The neighboring towns of Nogales, Arizona and Nogales, Mexico figure prominently in the work of Daron Acemoglu and James Robinson, who, together with a colleague, won this year’s Nobel Prize in economics. In their book Why Nations Fail, Acemoglu and Robinson explain that these two border towns are identical in almost every way—from demographics to geography to climate. But they differ in one key respect: The Nogales on the American side of the border is prosperous, while its southern neighbor is not. The authors use the Nogales example to illustrate why, in their view, there are economic differences from country to country.

Prior to Acemoglu and Robinson, academics usually attributed economic differences to factors such as geography, climate or the presence of natural resources. Some researchers pointed to education levels, cultural factors or experience with colonialism. Another popular theory argued that countries with warmer climates tended to be less economically productive because of the destructive impact of malaria. But places like Nogales—where there are essentially no differences in demographics, geography or climate between the neighboring towns—disprove many of these older theories.

Instead, Acemoglu and Robinson argue that differences in wealth stem mainly from differences in political and economic institutions. In the United States, for example, the concept of patent protection is written into the Constitution. Robinson notes that the first Patent Board meeting was held in 1790, with Thomas Jefferson in attendance. That’s how important it was.

Robinson emphasizes the impact of patent rights on the early American economy, noting that they were granted broadly, “to artisans, farmers, elites, non-elites, professional people, uneducated people.” For this reason, Robinson characterizes countries like the United States and its peers as having “inclusive” economic institutions. With the protection of patents and generally strong property rights, entrepreneurs are incentivized to start new businesses.

That’s in contrast to less developed countries, which have what Robinson calls “extractive” systems. In these countries, corruption is so widespread that prospective entrepreneurs are disincentivized from starting businesses. Robinson cites Robert Mugabe, the dictator who ruled Zimbabwe for nearly 40 years. In 1999, he awarded himself a 200% pay raise, then in the following year miraculously “won” the top prize in a government lottery. In Robinson’s view, countries aren’t corrupt because they’re poor; they’re poor because they’re corrupt.

This is why we see entrepreneurs like Sergey Brin co-founding Google in the United States rather than in his native Russia, or Elon Musk setting up his various companies in the U.S. rather than in South Africa. The list of companies founded by first generation Americans is extensive for the reasons Acemoglu and Robinson identified.

Why Nations Fail emphasizes the importance of patents and property rights. But it’s more nuanced than that. Developed countries, the authors argue, walk a fine line, allowing businesses to thrive, but not allowing them to become too powerful. To illustrate this, Robinson likes to show a picture of Bill Gates from 1998, when he was forced to sit and face an antitrust inquiry. Countries with weaker economic institutions don’t constrain monopolistic businesses, and often, the government itself owns them.

Antitrust laws in developed countries, on the other hand, ensure that businesses don’t grow to the point that they become extractive, which stifles innovation and harms economic growth. While sometimes seen as heavy-handed, antitrust laws are the reason we have healthy competition today in markets from energy to telecommunications.

Critics of the inclusive-extractive framework often point to China, a country that’s produced very significant economic growth but without inclusive institutions. Political power there is highly concentrated, and the government has a heavy hand in directing the economy.

At a presentation back in 2015, Robinson discussed China as a potential exception to his rule. He acknowledged the country’s success but argued that it was unsustainable. “The impulse of the Communist party to suffocate anything that looks vaguely threatening to it politically is fundamentally inconsistent with…innovation.”

That was nine years ago. Recent evidence confirms that he was right, that China’s autocratic approach has indeed started to backfire, producing just the sorts of results Robinson predicted. Most notably, the government’s one-child policy created an imbalance in the numbers of young men and women, making marriage more difficult and damaging the fabric of society in other ways.

In the economic sphere, China’s leadership, which directs most economic activity, put too heavy an emphasis on construction. That resulted in a surplus of housing units at a time when, due to the one-child policy, the population was falling. According to one study, there might now be as many as 90 million vacant homes that will never be sold. That, in turn, has resulted in significant bankruptcies among property developers. None of this has been good for investors.

Japan’s approach to economic development provides an interesting contrast to China. In the past, Japan sought to direct the allocation of resources, but it always stopped short of the sort of iron-fisted approach favored by Beijing. A famous example dates to 1961.

Japan’s Ministry of International Trade and Industry decided that Toyota should make cars while Honda should limit itself to motorcycles. It further tried to dictate that cars couldn’t be painted red. Soichiro Honda would have none of this. He ignored the government and began making cars, often in red. Today, Honda produces 14 million cars each year. The results of Japan’s lighter touch are consistent with Robinson’s hypothesis that inclusive systems are more successful.

What are the implications of this research for individual investors? A key debate in personal finance is whether it makes sense to include international stocks in a portfolio. But Why Nations Fail highlights an important point: that international markets differ very significantly from one another, so it’s important to distinguish among them as we allocate international dollars.

This means examining critically a country’s political and economic structures before entrusting them with our investment dollars. That’s why I generally advise against total international stock market funds, because they weight stocks only according to their size, ignoring political factors which may ultimately pose risks.

The starkest example of this: Russia. Until just a few years ago, it was included in the most popular emerging markets and total international funds. But when it invaded Ukraine, it was zeroed out of these indexes.

That’s why I suggest separating your international investments into two groups. The first is easier: An index of developed markets will include all of the world’s major economies outside the U.S. These are the countries with the most inclusive political and economic structures. For this portion of your portfolio, you could use a fund like Vanguard’s FTSE Developed Markets ETF (symbol: VEA) or iShares’s Core MSCI EAFE ETF (IEFA). EAFE stands for Europe, Australasia and Far East.

Where governmental institutions are more problematic is in emerging markets. There, I don’t think any of the standard market indexes is a good choice because China tends to dominate them, with weightings in the neighborhood of 30%. That’s why I prefer an alternative index known as the Freedom 100. Unlike a traditional index, the Freedom index also takes into account political and economic considerations. As a result, this index completely excludes China, and even before the Ukraine war, it excluded Russia.