Why they are poor

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I went to Nicaragua, one of the poorest countries in our hemisphere, to see poverty for myself. With a literacy rate of 68% and per capita GDP of $3,200, Nicaragua is a world away from New York, my previous home. But why is Nicaragua different from New York? Phil and I have touched on many of these in The Hand, but I wanted to pull together a list of my top reasons:

Lack of education:

Education is expensive and a benefit of wealth, so to some extent, this is a story of “they’re poor because they’re poor.” Nonetheless, I can’t stress how much I’ve learned about the relationship between education and life opportunities.

Many Nicaraguans do not have a high capacity for abstract and analytical thought, an extremely important life skill. Wealthy Nicaraguans are exempt from this judgment because they have access to good private education. However there is a huge deficiency in educational opportunities for the poor.

I met one shoemaker who had pulled himself out of poverty with a shoe workshop employing over thirty people. I wasn’t surprised when he told me that a revolutionary government in the 1980s gave him the opportunity to study chemistry in Cuba. Shoes have nothing to do with chemistry or Cuba, but I’m sure the education was useful and is now part of the reason the shoemaker has had modest success.

The level of education has increased significantly in the past 30 years. Nevertheless, there’s a ways to go. 27% of Nicaragua’s students suffer chronic malnutrition. Bad schools make it hard to learn, but starving makes it even tougher and retards brain development.

See Barefoot Basketball for more intuition on why the education gap matters.

Lack of trust in enterprise:

I’ve spoken to dozens of entrepreneurs, and many say the same thing: the biggest challenge to making their business grow is hiring trustworthy managers who want to work hard and move up the latter with an ownership mentality. How can you build a business if you don’t trust your managers?

There are other reasons trust is fundamental in enterprise. The producer-distributor relationship can be burned by mistrust: does the producer deliver the right product? Does the distributor pay on time? Do both work for a long term relationship where both prosper? Or does each look for a quick individual win where the other may get screwed?

Why is there no trust? Business situations tend to be less stable, so people don’t invest in long term benefit through cooperation. I also believe that the lasting impact of the violent colonial relationship has created cultures of mistrust, but that is a much longer discussion.

Lack of entrepreneurship:

Check out Phil’s post on this problem and how to fix it. Very insightful. I spoke to some entrepreneurs who said that Nicaraguan society puts upmost value on studying a “profession,” like Doctor or Lawyer. Entrepreneur is not a title, and titles are important. In many U.S. social circles, it is the opposite: Doctor and Lawyer are boring titles and Entrepreneur is exciting, laden with mystique and social value.

Bad governance:

This could be its own post. Frankly I haven’t seen its effects as sharply as I expected. I have seen that the tax regimes are overly harsh for small businesses. Large businesses can often dedicate the resources to find loopholes or lobby their way to a lower tax burden. Informal businesses don’t pay anything. Meanwhile, to make the jump from an informal micro-enterprise to a formal small or medium business, with full capability to grow, import, and export requires a huge tax cost. I’ve seen it sink a shoe business that was profitable as an informal workshop.

I’m sure bad governance prevents development in more profound ways, but I wasn’t able to observe the effects directly while in Nicaragua.

Other suggestions?

These are the reasons I have seen. Does the Invisible Hand readership have other ideas?

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5 Responses to “Why they are poor”

  1. Willis Says:

    Sam,

    if you’re having trouble seeing the costs of poor governance, maybe it is helpful to think of both lack of trust in enterprise and the lack of education as the result of bad policy:

    Beginning with the former, you say there is a lack of long-term investment. This probably is explained in part by policy volatility, from tax codes to export/import licensing regulation.

    The later is the result of the high cost – often measured as opportunity cost – of education to poor, and particularly rural, families. An excellent case study (although in Mexico) is Paul Schultz’s “School subsidies for the poor: evaluating the Mexican Progresa poverty program”.

  2. Sam Says:

    Excellent points. I’d also say that government can also prevent long term investment because it is co-opted by large nationally based monopolies and prevents competitors from entering and competing. See TelMex in Mexico. They have a stranglehold in telecom, and AT&T sues them in Mexican court all the time for anti-competitive practices, but to no avail.

  3. phil Says:

    Sam, want to key off of a line in your post:

    “Education is expensive and a benefit of wealth, so to some extent, this is a story of ‘they’re poor because they’re poor.’ ”

    The idea of whether “they’re poor because they’re poor” is a contentious and hugely important debate when discussing the role of development aid.

    On one hand you have Jeffrey Sachs (author of “The End of Poverty”) who claims that the existence of poverty traps justifies a massive developmental aid initiative. The logic goes like: If the poverty trap is cyclical and reinforces itself, the only way to spring people from the poverty trap is to … give them money or services. They can not do it on their own. Free markets can not get them out of poverty. But when you give them a hand out of the poverty quicksand, they can start climbing up the so-called “development ladder.” Without that initial spurt of aid, they are stuck.

    On the other hand, Sach’s nemesis William Easterly disagrees. Easterly points to the failure of $2.3 trillion in foreign aid to bring countries out of the poverty trap and questions whether the poverty trap even exists (!!). He points out that poverty traps should reveal themselves in the data. Your ability to move up the development ladder should be a function of where you start out. Surprisingly, there are some studies that indicate this is not the case. But my sense is the jury is still out.

    For Sach’s POV:
    http://www.sciam.com/article.cfm?id=breaking-the-poverty-trap-extended&sc=I100322

    For Easterly’s POV: http://www.nyu.edu/fas/institute/dri/Easterly/File/AfricasPovertyTrap_WSJ032307.pdf

  4. doc mac Says:

    (disclaimer: I have not made it through the End of Poverty)

    Phil, I think you’re creating an unneccessary dichotomy. Maybe the debate should be over WHICH aid can break the poverty cycle, not whether it does.
    Its true– foreign aid hasn’t made a dent in poverty. But I’m reluctant to write it off altogether. I think the most relevant critique to take from Easterly’s book is that too many aid projects lack measurable outcomes, consistency, oversight, and intelligence. They don’t really know what they’re doing, and they don’t stick around long enough to find out it isn’t working. To be cliched: its not what you spend, its how you spend it.**

    Airlifting in mosquito nets made by US companies keeping US profits (hello USAID’s nepotism…) is not going to make the poor any less poor in 5 years.
    Throwing up huge new school buildings in communities that can’t pay for electricity won’t help either. But training and continuously paying teachers for say, 20 years–long enough for a cohort of children to get a real education, not just basic literacy–might do the trick. I don’t know of any group that has followed through on that kind of commitment, or kept real data on such a project. If there has been such a thing, I would love to hear about it.

    could we frame the debate as quality vs quanity? and could we decide into which category sach’s millenium villages fall?

    **if you want to go off on a tangent…analagous arguments can be made for education in the US…there are isolated private, charter and parochial schools in poor urban environments that all outperform their public counterparts, and often do so at a fraction of the cost. yet we continue to pour money into the same broken system….

  5. Santi Says:

    Sam,

    Your post is implicitly referencing the lack of institutions. There are some awesome papers by Acemoglu and co-authors, as well as La Porta and friends, on this topic (i.e., institutions and law – they are all based, one way or the other, on Douglas North’s work). Education is actually one of the best social goods to provide (this is b/c the returns significantly outweigh the costs), but society only sees those realized benefits under the right institutional structure.

    What’s interesting, though, is that all the new literature (as well as your post) seems to suggest that growth is, fundamentally, a politically-driven phenomenon. As a corollary, that’s why foreign aid has been so ineffective – it’s like treating HIV with a condom, not the right tool.

    Cheers from cali

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