Income Traps: It’s All About Convergence

A couple of recent papers have come out on “middle income traps”. First up from the World Bank (abstract):

Transitioning from low-income growth to high-income growth : is there a middle income trap?

Is there a "middle income trap"? Theory suggests that the determinants of growth at low and high income levels may be different. If countries struggle to transition from growth strategies that are effective at low income levels to growth strategies that are effective at high income levels, they may stagnate at some middle income level; this phenomenon can be thought of as a "middle income trap." This paper does not find evidence for (unusual) stagnation at any particular middle income level. However, it does find evidence that the determinants of growth at low and high income levels differ. These findings suggest a mixed conclusion: middle-income countries may need to change growth strategies to transition smoothly to high-income growth strategies, but this can be done smoothly and does not imply the existence of a middle income trap.

Translation: No, there’s no such thing as a middle income trap.

Second, from the Federal Reserve Bank of St Louis “On the Economy” blog (excerpt):

Can Countries Escape the Low- or Middle-Income Trap?

…This “low- or middle-income trap” phenomenon raises concern about the validity of the neoclassical growth theory, which predicts global economic convergence….

…Up to now, the growing literature about the low-income trap and the middle-income trap has focused on income divergence between the developed and developing worlds, but ignored the more pervasive phenomenon of the lack of convergence. This perspective can be important because even the poorest economies continue to grow at some positive rate every year.

Redefining the low- and middle-income traps as situations where income levels relative to the U.S. remain constantly low and without a sign of convergence allows us to study the issue of economic convergence (or the lack of it) directly….

…Convergence implies that income growth in these economies was significantly faster than in the U.S. In sharp contrast, per capita income relative to the U.S. remained constant and stagnant at 10 percent to 30 percent of U.S. income in the group of Latin American countries, which remained stuck in the middle-income trap and showed no sign of convergence to higher income levels, despite experiencing moderate absolute growth during the same period.

The lack of convergence is even more striking among low-income countries….

…Why do some countries remain stagnant in relative income levels while some others are able to continue growing faster than the frontier nations to achieve convergence? Is it caused by institutions, geographic locations or smart industrial policies? Examining the phenomenon of low- and middle-income traps based on relative income will help shed new light on the study of the prevalent factors behind economic convergence (or lack thereof).

Translation: There IS a middle income trap, but its been wrongly defined. The implication here is that as long as growth exceeds that of the US, you aren’t in a middle/low income trap.

How does Malaysia fare?

Apart from 1985-86 and 1998, Malaysia’s GDP growth has exceeded that of the US, and usually by a comfortable margin. This is true whether you take nominal or real GDP, or on an aggregate or per capita basis. Translation: Malaysia is not in a middle income trap.

Technical Notes

1. Bulman, David; Eden, Maya; Nguyen, Ha, "Transitioning from low-income growth to high-income growth : is there a middle income trap?", Policy Research working paper no. WPS 7104, World Bank Group, 2014
2. Yi Wen, Maria A. Arias, "Can Countries Escape the Low- or Middle-Income Trap?", On the economy blog, Federal Reserve Bank of St Louis, 2015, accessed March 19, 2015
3. GDP data from the IMF World Economic Outlook (October 2014)