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Dhaka Tribune

PATTERNS & TRENDS

Politicians and economists -- the search for a common vocabulary

There is a need for a paradigm shift in how we approach policymaking. If we don't, there is a great risk that we will fall into the middle-income trap

Update : 07 May 2024, 10:20 AM

I was recently invited to give the opening presentation at a World Bank symposium on Bangladesh. I started by invoking one of my favourite economists, Albert Hirschman.  

In 1958, Hirschman, one of the most famous economists not to have won the Nobel Prize in economics, published “The Strategy of Economic Development” which is now recognized as one of the classic books on economic development. In that book, which is full of unusual insights, Hirschman said: “Development is about finding and harnessing resources that are hidden, scattered, or badly utilized.” The task of the government is to create the mechanisms that will bring out these latent resources and put these to good use. 

In economics, we are always concerned about the efficient allocation of available resources. Hirschman encouraged us to look beyond resources that are explicitly available and search for “hidden” resources and harness these. 

Fast forward to 2013. That year, Edmund Phelps, who won the Nobel Prize in Economics in 2006, published a fascinating book named Mass Flourishing. Phelps looked at the economic history of developed countries and came to this conclusion. Side-by-side with great scientific discoveries, which were translated into useful technologies, and helped increase productivity and enhance the quality of life of people, there was also an impressive display of creativity at the mass level. Millions of ordinary people came up with original ideas and creative solutions to problems. This also played an important role. 

In Bangladesh, there has been an unleashing of the entrepreneurial spirit across the board -- from small farmers to large conglomerates, across businesses and NGOs. This entrepreneurial spirit has been combined with the creativity of the masses and the dynamism of an aspiring society. These are the hidden resources that Hirschman talked about. It was the harnessing of such latent resources that explains how a country once termed a “basket case” is now en route to becoming a middle-income country.

Much of Bangladesh’s growth so far has been due to an expansion of production capacity. To escape the trap, we must move from investment in production capacity to investment in productivity improvements, and eventually to investment in innovation capacity

But there is no ground for complacency. This is the message that was sent out a decade and half ago by two economists: Homi Kharas and Indermit Gill. In a 2007 book on East Asia, they warned us about the middle-income trap. What they meant was the following: Countries could get trapped in middle-income status, unable to compete with low-wage competitors in standardized manufactured exports or with advanced economies growing on the basis of innovations and advanced technology.

When people talk about the trap, they often compare Argentina with South Korea. Argentina, one of the wealthiest countries in the world at the turn of the previous century, has been trapped in the middle-income category for a long while South Korea, a low-income country even 70 years ago, has escaped the trap and become a high-income country. 

What did South Korea do that Argentina did not? South Korea embraced a growth strategy based on exports of manufactured goods, first simple products such as garments and then more sophisticated products such as electronics and automobiles. Argentina focused on import substitution and agriculture. South Korea innovated, Argentina did not. At the beginning of the 1990s, South Korea filed eight times fewer patent applications with the US Patent and Trademark Office than did Germany. In 2012 it filed 30% more applications than Germany despite having only half the population.

Much of Bangladesh’s growth so far has been due to an expansion of production capacity. To escape the trap, we must move from investment in production capacity to investment in productivity improvements, and eventually to investment in innovation capacity. 

Escaping the middle-income trap

Bangladesh is not yet on that path. Let us compare Bangladesh with Vietnam. In the early 1990s, Vietnam’s electronics exports were less than 1% of its total exports, the same as Bangladesh’s. Now 40% of Vietnam’s exports come from electronics. For Bangladesh, that share is still below 1%. There are many reasons for this. I shall focus on just one: FDI. 

Until the late 1980s, FDI was less than 1 % of GDP in both countries. But starting from the mid-1990s, annual FDI flows to Vietnam have averaged 6% of its GDP. Bangladesh’s ratio remains below 2%. Moreover, less than 30% of the stock of FDI in Bangladesh is in the efficiency-seeking (ie, export-oriented) category and that ratio has gone down in recent years. 

There is a need for a paradigm shift in how we approach policymaking. We have to move from glamorous events such as road shows and investment summits to painstaking processes such as tracking systems that track how many investors attending the road shows ultimately end up in Bangladesh. 

We have to transcend from solving investor problems on a case-by-case basis to a more structured way of addressing investor grievances. We have to stop giving subsidies to maintain the status quo and move towards subsidies that bring about change. 

We should not focus only on streamlining regulations but must also identify regulatory gaps in order to clarify the rules of the game for new technology and new business models. 

It was the harnessing of such latent resources that explains how a country once termed a ‘basket case’ is now en route to becoming a middle-income country

Finally, we must move from piecemeal, and sometimes contradictory, actions by individual ministries and agencies to a whole-of government approach advancing important agendas such as export diversification and FDI attraction.      

This brings us to the subject of policy dynamics and politics. It is useful to think about policy dynamics in Bangladesh as the interplay of three worlds: The world of enterprise and markets, the world of ideas and discourse, and the world of policy. 

The interplay has worked in the following way in the past. Entrepreneurial activities and market development created a demand for policy support to which the government responded with policy and legal changes, regulatory reforms, and public investment projects. 

Receptive policy makers responded to ideas and demands from the marketplace and, through such policy actions, created space for entrepreneurship to flourish. Their world views and decisions were also influenced by local professionals, especially economists, and external players, most notably the bilateral and multilateral donor agencies. 

The dominant approach of the policy makers has been experimental, incremental, and adaptive. Successive administrations have observed market developments and responded by undertaking appropriate policy actions and public investment programs. They have done so cautiously by testing the market. 

When such incremental policy actions generated market response, demand was created for additional policy actions. The government responded to such demand with follow-on actions, even if not always at the speed desired by market players and policy advocates. What we now see is the accumulated result of such an interactive process over three to four decades.

The interaction between the three worlds that I have summarized is now under threat. The linkages may become diluted and distorted. Two factors causing this are the growing influence of crony-capitalists and the rise of aspiring elites. 

Politicians feel pressure to accommodate the demand of these two groups. It is reflected in various distortionary policies, and the burgeoning size and declining efficiency of public expenditures. Sound recommendations coming from the world of professionals are being ignored. Bad ideas are driving out good ones. If we can’t check these negative trends, there is a great risk that we will fall into the middle-income trap.

To avoid this dead-end path, economists need to understand politics, but they must also try to make politicians understand economics. That will require creativity and some out-of-the box thinking.

Syed Akhtar Mahmood is an economist, previously with an international development agency.

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