BOOK REVIEW BY J.
BRADFORD DE LONG, AUGUST 5, 2001
OF THE ELUSIVE QUEST FOR
GROWTH, A BOOK BY
WILLIAM EASTERLY IN
2001, PUBLISHED BY THE MIT PRESS
[Emphasis added by blogger]
Today
the industrialized world as a whole is embarked —
half-heartedly, I admit — on yet another crusade to
try to make the poorer parts of the world rich.
The
ideology behind this crusade — an ideology that I
believe in — is called "neoliberalism." It
has two guiding principles.
The
first is that close economic contact between the
industrial core and the developing periphery is the
best way to accelerate the transfer of technology
which is the sine qua non for making poor economies
rich (hence all barriers to international trade
should be eliminated as fast as possible).
The
second is that governments in general lack the
capacity to run large industrial and commercial
enterprises —
hence save for core
missions of income distribution, public-good
infrastructure, administration of justice, and a
few others, governments should shrink and
privatize.
However,
this neoliberal crusade is not the first such crusade for
economic development. Since World War II there have been
at least six such crusades: the "building
socialism" crusade, the "financing
gap" crusade, the "import
substitution" crusade, the "aid
for education" crusade, the "oil
money recycling" crusade, and the "population
boom" crusade.
All of
them failed to spark rapid economic development. Does
what went wrong then have any lessons to tell us about
the future of the crusade we are undertaking now?
Yes--and
now is a good time to take a look back at the history
of crusades-for-development since World War II, for
World Bank economist Bill Easterly
has just written The Elusive Quest for Growth
(published by MIT Press), his own take on the
largely dismal history of government-led programs to
spark development.
These
different crusades in the past overlapped in time, so
there is no clear chronological sequence among them.
Among the first, however, was the "building
socialism" crusade. Easterly does not cover
this: his concern is with the quality of advice provided
to developing countries by western economists. But for
much of the post-World War II period, the idea that the
Soviet Union's development strategy in the 1930s had been
a success and was worth emulating was a very powerful one
throughout much of the world. Decreeing that factories,
dams, railroads, and power plants be built; squeezing
down the standard of living of the people to free up
resources for investment; making foreign trade an
instrument for state-led development rather than for
importing luxuries for the rich — all these coupled
with a degree of terror rarely if ever seen in human
society had by 1950 created one of the world's two
superpowers out of what had thirty years before been a
poor, backward, war-devastated empire.
People at the time grossly underestimated the human cost
of Stalinist industrialization. People grossly
overestimated the extent to which the Soviet Union was an
industrial economy. And few recognized how quickly the
Soviet system would degenerate into corruption and
stagnation in the absence of mass terror and a
small set of readily-measurable industrial goals. Outside
of Eastern Europe, economies that followed the
central-planning road saw little if any economic
progress, and did significantly worse than neighboring
countries that did not try to "build
socialism."
The second was the "financing gap" crusade. Based on W.W.
Rostow's belief that a sharp rise in the share of
national product devoted to investment stood a good
chance of triggering a take-off into self-sustained
growth, the idea was that industrial nations and
international organizations could provide countries with
large-scale aid to finance such an investment boom. This
would, Rostow and others thought, both do good and fight
communism by demonstrating, as Easterly quotes Rostow,
"that communism was not 'the only form of effective
state organization that can... launch a take-off'."
But what was to make sure that the aid would boost rather
than substitute for domestically-financed investment? And
what was to ensure that aid-financed investment would be
economically productive, as opposed to being designed
with an eye toward attractive pictures for politicians
and corruption opportunities for the husband of the niece
of the Vice-Minister of Finance? In Easterly's judgment,
this approach was and remains a dismal failure because it
focuses on macroeconomic aggregates and prestige projects
rather than on incentives. In a way, it
combines the worst aspects of central planning and
market-based development: the top-down unrealism of
central planning coupled with the vulnerability to
diversion and hold-up found in markets where there is
substantial monopoly power.
Closely associated with this second was a third crusade:
the idea that the right way to pursue growth was through import-substitution industrialization.
According to economists like Raul Prebisch of the U.N.'s
Economic Commission for Latin America, the terms of trade
were stacked against primary product-exporting developing
economies. Only if they moved quickly to replicate the
economic structure of the industrial economies could they
avoid getting caught in a trap where they
grew more and more and sold it for less and less. And only if, in the
meanwhile, they used controls to cut down on
luxury imports could their undervalued exports
provide enough foreign exchange to support the build-up
of the industrial sector.
It is fair to say that this crusade for development might
have worked had governments been up to the task, and had
the focus been on building those parts of an industrial
base in which developing countries could credibly think
they might develop a comparative advantage. But policies
aimed at controlling imports produced high
black-market premiums. As Easterly says, this
creates "a strong incentive to get access to U.S.
dollars at the official rate and resell them at the black
market rate... fierce competition for licenses to buy
U.S. dollars." And "anytime the main profit
opportunity in the economy is to get around government
rules, not much good is going to happen in the real
economy." And too much of import-substitution
industrialization — Argentina's attempt to build an
auto industry, Brazil's attempt to build a minicomputer
industry — had its principal effect in reducing the
real incomes of individuals and the efficiency of firms
that had to buy from local producers.
The other three stories are as depressing. In the 1970s
the tripling of world oil prices created a problem: how
were developing countries to finance their imports of
oil. The answer was that loans would be made by
money-center banks out of oil-country assets deposited in money centers.
The result was a tremendous debt overhang that, when real
interest rates on the debt and the real value of the
dollar in which the debt was denominated rose, led to the
LDC debt crisis of the 1980s, and the "lost
decade" of development.
At
the end of the 1960s Stanford's Paul Ehrlich wrote a
book, The Population Bomb, in which he predicted
Malthusian disaster: mass starvation in south Asia
and elsewhere before the end of the 1980s. This
triggered a major push to provide people with
contraceptives — sometimes whether they wanted
them or not — that had little effect on economic
development.
The
belief that not physical investment but investment in
people — human capital — education — was the key to
growth was not far wrong. But according to Easterly the
way that development advisors and governments went about
promoting it was backwards.
As he
puts it, governments can pass laws requiring that people
go to school (and getting clients of government
politicians foreign aid-funded jobs as schoolteachers),
but will people learn?
"The
quality of education will be different in an economy
with incentives to invest in
the future versus an economy where they are
none." Where other things in the economy are
going right, there is indeed a powerful link between
more education and faster economic growth. But hopes
that education alone can turn around an economy where
much is going wrong have proved futile.
The
failure of these development crusades over the past
century does not have to leave us without hope. Easterly
tells the story of the Bangladeshi garment industry, that
grew from nothing at all in 1979 to $2 billion of exports
— more than half of Bangladesh's exports —
today.
Noorul
Quader's Desh Garments Ltd. agreed in 1979 that
Daewoo of Korea would train 130 of its workers in
modern technology and administration. By the early
1980s Desh Garments felt that it did not need the
assistance of its Korean collaborators any more.
By
the end of the 1980s 115 out of those 130 Korean-
trained workers had started their own garment firms.
By the mid-1980s the rapid growth of Bangladesh's
garment industry had come to the attention of that
"ardent believer in free enterprise, Ronald
Reagan." In 1985 he imposed quotas to restrict
U.S. purchases of Bangladesh-made clothing.
So
what does all this tell us about our current crusade for
development?
In Easterly's view, there are a
few big lessons from the history: "Prosperity
happens when all the players in the development game
have the right incentives. It happens when government
incentives induce technological adaptation,
high-quality investment in machines, and high-quality
schooling. It happens when donors face incentives
that induce them to give aid to countries with good
policies where aid will have high payoffs, not to
countries with poor policies where aid is wasted. It
happens when the poor get good opportunities and
incentives... It happens when politics is not
polarized between antagonistic interest groups, but
there is a common consensus to invest in the future.
Broad and deep
development happens when a government that is held
accountable for its actions energetically takes up
the task of investing in collective goods like
health, education, and the rule of law..."
It is
clear that the neoliberal policy prescriptions — try
to make government honest and smaller (so it doesn't have
its fingers in as many economic decisions), try to keep
the macroeconomy stable, and boost world trade and thus
cross-border economic links as much as possible —
affect only a small proportion of these requirements for
successful economic development.
Neoliberal
policy prescriptions have little ability to create
governments that energetically invest in collective
goods, a political system that enforces
accountability, a national consensus for growth, and
a commitment by donors to reward success only.
Thus
there is a sense in which neoliberalism as we know it is
a counsel of despair. Most of what is needed is beyond
its reach. The hope is that privatization and world
economic integration will in the long run help create the
rest of the preconditions for successful development.
But we are playing this
card not because we think it is a winner, but because
it is the last one in our hand.
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