Why Ukraine Really Would Be Better Off In Europe

The struggle over the future of Ukraine continues. Even as ousted President Viktor Yanukovych looks to Russia for assistance, interim President Olexander Turchynov pushes the other way—calling for closer ties with the European Union. The battle is over a lot more than economic issues, of course, but the event that sparked the protests that toppled Yanukovych was his rejection of an EU trade treaty and his decision to forge closer ties with Russia.

Lost amid the upheaval in Kiev is the fundamental question: Would the country be better off if its economy became more integrated with the West, or if it remained in Russia’s orbit? Economic history suggests that the protestors, not Yanukovych, are right. Although global income convergence is at best a stuttering phenomenon, being a poor member of a rich region is a better course to wealth than midlevel status in a poor region.

In 1989, average income per capita in Ukraine was $8,629. By 1998, that had collapsed to $3,430. In 2012, GDP per capita had recovered somewhat—but at $6,394, it was still 25 percent below its level of nearly a quarter-century earlier. That puts Ukraine in the middle of the pack of former Soviet states, if you exclude the three Baltic economies of Latvia, Lithuania, and Estonia, which are already members of the European Union. But compare Ukraine with four of its former Communist neighbors to the west: Poland, Slovakia, Hungary and Romania. The average GDP per person in those nations is around $17,000—and they in turn are poorer than West European countries. If Ukraine builds trade and financial ties with Russia and central Asia, it will be a midranking country in a middle-income club. If it builds these ties with the EU, it will be a relatively poor country in a rich club.

To be sure, being poor relative to everyone else isn’t a great recipe for rapid growth, despite the apparent advantages of being able to borrow technologies, techniques, ideas, and money from richer countries. Indeed, the last 200 years have been a period of incredible global income divergence—poor countries have grown more slowly than rich countries. In 1870 the world’s richest country was about nine times richer than the world’s poorest country. By 1990, that gap had grown to a 145-fold difference. The past 10 years have seen poor countries growing faster than rich ones in average–income convergence—but they are the historical exception.

Closer financial and trade ties at the global level don’t seem to have helped foster convergence. Worldwide, periods of high tariffs (the depression and the interwar period) saw convergence in country incomes (pdf), while times of freer trade (the period up to 1878 and since 1945) have seen divergence of income.

And within countries, provinces and regions can have dramatically divergent economic prospects as well. A review of regional development by two World Bank economists, Raja Shankar and Anwar Shah, noted that, at the turn of the 21st century, Hong Kong had an average income slightly higher than the United Kingdom and Shanghai an income a little above New Zealand’s, but Guizhou province in China was about as rich as Sudan. Or look at Indonesia: Per capita consumption in Jakarta was four times higher than in the province of East Nusa Tenggara in 1983. Twenty years later, that gap was 10-fold.

Nonetheless, regions within countries often do converge—in the U.S., the gap between rich and poor states has traditionally fallen by about 2 percent a year (although that process has slowed in the past couple of decades). Within regional groupings of countries, there is stronger evidence that poorer countries benefit. From 1937 to 1988, poorer parts of Eastern Europe (Yugoslavia, Romania, Bulgaria) grew faster (pdf) than richer countries (Poland, Czechoslovakia, and Hungary). The story is similar in Latin America (Brazil, Mexico, and Columbia grow faster than Peru, Venezuela, Chile, and Argentina). The Economic Community of West African States is following a similar pattern. Perhaps of most relevance to politicians and protestors in Ukraine, there’s some evidence of convergence (pdf) within the European Union—although perhaps unsurprisingly, newer members are converging toward a common income with each other faster than they are converging to the EU average.

There’s nothing automatic about convergence within regions. Take Greece, which had an average income worth 82 percent of France’s income in 1981 when it joined the European Community, and had income of only 74 percent of France’s 30 years later. But there’s still an opportunity for Ukraine in Europe—take Portugal, where incomes have climbed from 59 percent of France’s average when it joined the European Community in 1986 to 71 percent 26 years later. The potential for catchup is even greater for the former Soviet Republic, since its current income per capita is only one-fifth that of France.

When it comes to convergence within economic communities, the evidence suggests that two lessons of real estate apply: First, you’d rather be the last house on the right side of the tracks than the first house on the other side. Second, if you want your investment to appreciate, it’s best to be the cheapest house in an expensive community than the luxury condo in a lousy neighborhood.

Forging closer ties with Europe won’t solve Ukraine’s economic woes soon. But in the long run, it’s likely the people of Ukraine will benefit from rezoning their country out of what a real estate agent might call an “up and coming” community and into one they’d more likely market as a “desirable location.” Amid the chaos and uncertainty that currently prevails in the country, that’s at least one reason for hope.

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