Inclusive Institutions vs. Extractive Institutions

In the book, Why Nations Fail, the authors discuss many theories and possible explanations for why some nations prosper and the reason for which others are plagued by poverty. The authors gave very detailed and specific examples of societies that were right next to each other and the same geographically but were drastically different economically and politically. The most important topic discussed was institutions and the roles they play in a society to form its political regime and economic successes. The central thesis of Why Nations Fail is that inclusive political and economic institutions are necessary for sustained economic growth. The question now is: why exactly are inclusive political and economic institutions preferred over its extractive counterpart?

The major differences between inclusive and extractive institutions need to be assessed to understand why one method is better than the other and why these institutions are necessary for economic growth. The major differences between inclusive and extractive institutions are: political system, the incentive structure, and sustained economic growth due to technological advancements.

The first difference is the political systems. Within an inclusive institution, the political system will favor the input of the people the executives of the society govern. In an extractive institution the political system will undermine its people and exclude those that are not within the small circle of elites that favor this type of dictatorship.

The second difference is the incentive structure that is put in place by the types of political systems previously mentioned. An extractive institution which has already been determined to favor a group of elites rather than the whole population it governs will only have an incentive structure that would best serve the elite than the general public. The reason incentives are not given to the public is because there is a fear by extractive institutions of creative destruction. As one method of completing a task is changed, efficiency can change as well allowing for specialization in specific areas. Extractive institutions fear that if methods can change then the ones governing can change as well. However, compared to the Extractive institution, the Inclusive institution is just as the name suggests. The incentive structure includes everyone from the elite to the general public; therefore everyone has the opportunity to improve their standards of living. Within inclusive institutions there are different types of incentives given to the people in order to innovate and produce new technologies. One of the incentives are the policies created that are directed at the people through their participation in the political system.

The third difference is that of Sustained Economic Growth through Technological Advancements. Though extractive institutions can have economic growth, it is not sustained or constant. Technological advancements and innovations allows for sustained and continuous growth over long periods of time due to creative destruction. Constant improvements on how things are traditionally done improve the society as well. However, because of the lack of incentives for the general public, and the fear of creative destruction by governing elites, technological change cannot thrive or even exist. Inclusive institutions are the exact opposite. They embrace incentives that encourage innovation and technological change and thus the reason for their economic success and political stability.

These the main differences are interdependent factors that will both produce an Inclusive or Extractive Institution in a society and determine whether or not that civilization will prosper or be plagued by poverty. Politics and economics are heavily interdependent factors. Political institutions lay the foundation for economic development in societies. If a society has a people centered political structure which offers incentives that leads to technological advancements and sustained economic growth the countries institution is inclusive. If a society has an elite centered government, and elite centered incentives then the result will be that there will be no sustained growth or technological advancements. The one constant throughout the past and continuing in the present is that societies that have an inclusive political institution favored production and overall economically prospered, whereas societies that are extractive politically experienced poverty. Countries Today that still have inclusive institutions are the most prosperous whereas counties that continue to have extractive institutions remain plagued by poverty.