Your humble blogger is currently knee-deep in a pedagogical project on the foundations of economic prosperity.  You can imagine my delight, then, that Daron Acemoglu and James Robinson have a new book coming out on that very topic:  Why Nations Fail: The Origins of Power, Prosperity, and Poverty.  There's an excerpt in the Montreal Review -- let's see how it opens, shall we?

To understand what these institutions are and what they do, take another society divided by a border. South and North Korea. The people of South Korea have living standards similar to those of Portugal and Spain. To the north, in the so-called Democratic People's Republic of Korea, or North Korea, living standards are akin to those of a sub-Saharan African country, about one tenth of average living standards in South Korea. The health of North Koreans is in an even worse state; the average North Korean can expect to live ten years less than their cousins to the south of the 38th parallel.

These striking differences are not ancient. In fact they did not exist prior to the end of the Second World War. But after 1945 the different governments in the north and the south adopted very different ways of organizing their economies....

It should be no surprise that the economic fortunes of South and North Korea diverged sharply. Kim Il-Sung's command economy soon proved to be a disaster. Detailed statistics are not available from North Korea, which is a secretive state to say the least. Nonetheless, available evidence confirms what we know from the all too often recurring famines: not only did industrial production fail to take off but North Korea in fact experienced a collapse in agricultural productivity. Lack of private property meant that few had incentives to invest or exert effort to increase or even maintain productivity. The stifling repressive regime was inimical to innovation and adoption of new technologies. But Kim Il-Sung, his son and successor, the "dear leader" Kim Jong-Il, and their cronies had no intention to reform the system, or to introduce private property, markets, private contracts, and economic and political freedoms. North Korea continues to stagnate economically, and there is no sign that anything will be different under the new "dear leader" Kim Jong-un.

Meanwhile in the south economic institutions encouraged investment and trade. South Korean politicians invested in education, achieving high rates of literacy and schooling. South Korean companies were quick to take advantage of the relatively educated population, the policies encouraging investment and industrialization, the export markets, and the transfer of technology. South Korea became one of East Asia's `Miracle Economies,' one of the most rapidly growing nations in the world. By the late 1990s, in just about half a century, South Korean growth and North Korean stagnation led to a tenfold gap between the two halves of this once-united country---imagine what a difference a couple centuries could make. The economic disaster of North Korea, which not only prevented growth but led to the starvation of millions, when placed against the South Korean economic success, is striking: neither culture nor geography nor ignorance can explain the divergent paths of North and South Korea....

The contrast of South and North Korea illustrates a general principle: inclusive economic institutions foster economic activity, productivity growth and economic prosperity, while extractive economic institutions generally fail to do so. Property rights are central, since only those who have secure property rights will be willing to invest and increase productivity. A farmer, for example, who expects his output to be stolen, expropriated or entirely taxed away would have little incentive to work, let alone any incentive to undertake investments and innovations. But extractive economic institutions do exactly that and fail to uphold property rights of workers, farmers, traders and businessmen.

It will not shock you, my dear readers, to learn that I agree with Acemoglu and Robinson.  Indeed, as Ezra Klein showed with the following chart, the divergent paths of North and South Korea represents ironclad evidence about the power of instituions to determine prosperity: 

Well, that's pretty damn persuasive, isn't it?  It seems pretty friggin' obvious which institutions work and which ones don't! 

Actually, to be more accurate, it seems pretty friggin' obvious now.  Here's another chart that extends that graph back another two decades: 

Things look sightly different in this chart.  That massive divergence is still there, but what's stunning is that for the 25 years before that, the DPRK and ROK looked exactly the same in terms of per capital income.  Indeed, as Nicholas Eberstadt notes: 

Around the time of Mao Zedong's death (1976), North Korea was more educated, more productive and (by the measure of international trade per capita) much more open than China. Around that same time, in fact, per capita output in North Korea and South Korea may have been quite similar. Today, North Korea has the awful distinction of being the only literate and urbanized society in human history to suffer mass famine in peacetime. 

My point here is not to defend Kim Il Sung or suggest that the DPRK's economic institutions are underrated.  Rather, my point is that as data analysts, we're all prisoners of time.  Had Acemoglu and Robinson written Why Nations Fail in the mid-1970s, it would have either made a different argument or it would have had a much tougher case to make about the merits of inclusive vs. extractive institutions (during the 1970s, commodity extracting states were looking pretty good). 

Keep these charts in mind whenever anyone confidently asserts the obvious superiority of a particular model of political economy.  Because, I assure you, there was a point in time when such superiority was far from obvious.  And there might be another such point in the future. 

At the risk of contradicting myself, I'm not sure whether the current crisis in markets means that we're in the middle of a fundamental shift in how we think about the role of the state in the economy.  Henry Farrell blogs that the past week's events have reversed two really big trends in the global political economy: 

The last three decades have seen two important shifts among advanced industrialized economies. The first is the move away from state ownership of large chunks of the economy, and the replacement of hands-on government control with a variety of regulatory instruments. This has happened across all countries in the industrialized world – there are few developed states which still directly own substantial parts of their economy. The second is more specific and recent – the tendency to replace ‘heavy-handed’ forms of regulation with ‘regulation with a light touch’ and self-regulation. This has been most marked in Anglo-American economies, but other countries (in continental Europe and elsewhere) have faced persistent ideological pressures to move in this direction. This is a large chunk of the so-called ‘reform’ agenda that the Economist magazine, the OECD and other such bodies keep pushing. Both of these shifts are largely ideological – that is, they gained much of their impetus from changes in the shared ideas which constitute policy-makers’ shared collective wisdom about how to deal with the economy. The second shift (the reform agenda) is now a busted flush. Its proponents are in disarray.... But what is utterly startling to me is that the first bit – the claim that the state shouldn’t be directly involved in running the economy – is under serious threat too. I genuinely hadn’t expected this to happen. As the NYT notes, countries like France are using US actions as a way to justify state involvement in picking and supporting national champions.

It's not just France.  Russia has planned aggressive state actions to intervene in financial markets.  So has China.  The Gulf economies are now feeling domestic pressure to use their sovereign wealth funds to prop up their own equity markets.  Is this the beginning of a norm shift in the global economy?  It's tempting to say yes, but I have my doubts.  The last time the United States intervened on this scale in its own financial sector was the S&L bailout -- and despite that intervention, financial globalization took off.  The last time we've seen cordinated global interventions like this was the Asian financial crisis of a decade ago -- and that intevention reinforced rather than retarded the privilege of private actors in the marketplace.  In other words, massive interventions can take place without undecutting the ideological consensus that private actors should control the commading heights of the economy.  Finally, there's the odd fact that despite the financial chaos of the past year, in relative terms the United States is still doing surprisingly well.  U.S. equity markets are actually outperforming the world, and as the crisis has deepened the dollar has strengthened.  Over the past fifty years, this has been America's saving grace -- in past crises that were thought to end U.S. hegemony, it's the U.S. that suffers the fewest costs.  This does not mean that history will repeat itself -- but it's something to bear in mind as the crisis moves foreward.