Free Lunch (21 page)
Authors: David Smith
American miscellany
America has produced many great economists in the post-war period. There is neither time nor space to mention them all. The great thing about economists in America is that they have had the time and the resources to take the subject into new areas. Gary Becker, who has applied economics to pretty well everything, was mentioned in an earlier chapter. James Tobin, who died in 2002, twenty-one years after winning the Nobel Prize, was another. His ‘Tobin tax’ – a tax on speculative foreign exchange transactions to be used to help the world’s poor – became a totem for poverty pressure groups and anti-globalization protestors, even though, at the time of writing, it had not been taken up by policymakers. Tobin served in the US Navy in the Second World War, alongside Herman Wouk, who was later to write
The Caine Mutiny
and feature Tobin in it, thinly disguised as a character named Tobit. Tobin’s work was wide-ranging. He demonstrated how financial markets fitted into a Keynesian economic framework with his research on portfolio selection. He showed how the characteristics of households affect their economic behaviour (this was called the ‘Tobit analysis’). Most of all, he provided financial market analysts with a tool, called Tobin’s ‘q’ – the relationship between a company’s stock market valuation and its underlying net worth – for calculating whether a share, and the stock market as a whole, is overvalued or undervalued.
Another fascinating branch of economic theory developed by American economists, particularly James Buchanan and Gordon Tullock, is public choice theory. Public choice theory applies economic principles to the behaviour of voters, political leaders and bureaucrats. The behaviour of bureaucrats, for example, is governed by self-interest not a desire to selflessly serve the community. So they are driven by salary, position and the perks of office, reputation and power. Elected politicians, meanwhile, are driven by the desire to be re-elected but are prey to powerful interest groups. Voters, who should check and balance the behaviour of politicians, are not particularly efficient at doing so. Public choice theory suggests that, unless controlled, government will tend to grow bigger and bigger. Its proponents argue for such controls. Tax rises, for example, should be permitted only if two-thirds or three-quarters of the legislature approve, and bureaucrats should be allowed to hold office only for a limited time.
It is time to move on. I have not touched on some of the recent debates among American economists, such as whether there was a ‘new’ economy of genuinely stronger productivity growth in the 1990s. Some, such as Robert Gordon, argued that there was an improvement in productivity but that it was confined to the IT sector. Others preferred to believe that there was an economy-wide improvement.
I should also provide the denouement to that long battle between the monetarists and the Keynesians. To talk of consensus and economics in the same sentence may be stretching things but it is fair to say that there has been a coming together between the Keynesians and the monetarists. The Keynesians accept that money matters, as does the supply-side. The monetarists, or most of them, concede that there is more to running the economy than simply setting targets for the money supply and sticking to them. Pragmatism is in vogue.
All good meals, and all books, must come to an end. It would be wrong, however, to disappear into the night without a chat, perhaps even a little debate. Economists argue all the time. The subject advances, or sometimes goes back a little, by means of constructive engagement. To some, economists disagree a little too much. Churchill famously said that if you had two economists in a room you were guaranteed two different points of view, ‘and three if one of them is Mr Keynes’. That may be a little too harsh. Where would we be without controversy? The comforting thing about economics, indeed, is that it is often possible for both sides to be right. With this in mind, let us have a look at some long-standing controversies.
Why are some countries richer than others?
In the end, there are perhaps only two economic questions that matter – how much wealth is created and how it is distributed between people and countries. Since Adam Smith’s day the world has created wealth at an exponential rate. Its distribution has, however, become more uneven as time has gone on. The disparities in income and wealth between the world’s rich and poor are striking. Estimates published in the
Economic Journal
in 2002 by Branko Milanovic of the World Bank showed that the richest 1 percent of the world’s population, approximately 60 million people, received as much income as the poorest 57 percent, 3.4 billion. David Landes, the economic historian, estimates that the income gap between one of the richest countries, Switzerland, and one of the poorest, Mozambique, is 400 to one. Prior to the industrial revolution of the middle of the eighteenth century, he suggests, the biggest such gap would be about five to one. The richest fifth of the world’s population receives 86 percent of global income and 1.2 billion people, 20 percent of the world’s population, exist on less than a dollar a day, with another 2 billion officially categorized as ‘in poverty’. Rich countries spawn rich companies. Large, multinational firms account for one-third of world gross domestic product and two-thirds of world trade.
Why such disparities? There are three broad explanations. The first is the ‘late developer’ thesis. Political correctness requires that we call poor countries developing countries even when some of them are not developing at all. On this view, prosperity and success eventually come to everybody but for some it takes longer than others. African countries, for example, have a level of income per head about the same as that of Europe two centuries ago. Perhaps in two centuries they may be only a hundred years behind Europe, and thus well above present European living standards. It is a big perhaps. It is true that changes have taken place in the global economic rankings. As the cradle of the industrial revolution Britain had first mover advantage – by starting first she managed to stay ahead of the pack – and reigned supreme for a hundred years or so after it. The writing was on the wall, however, as early as the Great Exhibition of 1851, when people began to notice the superiority of the products being exhibited by German companies. Britain was caught and surpassed, not just by other European economies, but also more particularly by America. Japan, an economy closed to the outside world until late in the nineteenth century, was another to come through rapidly, both before and even more impressively after the devastation of the Second World War. China could have had an industrial revolution at the time of the European renaissance but chose a different path. Now, say some, China will be the most powerful economy of the twenty-first century, although there are serious reasons to question this, most notably whether it has the appropriate economic structure for sustained growth.
The fact that countries have changed position in the rankings does not, however, offer comfort. Anti-globalization critics would argue that the rich countries and their corporations have organized things in such a way that they have effectively kicked the ladder away. Poor countries, in other words, are there to exploit, not to provide with a helping-hand. This criticism cannot be dismissed out of hand, and certainly richer countries have tended to control the rules of global trade and have done so in a way that excludes the products of poor countries. That, we hope, is changing. As for corporations, their main interest is in creating new markets of prosperous customers, not in preserving poverty. We must look for another explanation for persistent poverty.
The second explanation has to do with location. The eminent Canadian-born (but American-adopted) economist J. K. Galbraith noted years ago that if you were to mark a line around the globe a thousand miles either side of the equator there would be no developed, that is rich, countries there. Poor countries tend to be in tropical and semi-tropical zones. There, disease tends to be rife, including traditional diseases such as malaria and modern ones such as AIDS, life expectancy low. Agriculture is more difficult and less productive, so producing a relatively small amount of food absorbs a great deal of labour. Many poor countries, particularly those in Africa, are poorly placed geographically to benefit from trade. Landlocked countries, in particular, struggle, most notably if they are in dispute with the neighbours they need to traverse to get to the seas. A study by Jeffrey Sachs and others put down Africa’s economic failure to climate, disease, geography and poor policies. Non-tropical South Africa is about five times as wealthy, per capita, as tropical Africa, and not just because of gold and diamonds.
The third explanation, put forward by David Landes in his fine book
The Wealth and Poverty of Nations
, is that it all comes down to culture. Landes’s title deliberately echoes Adam Smith’s
Wealth of Nations
. Smith, you will recall, explained the route to prosperity through the division of labour. Organization was the key to harnessing and advancing the powerful forces of industrialization. Britain, as the first modern industrial country, was ideally placed to take advantage of it. There was a powerful desire for economic advancement, a willingness to embrace new technology, an already well-developed capital market (the City), a rule of law and a respect for property rights. Other countries, often with similar societies – Germany, America, Australia, and others – either possessed or were able to emulate this work ethic.
Whether that work ethic was Protestant in origin can be debated, but that would certainly not explain Japan’s success. In other parts of the world, however, religion, whether it is Roman Catholicism or Islam, appears to have inhibited economic development. ‘If we learn anything from the history of economic development it is that culture makes all the difference,’ Landes writes.
Witness the enterprise of expatriate communities – the Chinese in East and Southeast Asia, Indians in East Africa, Lebanese in West Africa, Jews and Calvinists throughout much of Europe, and on and on. Yet culture, in the sense of the inner values and attitudes that guide a population, frightens scholars. It has a sulphuric odour of race and inheritance, an air of immutability.
His message should be an optimistic one. Cultures can change, adapt. Many countries have a tradition of enterprise even if their most entrepreneurial people tend to express themselves elsewhere. In a sense most development programmes follow his line of thinking. The tools of development are as much the establishment of the rule of law, of property rights, of efficient government, as the granting of foreign aid. Lord Bauer, the distinguished British economist who died in 2002, pointed out that over decades indiscriminate aid did poor countries more harm than good. Douglass North, the American economic historian and joint winner of the Nobel Prize for economics in 1993, has studied the role of institutions in economic development. According to him: ‘Institutions provide the basic structure by which human beings throughout history have created order and attempted to reduce uncertainty in exchange.’ The inability to enter into binding contracts and the prevalence of bribery and corruption hold back development both in the poor countries and in the former socialist states. Get the institutions right and you have a chance. And yet the message is also a depressing one. People have known for years that there are cultural barriers to economic development. There are good examples of where those barriers have been lowered but plenty of others where those advocating such reforms have been knocking their heads against a brick wall, not least because the fruits of even small-scale development have gone to corrupt rulers, rather than the general population. The poor have stayed poor, and may remain so.
Is globalization a bad thing?
Closely related to the existence of huge inequalities between countries is the role of globalization. It is a term much bandied around, but what does it mean? According to a definition used by Britain’s Department for International Development (DfID), which recently produced a white paper on the subject, globalization is
the growing interdependence and interconnectedness of the modern world through increased flows of goods, services, capital, people and information. The process is driven by technological advances and reductions in the costs of international transactions, which speed technology and ideas, raise the share of trade in world production and increase the mobility of capital.
It is not, in other words, just Coca Colonization – the dominance of the world by a few large companies and brands – although the global corporation is clearly an aspect of it. It is the movement of vast sums of money around the international financial system, the fact that the toy in your child’s Christmas stocking was probably made in China. It is the breakdown of barriers. It is the fact that, more than ever, no country is an island unto itself in economic terms. The old chaos theory cliché, that a butterfly flapping its wings in the Amazon jungle could cause a hurricane thousands of miles away, has its parallels in our globalized world. To take an obvious example, a computer hacker in Manila who invents the ‘I love you’ virus can cause panic in offices thousands of miles away.
Beginning at the World Trade Organization ministerial meeting in Seattle in November 1999, and at most gatherings of political and business leaders since, anti-globalization protestors, often using violent methods, have been out in force. Whether you agree with it and its methods or not, the campaign has been a considerable success in making politicians, businessmen and economists think. It has high-profile supporters. ‘For millions of people globalization has not worked,’ wrote Joseph Stiglitz, former chief economist at the World Bank, in his 2002 book
Globalization and Its Critics.
‘Many have actually been made worse off, as they have seen their jobs destroyed and their lives become more insecure. They have felt increasingly powerless against forces beyond their control. They have seen their democracies undermined, their cultures eroded.’ The new world trade round launched in Qatar in November 2001 was called the ‘Doha development agenda’, an explicit recognition that the future opening-up of world trade must be geared towards the needs of poor countries.
Economists, as a rule, have little difficulty in agreeing that free trade is highly beneficial. A crucial element in post-1945 global prosperity, out of the ashes of the protectionism of the inter-war years, has been trade liberalization – the removal of barriers to trade, both formal and informal, under the auspices of first the General Agreement on Tariffs and Trade (GATT) and then the World Trade Organization. Free trade has had a powerful effect. Countries have become more open and have mainly benefited hugely from it. World trade growth has, over time, averaged two or three times the rate of growth of national output. Developing countries that have adopted free trade rules have experienced growth rates averaging 4.5 percent a year over the past three decades, compared with 0.7 percent for the limited number of closed economies.
So what is the debate? It is that free trade, far from being of mutual benefit, has been a means of exploiting the world’s poor. According to Oxfam, in an April 2002 report entitled
Rigged Rules and Double Standards
, for every $100 generated by world exports, only $3 goes to poor countries; and for every dollar given to developing countries in aid, $2 is lost because of unfair trade rules which are costing them $100 billion a year. Tariffs and taxes on imports levied by rich countries are four times as high when the imports are from poor countries as from other industrial countries. Perhaps the worst examples of where trade acts against the interests of poor countries are in agriculture, where rich countries spend $1 billion a day on farm subsidies, exporting surpluses on world markets in a way that drives down prices for farmers in developing countries. None of this suggests that the world should abandon the quest for free trade, or that poor countries would be better off by opting out of the global system. What it does say is that a meaningful drive for free trade would target the cosy little deals that enable rich countries to scratch each others’ backs, and which protect their domestic industries and farmers. During 2002 George W. Bush, supposedly a free trader, signed into law tariff barriers against steel imports, to protect America’s bloated and inefficient producers.
One of the paradoxes about free trade is that creation of free trade areas, such as the European Union’s single market or the North American Free Trade Agreement involving the United States, Mexico and Canada, can actually be damaging to free trade, if the existence of these ‘preferential trading agreements’ have the effect of excluding other countries. According to Jagdish Bhagwati, one of the world’s leading experts on trade, in his book
Free Trade Today
:
