Business 360 11: Avoiding Middle Income Trap

* This article was published twice. First in Business 360 magazine in Kathmandu, Nepal, September 2013 issue; then in the Economic Freedom Network (EFN) Asia website today.
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Many 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.

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.

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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See also:
Business 360 8: TPP, RCEP, SAARC and Free Trade, June 17, 2013 
Business 360 9: Free Trade and Economic Prosperity, July 03, 2013 
Business 360 10: Foreign Aid as Band Aid Solution, August 11, 2013

EFN Asia 25: The ASEAN Economic Community in 2015, July 23, 2013 
EFN Asia 26: Past Conferences and Avoiding the Middle Income Trap, August 03, 2013