Risk, uncertainty and (under)development

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Uncertainty refers to events about which knowledge is imprecise, whereas risk relates to events that can be assessed with some degree of certainty. Transforming uncertainty into risk is how countries grow rich. Lack of institutions that make managing risk possible is the root cause of the disparity in economic performance between developed and developing countries.

…All developing countries share the same central weakness. Living under deep uncertainty, people in developing societies cannot frame the most basic decisions about investment or consumption in relation to how the future will unfold. They cannot make decisions based on reasonable probabilities about the results of their actions, nor can they identify a feasible range of alternatives needed to plan and organize a better future. They can expect a shortsighted response from the people with whom they must interact: people who, like them, prioritize near-term goals rather than long-term ones. Poverty deprives households of the ability to take actions that have a long-term impact on the key variables in their lives. Faced with deep uncertainty about the future, they do not accumulate capital.

That’s from Hilton Root’s ‘Capital and Collusion: The Political Logic of Global Economic Development.’ Root attempts to explain why capital formation often fails in developing countries. He blames both the successes and failures on political incentives. His recommendation for the World Bank and IMF: help build institutions that convert uncertainty into risk.

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