Institutions and Economic Development in Latin America

Almost a decade ago, The Economist had a cover story about the Brazilian economy taking off. Everything seemed fine, with the Brazilian economy on the verge of surpassing Britain and France, and on its way to economic development. Among the reasons given for the Brazilian success was the fact that the country had “established some strong political institutions.” But many other factors were cited, like fiscal restraint, an independent central bank, openness to foreign direct investment, and the rise of local transnational corporations. The Economist essentially reproduced a few of the policies of the so-called Washington Consensus as the main driver of the Brazilian success. And institutions played a central role, in particular the institutions that allowed for the market economy to thrive.

Read rest here.

PS: This was a short blog post for the UC Press and LASA blogs that I forgot to link to before.

A theory of economic policy and the role of institutions

Nicola Acocella published a paper in the Journal of Economic Surveys (a free, preliminary version is available here) on the development of the theory of economic policy. Acocella is clearly fully aware of the differences between classical political economics and marginalism (neoclassical economics).* And he dismisses the pre-margnialist views on economic policy as being unsystematic and devoid of general principles.
In his words:

Most classical writers and the marginalists had suggested cases where public intervention was in order. This had been so for Smith (1776), Ricardo (1817), Mill (1848), Marshall (1890), Walras (1874-1877, 1898). But these cases were mainly what Walras called ‘examples of empirical policy’ rather than consistent policy. They were certainly dictated on the basis of an analytical evaluation of the circumstances suggesting them, but were not part of a systematic and consistent assessment of the foundations and the articulation of public policy.

In his view, economic policy as an autonomous discipline, meaning one based on theoretical principles, only started with Sidgwick,  Marshall and Pigou, that is, with Welfare Economics or Social Choice Theory, which apparently now is referred to as Implementation Theory (I didn't know that, I might confess). So it is in the debate of the 1930s, with Robbins and his followers and critics, and more fundamentally with Arrow's Impossibility Theorem that he sees the development of the main themes of a theory of economic policy.

He also suggests that before the development of a the theory of economic policy proper "the ‘night-watchman’ position became an exception as most classical and marginalist economists tended to state a number of specific or general cases where government intervention was in order." I'm not fully convinced about that. Sure there were some views about government intervention, but for the most part the Victorian consensus, among economists (not necessarily in practice, meaning actual economic policy) was for free trade, adherence to the rules of the Gold Standard, and sound finance. The idea of the minimal state was probably dominant, and the exceptions, particularly among marginalists that dominated in the UK at least, were associated to market failures.

The two major obstacles to this dominant view that government action was possible, in Acoccela's view were due to Arrow and Lucas. In his words, these 'vital failures' were: "the impossibility of taking people’s preferences as a reference for public action, underlined by Arrow (1951) and ‘radical’ objections to effectiveness of public action of the kind raised by Lucas (1976)." I should note that it seems that, in his view, the major critiques have been successfully dealt with, by Sen and his followers in one field and New Keynesians in the other, and the current consensus would be that government action is possible and desirable.

In this view, then, the history of the development of of the field is one in which the profession goes from being in favor of government action up to the development of the theory (essentially the from the beginning of marginalism to the 40s), broadly speaking, to being critical from the 50s to the 80s, with a slow return to a more interventionist consensus ever since. And maybe this describes well the field of Implementation Theory. But it strikes me as being at odds with conventional views of what the profession thinks about the role of government over time.

I mean, normally you would think of the profession as being essentially for laissez-faire, the reason why sometimes there is a conflation of classical and marginalist authors, and then after the Great Depression and the Keynesian Revolution (even if not complete, and dominated by an imperfectionist view) there would be an interventionist turn, which starts to be contested in the 1970s, with the Conservative Revolution and the Great Inflation. The apotheosis of the return of the market would come with the fall of the Soviet Union, shock therapy and the so-called Washington Consensus. The question would be to what extent this neoliberal dominance has been undermined by the last Global Financial Crisis (I would say less than what people think).

I also think that the dismissal of the classical political economy approach to economic policy, which was based on historical understanding of the specific conditions of a particular situation, is a mistake, and that there is a lot be learned from that tradition. Note that for classical political economy authors history and institutions, and, hence, policy analysis, were at a different level of abstraction, and had a different relation with the core of the theory (value and distribution). At any rate, this is an interesting paper worth reading.

* For example, he is careful to note that the meaning of the invisible hand in Adam Smith is often out of context. However, he argues that: "we use the term ‘invisible hand’ as a metaphor of the Smithian position as well as of later theories, in particular neo-classical thinking, which has then prevailed, even if the latter are deprived of some social aspects of the working of the market that certainly were in Adam Smith." This reading of Smith leaves room for intervention in the case of imperfections, and seems to follow the ideas of Acoccela's mentor, the famous Italian economist Federico Caffè.

Back of the envelope calculation: BNDES lending and the Marshall Plan

So, a few days ago, someone (my bad, can't remember who did it) posted on FB a piece (in Portuguese and behind a wall; but this post is mostly about the role of historical comparisons really, so you can skip the piece altogether) on the Brazilian National Development Bank (Portuguese acronym is BNDES, btw) and how it lend more than the US government with the Marshall Plan. The guy did a back of the envelope calculation (I did check and bringing the US$ 13 billion to present value, with the GDP deflator would be about 106 billion, roughly what he calculated) and concluded that the BNDES lending, which was higher, was very ineffective. Hm. Where to start?

Sure one can assume that the important thing is just to calculate how much money was lent in current values and one gets a reasonable picture of the impact. However, it should be clear that the US was lending dollars, and access to imports that were vital for the survival of Europe. Harder to put a dollar figure on that. But a better way to go around would be to calculate the magnitude of that loan for the US economy back then. What was the size of the commitment is a better question.

It turns out that the Marshall Plan (the 13 billion) corresponded to about 4.7% of the US GDP in 1948. That would translate in terms of the GDP of more than 18.5 trillion in 2016 to slightly less than 900 billion dollars now (or a bit larger than the 2009 fiscal package). At the exchange rate of 3.15, that the author uses, the figure would be more than 2.7 trillion reais, which would dwarf the 400 billion reais lent by BNDES (assuming that his number is the correct one).

BNDES lending wasn't 25% larger than the Marshall Plan, it was about 15% of the size of the Marshall Plan. A tiny fraction, when compared to the size of the US commitment. And that seems more accurate. Not only the US was lending in dollars, the international reserve currency, but also it was a massive aid program (which was essentially promotion of American firms, since a lot of the European demand reverted back to the US). This cannot be compared in any sort of reasonable way with the lending in reais by the Brazilian bank.

Don't get me wrong, that's just a back of the envelope calculation like the one he did (I think more accurate, or giving a more reasonable picture, but that's another question). Note that the Marshall Plan was aid (not lending, if you didn't get this before), and again that it was a mechanism to provide dollars, necessary for importing American goods, essential for the survival of Europe (and to avoid, you know, the specter of communism, just to make sure you got that). And done in a context in which the US basically unilaterally opened its economy to Western Europe and Japan to allow for the recovery (both seen as "Miracles").

BNDES role lending to foreign governments that hired Brazilian firms is more akin to the Ex-Im Bank and that perhaps would be a better analogy. Yes some of the lending included firms that paid bribes and that is a problem (don't get me wrong corruption should be investigated and punished, but I wouldn't imagine the State Department would just seat while the judiciary system destroyed US corporations; there is a clear understanding in the US that security goes hand in hand with economic hegemony, something that is lost to Brazilian elites). The lesson there is that American elites are not trying to destroy their own corporations (even Trump that seemed to be against the Ex-Im Bank now apparently favors it, admittedly in a weird way).

Historical analogies can be illuminating, no doubt. But for that the context matters, and an understating of institutions and their evolution is often important. For example, to understand that the US had the capacity of lifting the European external constraint, and eliminate dollar scarcity, and that this was a central component of both the economic recovery, and the geopolitical strategy of containing Soviet expansion in Western Europe would be relevant. Note that BNDES was part of a considerably more modest strategy of the left of center government of Brazil, that of promoting autonomous development by supporting and building up competitive national corporations (the so-called national champions) and to provide some regional support for Brazilian corporations, consolidating an alternative to US backed corporate globalization in the region (where many left of center governments had flourished in that period). There were certainly flaws in the BNDES experience, and a comparison with, for example, the South Korean experience of promoting national champions might be fruitful (and has been done, to some extent).

Some of the other allegations, like the one that BNDES subsidized credit caused the higher rates of interest of the central bank, belong to the Latin American tradition of magical realism. At any rate, BNDES lending was important, funded a considerably part of investment in the country, but it was not what lifted the external constraint in Brazil during the 2000s (in the case of Brazil it wasn't even the commodity boom, even though that helped). That resulted from the relatively low international interest rates which allowed for significant inflows that were accumulated as reserves.

Finally, I'm not sure, but I would assume that BNDES' loans will be recouped for the most part, so this is not like an aid program. There is very little in BNDES lending in the 2000s that is illuminated by the comparison with the Marshall Plan, other than the limitations of this kind of analysis.

Institutions, what institutions?

There are many explanations for why some nations are rich while others are poor. The dominant view, in mainstream (neoclassical) economic circles is that institutions are the central cause of the divide between developed (center) and underdeveloped (periphery). I discussed before (here and here) the role of institutions vis-à-vis geography and culture. I have also noted how the New Institutionalist argument concentrates on the institutions (fundamentally property rights) that act on the supply side of the economy. That is growth arises because property rights provide incentives for productive investment. I also noted (here) that the historical evidence for patents, copyright and other forms of property protection for explaining growth is limited at best. Note that mainstream authors and heterodox authors, at least the majority, tend to agree that institutions rather than geography or culture are central for development.

Also, the table above suggests that cultural and geographical explanations tend to put an emphasis on the supply side, but that is not necessarily the case, and it would be difficult to speculate about what Jared Diamond, for example, thinks about the relative role of supply and demand. Also, it’s worth noticing that while in his early work economic historian David Landes favored a demand-led view (which I tentatively put in the institutional box) he clearly moved to a cultural supply-side interpretation in his later work.

So if you believe most heterodox economists institutions are relevant, but not primarily those associated to the supply side; the ones linked to the demand side, in Keynesian fashion are more important than the mainstream admits. Poor countries that arrive late to the process of capitalist development cannot expand demand without limits since the imports of intermediary and capital goods cause recurrent balance of payments crises. The institutions that allow for the expansion of demand, including those that allow for higher wages to expand consumption and to avoid the external constraints, are and have been central to growth and development. The role of the State in creating and promoting the expansion of domestic markets, in the funding of research and development, and in reducing the barriers to balance of payments constraints, both by guarantying access to external markets (sometimes militarily, like in the Opium Wars) and reducing foreign access to domestic ones was crucial in the process of capitalist development.

In this view, for example, what China did not have that England did, was not lack of secure property rights and the rule of law, but a rising bourgeoisie (capitalists) that had to compete to provide for a growing domestic market that had acquired a new taste (and hence explained expanding demand) for a set of new goods, like cotton goods from India, or china (porcelain) from… well China, as emphasized by economic historian Maxine Berg among others (for the role of consumption in the Industrial Revolution go here). Or simply put, China did not have a capitalist mode of production (for the concept of mode of production and capitalism go here). Again, I argued that Robert Allen’s view according to which high wages and cheap energy forced British producers to innovate to save labor, leading to technological innovation and growth, and the absence of those conditions in China led to stagnation is limited since it presupposes that firms adopt more productive technologies even without growing demand.

The same is true of Latin American economies, which several authors like Engerman Sokoloff suggest fell behind as a result of absence of secure property rights. Latin American economies entered the world economy to produce silver (mining-economy/Amerindian population), sugar (plantation-economy/African-American population) and other commodities, for external markets. They were exploitation colonies, less reliant on the development of domestic markets, typical of settlement colonies in the Northeast United States or of the central countries in Western Europe.

The economies that depend on the production of commodities for world markets and import everything else are more vulnerable to the fluctuations of the price of commodities. Booms in commodity prices lead to growth, albeit very concentrated in the hands of the owners of capital, but they leave very little in terms of infrastructure for future growth. Further, since the economy must import everything to satisfy domestic demand, the economy is dependent on external sources of production, and when the export of commodities does not allow for enough imports, then either demand must be curtailed or the economy must become indebted to be able to continue to consume. A thriving domestic market is central for economic development, and the ability to diversify production to provide for the market is the key to catching up.

Finally, since the economy was based on the mono-production of commodities (and the size of the domestic markets is relatively limited) there were little if any incentives for technological innovation and higher productivity. Note also, that once a country falls behind, and almost all countries were essentially at the same level of income per capita around 1800 (or at least differences were considerably smaller than now), it is very hard to catch up, since the distance to the technological frontier is increasingly steep. It is not the same to copy a textile mill that uses a steam engine than to emulate the development of the Silicon Valley. In this sense, the institutions associated to the colonization period are central, rather than property rights, to explain underdevelopment in Latin America. Capitalism and its institutions both caused growth in the center, and stagnation in the periphery.*

* I discussed here how the industrialization of Britain meant the deindustrialization of India and China.

The sanctity of contracts, or why some contracts are more equal than others

Dean Baker on the crisis of pension system in Detroit (discussed before here) on "All In with Chris Hayes" last night.

The message from the White House is that AIG contracts are sacrosanct while worker's pensions can be broken anytime. It does have implications for North like notions of the role of institutions, and contractual security, in promoting economic development (also discussed here before). And yes it is part of the push for privatization of Social Security.

See the whole video here.

Galbraith on the Great Depression and the 'Great Recession'

A new interview with Jamie Galbraith (and also Leo Panitch), on the possibilities of a New 'New Deal' (part II here). Not much of chance, by the way. Part of the story is that the New Deal was fundamental in institution building, and these very institutions saved us from a crisis similar to the Depression, creating less of a perceived need for continuous reform.

In Jamie's words:

"So an entire system was built that had never previously existed and gave us an economy with a very strong presence of the federal government. And ultimately, as the New Deal progressed, that was extended to very large social insurance programs, which also had never previously existed, Social Security on a continental scale being the lead thing in the 1930s. And then added to that in the 1960s we had the work of the New Frontier, and especially of the Great Society, which extended this especially into health care, where we got Medicare, we got Medicaid, we got a major public presence in what became an increasingly important part of the economy, particularly as the older population grew relative to the rest. So that was the situation that we faced in 2008--a very different climate of expectations and a much stronger frame of public institutions to deal with the problems, and capable of dealing with them often in ways which were practically automatic, in the sense that tax revenues dropped, public spending went up, and people's incomes were not going to collapse the way they did in between 1930 and 1933. So all of that was very much to the benefit of the world in which we live today.

The problem that we have, I think, is that it also deprived us of a sense of urgency and a sense of the possibility of need for major reforms. So we in effect fooled ourselves into believing that the economy would recover in full, returning us to the pre-2008 levels of prosperity, even pre-2000 levels of prosperity, without or with very minor or temporary interventions. We did in fact face a system-threatening--in many ways system-destroying crisis, but we faced it without the sense that it was such. And so we did much less, and what we did in the last five years was designed to be temporary. It was in anticipation of a return to normal which hasn't occurred. And so we have many people who are now becoming to realize a bit late that their expectations are going to be very badly disappointed.

And now we have a rather difficult moment in which we, I think, recognize that we didn't do what we should have done, and yet we obviously do not have the political--we're not in a moment where the political mobilization exists or the climate of crisis exists that permits us actually to move in the right direction--quite the contrary, where it looks as though we're moving distinctly in the wrong direction and will continue to do so for the indefinite future."

In other words, we can expect the slow recovery to continue, and even if we avoid the worst in terms of dismantling of the New Deal institutions (something the GOP continues to push), there is very little, if any, chance of a New New Deal.

Reversal of fortune and settlement colonies

Acemoglu and others have discussed the concept of reversal of fortune, the idea that the areas with high income per capita around the 1500s (basically the areas colonized by Europeans in the Americas and Asia) became relatively poor, and vice versa. The idea is that there is a negative relationship between economic prosperity in 1500 and income per capita today. They suggest that the type of settlement and the institutions built by colonizers explain the apparent paradox.

The idea is that in settlement colonies, were more equalitarian societies were built, institutions protected property rights and led to higher investment and growth (à la North). They use the mortality rates associated to a particular region as an instrument for the type of settlement and institutions built by European colonizers. High mortality rates imply low European population density, more indigenous or African slaves, and more unequal institutions, with less protection of property rights.

It is a clever argument, no doubt (put forward by Engerman and Sokoloff, in fact), and more importantly a creative use of the notion of settlement colonies.* I have several problems with it, nonetheless. It is far from clear that equality is really connected to growth, and that causality runs from Western type property rights to growth, rather than vice-versa. I tend to spend quite a bit of time on this in my Latin American History classes. There are also significant problems with Engerman and Sokoloff's notion that institutions responded to factor endowments [fundamentally the idea that in capital-abundant/labor-scarce societies, wages were high leading to technological development; yes the capital debates again, but I'll leave this for another time].

Recently I found the graph below in Angus Maddison's Contours of the World Economy 1-2030 AD: Essays in Macro-Economic History.

The graph shows that Southern Europe, North Africa, and the Eastern Mediterranean were the high income regions, while Northern Europe was relatively poor. In this case, in fact, disease is not a good guide for the type of institutions built in the different regions. Other than the Italian Peninsula, it is the Nile Valley, i.e. Egypt, that had the highest income per capita during the Roman Empire. The Reversal of Fortune is also evident in this case, with France having a significantly higher income per capita than Egypt, for example. It is hard, however, to think that mortality rates associated to tropical diseases (with Southern Europe and North Africa closer to the Tropics) would have something to do with this particular reversal of fortune.

It was the region of older agricultural settlement, more urbanized, more directly connected with Eastern trade, the Eastern Mediterranean part of the of the Empire that was more developed, and that survived for a longer period (until the Turkish conquest of Constantinople in 1453). The reasons for the reversal of fortune in this case, are connected to the rise of the Atlantic economy, related to the Great Discoveries, and the expansion of the African route to Asia. If you ask me, more relevant than the incentives provided by property rights in explaining the Portuguese (and then Dutch and British) search for the alternative routes to Asia, is the rising and changing patterns of demand in Western Europe (and success is based on the naval-military advantage, Guns and Sails, Cipolla would say). But for our purposes here it is only relevant to note that mortality rates no longer seem a relevant instrument for the types of institutions.

* Moses Finley suggests that the idea of settlement versus exploitation colonies (note that Acemoglu et al., avoid the use of the term colonies of exploitation referring only to the settlement ones) was originally developed by Wilhelm Roscher of the German Historical School and later by Paul Leroy-Beaulieu, a liberal (in the European sense of the word) French economist.

The surplus approach and institutions: Diamond vs. Acemoglu & Robinson

By Sergio Cesaratto (guest blogger)

The European crisis absorbs me so much – also politically and personally since our lives are involved – that not much time is left for what now appear as a divertissement, more abstract economic research. So not much time to devote to this post then. Somebody might like, however, to develop this line of research.

If anybody wants to be persuaded of the correctness and fruitfulness of the 'surplus approach' by Sraffa (1951) and Garegnani (1984), a reading of Jared Diamond Guns, Germs, and Steel would be enough to convince herself.[1] What is surprising – but not really at a closer scrutiny – is that Diamond does not quote any classical economist in his book – he does not mention any economist at all indeed. The likely explanation is that he has only been exposed to neoclassical economics and, of course, he could not find anything interesting there.[2] Also Acemoglu and Robinson (A&R) are neoclassical economists. Their neoclassicism is shown by the role that they attribute to the 'right' institutions in setting the correct incentives to individual entrepreneurship. Although in a very diplomatic way, Diamond is very critical of their attempt to explain why some regions developed earlier while other developed later or not at all. In his review of Why Nations Fail in the New York Review of Books Diamond (2012a) aptly summarises A&R’s thesis:

“Different economists have different views about the relative importance of the conditions and factors that make countries richer or poorer. The factors [A&R] most discuss are so-called “good institutions,” which may be defined as laws and practices that motivate people to work hard, become economically productive, and thereby enrich both themselves and their countries… Among the good economic institutions that motivate people to become productive are the protection of their private property rights, predictable enforcement of their contracts, opportunities to invest and retain control of their money, control of inflation, and open exchange of currency. For instance, people are motivated to work hard if they have opportunities to invest their earnings profitably, but not if they have few such opportunities or if their earnings or profits are likely to be confiscated.”

The indictment Diamond moves to A&R is that, although the institutions they refer to are relevant:

“as readers may quickly confirm for themselves, it is indeed a fair characterization of Acemoglu and Robinson’s book to say that their theory is as if institutions appeared at random. Although their letter describes institutional variation today as a systematic outcome of historical processes, much of their book is actually devoted to relating story after story purportedly explaining how institutional variation developed unsystematically and at random, as a result of particular events happening in particular places at critical junctures.” (Diamond 2012b)

“Acemoglu and Robinson’s view of history is that small effects at critical junctures have long-lasting effects, so it’s hard to make predictions. While they don’t say so explicitly, this view suggests that good institutions should have cropped up randomly around the world, depending on who happened to decide what at some particular place and time.” (Diamond 2012a)

As well known, according to Diamond, complex political institutions emerged around 3400 BC in specific parts of the globe where material circumstances related, to the climate and to the availability of domesticable vegetable and animals (there are not so many) made profitable for the humans to transit from populations of hunter/gatherers to sedentary civilisations. With agriculture a surplus of food emerged that unlashed the possibility of creating a class of people not engaged in a daily fight to collect food and survive, but that could dedicate themselves (exploiting the rest, of course) to the political organisation of society, to write legal codes, to philosophy (that includes science and technology) and to war.

Any student of the classical economists will recognize the echo of Petty, Turgot and Adam Smith in this approach. It worth quoting at length:

“it’s obvious that good institutions, and the wealth and power that they spawned, did not crop up randomly. For instance, all Western European countries ended up richer and with better institutions than any tropical African country. Big underlying differences led to this divergence of outcomes. Europe has had a long history (of up to nine thousand years) of agriculture based on the world’s most productive crops and domestic animals, both of which were domesticated in and introduced to Europe from the Fertile Crescent, the crescent-shaped region running from the Persian Gulf through southeastern Turkey to Upper Egypt. Agriculture in tropical Africa is only between 1,800 and 5,000 years old and based on less productive domesticated crops and imported animals.

As a result, Europe has had up to four thousand years’ experience of government, complex institutions, and growing national identities, compared to a few centuries or less for all of sub-Saharan Africa. Europe has glaciated fertile soils, reliable summer rainfall, and few tropical diseases; tropical Africa has unglaciated and extensively infertile soils, less reliable rainfall, and many tropical diseases. Within Europe, Britain had the further advantages of being an island rarely at risk from foreign armies, and of fronting on the Atlantic Ocean, which became open after 1492 to overseas trade.

It should be no surprise that countries with those advantages ended up rich and with good institutions, while countries with those disadvantages didn’t. The chain of causation leading slowly from productive agriculture to government, state formation, complex institutions, and wealth involved agriculturally driven population explosions and accumulations of food surpluses, leading in turn to the need for centralized decision-making in societies much too populous for decision-making by face-to-face discussions involving all citizens, and the possibility of using the food surpluses to support kings and their bureaucrats. This process unfolded independently, beginning around 3400 BC, in many different parts of the ancient world with productive agriculture, including the Fertile Crescent, Egypt, China, the Indus Valley, Crete, the Valley of Mexico, the Andes, and Polynesian Hawaii.” (Diamond 2012a)

The graph (see the original in Diamond 1997) summarises the chain of material circumstances (including the easier communications and similarity of climate in Eurasia) that Diamond advances as an explanation of the variety of growth experiences.

As said, had Diamond been exposed to Classical Political Economy, he would have recognised the ancestors of his theory in Petty, Turgot and Smith. As known, Turgot and Smith shared a “stage theory” of growth very similar to that by Diamond (see Meek 1971; 1976).[3]

Few quotations from “On Universal History” (1750 [2011]) will confirm the similarity between Turgot and Diamond (and Adam Smith, of course) (my italics):

"Without provisions, and in the depths of forests, men could devote themselves to nothing but obtaining their subsistence. (p. 351)

There are animals which allow themselves to be brought into subjection by men, such as oxen, sheep, and horses, and men find it more advantageous to gather them together into herds than to chase after wandering animals.

It did not take long for the pastoral way of life to be introduced in all places where these animals were met with: oxen and sheep in Europe, camels and goats in the east, horses in Tartary, and reindeer in the north.

The way of life of hunting peoples is maintained in the parts of America where these species are lacking. …

Pastoral peoples, whose subsistence is more abundant and more assured, were the most numerous. They began to grow richer, and to understand better the idea of property. (p. 352)

Pastoral peoples in fertile countries were no doubt the first to move on to the state of agriculture. Hunting peoples, who are deprived of the assistance of animals to manure the soil and to facili­tate labor, were unable to arrive so soon at agriculture. If they culti­vate any land at all, it is only a small quantity; when it is exhausted they move their habitation elsewhere; and if they are able to aban­don their nomadic life it is only by infinitely slow steps.

Husbandmen are not by nature conquerors; the cultivation of the land keeps them too busy. But, being more wealthy than the other peoples, they were obliged to defend themselves against vio­lence. Besides, with them the land can sustain many more men than are necessary in order to cultivate it. Hence people who are unoc­cupied; hence towns, trade, and all the useful arts and accomplish­ments; hence more rapid progress in every sphere, for everything fol­lows the general advancement of the mind; hence greater skill in war than in the case of barbarians; hence the division of occupations and the inequality of men; hence slavery in domestic form, and the sub­jection of the weaker sex (always bound up with barbarism), the hard­ship of which increases in proportion to the increase in wealth. But at the same time a more searching enquiry into government begins." (p. 355)

From these quotations the sequence food surplus à complex institutions is clear.[4]

In their reply to Diamond, A&R (2012) argue that:

"Diamond’s theory predicts that the Neolithic Revolution would happen first in Eurasia, but cannot account for differences in prosperity today, which are huge within Eurasia and not explained by the timing of the Neolithic Revolution."

This is the challenge to future research. How the surplus approach may help to explain recent growth episode and differentials? Of course the theory of long-period effective demand is central in this regard. Possibly, the efficiency of the wage-goods sector has had a role in facilitating growth in episodes of strongly export-led growth, by allowing a constant increase of the standard of living of workers in a non inflationary environment. Or, on the other hand, a too big size of the social surplus becomes a problem in advanced capitalists economies as Marx, Rosa Luxemburg and Kalecki taught us. Workers must share a part of it, letting wages to go beyond the subsistence level, to let the system to work. Well, it time to stop and leave the stage to other voices (see the post by Matias Vernengo for a start).

AppendixEGT, Diamond and the surplus approach on population growth and human development

In Cesaratto (2010) on EGT I wrote (inspired, at least partially, by Franklin Serrano):

“According [to the EGT exponent Charles Jones, e.g. 2002, 2004) productivity growth depends on population growth. Jones fervently defends this sort of causality (e.g. 2002, pp.103-104). After all, he argues, humans are the ultimate fuel of the process of research, and it should not be surprising that faster population growth has a positive effect on the generation of new ideas. Jones’ favourite quotation is from Phelps (1968, pp.511-512), according to whom: ‘One can hardly imagine …how poor we would be today were it not for the rapid population growth of the past to which we owe the enormous number of technological advances enjoyed today. …If I could re-do the history of the world, halving population size each year from the beginning of time on some random basis, I would not do it for fear of losing Mozart in the process’. One might certainly argue that halving the German speaking population of the eighteenth and nineteenth centuries would entail the risk of losing many of the greatest musicians ever, but this could be done to other populations of comparable size, in that or other periods, without much fear of losing outstanding talents. Ruling out genetic factors, something therefore seems to be missing from this population-driven mechanics of growth.

Jones (2004, pp. 48-56) discusses these possible objections at some length. Looking at different regions of the world in the very long term (12,000 years or so), some relationship seems to emerge between population size at the beginning of the period and their technological rank measured at the year 1000/1500 or so (before European explorations ended the isolation of various areas). The rationale of this correlation (ibid, p. 56) would lie in the following virtuous circle: at the beginning a small population could only generate ideas over long periods of time. Low productivity levels and subsistence kept the population constant. However, once one idea was produced subsistence levels and fertility rose, leading to a larger population. This in turn facilitated the production of new ideas over shorter lapses of time, and so on and so forth (see also Jones and Romer, 2009, pp. 10, 14, 24-25).

A scholar quoted in this regard is Jared Diamond (1997) who is, however, totally misinterpreted by these authors. In his famous book, Diamond argues that some environmental advantages, in particular the availability of suitable vegetable and animal species, made possible to some luckier populations some 10 thousand years ago to realise a food surplus and to become “large, dense, sedentary, stratified populations” (1997, p.87 and passim). More precisely, the realisation of food surpluses permitted these populations to grow more rapidly and to support a political class that, at the price of the exclusive control of the surplus, provided organisational, institutional, and military leadership. Moreover, the surplus allowed for the sustenance of those who Adam Smith would have called ‘philosophers or men of speculation, whose trade it is, not to do anything, but to observe everything’ (1776 [1979], p.21). It is clear from Diamond that population growth is not and cannot be the original source of “ideas” since both division of labour and population growth both logically and historically originate from the emergence of food surpluses. This is enough to show the closeness of Diamond to the Classical economists’ surplus approach, as well as his distance from the poor growth mechanics of EGT.”

This was what I wrote few years ago. I may add this. Turgot puts the question in a way similar to Smith: given two populations of the same size, it is education (that is the degree of division of labour) that makes the difference:

“The original aptitudes are distributed equally among barbarous peoples and among civilized peoples; they are probably the same in all places and at all times. Genius is spread through the human race very much as gold is in a mine. The more ore you take, the more metal you will get. The more men there are, the more great men you will have, or the more men capable of becoming great. The chances of education and of events either develop them, or leave them bur­ied in obscurity, or sacrifice them before their time, like fruits blown down by the wind.)” (p. 378).

Diamond, as the Classical economists, regards the size of the population, or its concentration in smaller territories towns etc. as an advantage from many points of view. But the material conditions that set off the emergence of a food surplus are the trigger:

“correlations suggest strongly that regional population size or population density or population pressure has something to do with the formation of complex societies. But the correlations do not tell us precisely how population variables function in a chain of cause and effect whose outcome is a complex society. To trace out that chain, let us now remind ourselves how large dense populations themselves arise. Then we can examine why a large but simple society could not maintain itself. With that as background, we shall finally return to the question of how a simpler society actually becomes more complex as the regional population increases. We have seen that large or dense populations arise only under conditions of food production, or at least under exceptionally productive conditions for hunting-gathering. Some productive hunter-gatherer societies reached the organizational level of chiefdoms, but none reached the level of states: all states nourish their citizens by food production. These considerations, along with the just mentioned correlation between regional population size and societal complexity, have led to a protracted chicken-or-egg debate about the causal relations between food production, population variables, and societal complexity. Is it intensive food production that is the cause, triggering population growth and somehow leading to a complex society? Or are large populations and complex societies instead the

cause, somehow leading to intensification of food production?

Posing the question in that either-or form misses the point. Intensified food production and societal complexity stimulate each other, by autocatalvsis. That is, population growth leads to societal complexity, by mechanisms that we shall discuss, while societal complexity in turn leads to intensified food production and thereby to population growth. Complex centralized societies are uniquely capable of organizing public works (including irrigation systems), long-distance trade (including the importation of materials to make better agricultural tools), and activities of different groups of economic specialists (such as feeding herders with farmers' cereal, and transferring the herders' livestock to farmers for use as plow animals}. All of these capabilities of centralized societies have fostered intensified food production and hence population growth throughout history.

In addition, food production contributes in at least three ways to specific features of complex societies. First, it involves seasonally pulsed inputs of labor. When the harvest has been stored, the farmers' labor becomes available for a centralized political authority to harness—in order to build public works advertising state power (such as the Egyptian pyramids), or to build public works that could feed more mouths (such as Polynesian Hawaii's irrigation systems or fishponds), or to undertake wars of conquest to form larger political entities.

Second, food production may be organized so as to generate stored food surpluses, which permit economic specialization and social stratification. The surpluses can be used to feed all tiers of a complex society: the chiefs, bureaucrats, and other members of the elite; the scribes, craftspeople, and other non-food-producing specialists; and the farmers themselves, during

times that they are drafted to construct public works.

Finally, food production permits or requires people to adopt sedentary living, which is a prerequisite for accumulating substantial possessions, developing elaborate technology and crafts, and constructing public works.” (pp.185-6)

References:

Cesaratto, S. (2010), Endogenous growth theory twenty years on: a critical assessment, Bulletin f Political Economy, vol.4, n.1, working paper version Quaderni del Dipartimento di Economia politica, Università di Siena, n.559

ID (con F.L.Serrano) (2002), As Leis de rendimento nas teorias neoclasica de crescimiento: Una critica Sraffiana, Revista Ensaios FEE, vol.23. (English version www.networkideas.org – International Development Economics Association).

ID (1999), Savings and economic growth in neoclassical theory: A critical survey, Cambridge Journal of Economics, vol.23.

ID (1999), New and Old Neoclassical Growth Theory: a Critical Assessment , in G.Mongiovi, F.Petri (a cura di), Value, Distribution and Capital: Essays in Honour of Pierangelo Garegnani, Routledge.

Acemoğlu, D. & Robinson, J. A. (2011) Why Nations Fail: The Origins of Power, Prosperity and Poverty, Profile.

Acemoglu D. and Robinson J.A., reply by Jared Diamond, The New York Review of Books, 16 August 2012.

Diamond J. 2005 [1997], Guns, Germs and Steel: A short history of everybody for the last 13,000 years (London: Vintage).

Diamond (2012a), ‘What Makes Countries Rich or Poor?’, The New York Review of Books, June 7:

Diamond J. (2012), Reply to A&R, The New York Review of Books, 16 August 2012.
Garegnani, P. (1984) Value and Distribution in the Classical Economists and Marx, Oxford Economic Papers, 3: 291–325.

Meek R. (1971) Smith, Turgot and the Four Stages Theory, History of Political Economy, 3, 9-27.

Meek, R.L. (1976) Social Science and the Ignoble Savage. Cambridge: Cambridge University Press.

Jones, C. (2002) Introduction to Economic Growth, New York: Norton.

Jones, C.I. (2004) ‘Growth and Ideas’, NBER Working Papers: no. 10767.

Jones, C.I. and Romer P.M. (2009) ‘The New Kaldor Facts: Idea, Institutions, Population, and Human Capital’, NBER Working Papers: n. 15094.

Phelps, E.S. (1968) ‘Population Increase’, Canadian Journal of Economics 1: 497-518.
Sraffa, P. (1951) Introduction to Ricardo's Principles, in Ricardo, D. (1951-73) Works and Correspondence of David Ricardo,(Cambridge: Cambridge University Press) Vol. I.

Turgot (2011), The Turgot Collection, Writings, Speeches, and Letters of Anne Robert Jacques Turgot, Baron de Laune, Edited by David Gordon, Mises Institute, available at http://mises.org/document/6298/The-Turgot-Collection-Writings-Speeches-and-Letters-of-Anne-Robert-Jacques-Turgot-Baron-de-Laune


Notes:

[1] Franklin Serrano suggested to me to read Diamond many years ago.

[2] On Endogenous Growth Theory (EGT), the most ambitious attempt by the mainstream to explain economic growth, see Cesaratto 1999a, 1999b, 2010, and Cesaratto & Serrano 2002. See also the appendix.

[3] Meek (1976) points out that both Turgot and Smith regarded the protection of property rights as a result of development rather than a cause of it.

[4] True, Turgot as much as A&R dismiss the role of the climate as a determining factor: “A reason for these differences which are found between nations has been sought in differences of climate. This view, modified a lit­tle and rightly restricted only to those climatic influences which are always the same, has recently been adopted by one of the greatest geniuses of our century. But the conclusions which are drawn from it are hasty, to say the least, and are extremely exaggerated. They are belied by experience, since under the same climates peoples are dif­ferent; since under climates which resemble one another very little we very often find peoples with the same character and the same turn of mind” (379-80) But I do not believe that this would change much my argument.

PS: Also read the following post on the same topic here or here where the argument extends to William McNeill and other historians.

Why economists fail

The new book (and the accompanying blog) by Daron Acemoglu and James Robinson Why Nations Fails is a popular version of their academic papers (several with Simon Johnson, the ex IMF chief economist) on the topic [brief summary here]. The main idea is that institutions and not geography or culture are the key to economic development. That is for the most part true.

They use South and North Korea (and Nogales, México and Arizona) as an example of countries that share the same culture and geography, but have very different institutions, and, as a result, a huge disparity in income per capita. Jared Diamond is correct to point out that, in part, technology is geographically determined. No plants and animals to domesticate, and provide for a large surplus (Diamond uses the old classical notion of surplus), and higher population density (with the diseases and immunities associated to those Germs) and no advantages associated to a more developed division of labor (Diamond is also Smithian in that sense), with the consequent development of technology (Guns and Steel). But the problem is that this won’t help you understand why England and not China industrialized (the opposite extremes of the Eurasian continent).

Read the rest here.