Bob Solow’s original 1956 formulation of the neoclassical growth model predicted that poorer countries would grow faster than rich ones. Capital flows—from rich to poor— would be the great leveler. Three decades later, the advent of the Penn World Tables gave economists access to comparable cross-country data to test that hypothesis rigorously. It proved false. From the 1960s through the 1990s, the opposite was true, per capita GDP levels were not converging as predicted—and if you rolled the clock back even further in history, it was obvious rich countries had been getting richer for quite a while.

But then something changed. No sooner had Lant Pritchett announced “Divergence: Big Time” in 1997 than developing countries, for the first time in two centuries, started catching up with the living standards of advanced economies. Belatedly observing this phenomenon, we wrote a fairly giddy piece in 2018 declaring that “Everything You Know about Cross-Country Convergence Is (Now) Wrong.” Convergence had finally arrived.

Alas, the facts have changed again. In this post, we return seven years later to extend our earlier results to the latest data. Just as we heralded the new era of unconditional convergence, as we called it in the journal-length version of our piece, reality came back to undermine our optimistic finding. It turns out, everything you once knew is right again. Soumaya Keynes noted signs of this (second) reversal of fortune last year in the Financial Times. And of course the growth slowdown in emerging markets has been well-documented, as in this note on divergent post-Covid recoveries by Eduardo Olaberria and Carmen Reinhart and this piece by Jonathan Hartley. In sum, unconditional convergence appears to have come to an end – at least by the metric originally used to test Solow’s hypothesis in the 1990s, and it appears to be slowing down although not necessarily reversing by other measures too.

The harder question is, why? Our answers are pretty speculative at this point, but first, the basic facts.

Everything we told you about convergence is (now) wrong

The figure below presents our headline result. We use the newest releases from three different sources of income data: the Penn World Tables (PWT), the World Bank’s World Development Indicators (WDI), and the Maddison series.

Following the same non-linear specification as Barro and Sala-i-Martin (1992) and as our own earlier paper, each dot captures a convergence coefficient for per capita income, essentially just regressing growth rates on initial incomes. The time period varies along the horizontal axis, always covering a 10-year span. In this formulation, positive numbers mean that poor countries are catching up to rich ones, or in other words, that the lower your initial income, the faster you grow.

The original story of divergence then convergence remains the same, despite the scope for the revised data to alter results. For the three decades leading up to the empirical literature on economic growth, the gap between developed and developing nations expanded.

That all started to change around the fall of the Berlin wall, and poor countries went from lagging behind richer ones to maintaining pace with and then ultimately to growing faster resulting in convergence.

The latest data updates show that that golden era of relative prosperity has come to a halt. In the past decade and a half, there is no evidence that poor countries have grown faster than richer ones.

The share of developing countries growing faster than the G7 is falling fast

So far we’ve shown that poorer countries only grew faster than richer ones on average for about 20 years. But that is not the only way to think about the notion of economic convergence. Roy et al. (2016) proposed an alternative metric of convergence that focuses less on averages, drawing inspiration from Oscar Wilde: “We are all in the gutter but some of us are looking at the stars.” "Wilde convergence”, as Roy et al call it, simply measures how many poor countries are catching up with the frontier, namely the richest countries.

That share remains quite high, though it is falling fast.

To see this, define the frontier as the average growth rate among the G-7. Also, because World Bank definitions change arbitrarily over time, we categorize countries as "low income" or "middle income" if they fall below the 25th and 75th percentile, respectively, of U.S. income in each year.

The results are striking. Prior to 1990, all three data sources show that less than half of developing countries are exceeding this frontier growth. But in the same period that Solow-convergence begins, “Wilde-convergence” takes off with a fury. By 2000, nearly all low- and middle-income countries grow faster than the G-7. While the last 15 years have exhibited a decline in this rate, nearly three out of four developing countries still are achieving gains in income above the rich-country frontier.

This poses a puzzle: if 70 percent of poor countries around the world are growing faster than the G7, why are we not seeing Solow convergence? One answer is that although the number of developing countries still converging to the rich world is high, the pace of catch up has declined sharply. At the peak, Asia outpaced the G-7 by over 4 percentage points annually which declined to just below 3 percent recently. In contrast, countries in Africa and Latin America that were outpacing the G-7 by nearly 2.5 percentage points are now doing so at a much slower pace, resembling the period of divergence. It is slowing growth in these 2 regions that accounts for the demise of Solow convergence.

Another part of the answer is that Solow-convergence is an average result across all poor countries scaled by initial income: if some middle income countries grow faster than low income countries convergence could be obscured, even though both grow faster than rich countries. Indeed, the data show middle income countries grow faster than either other group – a middle income “trampoline” rather than a trap – which dampens Solow convergence, as shown by the 2000s spike among the black diamonds representing middle-income growth rates in the graph below.

A third explanation is that rich countries are growing faster than in the 2010s so that the average gap between rich and poor as a whole has declined.

The figure below illustrates both the second and third of these mechanisms, showing the raw data on growth between the start year on the x-axis and the latest available year. They illustrate that after the mid-2000s, global financial crisis growth in low and middle income countries declined while still substantially exceeding growth in high income countries. But after the 2010s, the decline has been dramatic, which combined with a slight improvement in HIC growth rates has led to the elimination of convergence. What happened?

Why did convergence slow down?

We'll leave a detailed econometric investigation of that question for another day, but we can't resist a couple of preliminary conjectures. In a Foreign Affairs piece last year, we argued that "hyperglobalization" was a key driver of convergence.

“In the era of rapid growth, nearly every country expanded trade. Most famously, China and India—followed by Vietnam and Bangladesh—experienced economic-growth miracles on the back of rapid growth in their exports and trade, in manufacturing in the case of China and East Asia and in services in the case of India. Commodity exporters, especially in sub-Saharan Africa, benefited from a surge in commodity prices, itself induced by China’s rapid growth and its voracious demand for oil, copper, iron, and other minerals.”

With hyperglobalization stalling, especially for low and middle income countries, it is not surprising that so too has convergence.

Convergence was accompanied by rapidly rising trade (hyperglobalization) until around the 2008 Global Financial Crisis. Thereafter, trade as a share of GDP has either levelled off or declined in both low- and middle- income countries. This decline was dramatic for some larger developing economies such as China (which say a 20 percentage point from 2008 to 2023) and Indonesia (a 17pp drop). Indeed, high income countries do not seem seriously affected by the end of hyperglobalization which seems to have disproportionately affected developing countries.

But is there something much bigger going on? In that same piece, we argued that another key driver of convergence was a turn toward markets but more fundamentally that a majority of developing countries began to follow a variant of U.S. President Barack Obama’s famous foreign policy dictum: “Don’t do stupid shit.” The question is whether that has now been reversed. We do not have the space for identifying a long list of what would constitute such a reversal but a more common global change in institutions, especially political ones, seems evident in the past decade. The world has become more illiberal, majoritarian and nationalistic, reflected in perceptible democratic backsliding. One commonly cited indicator of democracy, the V-dem index, has stopped the gains it enjoyed at the onset of the Solow-convergence era, with particularly marked declines in the middle- income countries that have seen the sharpest decline in growth and globalization.

Of course, the links between weak political institutions/illiberalism and economic outcomes are tenuous at least over short horizons, but there are connections that are striking. In China, the nationalism and illiberalism under Xi Jinping has been associated with a crackdown on private sector entrepreneurship that produced frontier technologies and services. In India, the weaponization of the state against political opposition has also been directed at domestic and foreign investors, leading to elevated investor risk; economic nationalism has led to promoting national champions at the expense of investment more broadly. In Turkey, defiance of macro-economic orthodoxy has been a handmaiden of political authoritarianism. In Ethiopia, a Nobel peace prize and an industrialization boom gave way to a bloody civil war and a fiscal crisis. Across the Sahel's "coup belt", military takeovers in Mali, Niger, and Burkina Faso have come with economic volatility, withdrawal from regional trading blocs, and fiscal contraction in the face of lost aid revenue. Not all of these connections are causal, but a combination of declining trading opportunities externally and deteriorating institutions domestically is a cocktail that is not conducive for long-run economic growth.

The data series we analyze here stop in 2023, well before Donald Trump's "liberation day" ratcheted up tariffs in the world's largest importer to levels not seen since the Great Depression. In the wake of that tariff announcement in April, the IMF quickly revised its global growth forecast for 2025 down by about half a percentage point. But the immediate impact of this policy shock on income gaps between rich and poor countries is technically ambiguous: the IMF's downward revision for advanced and emerging markets was the same, and largest for the U.S. at -0.9%. Nevertheless, if we're right that hyperglobalization and the spread of liberal democratic norms were catalysts for economic convergence between the fall of the Berlin Wall and the Global Financial Crisis, we see little reason to hope that the world's poorest countries will fare well in this new era of political and economic nationalism. A falling tide is unlikely to lift the flimsiest boats.

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Download replication code from GitHub.

Summary: the U.S. and the World Bank are putting more and more foreign aid money into private sector deals: for-profit investments designed to stimulate economic growth. But most of that money gets absorbed by banks in the BRICs, very little goes to poorer countries, and almost none of it to manufacturing or exports. As this style of foreign aid grows, the focus on industrialization is declining. If development finance institutions are serious about economic growth, they need to rediscover export discipline.

Since Donald Trump returned to Washington, the hottest trend in foreign aid is making deals. USAID’s model of doling out free HIV drugs and emergency food relief to poor countries has been DOGE’d. Meanwhile, Congress is set to grant new authorities to the U.S. Development Finance Corporation (DFC), which directs foreign aid to companies, especially American companies, looking to turn a profit overseas.

A block down the road from the White House, the World Bank – eager to stay in the good graces of the new administration – has doubled down on a similar strategy. Five years ago the bank's private-sector divisions (IFC and MIGA) did about $14 billion in new business, comprising about a fourth of the bank's portfolio. Last year that number hit $40 billion, and at the current pace, private sector investments will eclipse the World Bank's traditional sovereign lending portfolio in a few years time.

The result of all this is an interesting hybrid of foreign aid and industrial policy, combined with a Wall Street-style compulsion to make money and "do deals."

In theory, that's not all bad. Poor countries need to grow, and for that they need investment. If rich countries are embracing industrial policy at home – with subsidies for chosen firms, and public money taking equity stakes in private companies – why shouldn't foreign aid do the same for poor countries?

The problem is that the money is not being used to industrialize poor countries. Both the verb and the object in that last phrase are wrong. Instead, it's being invested in the banking sectors of places like Mexico and Turkey, i.e., financial intermediation for the domestic service sector (not industrialization) in middle-income BRICs countries (rather than the poorest countries in need of jobs). The result is industrial policy without any industry, and foreign aid with surprisingly few poor people involved.

Historically, poor countries have grown rich by exporting labor-intensive manufactures 

From the 1950s through the 1980s several East Asian economies – South Korea, Japan, Taiwan, and the city-states of Hong Kong and Singapore – achieved unprecedented economic growth rates on the back of export-oriented manufacturing. In the decades that followed, China repeated their feat on a monumental scale.

These economies didn’t just export manufactures. As Joe Studwell documents in his bestseller “How Asia Works”, these "Asian Tigers" structured their financial systems to direct cheap capital to firms that successfully exported. This model of carefully targeted subsidies – designed to prioritize making stuff, not real estate booms and financial bubbles – stands in stark contrast to the scattershot approach taken by Washington today.

So what is it about manufacturing, specifically, that made it central to the East Asian growth experience – not to mention almost every major development success story from the British Industrial Revolution to Bangladesh’s 21st century boom?  

Let’s look at three elements that distinguish manufacturing, and then later we can judge the World Bank's current IFC private-sector portfolio on these same metrics:

1. Labor intensity (which I'll define as workers employed per million dollars of output, L/Y)

2. Tradability (defined as the value of exports as a share of output, X/Y)

3. Productivity growth (the historical rate of growth in value added per worker, Δln(VA/L))

While it’s a bit dated and doesn’t cover today’s poorest countries, the World Input-Output Database (WIOD) provides data to estimate each of these dimensions at the sector level for some larger middle-income countries, essentially BRICs+: Brazil, Russia, India, China, Indonesia, and Mexico. (Here I’m collapsing data from ISIC Rev. 4 industries to the 9 sectors listed in the IFC data for comparability).

In terms of job creation, “agribusiness and forestry” is the most labor intensive sector in the WIOD data, employing about 380 people per $1 million of output, while finance is the least labor intensive, at 31 workers per $1 million. Manufacturing is sort of middle-of-the road here at 61 workers. 

Where manufacturing really stands out is on the other two dimensions: historical growth in labor productivity and export orientation. The sector that performs the worst on all these metrics is the sector where the IFC devotes the largest share of its investment: finance.

Compare that to where the World Bank puts its private sector investments

Let's start with a positive example that bucks the overall trend here: the exception that proves the rule.

In 2024, the World Bank’s private sector arm, the International Finance Corporation or IFC, made a $15 million loan to Star Garments, an American-owned, Sri Lanka-based garment manufacturing company to open up a new “cut-make-trim” factory outside Lomé, Togo. 

Lots of economist would tell you that that kind of export-oriented manufacturing is, historically, the best way for poor countries to graduate up to higher levels of development. Star Garments is private-sector development finance done right: Togo is a low-income country, garment manufacturing is highly labor intensive, and the factory will export products to high-income markets.

The problem with the IFC investment in Star Garments is not that it has any secret flaw, it's that it is almost literally one of a kind: one of only a handful of cases globally of an IFC investment in export-oriented manufacturing in a low-income country in the last five years: $15 million out of a portfolio of hundreds of billions of dollars. 

The problem is two-fold:

1. Geographic: Development finance institutions like IFC and DFC make very few investments in the places that really need subsidized capital, i.e., low-income countries. So the reallocation of aid money from traditional public sector projects to "blended finance", private-sector oriented models means a reallocation away from poorer countries toward wealthier, faster-growing emerging markets.

2. Sectoral: In the quest for financial returns, these institutions also focus heavily on financial sector development, neglecting investments in the real economy that will be necessary for economic growth.

While there are some older counter-examples –a slaughterhouse in Ethiopia in 2019, a mango plantation in Malawi in 2014, some cashew processing plants in Guinea and Mozambique from the 1990s – these are rare exceptions in an overall portfolio heavily weighted toward banking.

Over time, development finance is focusing less and less on jobs, growth, and exports

I'll continue to focus on the World Bank's IFC here, because it's the big player, but the same exercise could be done for the US DFC or the UK's BII.

To calculate the labor intensity, growth orientation, and export propensity of the IFC portfolio I take the allocation of IFC investments across sectors and combine that data with the sector statistics above from the average BRICs+ country. Imagine the two charts above as matrices. In the first matrix, the rows are industries (j=1…J), the columns are countries (k=1…K), and the values are dollar amounts. In the second matrix the rows are again industries, but the columns show industry characteristics (l=1…L) like labor intensity. If we multiply those two matrices together, we get a JxL matrix describing the implied labor intensity, growth orientation, and export propensity of the IFC’s portfolio in each country. We can do the same thing with time periods instead of countries, and repeat the exercise each year. 

The pattern that emerges is disconcerting.

Over the last 20 years, from 1996 to 2025, what we see is a remarkable decline in what I’d argue is the developmental- or structural transformation-focus of the IFC portfolio. The implied labor intensity of IFC investments has declined from about 92 workers per $1 million in output in 1996 to about 72 in 2025. Whereas the IFC used to invest in sectors that had historically grown at nearly 6% per annum in the BRICs benchmark countries, that figure has fallen to nearly 3% annual growth – and an almost identical trend is observed for the ratio of exports to output in the sectors IFC chooses. 

As the IFC portfolio has grown – and it has grown dramatically over the past five years – any focus on labor intensive, export oriented, fast-growing sectors has not really kept up.

So far this statement is based on implied performance, applying BRICs+ parameters to the IFC portfolio. As an alternative, I also construct a direct measure of export performance for the IFC portfolio by scraping the IFC disclosures on the web for any mention of exporting (and then humanly checking a sample, weighted toward the larger projects). 

The picture confirms how unique the Star Garments story is: manufacturing projects mentioning exports are a small, and declining share of the overall portfolio. If you restrict the sample to low-income countries, in many years there are zero investments in manufacturing, and other times one or two. Never mind manufacturing much less exporting: low-income country projects as a whole remain pitifully small compared to IFC’s overall booming portfolio. 

Admittedly, things look a little better for lower-middle income countries, where manufacturing investments reached about $1.6 billion in 2024, of which about $700 million were in export-oriented firms – though these were largely in low-value added industries like cement and fertilizer with exports to regional rather than international markets.

Don't banks create jobs too?

Skeptical readers who are still reading at this stage are perhaps mentally screaming that all of these numbers miss the point. The IFC doesn’t lend to banks to create more jobs as bank tellers. The goal is often very explicitly to enable local banks to lend more to the small- and medium-enterprise sector. 

This is reasonable on one level: the IFC probably shouldn’t be directly involved in the retail banking business, making micro loans to SMEs in Tanzania from its headquarters in Washington. But without denigrating this good-faith effort at local economic development, it does leave open two questions.

First, there is a question of additionality and impact, even on the metrics IFC has chosen for itself. Is cheap capital for a few Mexican banks actually lowering interest rates and expanding credit access for Mexican SMEs? Or is that money getting swallowed up by bank profits? There’s very rarely any evidence provided to answer that kind of question: IFC doesn’t routinely do impact evaluation of the sort other development actors do.

The World Bank's own Independent Evaluation Group has repeatedly bemoaned this failure to demonstrate that "blended finance" – i.e., this model of lending to banks, to lend on to specific target groups like SMEs or women-owned businesses – has any development impact (see reports in 2019, 2021, and 2024), leading to some grumbling from the bank's board. A recent review of the academic literature on the topic noted, "evidence on the impact of these public programs intermediated via commercial banks is limited and rarely extends to estimates of the impact on final beneficiaries."

Second, from a development strategy or industrial policy point of view, small is not beautiful. More prosaically, it’s unclear that SME credit is the path to growth and structural transformation for the middle-income countries which are the IFC’s main clients. There is a large literature documenting the positive relationship between firm size and exporting. In many developing countries, the SME sector is a low-productivity, low-earnings job of last resort. If the IFC’s clients want to pursue outward-oriented industrialization, they’re going to need some big firms with the wherewithal to navigate international markets. Alas, IFC is not financing that kind of project.

What's the constraint? Profit incentives or a missing pipeline of projects

Earlier this year I attended a Chatham House discussion sponsored by British International Investment (BII) with people from various development finance institutions. Per the "Chatham House rule" I can't quote anybody in particular. But the entire premise of the discussion was that the supply of development finance can't find enough demand. This is often referred to as the missing "pipeline" of bankable projects in poor countries.

It is odd to hear people whose job is to give away cheap money complaining that nobody wants it, but the complaint is sincere. Many officials at the IFC, BII, or the U.S. DFC would jump at the chance to back an export-oriented manufacturing venture in (low income) Mozambique or even (lower-middle income) Tanzania. 

This is where profit incentives, for development finance institutions as a whole and for the investment officers within them, militates against long-run development strategy. A recent paper by Sean Cole, Martin Melecky, Florian Mölders and Tristan Reed draws on confidential IFC data to calculate the commercial return to its investments over multiple decades. They find that even after adjusting for implicit management fees, “over the long run the IFC’s portfolio of emerging market private equity has done about as well as the S&P 500 index.” But they also show significant differences between sectors. In short, mining, oil, and gas yield super high returns, financial institutions and infrastructure do pretty well, and manufacturing, agribusiness, and services are at the bottom of the pile.

Figure: Manufacturing is less profitable for the IFC than banking or mining

Source: Cole, Melecky, Mölders, and Reed (Management Science 2025)

Many development finance professionals would respond to everything I’ve written above: “yes, we’d love to lend to an export-oriented agro-processing sector in Malawi, or the manufacturing sector in Ethiopia. But there are no bankable opportunities there. We have an obligation to make money.”

My guess is that Taiwanese or Korean policymakers in the 1960s could’ve said something similar. The private sector didn’t want credit to build manufacturing export businesses. They wanted to buy banks, and build apartment buildings, and open retail import businesses. And when they did build manufacturing plants, they wanted tariff protection to produce import-competing goods for the domestic market. 

This is where export discipline came in. Forward-looking policymakers did not surrender development strategy entirely to market signals: they restricted their subsidized credit to projects they felt were in the long-run developmental interest of their countries.

Fixes: bring back export discipline

The challenges facing the private-sector development finance industry aren’t new, but they’re increasingly urgent as finance swallows up more and more of the global development sector. Let me end by quoting from the list of policy recommendations from my friend Charles Kenny’s 2021 essay on how to get IFC back in the development game, which anticipates many of the arguments made above: 

• “Shift the portfolio mix in [poorer] countries towards investment in tradeable manufacturing, services, agriculture and agro-processing, alongside infrastructure and services prioritized on their contribution to trade competitiveness and global value chain integration. [...]

• “Move further toward tolerance of failure by de-emphasizing returns as a project success measure and including incentives for groundbreaking deals in new sectors/ industries alongside development of metrics that encourage rapid exit from failing approaches or investments.

• “Use subsidies solely in the selective, competitive, support of investments proactively chosen based on potential impact on sectoral development outcomes.”

In short, Washington's new model of development finance needs export discipline. If subsidies for private investors are going to contribute to development, they need to target the industries that are going to drive growth and job creation. Sometimes that will be in tension with maximizing short-run financial returns. So be it. The whole point of public subsidies is to nudge the private sector to do things that are socially optimal even if the market doesn't sufficiently reward them.

There's nothing wrong with development finance helping investors make money. But it also needs to help poor countries make stuff.

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Download replication code for tables & figures from GitHub.