The Blessings of Scarcity: The Institutional Underpinnings of Small States’ Prosperity

Abstract

Is smaller better for economic development? By investigating the economic performance of states with low populations today, much research on small states and development overlooks how population levels of the past can shape economic and demographic outcomes of the present. We argue that states’ past demographic size is a powerful predictor of long-term economic development. Population scarcity in the early years of independence pressures leaders of newly independent small states to open their markets and employ large public sectors. Because these policies emerged in the early years of independence, they establish strong institutional precedents and persist over time. Open markets and large public sectors help “embed” small states into the global economy, engendering political stability, strong private sector institutions and long-term development. We test this argument by examining the developmental trajectories of 82 states that gained independence between 1946 and 1975. States born with lower population levels during this period outperform their larger peers across many measures of long-term economic development. These findings are robust to numerous model specifications, mediation analysis and an instrumental variable’s approach. A comparative case study of Oman and the People’s Democratic Republic of Yemen (PDRY) illustrates the mechanisms linking population size during early statehood and long-term economic development.