Avoiding middle income trap

* This is my article in Business 360 magazine in Kathmandu, Nepal, September 2013 issue.
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1Many Asian economies are now among the “engine of growth” for some countries within and outside the continent due to their huge contribution to international trade as big exporters/producers  and big importers/consumers, as well as big recipients of foreign remittances.

Such opportunity has allowed many Asian economies to move from low income to middle-income levels, and for the lucky and more technologically advance ones like the four “tiger economies” of Hong Kong, Singapore, Taiwan and S. Korea, to move from middle- to high-income countries.

“Middle income” is defined as having a per capita GDP income based on purchasing power parity (PPP) of $3,000 to $20,000, or $16,000 for other definitions.

“Middle-income trap” (MIT) is the phenomenon of some rapidly growing economies stagnating at middle-income levels and failing to graduate into high-income countries. This is brought about by growth slowdown after sometime.

Avoiding the MIT is an important topic for many Asian emerging economies. This subject will be tackled during the annual Economic Freedom Network (EFN) Asia conference to be held in Bangkok this coming October 21-22, 2013. This writer will be among the participants of that big and important annual international conference.

Here is a chart showing countries in the MIT and those that were able to escape it.

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Source: Aiyar, Duval, Puy, Wu and Zhang, Growth Slowdowns and the Middle Income Trap, IMF Working Paper WP/13/71, March 2013.

The Asian tiger economiesHong Kong, Singapore, Taiwan and S. Korea, plus oil-rich country Brunei, are able to escape the MIT by growing very fast for two to four decades, before they experienced growth slowdown. By that time, they have already attained the high income country (HIC) status. Below is a list of the major HICs.

Table 1. High Income Countries, GDP based on PPP per capita income, in current international dollar

Rank  Country 2000 2012 2013
1 Qatar 54,473 102,211 105,091
2 Luxembourg 55,413 79,785 79,594
3 Singapore 32,262 60,410 61,567
4 Norway 39,092 55,009 56,663
5 Brunei Darussalam 43,320 54,389 55,111
6 Hong Kong 26,737 51,494 53,432
7 United States 35,252 49,922 51,248
8 United Arab Emirates 39,315 49,012 49,884
9 Switzerland 32,096 45,418 46,475
10 Canada 29,735 42,734 43,594
11 Australia 27,263 42,640 44,074
18 Germany 26,090 39,028 39,993
19 Taiwan 20,290 38,749 40,393
22 United Kingdom 25,241 36,941 37,502
24 Japan 25,669 36,266 37,525
25 France 26,036 35,548 35,942
27 Korea 16,503 32,272 33,580

Source: IMF, World Economic Outlook, April 2013 Database.

And here are the Asian middle-income countries (MICs) which might be pulled in the trap. In the lower batch are some low-income Asian countries aspiring to reach middle income level.

Table 2. Asian Middle and Low Income Countries, GDP based on PPP per capita income, in current international dollar

 Rank Country 2000 2012 2013
56 Malaysia 9,088 16,922 17,776
87 Thailand 5,007 10,126 10,849
89 Timor-Leste 2,714 9,873 10,784
93 China 2,379 9,162 10,011
113 Sri Lanka 2,771 6,107 6,550
119 Mongolia 2,039 5,372 6,134
123 Indonesia 2,429 4,977 5,302
129 Philippines 2,442 4,430 4,691
131 India 1,534 3,830 4,060
133 Vietnam 1,424 3,548 3,750
138 Lao P.D.R. 1,199 3,011 3,261
139 Pakistan 1,780 2,881 2,970
144 Cambodia 908 2,402 2,579
152 Bangladesh 918 2,039 2,174
163 Myanmar 459 1,405 1,491
166 Nepal 791 1,308 1,348

Source: IMF, World Economic Outlook, April 2013 Database.

In a paper by Aiyar, Duval, et al mentioned above, they identified what are the factors that can limit or counter growth slowdown. Among the factors they tested are observance of rule of law and limited government. The study showed that

The level of Rule of Law is significant at the 1 percent level: good legal systems, contract enforcement and property rights are strongly associated with a reduced probability of a growth slowdown episode. The Size of Government and Regulation indices are also highly significant but in differences: a country that reduces government involvement in the economy and deregulates its labor, product and credit markets is less likely to slow down in the subsequent period….  Government Size replaces the Rule of Law as the most significant institution variable in levels. It may be that at very low levels of income, the development of a basic framework of property rights and contract enforcement has a large impact in staving off slowdowns, but once this condition is more or less satisfied the capacity of the private sector to grow and innovate becomes relatively more important. The capacity of the private sector to expand may be hampered by the extent of government involvement in the economy, which therefore shows up as significant for MICs (middle income countries). Related to this, the coefficient on Regulation in differences is twice as large for MICs than for the full sample of countries, suggesting again that deregulation is a particularly important channel for guarding against slowdowns in MICs.

The paper also discussed other factors like demography, infrastructure, trade, and macroeconomic environment, as possible explanations to limit growth slowdown.

It is important therefore, for the Asian MICs, those in the upper range already like Malaysia and Thailand, to sustain growth, by limiting their government role and function to promulgating the rule of law, to protect private property rights, and stay away from heavy economic intervention and populism that can restrict business dynamism.

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The same lesson can be applied by the low-income countries in Asia to allow them to move to MIC status soon. Attaining an MIC, and later a HIC status, is the single most important achievement that Asian economies must strive, and save their people from poverty and misery.

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