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Ten factors affecting the rise and fall of nations

By - 04.11.2016

On the book “The Rise and Fall of Nations – Forces of Change in Post-Crisis World,” by Ruchir Sharma.

Many authors have given their explanations as to why some nations are economically developed, and some are not. For example, James A. Robinson and Daren Acemoglu say that the nature of governance is the main determinative factor in the success or failure of a nation. For Max Weber, Samuel Huffington and David Landes, protestant work ethic is the most important determinant of the overall development of a country. Other authors mention race, environmental conditions, and even the southern and northern hemispheres as determinative factors.

However, Ruchir Sharma, in his book, “The Rise and Fall of Nations” lists 10 other factors that affect the economic rise and fall of nations. Sharma is developing economy researcher and an investor who works for Morgan Stanley, a multinational financial company. By analyzing data from 130 states, in a 60 year period, he came up with an economic model in which the analysis of states based on these 10 main criteria can predict their economic direction for the next five to 10 years.

1.  Is the workforce growing or being reduced, and how does society treat women?

According to the analysis model proposed by Sharma, countries that have had a boost in economic development have simultaneously experienced growth in the workforce. “Never in history has there ever been economic growth without population growth,” he argues, suggesting that it is necessary to have a growth in population, especially working age people, by at least 2 percent per year. To understand which countries have most problems with aging populations, Sharma proposes a comparison between the people that are able to work, ages 15 to 64, and those that are under 15, or over 64. If the population aged over 65 is growing, then the country is faced with the problem of losing the workforce to pension payments. For this reason, many countries have started to look into the possibility of raising the pension threshold, or even accepting more immigrants; one such country is Germany.

Besides the part of the population that is able to work, economic development of a country also depends on the space that is given to women in the labor market. Only by narrowing the difference in employment of the two genders can a country grow its GDP, between 9 percent (as seen in Brazil) and 34 percent (as seen in Egypt) in a 10 year period.

2. Who governs the country and for how long?

Sharma’s analysis suggests that a country has more opportunities to develop economically in the first years of rule of a new political leader who is widely supported by the population and who governs democratically. According to this rule, the biggest reforms happen in the first mandate, then they continue at a low intensity in the second, and are completely static in the third (or later) mandates. Singapore is the only exception to this rule under the rule of Lee Kuan Yew. Data shows that markets trust a political leader more in the first 41 months of governance, after this period, markets sniff the slow death of reforms.

3. How do the richest in the country gain their wealth?

According to Sharma, there are good and bad millionaires and billionaires. Good millionaires and billionaires are the ones who gain wealth through entrepreneurship, who employ a large number of people and who produce products that are used by consumers. Among them are technological innovators, people that work in show business, in the electronics sector, with pharmaceuticals etc.

Bad millionaires and billionaires are the ones that create their wealth through privatization of a country’s natural resources, through contracts with the government or political affiliations. Among them are people that work with gambling, construction, oil, coal, gold, natural gas, etc.

If a country has more bad millionaires and billionaires than good ones, social inequality grows and the population starts to become skeptical regarding the integrity of businessmen. Bad millionaires and billionaires create their wealth by damaging the general interests of society; whereas good millionaires and billionaires create wealth while simultaneously creating jobs and overall good for society.

4. How involved is the state in its economy?

According to Sharma, the less the state is involved in the economy, the bigger the chances are for economic growth. The state’s involvement in economy is damaging especially in corrupt countries, in which leaders use public funds to invest in projects that have short term benefits, so as to create a good image for themselves. Additionally, states must carefully pick projects in which they invest, so as to have a bigger economic effect with as little spending as possible.

5. Is the country situated in an important geographical position?

Every country that aims to achieve economic development through exports benefits from being situated closer to trade routes that interconnect rich consumers with the most suitable suppliers. “The Asian Wonders,” a term often used in reference to Japan, South Korea, Taiwan and Singapore, experienced economic growth, and their geographic location was one of the causes of this growth.

But geographic position alone is not sufficient to generate economic development if states do not take measures that materialize their geographic position through building infrastructure that facilitates trade. However, the importance of geographic positions can change over time.

6. Is the rate of investments increasing or decreasing?

Another factor that affects the economic growth or decline of states is the rate of investment compared to GDP. Two different kinds of spending affect the economy: consumer spending and investment spending.

Investment is spending that affects the creation of new businesses and jobs. Every state that aims to achieve quick economic growth must have an investment rate at a value of 25 percent to 35 percent of their GDP. This is not only about state investments, but also private sector investments, as well as foreign investments.

Where these investments are made is also important. The best or most economically effective investments are ones that are focused on the manufacuring industry, in technology and infrastructure, including roads, energy networks and water supply networks.

The worst investments are those in the property sector, as they have very little effect on development. States cannot develop by focusing only on the service economy. The most rapid development happens when production is rapid. Where there is production, the service industry blooms naturally.

7. Is inflation high or low?

Inflation is one of the most dangerous factors regarding the economy of a state. Increased prices for food items has caused discontent, revolutions, and the biggest economic crashes in history. Some think that the French Revolution and the Arab Spring were mainly caused by increased food prices.

Countries that experience rapid economic development will unavoidably experience inflation of prices as well, but according to Sharma, they must be careful and must maintain a gradual pace of inflation.

8. Are living costs high or low?

Another way of analyzing the economic situation in a country is through living costs. If a country has a high value currency, it will encourage its residents, and foreigners, to spend abroad. If consumers feel that the currency of their country is cheap, this can bring a lot of income through tourism, exports and other channels.

Although there is a widespread belief that the stronger a country’s currency is, the more developed that country is, Sharma’s data shows that expensive living in a poor country or a developing country damages tourism and causes an outflow of funds (money moves out of the country).

9. Is a country’s debt increasing more than its economy?

According to analysis by Sharma, every country that maintains their public debt level at a rate of 40 percent of their GDP for five years running is destined to experience financial crisis. However, public debt is not always a bad thing. If it is kept under control, public debt can aid economic growth. Additionally, the reason for the creation of the debt is another important factor. If states are in debt to finance internal consumption or social schemes, then even the lowest debt levels are damaging.

10. How is a country portrayed by opinion makers and media?

The longer the duration of economic growth in a country, the better that country is portrayed in reports and international media. However, according to Sharma, media are slow to reveal growth trends. According to him, the moment a state is portrayed on the first page of Time or Newsweek is a sign of that state peaking in regard to economic growth, and what follows is only decline. International media have a tendency to report widely on crises. After a crisis passes, media forget about developments in that country. Usually big economic growth happens only after crises.

Applying Sharma’s theory to Kosovo

According to this theory, these evaluative elements must only be used to predict the direction of a country’s development in a medium-term period of five to 10 years; Sharma suggests that no economic model can predict economic trends for more than a decade. Additionally, only by combining these elements, and not by focusing on only five of them, is an analysis of a country made possible.

Based on this analysis and using these evaluative factors, how does Kosovo stand and what is its development direction for the next five years?

Kosovo has the youngert population in Europe and 67 percent of its population is able to work. However, the problem is that officially 62.4 percent of the population that can work is classified as inactive in the labor market. Also, only one in five women are active in the job market, which makes Kosovo one of the countries with the biggest discrepancies between women and men in the labor market. Kosovo has been governed more or less by the same political caste ever since it declared independence in 2008. This political class is one of the most corrupt and unfit in the region. The richest in the country have achieved their wealth through political affiliations and public contracts, or by focusing on the trade business and in real estate; ways of achieving wealth that Sharma classified as damaging to the economy of a country.

The Kosovo Constitution and legislation set out the basis for a country with a free economy and free trade. But in practice, because of bureaucracy and a high level of corruption, economic operators are faced with many problems of state intervention in affairs, either by means of creating monopolies which damage market competition, or by tolerating an informal economy in parts of the territory, being rigorous with other businesses, and discriminating in the assignation of public tenders.

Despite the fact that it is situated centrally in the Balkans and has invested billions of euros in highways, Kosovo is not utilizing its geographic position for economic benefit. Public and private investments have continuously declined. Seeing that Kosovo has no monetary policy and that it has a high trade deficit that is always on the rise, there are no instruments for controlling inflation. However, despite this, inflation in the last few years has grown at a low and not very noticeable rate.

As for living costs in Kosovo, it depends on the perspective. For a Western tourist, Kosovo is a cheap country to visit and live in. Whereas for the local population, with an average wage of 350 euros a month and with 73 percent of the family budget spent on food and residence, life in Kosovo is quite expensive.

As for public debt, Kosovo is one of the countries with the lowest public debt in Europe. Although this has begun to change in the last year, since the government is continuously seeking to borrow money from outside the country so as to finance the budget deficit which is constantly growing because of social schemes.

In international media reports, Kosovo is portrayed as a failed state with a high level of corruption and high levels of unemployment and poverty.

According to this, Kosovo is doing badly in at least seven of the ten indicators which Sharma identifies for the analysis of states. In order for it to move into a growth trajectory, Kosovo needs to reduce the employment deficit between the two genders, to grow investment levels by at least 25 percent of its GDP, to borrow funds only for development projects, and to elect a new government which is widely supported.

“The Rise and Fall of Nations – Forces of Change in the Post-Crisis World,” by Ruchir Sharma, was published in June 2016 by W.W. Norton & Company.