With the global economy and financial markets bracing themselves for unprecedented spikes in protectionism, one of the more vulnerable categories of economies that may prove to be particularly susceptible to such trends are small open economies that rely heavily on external markets for growth. At the same time, existing economic research supports claims that leading small economies are often successful in attaining high living standards, growth and innovation and in adapting to rapidly changing economic environment. The success of small states has been amply covered by scholars such as Peter Katzenstein, who demonstrated how small countries exhibit dynamic economic development while preserving their political institutions and without imposing excessive trade barriers (Katzenstein, 1985, p. 86). Importantly, Katzenstein explores not only the similarities, but also the differences among small European economies, focusing in particular on Switzerland and Austria. While these two neighbors differ in terms of the political economy that underpins their development model — “liberal corporatism” in Switzerland and “social corporatism” in Austria — “yet in both countries the search for consensus is a national passion” (Katzenstein, 1985, p. 10).
In his later article that evaluates further the similarities between Switzerland and Austria, Katzenstein notes that both economies are small and open, with some of the markets being heavily regulated and “the unions being incorporated into a strong market economy” (Katzenstein, 2003, p. 20). In terms of the track-record of small economies vs large economies, Katzenstein notes that on a broad range of 48 macroeconomic indicators small European economies outperform their large peers on 42 metrics, trailing in areas such as real GDP growth in 1960-1990, GDP per capita and several measures of long-term unemployment (Katzenstein, 2003, p. 18). The winning factor for small economies in Katzenstein’s view is ability to adapt to change: “small corporatist states can continue to prosper—not because they have found a solution to the problem of change but because they have found a way to live with change” (Katzenstein, 2003, p. 27).
In his account of the success of Switzerland’s economic model, R. James Breiding emphasizes the importance of the advances made at the micro-level of companies, or what he calls the corporate and industrial “variety and broad base of the Swiss economic miracle” (Breiding, 2013, p. 346). These are the companies that according to Breiding have some of the highest shares of revenues spent on research and development, with the country overall being among the world leaders in terms of the ratio of R&D spending to GDP (Breiding, 2013, p. 347). A benign and stable political environment is yet another important factor of Swiss success, along with the country’s safe haven features that include the strength of the Swiss currency compared to DM and EM peers over the long-term (Breiding, 2013, p. 347, p. 9).
For his part Tommy Koh, professor of the National University of Singapore, argues that Hans Morgenthau’s concept of a Territorial State is being replaced by the concept of the Market State, namely “a state which has taken advantage of the new opportunities of international trade, open borders, globalization, information technology and human mobility” (R. James Breiding, 2019, p. ix). As noted by Sarkissian (2023), the technological changes in the world economy that lead to the declining barriers associated with distances and borders result in what he calls the emergence of “quantum politics”, whereby inter-connectedness is increasingly intermediated by technology (Sarkissian, 2023, pp. 232–233). In this “shrinking” world, as is argued by Sarkissian, small economies thrive and become more agile compared to their large counterparts on the world stage (Sarkissian, 2023, pp. 236–237). In other words, the argument is again made on the advantages wielded by small agile states in the conditions of rapid technological transformation.
Jeffrey Frenkel in his paper “What Small Countries Can Teach the World” lists a whole array of superior economic policies pursued by small economies, including Scandinavia’s socially-oriented Nordic economic model, New Zealand’s liberalization reforms, the economic success in attracting FDI in Ireland, the “unique development strategy” in Singapore, as well as Costa Rica in Central America and Mauritius in Africa that opted to forego significant military outlays placing the emphasis on human capital development (Frenkel, 2012, pp. 97–98). As noted by Jacob Frankel, “why would one look to small countries when in search of good ideas for policies or institutions? It is because history shows that big countries do not have all the answers” (Frenkel, 2012, p. 97).
There is obviously nothing wrong with being a large economy, particularly in view of the considerable role that such heavyweights play in delivering growth impulses across the globe. The latter however, depends on the degree of openness of these large economies and in this regard, the trends of the past several decades point to rising protectionism being primarily driven by the world economy’s heavyweights (Lissovolik, 2022). At the same time, small economies are typically more open—as noted in the report of the IMF’s Independent Evaluation Office, “although small states may have unique features … they share a number of similar characteristics, including lack of economies of scale; a high degree of trade openness; volatility; vulnerability; and relatively strong social cohesion” (Abrams, 2022, p. 2).
A paper by Credit Suisse titled “The success of small countries” points to a number of advantages of small economies compared to their large counterparts, including lower income inequality, high score in the UN’s Human Development Index, relatively higher spending on education and healthcare as a percentage of GDP, greater homogeneity. They also observe that “the rise of new small states in the context of globalization has been one of the key geo-economic megatrends of the past 30 years” and “found a negative correlation between size and GDP per capita” (Credit Suisse Research Institute. 2014, p. 4).
In exploring the reasons for the relative success of small economies, R. James Breiding asserts that these economies are more competitive on the back of lower inequality, superior primary education, greater opportunity for upward social mobility as well as greater efficiency in reaching political compromise and consensus (Breiding, 2019, p. 304). He also points to such factors of success as constructive cooperation between the government and the private sector (Breiding, 2019, p. 312). At the same time, Breiding also acknowledges that “smallness is not sufficient” as is illustrated by cases such as Haiti or Lebanon, though overall smaller and nimbler economies will continue to outperform in the world economy, with other countries seeking to emulate their success (Breiding, 2019, pp. 304–305). In the end as Breiding argues, while small successful nations “are far from perfect, they grapple more quickly, rigorously and honestly with some of the challenges facing us all. They are not utopias, but laboratories. As such they may have arrived at the future first” (Breiding, 2019, pp. 314–315).
In his most recent book titled “What Goliath can Learn from David: Big Lessons from Small Nations” (2024) R. James Breiding confirms the trend of the preceding years of small nations’ leadership in some of the key international rankings (happiness indicators being a case in point), while observing that this success is a relatively recent phenomenon. Contrary to past patterns, at this juncture in the development of the world economy more of the success depends on the outcome of the competition for attracting talent (Breiding R. James, 2024). Breiding further emphasizes the importance of such factors as trust in the success of small economies.
A somewhat mixed view of the performance of small economies is presented by the World Bank’s 2018 report “Open and Nimble: Finding Stable Growth in Small Economies”. According to its authors, the openness of small economies to trade and investment flows is accompanied by a high degree of concentration of exports (in terms of products and geographical destination). This export concentration together with economic openness in turn results in a greater degree of susceptibility of small economies to terms of trade volatility. Apart from experiencing high levels of economic volatility and high export concentration, small economies also exhibit higher relative costs from natural disasters and “tend to have costlier governments, higher public debt, and lower savings” (Lesniak, Justin T.; Lederman, Daniel. 2018, p. 103). At the same time, the report notes the nimbleness of small economies in adapting to change.
A World Bank study of the fiscal position of small developing states points to the adverse effects of the Covid pandemic that has exacerbated the already sizeable fiscal imbalances faced by these economies in the form of rising fiscal deficits and debt burdens. According to World Bank’s estimates, in 2011–2023 government debt in small states was 10 percentage points higher than in other EMDEs and averaged 57% of GDP; average debt in small states increased by around 11 percentage points of GDP, with nearly a third of the debt buildup taking place after the onset of the COVID-19 pandemic (Hill and Khadan, p. 4). As a result, the World Bank estimates that 40% (14) of the 35 small states are rated as being in, or at high risk of, debt distress, almost double the proportion of other EMDEs (Hill and Khadan, p. 3). In terms of normative recommendations, World Bank economists propose fiscal policy rules to strengthen policy discipline, fiscal councils as well as sovereign wealth funds to secure buffers against shocks (Hill and Khadan, 2024, p. 22).
A recent guidance note on the IMF’s engagement with small developing states also points to a number of vulnerabilities experienced by small economies. In particular, “between 1960–2020, SDS accounted for 55 percent of global natural disasters causing 20–30 percent of GDP in damages and 70 percent of natural disasters with damages exceeding 30 percent of GDP” (IMF (2024), pp. 11–12). The IMF notes significant variation across small developing economies in terms of economic performance, with the Caribbean SDS being, on average, more affluent and reliant on tourism, while Pacific Island SDS host most of the SDS fragile states and are generally less developed (IMF (2024), p. 13). One of the barriers to private sector development and economic diversification highlighted by the Fund is the lack of economies of scale for SDS economies—more than 60% of all small developing states depend on a single driver of economic growth (tourism, agriculture, etc.) and while “real GDP per capita growth in SDS is only somewhat smaller than that of EMs and LIDCs, growth in SDS economies is significantly more volatile than in these two country groups” (IMF, 2024, p. 11). Higher volatility also distinguishes SDS economies in such indicators as fiscal and current account balances. IMF’s recommendations to deal with these challenges include reforms to promote job creation as well as trade integration and international cooperation as a way of enlarging market size and diversifying risk (IMF (2024), p. 15).
Apart from the normative prescriptions for individual economies emanating from the experience of successful small economies, there are also calls for reforming the global governance architecture to accord greater importance to leading small countries. In his book “The small states club” Armen Sarkissian advances the idea of the creation of a Small States Club that would include Singapore, Qatar, United Arab Emirates, Israel, Estonia, Switzerland, Ireland, Botswana, Jordan and Armenia. He defines small economies as those that are small in size and with a population with up to or less than 15 million (A. Sarkissian, 2023, p. 11). However, if the size of the country’s territory is taken into account in this definition, then a country such as Botswana with a territory of more than 580,000 square kilometers (top 50 in the world in terms of the size of territory) may hardly be considered a small economy.
Another formation of small economies is advanced by R. James Breiding and is called the S8 or the Too Small To Fail (TSTF) group of countries—these include Switzerland, Denmark, Finland, Ireland, Israel, Netherlands, Singapore and Sweden. Professor Koh further argues in favor of expanding the list of the TSTF/S8 economies to include such countries as Liechtenstein, New Zealand as well as Norway, with possible further extensions including such economies as Estonia, Chile, Costa Rica and Mauritius (R. James Breiding, 2019, p. x). There are also proposals to integrate the platforms of small open economies into global forums such as the G20. In particular, Sarkissian (2023) notes that the Small States Club can function as a dynamic forum for the exchange of ideas and “eventually evolve into a larger organization of successful small states—let’s call it S20—that represents the interests of small states at forums such as the G20” (A. Sarkissian, 2023, p. 242). The name for the engagement group for small economies will however need to be different from S20—there is already an S20 (Science 20) engagement group in the G20 that promotes scientific cooperation among the G20 members.
Overall, the above review of existing academic literature suggests that leading small economies may have an edge in economic performance compared to large economy peers, though on some counts large economies have at times fared better. Small economies exhibit important commonalities in terms of their nimbleness and ability to adapt to intensifying changes in the world economy. In this respect, the higher intensity and pace of changes in the global economy (including with respect to technological transformation) in the past several decades may benefit small economies in terms of their relative performance with respect to the world’s economic heavyweights. At the same time, small open economies may be vulnerable to the current global economic headwinds characterized by rising protectionism – something that raises the urgency of their cooperation on the international stage.
Yaroslav Lissovolik, Founder, BRICS+ Analytics
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