Knowhow and the Wealth of Nations: Overcoming the Productivity Curse

Since Adam Smith wrote “The Wealth of Nations” in 1776, economists have struggled to answer one particular question: why are some countries rich and others are poor? While evidence points to a number of specific factors that are part of the answer (e.g. savings, institutions, geography), the consensus view is that more than half of cross-country income variation can be explained by differences in productivity levels
[1]. The data shows that poor countries typically have lower levels of productivity relative to wealthier societies. Furthermore, barring a few exceptions, most poor countries seem unable to get out of this trap–the productivity curse­--even after decades of institutional reform and billions of dollars in foreign aid.

If productivity is the problem, then the obvious policy solution would seem to be to increase productivity in poor countries. To do that, we would first need to know what productivity actually means. Moses Abramovitz referred to what economists call total factor productivity as “some sort of a measure of our own ignorance.”
However, in the absence of a clear definition, one concept on which we can all agree is that productivity is about knowing how to do more (or better) with the same resources.

How is it that what rich countries know, poor countries don’t? How do some countries know how to build successful institutions while others don’t? Why do some farmers know how to farm much better than others even when they are just a few kilometers apart, under the same conditions? Why might some small firms in developing countries not know basic management best practices while others do?

This suggests that knowledge is not easily diffused or transferable. Yet, could it be that difficulties in the transmission of knowledge is one of the reasons behind the “productivity curse”? If yes, what is it about this productive knowledge that makes it so hard and difficult to be taught and learned?

Knowledge transmission is indeed difficult. While it is easy to email a blueprint (i.e. codified knowledge) or to use a calculator (i.e. a knowledge-embedded good), it is much more difficult to transfer “tacit knowledge” or knowhow. We, as humans, know more than what we are able to explain or transmit to others. Thus, all that we know but cannot explain easily is tacit knowledge; such as how to ride a bicycle, how to recognize faces, or even all we have learned through experience and training which makes us productive in our jobs.

My research suggests that the difficulties in transferring and diffusing productive knowhow can explain many economic processes. For instance, countries become productive in making products which their geographic neighbors are good at, suggesting that knowhow diffuses strongly at shorter distances. In addition, in a follow up study, I find a country becomes more productive in products intensively exported in the home countries of its immigrants as well as in the destination countries of its emigrants. This suggests that migration flows–rather than trade or FDI–are drivers of productive knowhow.

Thus, the challenge of the developing world is to find ways to acquire the productive knowhow that will translate into productivity increases, at the industry or aggregate level. For instance, encouraging brain circulation through migration policies could fulfill this purpose. This is not news: larger firms send their employees to train abroad with this purpose in mind. The challenge is in identifying the market or institutional failures that prevent small firms, abundant in developing nations, to do so.  Only by securing access to productive knowhow may countries overcome their productivity curse.

[1] Hall, R. E., & Jones, C. I. (1999). Why do Some Countries Produce So Much More Output Per Worker than Others? The Quarterly Journal of Economics, 114(1), 83–116.

[2] Abramovitz, M (1956) “Resources and output trends in the U.S. since 1870.” American Economic Review 46: 5-23.