February 20, 2003 | Lecture on Africa
Listening to the panels this week, I have heard many references to "development" and "sustainable development," and how the African Growth and Opportunity Act (AGOA) and other trade efforts will affect development. That term seems to mean different things to different people--indeed, it seems to encompass a vast array of causes and issues, ranging from labor standards to the environment to human rights.
I believe the central pillar of development is increased economic growth. The focus on growth should not be interpreted as a dismissal of the importance of investment in education, health, or other worthy efforts. Investment in those areas, in a manner appropriate to the individual situations, is prudent. But the bottom line is that without economic growth, governments and the private sector would soon lack the resources to support those efforts.
Let's look at the record. There are 86 developing countries that are graded in the 2003 Index of Economic Freedom, co-published annually by The Heritage Foundation and The Wall Street Journal, and for which GDP information is available. Of these, 37 averaged zero or negative compound annual growth in per capita GDP from 1980 to 2000. Another 21 averaged marginal compound annual growth between 0 and 1 percent over that span. And only 28 averaged compound annual growth in per capita GDP over 1 percent from 1980 to 2000 (China averaged over 5 percent).
Although only one country in the Organisation for Economic Co-operation and Development (South Korea) averaged over 5 percent compound growth in GDP per capita during that time period, the OECD economies averaged stronger growth than developing countries.3 The OECD nations plus Hong Kong and Singapore averaged compound annual growth in per capita GDP of 2.32 percent from 1980 to 2000.
Developing countries averaged a disappointing 0.57 percent, but sub-Saharan African countries averaged very poor compound growth in per capita GDP of 0.02 percent from 1980 to 2000. Given these facts, it is hardly surprising that few developing countries are closing the gap with the developed world and that Africa is even further behind.
But achieving high per capita economic growth is possible. The way for countries to achieve that growth is to adopt policies that promote economic freedom and the rule of law, which are measured in the Index of Economic Freedom.
The Index analyzes 50 economic indicators in 10 independent factors: trade policy, fiscal burden of government, government intervention in the economy, monetary policy, capital flows and foreign investment, banking and finance, wages and prices, property rights, regulation, and black market activity. Those 10 factors are graded from 1 to 5, with 1 being the best score and 5 being the worst score. Those scores are then averaged to give an overall score for economic freedom. Countries are designated "free," "mostly free," "mostly unfree," and "repressed" based on these overall scores.
As shown in the Index, free countries on average have a per capita income twice that of mostly free countries; mostly free countries have a per capita income more than three times that of mostly unfree and repressed countries. (See Chart 1)
This relationship exists because countries that maintain policies that promote economic freedom provide an environment that facilitates trade and encourages entrepreneurial activity, which in turn generates economic growth.
This relationship holds for sub-Saharan Africa. As illustrated in Chart 2, "mostly free" economies in sub-Saharan Africa graded in the 2003 Index averaged a GDP per capita over three times that of "mostly unfree" economies, which in turn averaged a GDP per capita more than $200 greater than repressed economies.
Botswana and Mauritius achieved a compound average growth in GDP per capita from 1980 to 2000 of 4.7 percent and 4.4 percent, respectively. Not surprisingly, these countries adopted economic freedom early and reaped the rewards. Both nations have been rated "mostly free" economies for most of the time that the Index has graded them. Botswana is currently the freest economy in sub-Saharan Africa, and Mauritius is tied for sixth place in the region.
Increased economic freedom in trade involves lower trade barriers in developing and developed countries alike, leading to lower costs and greater efficiency as entrepreneurs determine the activities in which they have a global or regional competitive advantage. These gains translate into increased economic growth and per capita income.
To measure a country's willingness to interact with the global economy, The Heritage Foundation developed a "Trade Openness Index" from a subset of four of the 10 factors used in the Index of Economic Freedom: trade policy, capital flows and foreign investment, property rights, and regulation. These four factors were deemed most influential over decisions to engage in international transactions.4 (See Chart 3.)
Analysis of the relationship between trade openness and per capita GDP reveals that open economies have an average GDP per capita over twice that of mostly open economies, mostly open economies have a GDP per capita seven times that of mostly closed economies on average, and mostly closed economies have a per capita GDP a bit less than twice that of closed economies.
The relationship between trade openness as measured by the Index of Economic Freedom and higher per capita GDP holds for sub-Saharan Africa. Mostly open economies in sub-Saharan Africa have a GDP per capita three times that of mostly closed economies on average, and mostly closed economies have a per capita GDP a bit less than twice that of closed economies. (See Chart 4.) Unsurprisingly, more open economies on average have higher levels of trade as a percentage of GDP. (See Chart 5.)
The relationships I have outlined are supported by economic analysis. For instance, one World Bank study found that increased integration into the world economy from the late 1970s to the late 1990s by 24 developing countries with over 3 billion people led to higher growth in income. These countries achieved average growth in income per capita of 5 percent per year in the 1990s. 5
By contrast, the non-globalizing nations have seen poor economic growth of only 1.4 percent on average in the 1990s, and many saw negative growth. The losers in the age of globalization are the countries that refuse to embrace the international market.
What is perhaps more interesting are the conclusions reached on the impact of globalization on issues often raised by anti-globalization activists. The study found that "In the long run workers gain from integration [with the world economy]. Wages have grown twice as fast in globalized developing countries than in less globalized ones...."6 "Despite widespread fears," the study continued, "there is no evidence of a decline in environmental standards. In fact, a recent study of air quality in major industrial centers of the new globalizers found that it had improved significantly in all of them."7
The most important conclusion, however, is that globalization is good for the poor. A related World Bank study found that increased growth resulting from expanded trade "leads to proportionate increases in incomes of the poor... globalization leads to faster growth and poverty reduction in poor countries."8 Another fact little remarked upon is that the absolute number of people in poverty (less than $1 a day) has declined since 1980 by some 200 million individuals.
The important lessons here are plain. The economic futures of developing countries lie predominantly in their own hands through the policies that they choose to adopt and enforce. If countries want to increase per capita GDP, they should adopt policies that are most likely to achieve that result: economic freedom and the rule of law.
It is economic freedom and the rule of law that catalyze economic growth. It is the increased wealth resulting from economic freedom that allows parents the luxury of educating their children instead of making them work to help provide for their families; that enables individuals to value green spaces for their aesthetic value rather than their potential as fields for crops or trees for fuel; that permits the workforce to worry about the quality of the work environment rather than the lack of employment; and that gives families the means to engage in preventive health practices that lead to longer lives.
Important achievements, such as increased literacy and lower infant mortality, can all be for naught if the government abandons the rule of law and sound economic policy. The most obvious example of this fact is Zimbabwe, held up by development agencies as a model of development for the region until President Robert Mugabe's policies destroyed the economy.
The tragic situation in Zimbabwe also illustrates the importance of the rule of law to economic freedom. The rule of law serves as the supporting structure of an economy, without which it cannot operate profitably. It ensures entrepreneurs that (1) policies will have lasting power and can be changed only through transparent, widely recognized procedures, permitting an environment conducive to long-term investment; (2) the rules will apply equally to all, rather than exempting some or being subject to change at the behest of the powerful; and (3) they will have legal recourse if policies unlawfully affect their activities, thereby reducing the risk of investments.
The fact that development lies predominantly in the hands of developing country governments does not mean that there is no role for developed countries. Economic assistance can help growth in countries with good economic policies and institutions--countries that embrace economic freedom and the rule of law. Assistance should focus on rewarding good performers. This is the essence of President George W. Bush's Millennium Challenge Account proposal.
Developed nations should also reduce trade barriers to developing nations. While developed countries maintain low average trade barriers, their highest trade barriers tend to apply to the goods that developing countries export, such as textiles and agriculture products. Similarly, many developed countries provide large subsidies for agricultural production, which acts as an indirect trade barrier. Agricultural subsidies encourage production and put downward pressure on agricultural prices, which makes it difficult for developing countries to compete.
The World Bank and Oxfam estimate that trade barriers by developed countries cost developing countries $100 billion a year--twice the amount they receive in official development assistance.9 Michael Moore, former Director-General of the World Trade Organization, goes further, estimating that removing all tariff and non-tariff barriers "could result in gains for developing countries in the order of $182 billion in the services sector, $162 billion in manufactures and $32 billion in agriculture."10
Removing barriers to trade is one of the most important actions that developed countries can take to aid development in poor nations and should be pursued in all possible ways. The United States has taken some impressive first steps through the African Growth and Opportunity Act, which appears to have increased trade and investment between eligible nations and the U.S. But efforts to open developed country markets to developing country goods and services must increase, particularly through the WTO negotiations, if developing countries are to maximize their potential for growth.
In short, developed countries can help by lowering their trade barriers and by focusing development assistance to those countries that are making improvements in economic freedom. But, of utmost importance, developing countries must make their own internal reforms by implementing policies that promote economic freedom, that promise economic growth. Only then will developing countries be on the path to economic development.
Brett D. Schaefer is Jay Kingham Fellow in International Regulatory Affairs in the Center for International Trade and Economics at The Heritage Foundation. These remarks were delivered at a conference on "AGOA: The NGO Perspective on Implementation, Progress and Future Objectives" in Phoenix, Mauritius, on January 13-17, 2003.
1. The author would like to thank Anthony Kim, Research Assistant in the Center for International Trade and Economics, for his valuable assistance and Aaron Schavey, Ph.D., a former colleague at The Heritage Foundation, for his work and ideas that contributed to this presentation.
4. For more information, see John C. Hulsman, Ph.D., and Aaron Schavey, "The Global Free Trade Association: A New Trade Agenda," Heritage Foundation Backgrounder No. 1441, May 16, 2001, at http://www.heritage.org/Research/TradeandForeignAid/BG1441.cfm.
5. Paul Collier and David Dollar, under supervision of Nicholas Stern, Globalization, Growth, and Poverty: Building an Inclusive World Economy, co-published by the World Bank and Oxford University Press, 2002, p. 5.