Through 2009, the CDE published printed newsletters. Below are the letters written by Professors Bruton and Caprio.
Browse archived newsletters:
- Dec 2009: Professor Henry Bruton
- Oct 2009: Professor Henry Bruton
- Jun 2009: Professor Henry Bruton
- Mar 2009: Professor Henry Bruton
- Feb 2009: Professor Henry Bruton
- Dec 2008: Professor Henry Bruton
- Oct 2008: Professor Jerry Caprio, Chair
- Oct 2008: Professor Henry Bruton
- Apr 2008: Professor Henry Bruton
- Jan 2008: Professor Henry Bruton
- Nov 2007: Professor Henry Bruton
- Oct 2007: Professor Jerry Caprio, Chair
- Oct 2007: Professor Henry Bruton
December 2009: From Professor Bruton
Another newsletter, the last of 2009. It’s hard to believe, isn’t it, that 2009 is almost over. I have often wondered how time could be stopped for a bit and allow us to catch our breath. Of course there is no way to do that and we have to live with the rapid and unending passage of time, whatever it brings. But I’m not here to talk about the fleetness of time.
I am here to talk about small firms in our development effort. In a recent issue of the Economist, the weekly news magazine, there was an interesting short piece on small firms in China. The article asserted that China could trace a great deal of its recent economic success to small and medium sized enterprises. They were rare in 1979 when China began its first tentative steps away from central planning, and by 1990 there were about one million of them, and by 2001 there were, says the Economist, some 8 million. Today there are estimated to be some 60 million. About 95% are privately owned. The government counts as small/medium any firm with no more than 2,000 employees, and of course many firms hire only a half dozen or so. Yet together they account for 60% of China’s GDP, one half its tax revenue, 66% of its patent applications, 80% of its new products, and 68% of its exports. The small/medium firms are having some trouble now exporting because of the sagging world demand, but there is some evidence that are leading the way to a shift in production for the domestic market, but they are definitely having troubles now–but who isn’t.
What struck my eye was the huge increase in the number of such firms from 1990 to the present time. China is a huge country of course, but to go from one million to 60 million in twenty years seems to me to be phenomenal. And the large share of patent applications and new products is perhaps a good signal of the capacity of small/medium firms to innovate and to search and learn–this capacity seems to have been unleashed when China moved away from rigid comprehensive central planning.
I don’t have much data for other countries, but what there is suggest that small/medium firms can play a key role in the growth of GDP and of employment in most of our countries. We hear a lot about the giant firms in a country, and how they contribute to the development goals, but less about small firms. Yet we also find many obstacles (legal and otherwise) to their entry and exit. The Japanese story is especially pertinent. Small firms have abounded there from the beginning of growth and have always provided much employment and output of traditional goods and services.
It is obvious that China imposed few restrictions on their coming into being and their exiting where exit was necessary. Note that it must be easy to enter and to exit. In some countries it is more expensive to exit than it is to enter. Small, unsophisticated firms, using primitive technology and tools, managed by people who are steeped in the history and lore of the country may well be the starting point for a genuine indigenous process of sustained growth and development.
Do you know much about the small/medium sized sector in your country? Is it contributing to development and employment as it might? Are there laws and regulation and institutions that impede it playing the role described briefly above? Think about it and look around a bit. If you find anything interesting I would love to hear about it.
As I noted this is the last newsletter of 2009. And 2010 is right around the corner staring us in the face. May 2010 be for each of you a year filled with joy and wisdom in all that you do, and may you continue to search and learn because we all know that searching and learning is what it really is all about. Also don’t forget to take some time off to sing and dance.
Regards to all,
October 2009: From Professor Bruton
Classes at CDE have started again, and the cool winds have replaced summer heat and humidity. I have concluded from this that it is time for another newsletter. I hope that you all have had a good break and are ready to jump into the fray again.
I have two things to call up for your attention. The first is the resurgence of Keynesian economics, and the second is why is low end poverty in our countries so hard to eliminate.
There have several books recently on the return of Keynesian economics to respectability, both in academia and in policy making. This is due partly to the recession that has plagued the world for the past few years, but I think not entirely. The part of Keynes most relevant to the current situation is the stimulate notion in several countries, and, more fundamentally, Keynes’s ideas on uncertainty. Keynes put much emphasis on uncertainty, much of which was ignored by his followers, even though it is fundamental to his theory. Attention to uncertainty seems to be coming back. I think it fair to say that economists have not made much headway in formulating a policy relevant theory or a way of thinking about it. Certainly we haven’t found an effective way to reduce it or prepare for it. Insurance schemes don’t seem to work very well. Uncertainty is often the major obstacle to starting up investment projects, especially small ones.
Keynes of course was also concerned with aggregate demand. With the rise of monetary theory and policy, attention shifted from fiscal policy, as in Keynes, to interest rates. This was always a mistake in my opinion. I have never believed interest rate policy very strong in the developing world, but other people did. Along with the shift to monetary policy was an increased fear of inflation. I think this fear has been over done. Our countries need strong demand to induce investment and innovation. There is a problem however. In your own country think about the extent to which the Central Bank has such control of inflation sources that fiscal policy can be pushed hard. Strong demand plus rising marginal costs is a good incentive for searching for ways to increase productivity. This is a key issue now and worth anybody’s attention.
Think about these two Keynesian ideas–uncertainty and aggregate demand/inflation–in the context of the present state of your economy. I would love to hear your thinking on them.
The other issue I want to mention is that of the continued existence of large numbers of people living in severe poverty, even where total GDP is rising reasonably well. This is an old problem of course, but is still attracting attention. There are about one billion people in the world who exist on less than two dollars per day. The world’s population, you remember, is about seven billion. So the “Bottom Billion” as they are sometimes called, constitute a sizeable proportion of the world’s population. The question of course is why should this be. Are our policies all to blame? Did you learn anything at CDE that would help you explain why, and derive a policy to change this situation? Paul Collier has a book, called the Bottom Billion (I think), that would help one’s thinking on all this.
I think that this issue and the unemployment problem are closely linked. With a strong demand for labor–all kinds of labor–this low end poverty might disappear or at least be markedly reduced. And a strong demand for labor links closely to the aggregate demand arguments of Keynes.
Here is some home work or a topic to talk about at lunch with a colleague. Check the unemployment rate in your country. A recent issue of the Economist is convenient place to look. You will find it too high. Then check a handy inflation index and try to find some estimate of the number of people in low end poverty in your country. Then remember Keynes, and ask yourself could we attack both unemployment and severe poverty by increased public spending–by fiscal policy, and not bring about a level of inflation that would defeat the effort.
Have a good lunch.
Regards to all,
June 2009: From Professor Bruton
We decided to have the last newsletter of academic 2008-2009 in June so that the class of 2009 could be included as alumni. The 2009 class all received their Master of Arts in Policy Economics on Sunday, June 7, and most are now home, have greeted family and friends, and some have probably gone back to their jobs already. It was a good year at the CDE, a fine class (as all CDE classes are), and we think all members of the class have arrived home better equipped and better able to perform their jobs and otherwise serve their country. And this is what I want talk a bit about in this letter.
The CDE awards a degree in policy economics. We want to help you become extra good in the design and implementation of good sound economic policy in your country. This is a bit different from a Ph.D. program, which is more of an academic degree, preparing you for a life of teaching and research in a scholarly atmosphere. In fact, I can’t help adding, that in my experiences in many governments in the developing world, I have found people with a Ph.D. rather helpless in approaching and dealing with the real, current problems that so many of our countries are confronted with. And this brings me to an old refrain of mine that I want to revisit.
Policy is made in a particular context — institutions, religion, values, ideas of the good life, personalities, and history, recent and long ago history. In general it (policy making) calls for a good command of basic economics, and a vast knowledge and understanding of the other aspects of the society just mentioned. Understanding of these other aspects comes through experience and on-the-job knowledge accumulation. I like to call it wisdom accumulation. You can’t teach wisdom, but you can learn it by reading, writing, and on-the-job observing and trial and erroring.
I have two concrete suggestions to pass on to all of you from whatever class. Think them over and tell me how you feel. The first is to write a letter of one page, concerned with a policy, to your local newspaper or to your supervisor or to your friends or to me every two weeks on any topic currently in the news. Try to be as policy specific as you can. The second suggestion is to read a recently published history of your country or an area of your country. Then think about what it tells you about the current situation in the country.
The moral of all this is to try to convince you that your education did not end when you received your diploma from the President of Williams on a bright June morning. Indeed in a way it is the beginning of new and exciting learning that enables you to see and understand your economy in a more and better policy significant way. This applies to all alumni whether of the class of 1961 or 2009 or any class in between.
This will be my last newsletter until Fall when I hope to be back in action. In the meantime enjoy and love your family and the beauties of the universe, while realizing the joys of searching and learning.
See you in the Fall.
March 2009: From Professor Bruton
The letter about China and its difficulties elicited some doubts and disagreements, which is very healthy. In this letter I want to elaborate a little, and try to help us think more and more clearly about the issues involved. You may still hold to your views, and that is okay of course, but we may all see the good sides and the bad sides more clearly. So here goes.
In the previous letter I mentioned three things that were a bit disturbing: unemployment (especially urban unemployment) and very unequal income distribution effects, direct foreign investment, and the damage done to traditional values, morality, and institutions. As several of you noted, I could and (should) have mentioned pollution and the environmental effects in general, doubtful use of the world’s raw materials, and some economic policies (mainly exchange rate policy) that had unfavorable effects on other countries.
Are these effects necessarily the consequence of very rapid growth of GDP? Why can’t we have rapid GDP growth and still avoid these problems? Some aspects of our societies can change only very slowly. Thus traditions and values change slowly as the society learns and experiences new life styles and new opportunities, and new ideas. In a way this is good because such things are the very heart of our social and personal lives, and we need to reflect deeply when change begins to occur.
Pollution control imposes a cost that will slow down growth because we don’t include clean air in our measure of GDP. And rapid growth of GDP, especially that generated by foreign investment, can do great damage to the environment, and create major costs for the community to bear later.
Rapid growth almost always generates inequality. If it were quickly eliminated, that would certainly help, but we know that once entrenched it is difficult and slow to alter. We need therefore to consider distribution right from the start of our story. More equal income distribution almost always means attention to the rural sectors, where poverty is most rampant. Growth in the rural sectors will also almost surely be more costly than urban growth, and hence slow down overall GDP growth. Rural growth will also slow the movement of labor to the cities, and hence help with the urban unemployment problem.
Note that slow GDP growth may not mean slower growth of well being for the society. Improved air quality is a great source of well being, as is growth of the rural sectors. And wouldn’t you rather live in a country where poverty was being eliminated than a country where inequality was rampant. As we said, rapid growth of GDP may be very expensive. So maybe we need a measure of Well-Being that captures these, and other effects, as our indicator of growth.
I write this not to trash GDP. We certainly want more things–food, housing, education, transportation, etc.–but we want other things not now included in GDP–clean air, great traditions and values, thriving rural sectors, etc. I urge that all of you think about it, think hard about it, and work out you own position. Let me know how you come out.
PS. I have just read in the New York Times that some Indian firm is coming out with a small car that runs well and appears to be very durable. It is also very cheap, around $2,000. It is, says the Times article, also a great polluter, generating all kinds of poison in the air. So a question. A small, good, cheap car would be great to have and its production would enter the GDP accounts. The pollution it generates would be extremely harmful and the cost of this pollution would not enter the GDP accounts. Would you, if you were the relevant minister, in India approve of the production of this car? HB
February 2009: From Professor Bruton
We are having a cold and snowy winter in Williamstown. I am ready for April, but April is a long way off. I can do nothing about it, except complain and that doesn’t help much–but I do it anyway.
I want to talk a bit about China this time. I don’t know much in detail about China, but several things stand out about its recent development that may be of relevance and of interest to CDE alumni. So I will try a few things out on you and see what you think. Let me know if you think I am wrong or that I am missing out on some important part of the China story that is of particular relevance to your country.
Everyone knows that China has achieved a remarkable rate of growth of GDP in recent years, perhaps an average of ten per cent per year over the last twenty years or so, a truly outstanding record. The industrial production index is even higher, maybe as high as 15 per cent in many years. Its exports were booming and its current account still is in good shape, and it has a huge amount of foreign exchange reserves. Inflation seems under control. The big indexes all seem in very good order.
Maybe you know of President Deng’s alleged remark “it doesn’t matter about the color of the cat, so long as it catches mice.” Certainly this statement would not have been made in the days of Mao, and, even if apocryphal, suggests that the Chinese are doing a little searching and learning. And we all know that searching and learning is the real source, the really real source of development. So isn’t China just a plain beautiful success story? I want as I noted above to raise some questions for you to reflect on, and to consider with respect to your own country’s development.
First of all look at the most important statistic, employment. Official unemployment figures show around 10 percent of the labor force to be unemployed, but everyone recognizes that figure to be much too low. Unemployment is especially evident in urban areas where people have migrated in search of jobs that do not exist. Just earlier this week news stories told of 20 million migrant workers who were now unemployed. Agriculture has been neglected and so creates few jobs at very low levels of productivity. Agriculture creates about 20 per cent of GDP but about one half the labor force is said to be in agriculture, indicating the very low level of productivity in this sector. The large scale unemployment means that the growth of GDP that is taking place in China is very lopsided with the consequence that inequality of income distribution has increased, along with unemployment, as well as geographical inequality. This lopsided pattern not only causes inequality, but creates social unrest and lack of faith in the government. This picture is reflected in the fact that private consumption as a percentage of GDP in China is much lower than in most other countries, and indeed has fallen in recent years.
Another important aspect of Chinese development is the major role of foreign direct investment. This important role is one of the reasons for the lopsidedness of the development, but it has other effects as well. The most important of such effects is that on learning, especially of new technical and administrative knowledge. You all know the crucial role of new knowledge in development, and we know that some must be imported. But all must be adapted and fitted to our particular factor supplies, skills, values, and norms. Large amounts of foreign direct investment make this difficult to do. It is a fine line and an ambiguous line between too much foreign investment and too little. Local learning, indigenous technology, accepting and taking into account local conditions in developing new knowledge is surely a necessary condition for sustained growth. And heavy reliance on foreign investment does not permit this. To put this point a bit differently: very rapid growth, fueled by FDI, is almost sure to dampen, maybe eliminate completely, local learning.
One more point and we stop. The great traditions, the very impressive value systems that have prevailed in China over the centuries seem to be withering away. There is no apparent underlying value system, no strong belief system that holds people together and gives meaning to lives and society. The strong hold that Confucianism and other ancient doctrines once had has been undermined, not only by the Communists themselves, but, perhaps more importantly, by the form and content of the rapid development. One might risk a stronger statement: the Chinese have chosen a rapid growth process that is inconsistent with its traditional values and beliefs. That inconsistency imposes a high cost on the society. And it might be unraveling : much of the growth of recent years has been based on exports and investment in export industries. Clearly this strategy can produce rapid growth when other countries consumers are spending, but when this spending slows, those producing for this market suffer. Declines of 25% in Chinese electricity output in recent months suggest that the suffering could become intense.
We want growth of GDP–more and better food, better housing, good health care, good schools, and all the rest for all our people, but growth can impose a very high cost on us, especially can rapid growth be costly, in terms of things not done (e.g. creating good jobs) and things done we don’t like (e.g., destroying revered traditions). When you think of growth and how nice very rapid growth would be, be sure to take full account of costs. GDP growth is never free.
There is more to be said about China and rapid growth, and maybe, if you are interested, I’ll have another letter on the subject. Let me know. In the meantime, keep at it.
December 2008: From Professor Bruton
Can you stand another newsletter this late in the year? A number of you have written about the previous newsletter and asked some useful questions with some equally useful comments. I thought then that it may be helpful to elaborate the previous letter, and see if I can make things a bit clearer. There is some repetition, but maybe that will help. So here goes.
We study economics in the class room at a pretty high level of abstraction. Ceteris Paribus is always pretty full. This means that we assume that many things are constant, unchanging, over long periods of time and space. This means in turn that the theory that unfolds is unrealistic, does not describe the reality that we are interested in understanding and developing and making policy for. So why do we do it? We try to isolate the bare bones of the economy in which we are interested, the broad boundaries and fundamental relationships that seem to be at play, or should I say at work. It provides us a starting point from which to begin our story. Without such bare bones, we would be in limbo, out in the pasture wondering where and how to look. Sure things are left out, but to include everything (to empty ceteris paribus) would be to hide the great bare bones that, we hope, reveal the guide lines and clues as to where to continue our search.
This is what we can do at the CDE. We can help you acquire the kind of vision that in turn helps you to learn where to look more closely and to delve more deeply and widely. We can help you develop a vision (big time economists, you know, say model, not vision, but as I have said before vision seems to me the better notion), with which you approach the reality that is Kenya, Georgia, Egypt, and all our other countries. Note that I have said help you develop your vision, not that we hand you a vision and say here you are, all nice and pretty, go after it.
Now then you have a vision, the bare bones that suggest or hint where to look to see more clearly and completely how and why your economy functions the way it does. The term is over, you walk across the graduation stage get your diploma, and head home. Then what? You take the vision that you developed at CDE, and plop it down on your country. It doesn’t fit perfectly, of course it doesn’t, it is not meant to. So you begin to look around at the characteristics particular to your country: its institutions, its religion, its leadership, geography, its language, its history, the extent of the market, and all the other things that you think might make an impact on the way your economy works. This kind of data: of understanding, of wisdom, of history, nobody outside your country can provide in the necessary depth and the necessary subtlety and completeness. It really is up to you, as I say over and over again.
Therefore, an essential ingredient of policy making is this basic knowledge of the nitty gritty of your economy combined or put into the CDE contexts and structures and generalizations. So when the World Bank or Harvard or Yale tells you, for example, that comparative advantage, a great and ingenious argument, dictates that free trade is optimal for your country right now, so get to it, hesitate. Your answer should be, maybe, let us see, let us ask a few questions, let us probe honestly and openly, let us wonder a bit about some things that don’t quite fit into the comparative advantage picture. Comparative advantage is important, very important, and we need to understand it thoroughly, but of equal importance is the nitty gritty.
This will be my last Newsletter of 2008. The year 2008 has been frightening and disappointing in many countries and for many people. May 2009 bring the joy and wisdom that will make our lot and our contribution to social well-being more impressive, and may it, as always, be a year of great searching and important learning for all of us.
October 2008: From Professor Caprio
Dear CDE Alumni,
As I write this the U.S. has just passed a $700 ‘bailout’ bill to address the current financial crises, contagion is spreading in Europe, and now developing countries are beginning to feel the effects of this crisis. I am often asked how this could happen in the country that supposedly had the most advanced regulatory apparatus in the world. The answer contains lessons for all of us and lies in part in what is called the regulatory dynamic, namely that regulators and regulates are locked in a dynamic game. Regulators, including congresses and parliaments, enact rules that regulated parties can then evade, and in finance this evasion is quite easy and has occurred throughout history. Thus devising a static set of rules and then assuming that if these are enforced, all is well, is dangerous. U.S. supervisors, when looking into what was occurring in recent years with the rapid growth of mortgage loans, were assured by banks that they had sold them, and supervisors both took the answer at face value and stopped looking, assuming that because the bank in question had sold the loan, it could be ignored. As it turned out, this was a dangerous assumption. Yet as we have found out, these loans were not sold off the planet, and in fact in some cases had to be taken back onto banks’ balance sheets. Nor did government, which had encouraged the growth of home ownership, look at the unregulated parts of the sector, which were originating the riskiest mortgages of all. And rating agencies labeled numerous securities as AAA, even when they paid rates of return several percentage points above other AAA-rated securities. Lured by high compensation, many ‘assumed’ these securities were safe. Again, dangerous!
In addition to this breakdown, many were lured by booming markets and, as a famous financial historian, Charles Kindleberger, said, “Nothing so disturbs one’s good judgment and sense of well-being as the prospect of a neighbor getting rich.” In other words, the financial sector bubble was brought on by the widespread belief, common to all bubbles in all countries and throughout history, that this time it was different. Market laws and mean reversion somehow were suspended. Another dangerous assumption!
No doubt this crisis, which is not over, will be studied for many years. For those in policy-making circles, the need to analyze critically and regularly one’s assumptions surely is a key lesson. But you already understand that, for as Henry Bruton has said, you already learned that during your stay here. Let’s hope that you can help your colleagues to understand this lesson as well.
October 2008: From Professor Bruton
In this first newsletter of the new academic year, I want to talk about policy making, economic policy making. I don’t have much new to say, but making and implementing policy is such a complex process in almost all countries, that I believe it good to think about the process explicitly every now and then. And the CDE program is directly concerned with policy issues. So I shall try to alert you to a few ideas for you to mull over, and that I hope will provoke you to thoughts and ideas of your own about these matters in your own country.
Economists, especially academic economists, tend to see two questions: the first is to find what appears to be the `right` policy and the second is to implement it, put it into effect. Thus economists, especially, but not only, foreign advisors and experts, work up a specific policy that is deemed optimal and then often complain that the government will not implement it. But the division between designing a policy and implementing it is unreal. A good policy is one that can be implemented, that will be implemented. This should always be recognized by the policy designer. What does this mean in practical terms?
The most obvious thing it means is that the economists must be well acquainted with the institutions, history, values, ambitions of the community. Just understanding the way a market works is not enough. We know now that the issues just listed affect how the market works and have to be taken into account in designing policies. And that some policies simply are not do-able in a given country at a given time. Some ideas are simply not understandable in some countries at some times.
This in turn means that the policy designer needs to inform him/her self of all the relevant aspects that bear on the effectiveness of a policy. Obviously this is not possible, so another aspect of good policy making emerges: the relevant authorities must be willing and able to change something in the measure or to quit the policy entirely. I want to emphasize this point very strongly; good policy making machinery includes the capacity and willingness to stop an ineffective policy and start over again. This means, guess what, that policy design and applications are importantly a matter of learning, a matter of searching and learning, of trial and error, of monitoring the consequences of whatever we do. So we don’t put a policy in place and go to the beach, we watch all parts of the policy and try to ascertain exactly how and why it is working the way it is. We learn.
As an example of the way institutions may affect policy, consider the labor market. The supply and demand curves (the latter is the marginal product of labor, remember) and their intersection is the wage rate that ensures full employment. This is not a valid picture for any economy in the world, and unemployment is a problem everywhere. There are unions with monopoly power of course, there are ideas of fair wages, there is shirking and malingering, there are distribution effects that matter, there are ethnic and gender discriminations, there are historically determined precedents that cannot easily be violated, and there are many personal considerations that are relevant. So how can we make a labor policy that will lead us to high employment? We tinker, we try one thing and then another, we try to learn what is effective and what isn’t. To repeat, we learn.
When we recognize that good policies take into account the many institutional, historical, religious, etc. factors in a society we face a further dilemma. Our knowledge of how such factors affect the way an economic system works is at once vague and incomplete, and legitimate argument can be made for different views and different interpretations. And, sadly, people can take advantage of this situation to push their own agenda at the expense of the national well being. One often hears a statement to the effect that something is impossible because of culture when it really reflects the person’s personal prejudices or wishes to do or not do something the person wants. ’Hard‘ analysis is simply not possible, and we have to do with a story that is ‘a bit soft,’ but hopefully not soft headed. It seems accurate to say that foreign observers tend to under estimate the importance of these ’soft‘ factors, and nationals may tend to over weight them. At any rate, worry about it.
Most of us are well removed from the policy making process. What then can we do in our present position? How can our work reflect these considerations? A couple of exercises may be suggested. Consider a recent policy initiative, and try to write an analysis of the effect of this policy on your society. Try to identify the effects you like and the effects you dislike. Be as specific as you can as to both good effects and undesirable effects. Then see if you can suggest ways to tinker with the policy to make it work better. Don’t be afraid to take chances or to express doubts. But try to be specific and make your argument as convincing as possible. Show what you have written to a colleague or a supervisor–or send me a copy.
Another thing you might find fun to do is this. Identify a recent policy. Try to find out the various arguments used in making the case for its adoption. Consider as many angles as you can and spell out your thoughts. It is downright fun.
Finally in all this remember and draw on the vision and detailed picture of the economic process that you learned at CDE. That vision should guide you and help you ask questions and identify relationships and possible non-relationships in the context of the institutions, values, of your own economy.
Keep at it, don’t stop worrying now.
April 2008: From Professor Bruton
This is the fourth and final newsletter of the academic year. I had intended to write five, but somehow didn’t pull it off. Did you find them interesting, useful, thought provoking, timely, or none of the above? Would you like to see them continue? Have you suggestions as to topics, format, length, frequency? I would appreciate comments, criticisms, musings, etc. I promised to respond to all of your letters, and I think that I have. If I missed someone, I regret that, so please remind me.
For this final letter of 2007-08, I want to talk about institutions. Institutions, as I mentioned in newsletter No. 1, are a hot topic now, although we have no general theory of them and how exactly they affect the way an economy performs. We like to think that we are learning, and maybe we are–slowly.
Douglass North, the great guru of institutions, tells us that “institutions are the humanly devised constraints that structure political, economic, and social interaction.” They include both informal, unwritten rules or practices (taboos, traditions, codes of conduct, ways of thinking) and formal laws (constitutions, property rights, and legal requirements). North goes on to say that institutions together with the traditional constraints of economic theory determine the choice set available to firms and to households. They enable and guide behavior by helping to form beliefs about the world and what to expect from our fellow citizens.
You may want to dispute calling institutions “constraints,” and several writers have. They are part of the economic and social order, just as any other social or physical characteristic is. They may indeed be sources of utility and well being, and therefore to seek to change them may reduce welfare.
Institutions, prevailing at any one time, are largely creatures of history, and as such may not be exactly suitable for other characteristics of the society, e.g. technology, business routines, labor laws, religious beliefs, family arrangements, and the like. And thereby growth of output may be dampened, but are you sure that the right policy is to change (try to change) them?
Since institutions are creatures of history and usually change slowly and affect the economic performance in diverse ways, the usual array of economic policies may have different effects in different countries. One policy package will not fit all countries because of the differing institutions. This is one important way in which history matters. There are many others.
Attention in the literature has been given to the importance of property rights, the right to profit from what you do or make or invent or discover. Property rights are important of course, but not as important as the literature would suggest. But think about them and their role in your country.
Think about something else. One may say that beneath or supporting the prevailing institutions, as defined above, is a basic idea, an idea that people live and govern their lives by. It is often said, you know, that the world is ruled by ideas, good, bad, and in between (Keynes, for one, made this point). Ideas contain potential energy that move people to act, and ideas can originate with important people, with smart people, but also with lesser people and not so smart people. Especially important is the Idea of Progress. Ask yourself if the idea of progress is common in your country, does it constitute a motivating force, a guiding principle? Not simply a growing GDP, although such growth is important, but more generally does the idea that things can and should be improving prevail throughout your society, at all levels. Think about it, think hard about it, and keep asking yourself the question just posed.
Your homework task is this. Look hard at your economy and society in general. Try to identify institutions, including ideas, that seem to matter, that seem to help determine how your economies and your society work. If you have a moment, write them down and show them to your friends and colleagues.
I want to close by listing a few ideas that bear on the institution question, and on bringing about institutional change, change in a way that supports growing well-being. You are asked to read them, think about them, and ask yourself whether they make sense in your country.
As good an elementary educational system as is possible seems to be an important factor. Such an education that instills a questioning and critical sense as well as teaches reading, writing, mathematics, and history is surely crucial.
A widespread practice of writing for the public can often stimulate new ideas. Even in countries where the press is controlled there are topics–employment, poverty, environment, etc. that can be written about.
Downgrade the importance of GDP watching, and try to focus attention on other things–employment, productivity growth, schooling, poverty, and the like.
Push the idea of a small government, not a small role for government, but a government operated by a small number of highly competent, well paid civil servants. A small efficient government is, indeed, a great institution.
Worry about how open or closed your society (not just your economy) is. Don’t seek isolation, but don’t be wide open. This a tough issue and needs lots of thought.
Try to get by with as few internal controls as possible. Try to create an ethos (remember ethos) of allowing the firms and households to follow their own noses. It can be exciting.
Make productivity growth a real advantage, although it creates some problems. Productivity growth is the way out of poverty. Spread the word.
Beware of big research institutes of an elaborate and expensive kind, staffed by foreigners or foreign trained nationals. Rather seek policies that induce searching and learning at all levels in the local community.
Try to become as informed and conscious of history as you can. Make yours a history conscious society.
Cultivate the Idea of human Progress, of improvement in life and life styles. Every night before you go to sleep, ask yourself what progress really, really means.
I have enjoyed preparing these letters and I like to think you have enjoyed receiving them. Keep searching, keep learning, and don’t forget to find time to sing and dance.
January 2008: From Professor Bruton
Dear CDE Alumni,
Happy New Year to everybody. May all of 2008 be filled with joy and hope for all of you, and may all of you enjoy hard work and great searching and learning. Let’s designate 2008 the Year of the Extra Great Learning for all us.
We had tea just before the winter recess began, and talked a bit about foreign direct investment (FDI). Everyone seemed to welcome FDI to their country, but when it came down to saying exactly what the foreign firms did for us, we had a little trouble. We took a little time to try to nail down exactly what we expected from FDI in our country.
The first thing that we mentioned was that the FDI brought their own money to finance their investment. This, the argument went, was due to the low income and, hence, low ability to save in our countries. Foreign firms then brought their own funds that added to domestic firms own saving and so we had larger investment than we could have without FDI. This sounded nice until it was discovered that in many cases the foreign firm did not bring its own money, but rather borrowed our money from local banks, and so investment was no higher with FDI than without it. Foreign firms of course bring some funds of their own, but frequently not much. So we concluded that the first thing to look for with respect to FDI is where the money is coming from or whose money is being utilized.
Then it was pointed out that foreign firms did bring more productive technology that could be used within our country. But there is a question here too: did our domestic firms learn from the foreign firms in our midst? The evidence is far from clear, but we do know that in many cases they do not. So we have to look closely to see if our firms are really learning from the foreign firm in our midst. More pertinently we have to try to design policies that induce our firms to try to learn from the foreign firms in our country. This should be done very carefully and thoughtfully. The evidence suggests that the most common way for local firms to learn is local workers leaving the foreign firm to establish their own enterprise. This seems particularly good to me. Can you think of a way to encourage this? This fact that local firms must learn from the FDI is emphasized, because we now know that knowledge accumulation is strategic to economic growth. Think hard about it, and think hard about policies that might bring this learning about. If you have a bright idea, please let me know at once.
A third question that arises is the extent to which our own government is somewhat limited in policymaking by the need to take into account the effect of policy on the foreign firm. Especially, does a policy that helps foreign firms at the expense of local firms do harm to the national development effort? In thinking about FDI always remember that the fundamental basis of development is domestic firms, they are the only ones who can really move the entire economy. FDI may make you rich, but it cannot make you into a viable economy with good institutions and permanent growth.
The conclusion is not that FDI is necessarily harmful or useless, but rather that it has many side effects that we must watch closely and monitor continuously. It now seems that the most suitable policy is one that is set by domestic authorities, not subject to negotiations, and goes very slowly on any incentive package that simply aims at attracting FDI. Try to make it mandatory that the foreign firm brings its own money, and try to watch carefully the productivity of the domestic firms. Remember it is your own firms that will carry development in your country. You can learn from FDI, but FDI cannot really carry the development load. And always remember it is your country.
Regards to Everyone and keep in mind that 2008 is the Year of the Extra Great Learning for all of us.
November 2007: From Professor Bruton
Dear CDE Alumni,
Last week we had a tea at the CDE and talked about employment. It was a fine occasion. Nothing is quite as interesting and challenging as drinking a very hot cup of tea, eating cakes, and talking economics with demanding friends. Try it some time with your friends. You might want to make it a regular occurrence. I want in this newsletter to report a bit on what we talked about and maybe elaborate a little on what was said and not said.
We all agreed that in all our countries there was widespread unemployment and even wider spread underemployment, and further we agreed that an objective of policy in every country was full employment. So if we all agree that full employment is an important target, why don’t we achieve it?
The first place to look is at the labor market. Are there institutions that push wages above the level that would permit full utilization of all labor? One thinks of unions, government laws (minimum wage laws, severe rules with respect to firing. etc.). But then one must ask why do we have such laws or rules or institutions? Do these laws prevent situations that would be worse than unemployment? Such laws and institutions may help those who are employed, but may hurt those seeking jobs without success.
But then we had to ask how important are wage rates in determining the demand for labor. We saw that much depends on the extent of the substitution between labor and other resources, especially physical capital. We noticed that in one model (the Harrod growth model) it was assumed that there was no substitution possible. If that were true then wage rates would be much less important or not at all important, as the amount of labor employed would depend simply on the amount of capital available. Different sectors may have different capital/labor ratios, but basically the rate of growth of demand for labor would depend on the rate of growth of physical capital, related closely to the investment rate. Technology was ‘given’, and not open to choice. In this way of thinking the way to solve the employment problem is to achieve and maintain a high rate of investment. This was a widely held view in the 1950s, and had important (usually bad) consequences for policy.
But then people began to believe, partly as a consequence of research and observation, that wages did matter in choosing production technique, that you could substitute labor for capital, and whether you did depended on the relative cost of labor (wages) and the cost of capital. To solve the employment you needed both a high rate of investment and a labor market that worked well; make wages reflect their supply. It seems now that most economists think that there is substitutability between capital and labor, and so wages matter. But then there is technology to worry about. A very labor-intensive technique may mean that labor productivity is very low, and more importantly, not rising. So we have to ask about technology, and that is tough. It is easier to say technology is given, but we mustn’t say this and certainly must not believe it. So we spent a little time at tea talking about technology.
It is tempting to say that we import our technology from Germany, Belgium, Britain, the US, and Japan. We can’t just do that however for many reasons, and one in particular. Much of technical knowledge is `tacit’ knowledge. What is tacit knowledge? It is knowledge that is crucial and can be learned only on the job, only in the country itself. It is absolutely crucial, and obviously it cannot be imported. It must be created, as we say en situ, in place. Since it must be created in the country, by the workers of the country, it is likely to reflect the institutions and factor supply situation in the country. The creation of tacit knowledge not only results in the techniques chosen being more suitable, not only in terms of labor, but also in terms of other characteristics of the country. There are many examples of turnkey projects (be sure you know what the term means) where labor productivity stayed well below what it was rated to be because of the failure to create tacit knowledge. One alumnus wrote to say that his country was experiencing jobless growth. He had a very good analysis of why and how that could happen. There are many reasons, but I am urging you to think about the creation of tacit knowledge. So we have to ask how we create tacit knowledge in a particular country.
We clearly can’t say that it is given, because we have just said that it has to be created in the production process. We need then to ask how we can create a situation that induces individual firms to search and learn how to be more productive. You recognize that we are now saying that a significant part of technology is endogenous, and this changes things markedly. I urge that you think about this and try to see what happens to our stories when we do this, i.e. recognize that all technology is not given or imported, but that we must establish some sort of internal process of knowledge accumulation. There are numerous economic models that purport to make technology endogenous, but they are of little help to us and don’t point to any specific policy.
Let me offer some examples of the kind of approach that follows from what was just said. These suggestions are probably administratively unfeasible, but they may help you to see the issue more clearly, and you may come with ideas that can be carried through in your country.
Most countries provide subsidies in one form or another to try to induce foreign investment in the country. Such subsidies are often based on the size of the investment involved. Why do we do this? Why not make the subsidy depend initially on the amount of labor per unit of capital that the investor makes. Then future subsidies would depend on the increase in the amount of labor per unit of capital. Note that we want an increase.
Better yet, can you devise a subsidy that is applied to domestic firms that rewards them for increasing employment per unit of capital? Subsidizing domestic is usually better than subsidizing foreign firms. (Evidence shows that the subsidies to foreign firms do not or rarely do affect their decision to come or not come.)
Suppose that you could eliminate all subsidies on inputs for agriculture, fertilizer, water, etc. In their place you could design a policy that rewarded farmers for an increase in yields per hectare that they were able to achieve. What do you think would happen? Remember that farmers are pretty smart. Can you design a policy that would be easier to implement than this, but have the same effect?
Schedule fairs or seminars in which farmers are paid a small fee for participating, and in which the more successful farmers are paid a larger fee to talk about how they operate that makes them more productive. We don’t need foreign experts to come and talk about things that mean nothing to us. We have some of our own farmers who can share their knowledge with others. Try to think of ways to utilize better our own experts.
Governments everywhere are overstaffed. This fact has many unfortunate consequences. What do you think of the following. Discharge as many government employees as seems in order, but continue to pay them for a year. And raise the pay of those employees who were retained. What do you think would happen?
I don’t recommend these proposals especially for any particular country, but I hope that they will give you an idea or two and induce you to think about knowledge accumulation at home. Think about a learning economy. How to create an awareness of the many rewards of a learning economy and then how to go about creating one in your country at the present time. I mean really think about it and talk about it around the water cooler and elsewhere.
I have enjoyed your e-mails about the first newsletter. I hope that you are moved to send more in response to this one. Remember we are trying to create a real, live round table. Most of all though I hope that you will be moved to talk with your friends and colleagues about these matters. Keep at it, keep at it. Remember that searching and learning is what it is all about.
October 2007: From the Chair, Professor Caprio
It is an exciting time at the CDE. As part of a growing interest in globalization, and understanding the way in which the CDE ‘brings the world to Williams,’ the College is increasingly interested in supporting us.
As a result, not only will we be able to do more for the students who are here, but we look forward to doing more for the alumni. So we would like to hear from you as to what you would like to see. One exciting possibility would be to organize regional meetings of the CDE alumni so that you can exchange the knowledge that you have been picking up in your jobs, in struggles with a variety of policy issues, etc. I and/or other faculty would try to join these meetings, especially those in the summer, in late March (remember ‘spring break’?), or possibly January, and could give seminars on topics that might be of interest. We also intend to do more with the website, making it an efficient tool for you to communicate with one another, and giving you access to some of the information and tools that we use in CDE courses and in our research. And we are reinvigorating this newsletter with a regular column from Henry Bruton, sure to be of interest to you. Other ideas are welcome, so please send them in.
We are looking forward to a great seminar program this year. Nancy Birdsall, President of the Center for Global Development, spoke last month on Globalization, and we have Lant Pritchett (Harvard) and David Weill (Brown), whose names come up in CDE courses, during October. Sara Sievers, of the Gates Foundation, will visit in November to speak on aid effectiveness in health and education. I am working on an equally stellar cast for the spring semester, including talks on capital market development by some hands-on experts from Wall Street. Of course, the headline event in the spring will be the conference on Global Warming and Developing Countries April 10-11, and we will be posting that agenda later this fall.
I look forward to your suggestions for how we could help you, and look forward to meeting you at a regional meeting in the future.
All the best,
October 2007: From Professor Bruton
This is the first of what I hope will be a series of newsletters in which, with your cooperation, I talk about the CDE and about development economics. Personal matters are discussed in the spring newsletter in which is reported what is new in our individual lives. I will try to identify substantive issues that I think are of interest to most of us, and I may do a little preaching on the side. I will need your help, so I hope to be provocative enough to get some reaction from you. So let me know what you think.
Dear CDE Alumni:
The CDE began its 47th year this September. This year’s class looks very much like our first class, way back when in 1959, except, happily, we have women in this one while we didn’t in the first one. Countries are also different. Earlier we had people from India, Argentina, Chile, Brazil, Nigeria, Haiti and now we don’t. We now have students from several of former members of the Soviet Union, and from Eastern Europe, which we didn’t in the beginning. But other countries have continued, some sending students every year. At any rate it is a great pleasure to welcome a new class from wherever they come, to welcome them to the Center and to Williams and to the United States. We are enriched by your presence as we hope that you have been and are equally so in being here for a year.
What is new in economics? There is a huge outpouring of literature. New journals appear frequently, and old ones get fatter and more esoteric with every issue. No one can keep up with even a narrow sub field, let alone with all of economics. But one must read and think, so a big question is what to read and what to think about, since you can’t read everything. I will suggest a few things after a bit, but first back to the question, what’s new in economics?
I think there is a great new surge of interest in finance in development. Earlier, economists I think believed that where entrepreneurs went finance could be assumed to follow. Finance was not a cause of growth, but could be depended on to follow where it was needed. Now many economists feel very differently, and argue that availability of finance can well be an initiating factor or can be a bottleneck that stops growth or distorts it. The role of banks in development takes on a new and increasing importance with the attention to finance. See a new book Rethinking Bank Regulation by the CDE chair Jerry Caprio, Jr. and two other authors for a helpful discussion of the various issues.
A second area that is attracting increasing attention is institutions as rules of the society that are outside or beyond the market. Institutions have been around some time, but have recently been more formally incorporated into analyses of growth and development. And empirical work is providing us with greater understanding of how and why they matter. We don’t know exactly what institutions do or even what they are, but they surely matter and are usually country specific or even region specific, and they affect the way the ‘economy’ works. In particular, institutions mean that a policy may have one consequence in one country and another effect (or no effect) in another. For example, globalization, about which we hear so much, may be very effective in one country and cause chaos in another. Institutions teach us to beware of strategies and policies that are said to apply to all countries in the same way. I urge that you think hard about the institutions in your country and how they act on economic performance. Douglass North is the grandfather of institutional analysis, and points the way for one’s thinking. Also Dani Roderik, who is often on the internet, is a good and helpful writer on this topic.
A third topic that I am very interested in is employment. All of our countries have an employment problem, and yet we all are very much committed to a full employment policy. We spend large amounts of money and energy on collecting data for our estimates of GDP, but our employment data are very unsatisfactory, and, I think, more relevant to our welfare than is GDP. Why is there so much unemployment in our countries? Ask yourself about your own country in this respect, urge your supervisor to put employment high on the list of things to think seriously about. An economy that is providing good jobs for everybody combined with rising labor productivity is functioning well, no matter GDP. Why can’t your economy do that?
If you worry about these three topics, you will be a very useful economist in your country. I urge that you read and read some more about your economy, read history, read novels written by a novelist of your own nationality. An effective economist knows his/her economy and society, its history, its institutions, and its values and from this knowledge good policy can emerge. Writing is also helpful to a reader and indeed to the writer. Letters to the local paper or to a local magazine can be very worthwhile. People will read, you may be surprised at the response you get. If you can send something you’ve written to me, I promise some reaction.
These are suggestions as to what an interested, committed, able economist like you can do to make a difference in your country. Searching and learning goes on and on, and gets more and more exciting and fulfilling. Keep at it.
I welcome letter, e-mails with your own ideas and problems and solutions, and discussions of things happening in your country or job. Let’s get a real roundtable going. There is nothing like a roundtable to beef up our searching and learning.