowed markets to work. The other suggests that East Asia
succeeded because governments used industrial policy to promote
economic outcomes that the market could not produce. Which argument is
correct? Although we lack definitive answers, we may conclude that both
explanations have value. By “getting prices right,” the export orientation
and the stable macroeconomic environment encouraged investments in
industries in which East Asian countries had, or could develop,
comparative advantage. By targeting sectors where comparative advantage
could be created, by reducing the costs of firms operating in those sectors,
by encouraging firms to export, and by upgrading skills, industrial policy
encouraged investments in areas that could yield high returns. As Stephan
Haggard (1990, 67) has summarized, macroeconomic “and trade policies
established a permissive framework for the realization of comparative
advantage, and more targeted policies pushed firms to exploit it.”
Although the relative importance of the state and the market in
accounting for East Asia’s success remains in dispute, what is clear is that
the experience of the East Asian NICs was vastly different from the
experience of Latin America and sub-Saharan Africa. East Asian
governments adopted development strategies that emphasized exports
rather than the domestic market, and they realized substantial
improvements in per capita income. The development strategies adopted
by governments in other developing countries emphasized the domestic
market over exports and generated economic imbalances and modest
improvements in per capita incomes. Consequently, when economic crises
forced governments to adopt reforms, the East Asian example provided a
powerful guide for the kind of reforms that would be implemented.
A Closer Look
Economic Reform in China
China’s emergence as a global economic power has also been driven
by dramatic market reforms. China has followed a distinct path to the
global market, however, because it embarked on the journey as a
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centrally planned economy: all economic activity was conducted by
state-owned enterprises in line with targets established by the
Communist Party’s central plan. China’s move to a market economy
has followed a strategy of “gradualism” in which it sought to “grow
out of the planned economy” (Naughton 1995). Rather than quickly
replacing the centrally planned economy with a market economy.
China maintained the planned economy while simultaneously
encouraging market-based activities. As China’s market economy
grew, the relative importance of the planned economy shrank. During
the last 25 years, therefore, a market economy gradually emerged in
place of the previous state-centered economy.
China based reform on three pillars. The first pillar, implemented in
the late 1970s, brought market incentives to agricultural production.
This Household Responsibility System encouraged farmers to lease
land from their agricultural commune. The government required
farmers that took advantage of this opportunity to sell some of their
crop to the state at state-set prices. They could sell the remainder at
market prices and retain the resulting profits. The Chinese government
also changed state-set prices to more accurately reflect the supply of
and demand for agricultural commodities. In doing so they encouraged
farmers to respond to market prices rather than state production
targets. By most accounts, the reform was a dramatic success, raising
agricultural productivity and farm incomes sharply during the 1980s
(Pyle 1997, 10). Agricultural reform also released labor from the
Chinese countryside. Consequently, China has experienced substantial
rural-to-urban migration of about 10 million people each year.
The second reform pillar, introduced in 1984, brought market
incentives to manufacturing. This Enterprise Responsibility System
encouraged enterprises to manage themselves like profit-oriented
firms. Enterprises were increasingly required to acquire their inputs
from and to sell their output in markets at market-determined prices
rather than through state agencies at state-set prices. The government
reduced production subsidies and required enterprises to turn to banks
for working capital. This withdrawal of state financial support forced
enterprises to care about profitability. Over time, private contracts
based on market prices replaced state-determined targets as the basis
for production (Jefferson and Rawski 2001, 247). By 1996, about 9.4
million non-state enterprises were operating in the Chinese economy,
accounting for about 75 percent of total industrial output (Shen 2000,
148). Here we clearly see China growing out of the planned economy
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—each year a larger share of total output is produced by non-state
enterprises and a smaller share by the state-owned sector.
The third pillar of reform, the open-door policy, opened China to the
global economy by liberalizing foreign direct investment and trade.
The government attracted foreign investment by creating Special
Economic Zones along China’s southern coast. Special Economic
Zones (SEZs) allowed more market-based activity than was permitted
in the rest of the economy. Tariffs were reduced, labor market
restrictions were relaxed, private ownership was allowed, and taxes
were reduced in the SEZs. The SEZs thus provided useful “reform
laboratories” in which officials could experiment before implementing
reforms throughout the country (Shen 2000; Grub and Lin 1991). The
decision to locate the SEZs along the southern coast reflected the
desire to attract investment by Chinese nationals living abroad. The
SEZs in Guangdong province bordered Hong Kong, for example,
whereas the SEZ established in Fujian Province faced Taiwan. The
policy was extended to the entire coastal region and selectively
extended into the interior in 1988. The government also liberalized
trade. It expanded the number of companies allowed to conduct
foreign trade from 12 to more than 35,000 (Lardy 2002, 41). The
government also reduced trade barriers, first shifting from a quotabased
to a tariff-based system and then reducing tariffs sharply to the
current average rate of 15 percent. In December 2002, China joined
the WTO after almost 15 years of negotiations.
These reforms have transformed China from a sleeping dragon into
a powerful force in the global economy. China has grown more rapidly
than almost all other economies since the early 1980s, with the best
estimates suggesting annual growth rates of 6 to 10 percent since the
early 1980s. Such rapid growth has raised per capita incomes, which
doubled between 1979 and 1990 and then doubled again during the
1990s. Rising incomes have in turn reduced poverty. According to the
World Bank, the share of China’s population living in extreme poverty
fell from 53 percent in 1981 to just 1.9 percent by 2017 (World Bank
2006, 2017c). China has also emerged as an important player in the
global economy. It is currently the leading recipient of foreign direct
investment in the developing world, and now hosts one-third of all FDI
based in the developing world. China’s share of world trade has grown
from less than 1 percent in the 1970s to 17 percent today (Lardy 2002,
55; WTO 2017). As a consequence, China is now the world’s largest
exporter of merchandise (WTO 2017).
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China’s transformation is not yet complete. The state-owned sector
remains an important component of China’s economy that requires
reform. The state-owned sector is composed of a relatively small
number (only 106) of very large firms (47 of these firms are among
Fortune Magazine’s 500 largest firms in the world). But together these
enterprises account for between one-quarter and one-third of China’s
total output (Leutert 2016). These very large enterprises are (on
average) inefficient and require substantial reform. It remains to be
seen whether the Chinese government can effectively consolidate these
enterprises, or encourage them to operate more efficiently. In late
2015, the Chinese government launched a new reform initiative In
addition, rapid growth has widened the income gap between urban and
rural regions, as industrial incomes rise more rapidly than agricultural
incomes. In fact, farm incomes have even fallen a bit over the last 5
years. Rising inequality has sparked rural protests, which have been
met with rather brutal government responses. Thus, China’s
government continues to face substantial challenges as it transforms its
economy.
STRUCTURAL ADJUSTMENT AND THE
POLITICS OF REFORM
By the early 1980s, governments in many developing countries were
recognizing the need for reform. The imbalances generated by ISI created
pressure for reform, and East Asia’s success provided an attractive
alternative model. It took a massive economic crisis, however, for
governments to implement reform. We will examine this crisis in detail in
Chapter 14; here, we say a few words about it in order to understand how
it produced the wave of reform that swept the developing world during the
1980s.
Economic crises struck developing countries during the early 1980s in
large part as a consequence of governments’ decision to borrow to finance
their budget and current-account deficits. Using foreign loans to finance
budget and current-account deficits is not an inherently poor choice. But
two factors made this decision a particularly bad one for developing
countries in the 1970s. First, many of the funds that governments
borrowed were used to pay for large infrastructure projects or domestic
consumption, neither of which generated the export revenues needed to
repay the loans. As a result, the amount that developing countries owed to
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foreign lenders rose, but the countries’ ability to repay the debt did not.
Second, between 1973 and 1982, developing countries were buffeted by
three international shocks: an increase in the price of oil, a reduction in the
terms of trade between primary commodities and manufactured goods, and
higher interest rates on the foreign debt those countries had accumulated.
These shocks increased the amount of foreign debt that developing
countries owed to foreign banks, raised the cost of paying that debt, and
greatly reduced export earnings. By the early 1980s, a number of
developing countries were unable to make the scheduled payments on their
foreign debt.
As crisis hit, governments turned to the IMF and the World Bank for
financial assistance. The international institutions linked financial
assistance to economic reform. The World Bank and the IMF encouraged
governments to adopt such reforms under the banner of structural
adjustment programs—policy reforms designed to reduce the role of the
state and to increase the role of the market in the economy. The specific
content of the reforms that the IMF and the World Bank advocated were
shaped by their belief that East Asia’s success had resulted from exportoriented
and market-based development strategies (see World Bank 1991,
1993). In the World Bank’s own words,
the approach to development that seems to have worked most reliably, and
which seems to offer most promise, suggests a reappraisal of the respective
roles for the market and the state. Put simply, governments need to do less in
those areas where markets work, or can be made to work, reasonably well.
(World Bank 1991, 9)
To this end, structural adjustment emphasized changing those aspects of
developing economies that were most unlike conditions in Asia.
Governments were encouraged to create a stable macroeconomic
environment, to liberalize trade, and to privatize state-owned enterprises
(Williamson 1990, 1994). Macroeconomic stability was to be achieved by
transforming government budget deficits into budget surpluses.
Governments were encouraged to liberalize imports by dismantling
import-licensing systems, shifting from quota-based forms of protection to
tariffs, simplifying complex tariff structures, and reducing tariffs and
opening their economies to imports.
The IMF and the World Bank also encouraged privatization of stateowned
enterprises—that is, selling such enterprises to private individuals
and groups. The IMF and the World Bank argued that reducing
government involvement in the economy would foster competition and
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that greater competition would in turn help create a more efficient private
sector that could drive economic development. Through structural
adjustment, therefore, governments were encouraged to scale back the role
of the state in economic development and to enhance the role played by
the market.
Many governments implemented structural adjustment programs
between 1983 and 1995 (see Table 7.4). They began to liberalize trade in
the mid-1980s. In Latin America, average tariffs fell from 41.6 percent
prior to the crisis to 13.7 percent by 1990 (Inter-American Development
Bank 1997, 42). They began to privatize state-owned enterprises in the late
1980s. In Latin America, “more than 2,000 publicly owned firms,
including public utilities, banks, and insurance companies, highways,
ports, airlines, and retail shops, were privatized” between 1985 and 1992
(Edwards 1995, 170; see also Corbo 2000). They liberalized investment
regimes, thus opening to multinational corporations. They deregulated
industries and reduced government intervention in the financial system.
Structural adjustment programs had a dramatic impact on average
incomes in the short run and the distribution of income in the long run.
The crisis and the reforms brought about a sharp contraction of economic
activity. Income fell sharply as a result. In Latin America, income fell by
about 8 percent between 1981 and 1984. In sub-Saharan Africa, incomes
fell, on average, by about 1.2 percent per year throughout the 1980s
(Thorp 1999, 220; World Bank 1993). The dismantling of ISI also
redistributed income from urban import-competing sectors to agriculture
and emerging export-oriented manufacturing industries. In The Gambia,
for instance, structural adjustment tripled the prices farmers received for
groundnuts and significantly increased prices that urban residents paid for
petroleum products, public transportation, water, electricity, and
telecommunications (Jabara 1994, 309). Privatization and civil-service
reform resulted in large job losses. In Guinea, for example, the civil
service was reduced in size from 104,000 in 1985 to 71,000 in 1989
(Arulpragasam and Sahn 1994, 91). In pursuing structural adjustment,
therefore, governments redistributed income: export-oriented producers
benefited these policies, whereas people employed in the importcompeting
and nontraded-goods sectors saw their incomes fall.
TABLE 7.4
Countries Adopting Trade and Domestic Policy
Reforms, 1980–1996
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Africa Latin America
Benin Malawi Argentina Honduras
Burkina Faso Mali Bahamas Mexico
Burundi Mauritania Barbados Nicaragua
Cameroon Mauritius Belize Panama
Central African
Republic
Mozambique Bolivia Paraguay
Chad Niger Brazil Peru
Congo Nigeria Chile Suriname
Cote d’Ivoire Rwanda Colombia Trinidad
Ethiopia Senegal Costa Rica Uruguay
Gabon Sierra Leone Dominican
Republic
Venezuela
The Gambia Tanzania Ecuador
Ghana Togo El Salvador
Guinea Uganda Guatemala
Guinea-Bissau Zambia Guyana
Kenya Zimbabwe Haiti
Madagascar
Sources: World Bank 1994a; Thorp 1999.
The economic consequences of structural adjustment drove the domestic
politics of reform (see Nelson 1990; Remmer 1986; Haggard and Kaufman
1992; Oatley 2004). Groups that would lose from structural adjustment
attempted to block the reforms, whereas those who stood to gain attempted
to promote reform. Governments were forced to mediate between them,
and in many countries governments were heavily dependent upon political
support from the import-competing and nontraded-goods sectors. Thus,
reforms were hard to implement. Over time, however, the economic crisis
triggered a realignment of interests, discrediting groups associated with the
old policies and giving greater influence to groups that proposed an
alternative approach (Krueger 1993a). By weakening key interest groups
and by forcing many to redefine their interests, the crisis gradually eroded
many of the political obstacles to far-reaching reform. Yet, this process
took time, as reforms could be implemented only after new governments
responsive to new interests had replaced the governments that presided
over ISI.
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GETTING INSTITUTIONS RIGHT
As the 1990s progressed, members of the development community began
to argue that “getting prices right” by using SAPs to liberalize and
marketize developing economies, while perhaps a necessary step toward
sustained development, was not sufficient to deliver sustained growth. As
a consequence, policymakers and academics began to focus greater
attention on the broader context within which states made policy. As
attention shifted away from the rather exclusive focus on policy reform,
the characteristics and quality of political and economic institutions moved
to the center. By the turn of the century there was “widespread agreement
among economists studying economic growth that institutional quality
holds the key to prevailing patterns of prosperity around the world”
(Rodrik 2004, 1).
Thinking about institutions led to the articulation of two broad
institutional configurations—inclusive institutions and extractive
institutions—that have very different consequences for economic
performance (Acemoglu and Robinson 2012). Inclusive institutions have
political and economic characteristics that encourage individual initiative
and sustained economic growth. The most important political
characteristics of inclusive institutions include the broad extension of the
right to select and constrain governments, adherence to the rule of law and
a strong but (by virtue of the rule of law) constrained state. Among the
relevant economic characteristics, inclusive institutions have strong
property rights and market structures that reward individual talent.
Inclusive institutions are likely to provide high-quality public services that
are important to growth, such as public education that is available to all
and infrastructure investments that facilitate market development. The
elaboration of property rights and their defense in the rule of law system
encourages investment in productivity-improving activities. The fact that
the opportunities for economic activity are open to the broad public rather
than restricted to the chosen few creates incentives for individual initiative.
Inclusive institutions are thus likely to generate economic growth that is
sustained over time.
Extractive institutions, by contrast, lack most of these redeeming
qualities. In terms of politics, extractive institutions allocate power very
narrowly to a small ruling elite and systematically exclude other segments
of society from access to power. In addition, the elite’s power is relatively
unconstrained by electoral institutions or by a clear rule-of-law-based
judicial system. Economic institutions also do little to reward the initiative
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of individuals. Property rights are often lacking, or where present are
unevenly enforced. In such systems, the elite use their power to extract
income from those who are excluded from politics and use it to provide
benefits to the narrow group that rules or to the subset of society that keeps
the government in power. Such systems become characterized by
corruption within the state and among the ruling elite, and by rent seeking
at the level of the society as a whole. As a consequence, the balance
between productive and unproductive activity tips in a direction
unfavorable to sustained economic growth.
One might illustrate the importance to economic performance of these
institutional differences relative to other possible factors by comparing
societies that share common cultures and geographies but have very
different institutional characteristics. Consider North Korea and South
Korea as one such comparison. South Korea has experienced sustained
growth rates and dramatic improvements in the standard of living. North
Korea, in contrast, has experienced exceptionally poor economic
performance, even to the point of suffering widespread food scarcity.
Acemoglu and Robinson’s institutional perspective attributes these
different economic trajectories to different institutions. They argue that the
two countries occupy basically the same geographic space (the Korean
peninsula), and thus confront the same climate and geographical
constraints and opportunities. The two Koreas share a common language
and culture, and (at least through 1940) they had a common history. The
two differ primarily in their institutional characteristics, with South Korea
benefiting from inclusive institutions and North Korean performance
undermined by its extractive institutions. Acemoglu and Robinson offer
other comparisons that are similar in nature, such as East and West
Germany during and after the Cold War. Perhaps you can think of other
comparative cases that either support or confound their institutional
hypothesis.
Although the Acemoglu and Robinson institutional hypothesis holds
considerable appeal, at least two important questions about the approach
have been posed by its critics. The first critique points to potential issues
of reverse causality. What we mean by reverse causality is the possibility
that economic development outcomes are the underlying cause of
institutional configurations rather than the Acemoglu and Robinson
hypothesis that institutions cause development outcomes. Concerns about
reverse causality arise from a large body of research that had been
conducted prior to the more recent work by Acemoglu and Robinson.
Indeed, almost 60 years ago Seymour Marin Lipset hypothesized that
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economic development causes democratization: “the more well-to-do a
nation, the greater the chances that it will sustain democracy” (Lipset
1959, 75). Subsequent empirical scholarship has found substantial support
for the Lipset hypothesis (Boix 2011; Barro 1996; Przeworski et al. 2000).
Indeed, as one highly influential recent study concluded, “the level of
economic development, as measured by per capita income, is by far the
best predictor of [democratization]” (Przeworski et al. 2000, 88).
The second critique concerns the origins of political institutions. If, as
Acemoglu and Robinson claim, different institutional configurations
generate different development outcomes, it becomes important to
understand what accounts for cross-national variation in institutions. That
is, why are some societies fortunate enough to have been endowed with
inclusive institutions that promote development while other societies have
had the misfortune to be burdened with extractive institutions that do not
promote development? Acemoglu and Robinson (2001) have argued that
institutions reflected colonial settlement patterns. Where colonial mortality
was high, due to climate and disease, colonists did not expect to establish
permanent residence. They thus created extractive institutions that
maximized their short-run take. Where colonial mortality rates were low,
colonists were more likely to establish permanent settlements and thus
were more likely to create inclusive institutions that promoted economic
development. And these distinct institutions persisted after colonialism
ended. For A&R, therefore, contemporary institutions—and thus
development outcomes—are reflect developments that occurred hundreds
of years ago and continue to exert influence through the social processes
that make it very difficult to change institutions. One potential problem
with this argument is that it is difficult to isolate the causal significance of
institutions from the impact of climate and geography (see Diamond
2012).
Other scholars also have explained institutions by focusing on the
interaction between colonialism and resource endowments. Engerman and
Sokoloff (2000) focus their attention on explaining divergent development
outcomes in South and North America and the Caribbean. They argue that
low-quality institutions—essentially the equivalent of extractive
institutions—emerged in colonies in which land, climate, and labor
endowments encouraged colonists to engage in plantation-based
agriculture. On Caribbean islands, for instance, the climate and land were
conducive to sugar production, while small indigenous populations forced
the colonial powers to rely upon imported slave labor. Colonists built
political institutions that enabled them to control sugar production and
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income and to exclude slaves from participation in politics. The result was
high inequality and low political inclusiveness. In contrast, in the northern
parts of North America, climatic conditions and land endowments
encouraged grain farming organized as small-holdings that relied on
family labor rather than slaves. This small holding model generated less
economic inequality which carried over into the design of political
institutions which were more inclusive. In short, the interaction between
geography and colonialism led to the establishment of particular
institutional arrangements 250 and more years ago, and these institutions
have exerted a powerful influence on development trajectories ever since.
The continued uncertainty about the origins or causes of institutions has
important implications. Because different institutions are associated with
different development outcomes, a central determinant of success lies in
getting institutions right. Yet, this implies that societies stuck with
extractive institutions can escape only if they can create more inclusive
institutions. But if societies can change from extractive to inclusive
institutions at will, then institutions aren’t exogenous to state policy—they
haven’t really been inherited from 200 years ago—and cannot have the
substantial independent impact on economic development that
institutionalists claim.
Policy Analysis and Debate
Shifting from the Washington to the Beijing Consenus?
Question
Should the “Washington Consensus” be replaced by the “Beijing
Consensus” as a development model?
Overview
The 1980s were turbulent for the developing world. The decade began
with sovereign debt crises in several Latin American countries, and
ended with the collapse of the Berlin Wall and political and market
reforms in Eastern Europe. Responding to these events, economist
John Williamson identified the “Washington Consensus” on the
policies that developing countries must implement to ensure a return to
growth. Williamson called this package the Washington Consensus
because the World Bank, IMF, and U.S. Treasury Department—all
based in Washington D.C.—concurred with these policy
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recommendations. Key to the Consensus was eliminating government
involvement in the economy: “stabilize, privatize, and liberalize.”
The recent success of China and other East Asian countries as well
as what some characterize as disappointing achievements from the
Washington Consensus, have led some to suggest that a so-called
“Beijing Consensus” is replacing or should replace the Washington
Consensus. If the “Washington Consensus” espoused decentralized
market fundamentalism, then the “Beijing Consensus” advocates a
return to a state-led development strategy. This new development path
appeals to many governments for two reasons: first, it promises rapid
results without a loss of sovereignty to Western governments that
many developing country governments saw as a major part of the
Washington Consensus. Second, it increases the government’s power
within the country by creating a justification for state intervention and
allocation. Advocates for the Beijing Consensus emphasize its
potential for delivering rapid development. Critics ask why
governments would be expected to have better success with a state-led
strategy now than they experienced under ISI.
Policy Options
Washington-based institutions should continue to promote
neoliberal politics. If governments do not comply, Washingtonbased
institutions should withhold aid and consider trade
sanctions.
Governments should be allowed to pursue development as they
see fit, and development aid and trade relations should not be
contingent upon the adoption of any particular policy orientation.
Policy Analysis
What differences do you see between the Washington Consensus
and the Beijing Consensus? What about between the Beijing
Consensus and the ISI strategy?
What interest, if any, does the United States have in promoting
neoliberal reforms like those of the “Washington Consensus”?
Why might the United States oppose diffusion of a state-led
strategy?
Why might developing countries resist neoliberal development
programs and favor a more state-centric model?
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Take A Position
Should the United States pressure developing countries to pursue
neoliberal policies? Should developing countries resist? Justify
your answer.
What criticisms of your position should you anticipate? How
would you defend your recommendations against these
criticisms?
Resources
Online: Do online searches for “Washington Consensus” and “Beijing
Consensus.” You might begin with a speech given by John
Williamson titled “Did the Washington Consensus Fail?” (located at
www.iie.com/publications/papers/paper.cfm?ResearchID=488).
Kenneth Rogoff, former head of the IMF, wrote an open letter to
Joseph Stiglitz in response to criticisms of IMF neoliberal policies
(located at www.imf.org/external/np/vc/2002/070202.HTM). One
influential criticism of the “Washington Consensus” is Dani Rodrik,
“Goodbye Washington Consensus, Hello Washington Confusion?”
(located at
www.hks.harvard.edu/fs/drodrik/Research%20papers/Lessons%20of%20the%2019
In Print: There are many lengthy criticisms of the “Washington
Consensus”, the best-known of which may be Joseph Stiglitz,
Globalization and Its Discontents (New York, NY: W.W. Norton &
Co., 2002), which prompted Rogoff’s reply (linked above).
CONCLUSION
Neoliberalism supplanted structuralism as the guiding philosophy of
economic development as a result of the interplay among three factors in
the global economy. Import substitution generated severe economic
imbalances that created pressure for reform of some type. The success of
East Asian countries that adopted an export-oriented development strategy
provided an alternative model for development. Finally, the emergence of
a severe economic crisis in the early 1980s, a crisis that resulted in part
from the imbalances generated by ISI and in part from developments in the
global economy, pushed governments to launch reforms under the
supervision of the IMF and the World Bank. By the mid-1980s, most
governments were implementing reforms that reduced the role of the state
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and increased the role of the market in economic development.
The implementation of these reforms has been neither quick nor
painless. The depth of the reforms brought substantial short-run costs as
average incomes fell and as this smaller income was redistributed among
groups. The proponents of neoliberal reforms argue that the short-run costs
are worth paying, however, for they establish the framework for strong and
sustainable growth far into the future. Achieving that outcome will require
developing societies to consolidate and build upon the reforms already
implemented. In addition, it will require the advanced industrialized
countries to accept short-run adjustment costs of their own in order to meet
the legitimate demands that developing countries now make about market
access.
The adoption of neoliberal reforms in the developing world is also
transforming the global economy. For the first time since the early
twentieth century, the developing world has integrated itself into that
economy. In doing so, developing countries have altered the dynamics of
global economic exchange. Standard trade theory tells us to expect trade
between capital-abundant and labor-abundant societies. Yet, trade barriers
have greatly limited such trade for most of the postwar era. As these
barriers have fallen during the last 20 years, trade between countries with
different factor endowments has become increasingly important.
Businesses are increasingly locating their activities in those parts of the
world where they can be performed most efficiently. Labor-intensive
aspects of production are being shifted to developing societies, whereas
the capital-intensive aspects of production remain in the advanced
industrialized countries. The expansion of North–South trade is thus
creating a new global division of labor.
KEY TERMS
Current Account
East Asian Model of Development
Export-Oriented Strategy
Extractive Institutions
Inclusive Institutions
Rent Seeking
Structural Adjustment Program
SUGGESTIONS FOR FURTHER READING
On the East Asian Model of Development, see Robert Wade, Governing the
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Market: Economic Theory and the Role of Government in East Asian
Industrialization (Princeton: Princeton University Press, 2003), Yin-wah Chu
(editor) The Asian Developmental State: Reexaminations and New Departures
(London: Palgrave MacMillan, 2016), and Dani Rodrik, One Economics, Many
Recipes: Globalization, Institutions, and Economic Growth (Princeton:
Princeton University Press, 2008).
The single best account of China’s trajectory is Barry Naughton, The Chinese
Economy: Adaptation and Growth (Cambridge: MIT Press, 2018).
For a detailed examination of the relationship between institutions and
development, see Daron Acemoglu and James Robinson, Why Nations Fail:
The Origins of Power, Prosperity and Poverty (New York: Crown Business,
2013).
For an application of the institutionalist perspective to contemporary sub-Saharan
Africa, see Robert H Bates and Steven Block, 2017. “Political Institutions and
Economic Growth in Africa’s ‘Renaissance.’” Oxford Economic Papers, 1–26.
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