Latin America and Africa’s growth pains

The world has mostly been interested in using Latin America as a source of raw material


African manufacturing and services industries are still extremely bad at what they do. Photo: Bloomberg
African manufacturing and services industries are still extremely bad at what they do. Photo: Bloomberg

The great macroeconomist Robert Lucas once uttered a memorable quote about the mystery of economic development: “Is there some action a government of India could take that would lead the Indian economy to grow (more rapidly)...? If so, what, exactly?...The consequences for human welfare involved in questions like these are simply staggering: once one starts to think about them, it is hard to think about anything else.”

In the last few decades, many poor countries have experienced bursts of rapid growth. Everyone knows about Asia, but many people believe that Sub-Saharan Africa and Latin America have been left behind. This is false. Especially since the year 2000, countries in these two regions have been getting much richer. Here is a picture of real per-capita gross domestic product growth in these countries: Some countries, such as Argentina, are already at middle-income levels. Others, like Ethiopia, remain poor. But almost all of these countries have seen substantial economic progress in the past 15 years or so.

However, not all growth is created equal. Harvard economist Dani Rodrik has been examining these countries closely, in order to evaluate the quality of their growth. In a new paper with Xinshen Diao and Margaret McMillan, he breaks poor-country growth down into two sources.

The first source is within-sector productivity growth. This happens when a country gets better at something, like farming or manufacturing electronics. More productive industries benefit the domestic economy too, and they also allow a country to retool in the face of shifting global demand. But if within-sector improvement is the only source of growth, it means the economy isn’t doing a good job of moving resources to more sectors that create more value.

The second source of growth is structural change. This happens when the economy shifts from low-value-added sectors to high-value-added ones. An example is when the US went from manufacturing clothing and furniture to building semiconductors and airplanes. Structural change is important and good, but if that’s the only thing driving growth, it’s dangerous, because demand shifts could undo some of the progress.

The Asian growth story has been so strong because those countries have usually had both of these positive forces at work. In nations such as India, Bangladesh, Vietnam and Cambodia, industries have become more efficient at the same time that the economy moves resources to more value-creation industries. The result has been rapid and steady growth, which probably will continue.

But Latin America and Africa each have worrying deficiencies. In Latin America, most countries haven’t had much positive structural change—their industries are getting better at doing what they do, but there is no movement of resources from low-value to high-value sectors. In Africa, meanwhile, the problem is reversed—African economies do a good job at reallocation, but most of their industries haven’t become more productive.

Why do these deficiencies exist? In Latin America, the big problem might be that the region isn’t well integrated into the global trading system. As Rodrik notes, Latin America’s manufacturing industries have gotten steadily better, but because of overvalued exchange rates and competition from Asia, relatively few countries want to buy Latin American-made products. Instead, the world has mostly been interested in using Latin America as a source of raw materials.

In order to keep growing, countries such as Brazil, Argentina and Colombia need to find some way to shift towards exporting more important and valuable products. Pushing down exchange rates might be a start. They also should focus on making their economies more flexible, to allow better reallocation of resources. That might involve reducing government protection for well-connected companies and industries.

African countries, meanwhile, look very flexible. They’re doing a great job shifting resources to where they need to go. And African agriculture, which still employs the bulk of the population, has been getting more productive. So African workers have been leaving the land as farming techniques improve, and moving to the city where they can do other stuff.

The problem for Africa is that the other stuff hasn’t been getting more productive. African manufacturing and services industries are still extremely bad at what they do. This means that as workers move from the countryside to cities, they push productivity and wages down. In order for Africans to get richer, they’re going to have to figure out how to get better at things other than farming.

That calls for a multipronged approach. Improvements in education and health are a must. Importing foreign technology is also key, so African countries should try to encourage multinational companies to locate factories and branches there. And since the continent doesn’t have much coal, it will need to take advantage of solar power, which fortunately has fallen rapidly in price.

So Latin America and Africa face very different economic challenges. For the former, it’s all about shifting resources; for the latter, it’s all about boosting productivity. If these continents can meet those challenges, the outlook for Earth’s poor countries will be bright. Bloomberg

Noah Smith is a Bloomberg View columnist.

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