In today’s Finshots, we tell you why Dr. Daron Acemoglu, Dr. Simon Johnson and Dr. James A. Robinson won the prestigious Sveriges Riksbank Prize in Economic Sciences ― commonly known as the Nobel Prize in Economics.

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The Story

India was one of the richest countries in the world until the 18th century.

A favourable geographical location and the Indian Ocean allowing easy transportation, made it an important player in global trade. India exported spices, silk and minerals far and wide. And its industrial production was even higher than that of the US.¹

But then, everything changed.

European colonisers, especially the British, gradually took control, exploiting India’s resources and people for labour. And today, 77 years after independence, the tables have turned. India is no longer richer than the US. Sure, it’s growing fast. But its global manufacturing output is still less than 20% of the US’.²

But here’s the thing. The Europeans colonised the US too. So why did the US go on to become rich, while India is still working towards it? And why is it that, despite Europe colonising over 80% of the world at one point, some countries thrived, while others didn’t?

That’s exactly what this year’s Nobel Laureates, Dr. Daron Acemoglu, Dr. Simon Johnson and Dr. James Robinson, tried to find out. They spent years researching and publishing papers and books on how colonial rulers set up institutions and how that shaped the wealth of nations. And what they found was fascinating.

The richest 20% of countries today are 30 times wealthier than the poorest 20%.

So how did this happen, you ask?

Well, one of their observations is the city of Nogales, split by the US-Mexico border. The city’s northern half is in Arizona, USA, and the southern half is in Sonora, Mexico. So if you stand at the border and look at Nogales, you’ll see that its southern part is considerably poorer than its northern part. And that’s sort of odd because despite being in different countries, it’s literally the same place geographically. Both halves have a similar climate, similar origins and even common ancestors. They are also culturally similar with people eating similar food. Heck! They listen to more or less the same kind of music too.

But the reason why the two sides are worlds apart in terms of prosperity is because in Nogales, USA, people feel secure. Their property and investments are protected by laws, and they can vote to remove politicians they don’t like. So naturally, people here are wealthier, live longer and have access to better education. In Nogales, Mexico, however, crime and corruption make it harder to start businesses or succeed. And although things have improved with democracy, removing corrupt politicians is still a challenge.

And this all traces back to how European colonial rulers sowed the seeds of governance. If you’re still wondering how it’s all connected, here’s how the Nobel Laureates explain it.

First, you could look at the motives behind why colonisers set up different political and economic systems in the places they ruled. They didn’t treat all colonies the same. In countries like India, Brazil, Mexico and many parts of Africa, a large population and higher protests or resistance made it difficult for them to maintain control. But once they held on, they exploited these large populations for cheap labour and resources. And since there was plenty of labour already, fewer European settlers moved to these places. The systems they set up, known as extractive systems, benefitted the colonisers at the expense of the local population. Even after independence, it was too costly for the new governments to overhaul these exploitative systems. So in some places, they continued using forced labour to maximise production, even if that meant keeping their economies stuck in poverty.

On the flip side, places like Australia, Canada, New Zealand, the US, Hong Kong and Singapore had smaller populations, so European settlers moved into these places to make up for the labour shortage. The systems they created were more inclusive and benefitted everyone since there wasn’t much they could exploit. And thus, these countries went on to prosper.

But that’s not the only reason why colonial rulers were biassed in how they set up governance systems. Another thing you can’t discount is their immunity levels. Yup! Diseases like malaria and cholera that spread in countries like India were deadly for the British, who didn’t have the immunity that the indigenous people had developed over the years.

Acemoglu, Johnson and Robinson highlighted this by studying the mortality rates of British troops stationed in Bengal and Madras at the time.³ On average, local (Indian) troops saw 12 deaths per 1,000 soldiers every year, while British troops stationed in the same areas faced between 70 and 170 deaths per 1,000 soldiers. Compare that to just 15 deaths per 1,000 for British soldiers back home, and that’s a huge difference. Because of these deadly conditions, fewer Europeans settled in such regions.

In fact, they wouldn’t even send convicts to places like India, considering the disease risk too harsh. Instead, convicts were sent to Australia, where many of the early settlers were ex-convicts. With land owned by the local elites and no laws protecting the settlers, they demanded political rights similar to those in England. They wanted jury trials, protection from unfair arrests and the right to vote. Although the British government initially resisted these demands, the settlers argued that, as British citizens, they deserved the same rights. And eventually, by the late 1840s, the British government gave in by introducing constitutional changes. Later, a significant boost in public investment for building infrastructure helped the economy grow as voters expected politicians to actively work for their well-being.

This explains why countries with higher British mortality rates had more extractive systems, and of course a lower chance of developing economic systems that promoted long-term growth. And the end result was that countries which were once rich before colonialism experienced a reversal of fortune and ended up poor.

But why weren’t the new leaders in some poorer countries eager to change the exploitative systems left behind by colonisers?

It’s simple. They feared losing power and wealth.

Even if reforms could benefit everyone in the long run, they didn’t trust the population to compensate them for their losses. This is called a “commitment problem” or a situation where the elites don’t believe that things will go their way if they give up control. Even if people threaten to revolt, the elites often promise reforms just to calm things down, knowing that they could return to their old ways later. In extreme cases, when the threat of revolution is strong, they may be forced to hand over power and allow democracy. And in all of this struggle, the journey to becoming a richer or more economically developed country just slows down.

So yeah, that’s exactly why India, along with many other once-wealthy nations, is still working to reclaim its lost prosperity.

Colonial rulers and their exploitative systems left deep scars.

But thanks to the Nobel Laureates who uncovered the real reasons behind these systems, we now have a clearer understanding of why India remains a developing country.

And that does matter because as they say… while the scars of history run deep, we could only move forward if we know where we came from. That’s how we bounce back, eh?

Until next time…

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Story Sources: The Nobel Prize Website [1], Safeguard Global [2], The Colonial Origins of Comparative Development, a 2001 paper by Acemoglu, Johnson and Robinson [3]

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