The Levelling
Page 18
As the credit crisis played havoc with the Irish economy, I wondered if Ireland’s miracle had been a mirage and whether any of its policies were of value. Professor Rory Miller and I decided to do a postmortem on the Irish model. We put together a book of essays entitled What Did We Do Right? for which we asked writers from twelve different countries for their unbiased opinions on what meaningful factors Ireland had deployed that would continue to stand it in good stead.
This led to a distinct line of thought about the factors a country should focus on in order for it to be strong in the sense of not habitually falling victim to the ebb and flow of the world economy and the pressures of socioeconomic imbalances. Strength in this regard is not necessarily made up of military might or large GDP but rather the capacity to stimulate human development, to withstand economic shocks, and to have a stable society, among other values.28 The idea of country strength, or resilience, reflects a number of factors: an ability to understand and buffer external shocks, a framework through which a country can achieve sustainable economic growth, and an approach to policy that fosters social stability and human development.29 The idea of country strength is also more than a set of policies; rather, it is a mentality or policy culture that is evident in countries like Singapore and Switzerland that are acutely aware of the potential impact that outside forces (i.e., immigration, currency fluctuations, and world trade) can have on their societies.
One finding that shines through in some of the research projects I have been involved in is that the countries that score well on country strength are also the most globalized.30 Interestingly, they also score well on many other criteria such as “most innovative nation” or most “prosperous nation.”31 Most of the countries topping these rankings are small, dynamic economies (Singapore, New Zealand, Sweden, Switzerland, Finland, and Norway, to name a few), plus larger developed ones such as the Netherlands, the United Kingdom, and sometimes the United States.
What they have in common are drivers like education, the rule of law, and the deployment of education—their intangible infrastructure. In many respects intangible infrastructure is more important for a country’s future than its physical counterpart.
These factors can be political, legal, or socioeconomic. Political factors include the degree of political stability or the strength of the institutional framework. Legal factors include the rule of law, tax policies, and intellectual and physical property rights protection. Examples of socioeconomic factors include research-and-development capabilities, business processes, or employee training and education.
There are arguably five specific pillars of intangible infrastructure: education, health care, finance, business services, and technology.32 Though developing countries can achieve a record of high growth through physical investment (i.e., physical infrastructure), they need to cultivate intangible infrastructure in order to achieve a high and sustained level of productivity growth and human development. Many developing countries run into the limits of physical infrastructure–led growth without the productivity boosts that come from intangible factors.
Intangible Infrastructure
There is a strong link between the level of GDP per capita a country enjoys and the quality of its intangible infrastructure. Singapore, the Netherlands, and Sweden are good examples here. The Nobel Prize–winning economist Robert Solow studied the role that intangible factors like technology and human capital play in generating economic growth. For developed countries, Solow suggests that it is largely technological advances (and I would add, a better understanding of how to use technology) and improvements in human capital that determine the level of economic growth.
It is intuitively easy to see how some component parts of intangible infrastructure have a positive impact on society and the economy. For example, education is a key determinant of human capability. The value of education is intrinsic in almost all levels of economic output, and the correlation between high school educational attainment and GDP per capita is particularly strong. We can also track the historical precedents of economies, such as the “Asian Tiger” economies of the 1990s (Singapore, South Korea, Hong Kong, and Taiwan), whose emphasis on investing in education paved the way for their success. Government commitment to education can be shown to have a significant impact on the nature of the growth that economies later display.
With considerations such as life expectancy and related demographic trends, health care is another key factor in determining the average individual’s output. Through time and across borders, there are very few exceptions to the rule that better health care fosters an environment of higher economic activity as well as human development. In some economies, such as Russia’s, poor health and low life expectancy have been a severe constraint. Reflecting this, Russian president Vladimir Putin’s speech after the 2018 election flagged health as an area for future spending. In general though, good public health care is not yet a priority in many emerging markets, and in some countries, such as the United States, it is becoming a rarity. Epidemics in mental health, opioid abuse, and obesity are eating away at society and the quality of human development.
Though the different elements of intangible infrastructure tend to have differing impacts on economies, countries that do one element well also tend to be strong in the other areas. The idea of intangible infrastructure is often a proxy for a mind-set and culture of national development. So, though countries that are in the early stages of developing their intangible infrastructure can focus on the individual metrics, they need time to develop a more holistic mentality that places institutions, the rule of law, and human capability at the center of national development. The fabled Nordic model of development is hard to copy and paste to other countries because, in part, it is based on laws and ways of doing things that have grown up over time.
What is interesting in the light of today’s “democratic recession,” to use Larry Diamond’s term for the fall in the number of democracies worldwide,33 is that some higher-growth states have thrived by focusing on intangible infrastructure rather than democracy. Singapore is an example. While the economics literature points to a close relationship between democracy and development, the causality of this is increasingly being questioned. Instead, the emerging view is that institutions and intangible factors like the rule of law matter more for economic development than democracy itself.
There is a decent body of evidence to show that institutions, or at least the quality of institutions, drive the distribution of resources in an economy and the way incentives and contracts are set up. High-quality institutions encourage trust and investment in human capital and help lower the frictions of doing business. One way of illustrating this is to take an econometric approach and compare the fit of GDP per capita with World Bank data that scores the rule of law in each country and with political freedom scores (again from the World Bank). The fit between the rule of law data and GDP is tighter, which suggests that the rule of law score is a more important determinant of economic success than political freedom.* The World Bank’s rule of law scores from 2017 show considerable variation in the percentile ranks. (To give some examples: New Zealand came at the top with a percentile rank of 98; Belgium and the United States are in the 88th and 91st percentiles, respectively; Lithuania is in the 81st; Italy ranks in the 62nd percentile. Among the weakest countries are China, relatively low at 44th percentile; Nigeria, a meager 18th percentile; and Afghanistan, with a percentile ranking of 4).34 The idea that “trust” matters is more important in a world where e-commerce is becoming more prevalent, and also in one where financial markets still play a significant economic role.
The framework of intangible infrastructure is a challenge to politicians because it is long-term (and many politicians live in the short term) and because it is based on people and the quality of their lives (not on lower corporate taxes or higher tariffs) and on careful thought (not easy rhetoric). Once populist policies—like a wall between the United States and Mexico, punitive taxes on wealt
h, or the expulsion of immigrants—have been executed, the challenge is, Then what? Will governments bother to tackle very deep-seated problems like low productivity, will they address endemic corruption in southern and eastern Europe, and will they take the time to build adequate health-care systems across Asia?
Country Strength
Intangible infrastructure is just one key element in the equation that makes up country strength. The other components in this policy recipe are human development (as measured by the UN Human Development Index), the openness of an economy, the level of its macroeconomic volatility, and, finally, with a little overlap with intangible infrastructure, the quality of governance.35
In general the idea of country strength strikes a chord with the broad literature on political economic development. The relevance of the notion of country strength underpins Francis Fukuyama’s theory in Political Order and Political Decay, where he outlines the way in which strong institutions, trust across public life, the rule of law, and an effective state helped underwrite social and economic progress, or more simply, as he puts it, “the road to Denmark.”36
It comes as no surprise that small, advanced countries tend to do well in terms of strength, but the results are biased in favor of old small countries. Switzerland and the Nordic countries are the usual suspects here, followed by Singapore and Hong Kong. Bigger countries like Australia and the United Kingdom also do well in country strength rankings. What is also interesting are the small countries that do not make the top echelons in terms of country strength. Hungary, Cyprus, Portugal, and Estonia come well below other more developed small European states. Generally speaking, the weaker nations in terms of the variables associated with country strength index tend to be African, both large and small states.
The framework, data, and policy provisions that go to make up the idea of country strength are, I believe, critical to the development of nations. Having said that, they are one side of the economic policy picture. Earlier in the book, I highlighted criticism of economic models and suggested that they should be complemented by a more practical, sleuth-like approach to policy discovery. I think anyone—Katherine Chidley or others—who tries to understand how policy works in practice has to dig into the way a country works at the microlevel. In this respect I have a theory I call the “Grande Bretagne syndrome.” During the long financial subordination of Greece at the hands of the “Troika” (the European Union, the IMF, and the ECB), advisers from the likes of the IMF would arrive in Athens, drive straight to the city center, and stay in the impressive Hotel Grande Bretagne (I recommend it), across from which stands the Greek Parliament. For much of the time, the Troika personnel saw little of Greece apart from its center of power and one of its best hotels, and to a degree they missed much of the tragedy of the economic decline across the country. To that end, anyone curious to understand a country should avoid the center of power and get out to see its third- and fourth-sized cities.
In that respect, one of the more telling business trips I have been on in recent years was not to New York or Boston but to Detroit, Michigan, as part of a miniconference on the revitalization of that city.37 Detroit used to be the richest city in America, though lately it ranks as one of its poorest. There is now a concerted and noble effort to remake the city, led by Mayor Mike Duggan and local entrepreneurs such as Dan Gilbert. Gilbert and some associates have invested in many of the smaller residential buildings in the city center and are trying to convince workers, restaurant owners, and artists to move back into the city in order to revitalize it. Mayor Duggan, as one of the few white mayors in a predominantly black city, has shown an intense focus on the “micro”: taking care to visit people in their homes in the evenings to discuss issues relating to the city, fostering a trustful working relationship between white and black communities through his role in managing hospitals, and aiming to solve microproblems such as broken streetlamps.
What struck me were two policy truths. First, Detroit was not going to be made great again by the various policy efforts spawned by Washington, DC, such as corporate tax cuts, protectionism, and quantitative easing. Second, and more important, Detroit was a city deprived of intangible infrastructure, and it was obvious that the elements of intangible infrastructure—such as the prospect of a university in Detroit, better schooling, more attention to both physical and mental health, reskilling of workers displaced by technology, and more apt local institutions—were exactly the factors needed to get the city thriving again. A similar example that reinforces this is the locally focused network of drug courts across the United States, which have an impressive track record of rehabilitating victims of America’s opioid crisis.38
For Katherine Chidley, the lesson of Detroit is to resist being drawn to the conference rooms of the IMF and the groupthink of policy making and to spend some time with the people who voted for her, listening to the gritty details of the economic problems they face. In recent weeks she has learned a lot. Starting with the role of the business cycle as the basis for basic policy making, she has come to appreciate how fragile the post-financial-crisis recovery has been and, looking ahead, how the future will be conditioned by large imbalances in indebtedness (too high), productivity (too low), and the power of central banks (too much). Her advisers have impressed upon her the tricks of the policy trade: shorter-term ways of boosting growth, such as tax cuts. Some of her colleagues are drawn to the idea of making countries great—effectively getting other nations to take the blame and pain for the end of globalization. Chidley’s advantages are her relative youth and her patience—she wants to be in politics for some time. She is drawn to the idea of country strength, which relies on nations’ developing a policy mind-set that cultivates economic resilience and that invests in intangible infrastructure. With a recession likely in coming years and with the trend rate of economic growth falling globally, Minister Chidley knows that she has to prioritize this approach.
The country strength framework will equip her with a long-term plan with coherent, detailed policy metrics that will guide her country’s development. Country strength should prove an antidote to a world that is running out of steam economically, that is increasingly burdened by imbalances in the form of debt, and that increasingly neglects public goods. As a guide, she has the example of how other (often small, advanced) countries have done it. The country strength framework also incorporates the factors the Levellers emphasized, such as fairness and clarity of law. But before Minister Chidley sets a course for better-quality economic growth, there are a number of imbalances—record levels of indebtedness and the overbearing presence of central banks in markets and economies—that first need to be removed.
* Many financial market analysts and traders use Bloomberg Terminals to access an array of market data and analytics.
* According to the World Bank, the rule of law score “reflects perceptions of the extent to which agents have confidence in and abide by the rules of society, and in particular the quality of contract enforcement, property rights, the police, and the courts, as well as the likelihood of crime and violence.” World Bank, World Governance Indicators, “Frequently Asked Questions,” http://info.worldbank.org/governance/wgi/?xyzallow#faq.
SEVEN
A WESTPHALIA FOR FINANCE
Learning to Live Without the Central Bank Comfort Blanket
THE US SECURITIES AND EXCHANGE COMMISSION PRODUCES A LENGTHY guide on how to write financial statements, the preface of which is written by the famous investor Warren Buffett.1 The essence of his advice is to keep things simple. More specifically, he says that when trying to explain something or write about finance, he pictures his two sisters as the ideal audience: they are clever though not finance specialists. I have taken his advice to heart and often ask my own sisters questions like, Have you heard of bitcoin? or, What is quantitative easing? Readers may pity my sisters. The point I am trying to get across is that even intelligent people (my sisters!) can find finance intimidating and opaque, though it touches thei
r lives in many ways.
A pertinent example is the activity of central banks. What they do is complicated, to say the least, but it affects our mortgages, the savings ability of younger generations, our pensions, and our investments. As a result, when the financial world is reaching extremes, people should take notice. Today, at least two interlinked financial facts are looming over economies, politics, and societies: first, the fact that world debt levels are higher today than before the global financial crisis, and second, the dominant position of central banks, which in their own ways have encroached into the world of politics and arguably diminish the responsibility of elected officials.
To put this in context, let’s go back again to the time of the Levellers. A couple of years after they had issued the final Agreement of the People, the philosopher Thomas Hobbes published Leviathan, now a well-known text in political philosophy. In this and in his earlier texts The Elements of Law and De cive, Hobbes takes a pessimistic view of the human race and argues that as a precondition for order to prevail, man must surrender himself to a Leviathan.
The Leviathan as conceived by Hobbes was a greater form of being, thought in the context of the English Civil War to represent both the king and the Parliament.2 In Hobbes’s world, liberty was surrendered for order and a higher degree of sociopolitical certainty. The Levellers had a different view, one that was much more hopeful for humanity and very much the antithesis of Hobbes’s view of liberty. (Hobbes spent much of the Leveller period living in Paris, and there is not a great deal of evidence to suggest that he interacted with them or with members of the New Model Army.) The Levellers wanted freedom for all people from dominant political creatures like the Leviathan and from the kind of arbitrary rule they might impose.