The Wealth of Nations

Why are some nations wealthy?

Some countries get rich and stay rich, while others struggle. Nobel laureate Robert Solow analyzed this question and came up with three critical ingredients: capital, technology, and well-trained workers. Not raw materials—look at Japan. Not access to a major port—look at Switzerland. And not “culture”—there have been wealthy countries from Europe, Asia, Africa, and America.

The key to Solow’s three factors is social institutions: the rule of law, protection of intellectual property, and education. The rule of law is necessary for the accumulation of capital. If someone is going to invest in a country, they need to be confident that their investment isn’t going to be appropriated by the next thug who wants to take it. When success is punished, people are less successful.

Intellectual property is what technology is all about. When a new invention can be patented, inventors get to work. This was behind the industrial revolution of the 18th and 19th centuries. Inventors enjoyed the fruits of their labor as they applied the steam engine and mechanical power to formerly manual processes.

The last key is a well-trained workforce that can use these inputs. That requires an effective educational system and enlightened immigration policies. One of the things that has held the developing world back is the nationalistic restrictions that they often put in place. It takes a lot of energy to become a legitimate worker.

Understanding these factors helps us when we evaluate emerging markets as investments. If they have a stable political system, these institutions can grow. If not, their wealth may be here today and be gone tomorrow.

Douglas R. Tengdin, CFA
Chief Investment Officer
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