where there was a large popula- tion that could be coerced and employed cheaply in mines or in agriculture or simply taxed, in places where there were resources to be extracted, Europeans pursued the strategy of setting up extractive institu- tions or taking over existing extractive institutions and hier- archical structures.In those colonies,there were no con- straints on the power of the elites (which were typically the Europeans themselves and their allies)and no civil or property rights for the majority of the population;in fact,many of them were forced into labor or enslaved.Contrasting with this Dutch settlers arrive on Manhattan Island pattern,in colonies where there was little to be extracted,where most of the land was empty, This perspective implies that a potential change from dys- where the disease environment was favorable,Europeans set- functional and bad institutions toward better ones that will tled in large numbers and developed laws and institutions to increase the size of the social pie may nonetheless be blocked ensure that they themselves were protected,in both their when such a change significantly reduces the slice that pow- political and their economic lives.In these colonies,the insti- erful groups receive from the pie and when they cannot be tutions were therefore much more conducive to investment credibly compensated for this loss.That there is no natural and economic growth. gravitation toward good institutions is illustrated by the atti- This evidence does not mean that geography does not tudes of the landed elites and the emperors in Austria- matter at all,however.Which places were rich and which Hungary and in Russia during the nineteenth century.These were poor before Europeans arrived might have been deter- elite groups blocked industrialization and even the introduc- mined by geographic factors.These geographic factors also tion of railways and protected the old regime because they likely influenced the institutions that Europeans introduced. realized capitalist growth and industrialization would reduce For example,the climate and soil quality in the Caribbean their power and their privileges. made it productive to grow sugar there,encouraging the Similarly,European colonists did not set up institutions to development of a plantation system based on slavery.What benefit society as a whole.They chose good institutions the evidence shows instead is that geography neither con- when it was in their interests to do so,when they would be demns a nation to poverty nor guarantees its economic suc- the ones living under the umbrella of these institutions,as in cess.If you want to understand why a country is poor today, much of the New World.In contrast,they introduced or you have to look at its institutions rather than its geography. maintained existing extractive institutions when it was in their interest to extract resources from the non-European No natural gravitation populations of the colonies,as in much of Africa,Central If institutions are so important for economic prosperity,why America,the Caribbean,and South Asia.Furthermore,these do some societies choose or end up with bad institutions? extractive institutions showed no sign of evolving into better Moreover,why do these bad institutions persist long after institutions,either under European control or once these their disastrous consequences are apparent?Is it an accident colonies gained independence.In almost all cases,we can of history or the result of misconceptions or mistakes by link the persistence of extractive institutions to the fact that, societies or their policymakers?Recent empirical and theo- even after independence,the elites in these societies had a lot retical research suggests that the answer is no:there are no to lose from institutional reform.Their political power and compelling reasons to think that societies will naturally grav- claim to economic rents rested on the existing extractive itate toward good institutions.Institutions not only affect the institutions,as best illustrated by the Caribbean plantation economic prospects of nations but are also central to the dis- owners whose wealth directly depended on slavery and tribution of income among individuals and groups in soci- extractive institutions.Any reform of the system,however ety-in other words,institutions not only affect the size of beneficial for the country as a whole,would be a direct threat the social pie,but also how it is distributed. to the owners. Finance Development June 2003 29 Reproduced with permission of the copyright owner.Further reproduction prohibited without permission.Reproduced with permission of the copyright owner. Further reproduction prohibited without permission