Growthology

Bill Easterly vs. the Army

Can the U.S. military help economic growth in Iraq? Afghanistan? Africa? I've been pondering this question for some time. There seem to be a half dozen interesting articles and online debates all of a sudden. But let me start by confessing that I have looked at the historical data. Here's the abstract of a working paper I co-authored with Garett Jones:

The necessity of military force in providing security for nation-building is a common assumption among policymakers and international affairs experts, but there has never been an econometric analysis of the impact of troops on growth. We use a newly constructed disaggregated dataset on the deployment of U.S. troops over the years 1950-2000, and discover a positive relationship with host country economic growth, robust to multiple control variables.

My friend Dan Rice co-authored a WSJ oped today with John Nagl (both West Point grads and Iraq vets). Full disclosure: I am on the advisory board of Rice's Marshall Fund.

American counterinsurgency doctrine recommends that the majority of effort be spent on economic development and governance, not on direct combat operations. To date, however, we have not followed our own advice: The U.S. still spends more than 90% of its investment dollars in Iraq on troops, equipment, weapons and logistics.

True, as security has dramatically improved, U.S. commanders on the ground have expended more than $4 billion in emergency response funds to provide Iraqis with jobs such as street cleaning, repair and garbage collection, and on essential services such as medical care and water treatment. But this pot of money was never intended to create long-term jobs, and commanders are restricted from investing the funds in private-sector enterprises.

As we withdraw from Iraq's cities we must seek to replace our bases with businesses. An enterprise fund for Iraq is a good way to start the process of achieving victory through economic development.

I'm sure Bill Easterly would be skeptical of the Rice-Nagl proposal. He would probably claim that it makes the classic aid mistake of pushing investment. Indeed, Easterly very recently panned the Army Stability Operations Field Manual, touted among some as a Petraeus achievement in counterinsurgency strategy as opposed to conventional seek and destroy:

My usual MO is to ridicule such documents. But my wells of satire are starting to run dry after years of deployment against utopians like Jeffrey Sachs and Paul Collier. More in sorrow than in anger, I see the utopian social engineering craze might affect actions of people with guns. I am sad for Iraqis and Afghans that the U.S. Army is operating in their countries guided by such misguided ideas.

I tend to agree with Easterly that investment funds will flow into impoversihed regions - without an aid push - if the environment is right. And I have mixed feelings about the Field Manual. But I wonder if Easterly is painting with too broad a brush. Can we rule out effort to get the environment right? Some thoughts:

1. There are many different opinions in play in international development, so this is not a simple issue of two ends of a spectrum. Here is an online debate with articles by Collier, Easterly, and others at the Boston Review.Paul Collier diverges from others in the aid universe by calling for an expansive kind of intervention. Easterly, I believe, represents a camp that is skeptical of almost all development efforts. Others share his skepticism of internationalist (e.g. UN, IMF) efforts, but favor American/Western direct interventions. I assume President Obama is in this latter camp, along with many active duty soldiers and myself. Yet even within the military, there are many opinions about how to effectively defeat an insurgency.

2. Easterly is an Africa expert. But is he overapplying the failures of Africa and the futility of aid there to a broader lesson against any kind of intervention?

3. Isn't the real question whether the continued presence of U.S. troops in Iraq will help that country's economic institutions develop? It is discouraging that measures of institutions like the WSJ/Heritage Index of Economic Freedom are unable to score Iraq or Afghanistan.

4. What is up with Africa? Why is that region, in sharp contrast with the far East, stagnant despite the billions of dollars in aid and attention over the last 60 years? Take a look at the book Dead Aid by Dambisa Moyo, an African woman.

Protests = Democracy?

Events in Iran this week have been pretty riveting, true, but let's keep things in perspective: protests are neither equivalent to democracy nor do they automatically lead a country to democracy.

The American media has been breathless in reporting on the newfound power of the people in Tehran, and apostles of the new "social" media see this as sort of the tech version of the Rapture. On NPR this morning, one of the Americans who is commendably allowing Iranians to use his computer as a proxy server to send messages on Twitter averred that this is a turning point in the history of technology and democracy.

It is?

First, on a superficial note, the fact that allegedly doctored photos zip around the Internet doesn't herald a new era of media. Did we really need social media to tell us that Iran is a repressive country?

Second, on a deeper level, this raises that irritating academic debate about what, really, is democracy. As Fareed Zakaria and others have pointed out, there is a major difference between democracy as popular sovereignty, and democracy as constitutional limitations on the scope of government. The latter, "liberal" democracy, is what by and large characterizes the West. The former, "illiberal" democracy, too often gets mistaken for complete democracy. 

The election protesters in Tehran are rightly being hailed for their courage: Iran's illustrious history has been tarnished by repression. But what is it we in the West expect to come out of the protests? Popular sovereignty expressed through mass assembly can often be the enemy of liberal democracy (see Revolution, French or Africa, twentieth century). Let's say, in the end, Moussavi ends up assuming office: do we really believe this will cease all friction between Iran and the West? The Iranian public, if polls can be trusted, largely supports the nuclear program as an expression of prideful nationalism. And it's far from clear how the balance of power among the clerics, military, and "other" politicians stands, or how it is shifting.

There is little doubt that Ahmadinejad has been disastrous for the Iranian economy: per capita income is around $12,000, but this largely reflects oil and gas revenue, and most observers agree that it is unsustainable and unaccompanied by actual economic development. (The separate debate about the relationship between level of income and democracy sort of falters in cases like this.) But it's not clear that the necessary economic reforms will inexorably follow from the fissures of freedom now appearing.

In any case, we should cheer any challenge to oppressive authority. But let's not assume, or pretend, that this represents any sort of triumph (yet) of social media, of democracy, or economic development.

China and the World

Menzie Chinn's graphs of China's GDP growth is quite good.  Since 1980, China's GDP has grown from 0.3 Trillion interntational dollars to a projected 10T in 2010. The U.S. GDP grew from 3T to 14T over the same time.

So, while it's good news that China seems to be rebounding in terms of growth, due in part to the implementation of a substantial stimulus package, one has to keep in mind how big the Chinese economy is (in USD, 8.8% of world GDP, compared to 12.4% in International dollars).

One can't help but notice that the Euro area was roughly equal to the U.S. in terms of overall GDP when it was created (Menzie marks it as 1991), but now is 15-30 percent below, entirely due to slower growth.

Caplan's Bet: Europe stays different

Bryan Caplan is willing to bet ("one meeelion dollars") that the U.S. unemployment rate will recover and remain significantly lower than the European average over the next ten years. I'm tempted to agree. 

Normally, this would be a no brainer, if all we were doing was betting whether U.S. labor policy is superior to European policy at employing its labor force near capacity. But what Bryan is really gambling is that the U.S. policy will remain superior. That's a political bet, not an economic bet. (He, author of the Myth of the Rational Voter, should know better!)

What are the odds that the U.S. raises its minimum wage again?  What are the odds that a bailout of California happens? And if so, that other states become more reckless? What are the odds of card-check legislation that chills entrepreneurship? What are the odds that technology allows entrepreneurs to circumvent labor law by building up virtual companies of independent contractors?  What are the odds that Justice Sotomayer casts the deciding Supreme Court vote ruling virtual business forms unconstitutional?

Either Bryan has more faith in American democracy than I do (unlikely), or he's much more risk loving than I am (surprisingly likely).

Up From Poverty (Schramm on Economic Development)

I'd like to recommend this essay by Carl Schramm, published recently in the Claremont Review of Books and freely available at RealClearMarkets.

Formal development theory can be said to have rested on three assertions—all of which should have discredited it. One was that ethno-cultural characteristics limited the likely spread of modern capitalism. The leading books of the time clearly show that the academic establishment was certain that (say) Hinduism and Confucianism operated as impenetrable bars to economic growth. At best, India and China (if even mentioned!) could hope for subsistence futures, though social disintegration was held to be more likely. The second was an unswerving focus on natural resources as the key to growth. This unreconstructed colonialist worldview—extract what you can and send it home, or at least abroad—drove the construction of massive public infrastructure (in large part to move material to port), littering poor countries with projects that to this day look like incongruent artifacts of western economies that never emerged. Finally, and most tellingly, development theory aggressively argued that economic growth was possible only in the absence of population growth; raising indigenous agricultural production to levels high enough to sustain high birth rates was assumed to be impossible. This tenet above all should have been suspect even at the time. It was already well known that, between 1820 and 1920, the population of Europe increased at an unprecedented rate—while Europe enjoyed rapid economic expansion.

...

The principles of liberal democracy have made sustainable economic development a possibility for the whole world going forward. The application of creative talent by the individual in the context of commerce—once found only in liberal democracies—is now seen as necessary even inside socialist regimes. The rediscovered insight that entrepreneurs bring forth expanding welfare for all is so powerful that growth has regained its rightful place as a legitimate goal of economic theory.

Grey Shoots

I've started referring to myself as a "Depressed Bull."  I still have faith in the long-term growth prospects of America and the world. I still believe that entrepreneurial capitalism will prove itself the fairest, most propserous system of economic organization. Yet every day, I see more signs of the unprecedented severity of the current recession. And the mainstream/political media seems relentless in its quest for green shoots. Just contrast the top story in today's WSJ ("World Economies Plummet ") with today's WaPo ("Wider Confidence Lifts Economy From Winter's Deep, Dark Freeze"). Gag. The political cheerleading is embarassing to journalism. The financial reality is sad and serious.

Here's why the mainstream press probably can't get a grip on the economic story.  It's too slow.  I can hear the editors talking over drinks, "It's already been half a year since the Wall Street meltdown, right? Madoff's in jail, right? Can't we find a new angle on this?"

Imagine if the world's economies were a Hollywood special effects chase scene which ends in a fiery pileup. The globalized interesection of trade and finance and banks and people (think cars and trucks and semis and pedestrians) is going through a multi-year slow-motion crash. Naturally, the press wants to know when things get better. But how can we know when whole vehicles are still skidding across the pavement?

Alex Tabarrok's "Future of Growth"

Video of Alex Tabarrok's talk at TED. My favorite points:

• "How do you get more ideas?  More idea creators. ... Today less than 1/10th of 1 percent of the world's population are scientists and engineers."

• "We will see an Einstein in Africa in this century."

• "$200,000 ... this is a rather modest prediction."

The Tabarrok thesis is that global growth in per capita income is accelerating. This is a big, big deal ... the 0.1 percentage point increase in the growth rate every decade for the last 2 centuries has already destroyed most of human poverty, and Alex is showing how growth will finish the job in this century. By the way, the 0.1 per decade acceleration is my rule of thumb projection, so don't slam Alex if you think it is stupid, although I suspect he would agree with me. The data tell this story; it is not make-believe.

Analysis: Naturally, I loved Alex's talk and highly recommend it.  But I am always stunned at the kind of reaction that optimistic economists get, and I felt it again when I read many of the comments at the TED page.  For example, Jake Koethler writes, "The third world will never be developed to the extent that the rest of the world is. There aren't enough natural resources to sustain that level of development." I have been trained to impressed by lines on paper representing big abstract things like GDP per capita. But this is not natural. So Jake may be right, but I suspect he is falling for the instinctive zero sum fallacy. Division of labor disproves the limits to growth on one level, but Jake would probably say that labor is not the limiting factor here. Resources -- oil, gold, steel, agricultural capacity, water -- are the limiting factors.

I'm not sure I can disprove in this post the notion that limited stocks of any one thing limiting to overall prosperity, but it is clearly a powerful article of faith among many super smart people. Hopefully, we optimistic economists can make a convincing case that there is ultimately only one resource constraint: GDP per capita. A simple explanation: it is not the country with the most gold that dominates the world, rather it is the country that is the most productive. Every other thing's economic value derives from its balance of scarcity that ultimately rests on human demand. Because something is finite does not mean it can limit what is theoretically limitless, especially because all finite resource can arguably be reused. The execption is oil, but that's just one form of potential energy, and the sun is a lot bigger.

Those who believe in the resource constraint problem are logically arguing that too much growth causes slower growth. That reasoning is difficult to reconcile.

This may all seem trivial, but many beliefs about modern conflict hold fast to the principle of finite resource constraints. They see competing groups fighting for water, and deduce that water is a source of conflict. But poor people don't want water; it is just a proxy for what they really desire, which is prosperity.

Is Ireland a Cautionary Tale?

Paul Krugman is warning that America may go the way Ireland if its not careful, pointing to that country's current economic crisis as a symptom of excessive economic freedom. His essay is a clear case of revisionist history, and as my Irish grandmother would have said, "Shame on him."

First, the context. The Economist says Ireland is in "a deeper recession than any other euro area country. The economy probably shrank by 2.5% in 2008 and may contract by another 6.5% this year. Unemployment has jumped from 5% to 10.4%, a faster rise even than in America." Further, the government may have worsened the crisis with poor policy choices. Krugman, for those just tuning in, thinks that nationalizing banks is a much better course of action than bailing them out of toxic assets. That's what Ireland did when it faced a banking crisis last year, which arguably failed, and it's what the Obama administration is essentially doing now. 

Krugman may be right about nationalization; I share the same skepticism of bank bailouts and toxic asset purchases. That's not the issue. The problem with Paul Krugman is that he can't resist using a free-market straw man to make his point. Red Flag! Foul! Bad Journalism! Here's the offensive Krugmanian paragraph:

How did Ireland get into its current bind? By being just like us, only more so. Like its near-namesake Iceland, Ireland jumped with both feet into the brave new world of unsupervised global markets. Last year the Heritage Foundation declared Ireland the third freest economy in the world, behind only Hong Kong and Singapore.

Boil this down, and he is saying that economic freedom is the same as "unsupervised" laissez-faire markets, with the implicit judgment that this is dangerous. Krugman is preaching cartoon Keynesian economics, as if having state enforced contract law and property rights were somehow equal to no law. Not to mention, glibly asserting that free trade is bad and high taxes good.

Specifically, Krugman is taking aim at the Index of Economic Freedom, which most readers know that I directed in 2006-07 including a major refinement in its methodology with the 2007 edition (this chapter with Bill Beach from the 2008 version is online). And it's true, reforms in Ireland since the mid 1980s catapulted that nation from one of the least free to one of the most free places on Earth. This policy shift coincided with one of the starkest economic miracles ever.

The "Celtic Tiger" story is much different than development miracles in the Third World, say in Asia or Latin America. Those places were untouched by modernity in some sense. But Ireland was the opposite: a stagnant economy surrounded by modernity. Indeed, no country was closer to the birth of the Industrial Revolution in Britain, and yet it had still not received the diffusion of its benefits. None. So in a very powerful way, Ireland is the ultimate case study in the story of bad policy as a barrier to growth.

Let's examine the facts. First, consider Ireland's economy right now. Here is the full text of the "Economy Overview" from CIA's World Factbook page on Ireland (updated 9 April 2009):

Ireland is a small, modern, trade-dependent economy. GDP growth averaged 6% in 1995-2007, but economic activity dropped sharply in 2008 and Ireland entered into a recession for the first time in more than a decade with the onset of the world financial crisis and subsequent severe slowdown in the property and construction markets. Agriculture, once the most important sector, is now dwarfed by industry and services. Although the export sector, dominated by foreign multinationals, remains a key component of Ireland's economy, construction most recently fueled economic growth along with strong consumer spending and business investment. Property prices rose more rapidly in Ireland in the decade up to 2006 than in any other developed world economy. Per capita GDP also surged during Ireland's high-growth years, and in 2007 surpassed that of the United States. The Irish Government has implemented a series of national economic programs designed to curb price and wage inflation, invest in infrastructure, increase labor force skills, and promote foreign investment. In 2008 the COWEN government moved to guarantee all bank deposits, recapitalize the banking system, and establish partly-public venture capital funds in response to the country's economic downturn. Ireland joined in circulating the euro on 1 January 2002 along with 11 other EU nations.

Want to know the in-depth story of Ireland?  Ask the Irish. In 2006, I authorized the publication of a Heritage report written by Sean Dorgan, the Chief Executive of IDA Ireland since January 1999. Dorgan shows that the decades of nationalism, massive government social programs, and protectionism were simply abject failures. Only when Ireland slashed its corporate tax rate to 12.5 percent - one of the lowest in the world - did its economy boom. But before thinking about what worked, step back and consider what did not:

The role of the state also increased during the 1960s. Public expenditure grew from 32 percent of GNP in 1960 to 42 percent in 1973. Social services and education, in particular, expanded with the state. ...

Between 1980 and 1986, total government expenditure grew from 54 percent to 62 percent of GNP, and public debt increased from 87 percent to 120 percent of GNP while annual budget deficits exceeded 10 percent of GNP.

And then the party Fianna Fail won the 1987 general election and began "a pro­gram of severe cuts in expenditure." Reform after reform was emboldened by growth, which kept the critics on their heels, if not silenced outright.

The same story told by the Heritage/Wall Street Journal Index is also told by the World Bank's Doing Business Report. It's a story that shows with data that government spending to make economies grow is an empirical failure. The story of economic freedom explains how to fight global poverty. And it's pretty clear that Paul Krugman does not like that story. While the current market and government failures deserve scrutiny and correction, we have to be wary of ideologues like Krugman who will use the crisis to smear all pro-growth policies (and other ideologues who will smear all government solutions). The only way to do that is with the perspective of history.

Using purchasing-power-parity data from the latest IMF World Economic Outlook, Ireland had per capita GDP of $6613 in 1980.  That means the typical family of four had $2000 a month to survive on. By 1996, that number had tripled. In 2007, it peaked at $43,414.  All of Krugman's fury boils down to the fact that GDP per capita in Ireland fell in 2008 to $42,780. It may drop further, maybe below $40,000, but it is criminal to suggest that Ireland should return to its auld ways.

Miss the Movie, Not this Review

Tyler Cowen's review of the documentary THE END OF POVERTY is fun, priceless, hopefully an important step forward in the coversation about global development in the public arena, and a piece that I suspect will be remembered for many years. Quoting heavily:

I can only report that The End of Poverty, narrated throughout by Martin Sheen, puts Ayn Rand back on the map as an accurate and indeed insightful cultural commentator. If you were to take the most overdone and most caricatured cocktail-party scenes from Atlas Shrugged, if you were to put the content of Rand’s “whiners” on the screen, mixed in with at least halfway competent production values, you would get something resembling The End of Poverty. If you ever thought that Rand’s nemeses were pure caricature, this film will show you that they are not....

In this movie, the causes of poverty are oppression and oppression alone. There is no recognition that poverty is the natural or default state of mankind and that a special set of conditions must come together for wealth to be produced. There is no discussion of what this formula for wealth might be. There is no recognition that the wealth of the West lies upon any foundations other than those of theft, exploitation and the oppression of literal or virtual colonies.

The history in this movie starts, not coincidentally one may assume, in 1492 with the arrival of Columbus in the New World. The phrase “natural economies” is used repeatedly to refer to the conduct of the since-despoiled noble savages, and we are told that the Europeans destroyed the natural economies of the countries they conquered. Never mentioned is the fact that these so-called natural economies were themselves based on prior conquest and oppression. ...

Most of all, the Robert Schalkenbach Foundation should be ashamed for having funded this movie. The Schalkenbach Foundation was set up in 1925 to promote the thinking of Henry George, best known as the author of Progress and Poverty and advocate of a tax on land. George was a flawed but brilliant and incisive thinker. He understood that wealth needs to be produced, and he also understood the strong case for free trade, most of all to protect the interests of labor. His 1886 book Protection or Free Trade remains perhaps the best-argued tract on free trade to this day; in that book George refutes exactly the arguments put forward by The End of Poverty. Has Diaz, Sheen, Portello or anyone working today at the Schalkenbach Foundation read it? One has to wonder if anyone who has read George could lend a hand to the production of the screed of mistruths and error that is The End of Poverty. I prefer to be subtler, but this movie does not allow it.

Kudos to the American Interest for publishing this (and a few other) great pieces.

And yes, I too was curious about the Schalkenbach Foundation. Calling them out was something of a surprise that certainly catches the attention of places like Kauffman where our support is rarely noticed so openly. I'll be curious to see if and how they reply.

Tyranny Trap: Land of No Growth

This story about North Korean defectors in the Washington Post is riveting (hat tip Paul Kedrosky):

They filter into South Korea at the rate of about 35 a week, usually after months or years in China and an arduous detour through Vietnam, Burma or Thailand. About 15,000 defectors have settled in the South, with 4,000 arriving in the past two years.

Seoul does not encourage North Koreans to defect. But once they arrive, the South Korean government quietly grants them citizenship, gives them an apartment and tries to teach them how not to sink in an education-obsessed capitalist culture.

* * *

A new U.N. human rights report describes North Korea as a place where ordinary people "live in fear and are pressed to inform on each other. The state practices extensive surveillance of its inhabitants. . . . Authorities have bred a culture of pervasive mistrust."

The story references a survey of North Korean defectors published by the Peterson Institute last January, which I just discovered. (Disclaimer: it ws co-authored by one of my dissertation advisers, Stephan Haggard). The conclusion that "When questioned about governance and the economy, the refugees’ collective evaluation of the regime, its intentions, and accomplishments is overwhelmingly negative..." tells us that even the most oppressive state control has not been able to maintain popular support.

Why is North Korea important?

One might argue that the hell that is North Korea is unimportant, a sad reality that some places are just not as prosperous and fortunate as others. But its existence is profound, confirming that an Orwellian state is possible.

It is a haunting place to contemplate, North Korea. The level of poverty may be no worse than the average country in 1500. Perhaps better. However, if human misery is measured by oppression and fear, it is difficult to imagine a sadder place in all of history.

The situation is such not just because there is an absence of prosperity, but because the country is ruled by tyranny in a world of plenty. Visions of plenty are intolerable to impoverished tyrants, and either they give way to change (and economic revolution easily spills over to political revolution) or they intensify their oppression with extreme propoganda and paranoia. Indeed, development economists often speak of poverty traps, but North Korea is a special case. It is a tyranny trap.  And how can we resolve a tyranny trap?

The contrast between two economic philosophies could not be starker than North and South Korea. The North's stagnation confirms in my mind how extreme governance must be to deny the natural experience of economic growth. So often we frame growth as a question of what a soceity can do, when the real challenge is to identify government-sanctioned barriers to growth.

The Limits of Taxation: Cato edition

How high can marginal tax rates rise until the loss of work incentives becomes unbearable?  Unbearable for citizens is one aspect, but the operational aspect is probably the tolerance of governments. Taxes so high that revenues decline?  Unlikely a society can reach that point, unless of course the society is globalized. When high tax rates chase out entrepreneurs, societies will notice. This notion of tax competition is the motivation of Chris Edwards and Dan Mitchell's book  Global Tax Revolution.

Though the book focuses mainly on the mobility of capital rather than labor, Chapter 5 is all about "Mobile Brains and Mobile Wealth." It starts with the surprising fact that "the number of people living outside their country of birth has doubled since 1980, from 100 million to 200 million."

Although the authors hold that tax competition is the driving force in knowledge economy immigration, but much of this chapter is a review of the many factors that favor higher rates of immigration. The fall of communism (which walled in its citizens) is surely one key factor. The new economy with higher rates of churn is another. But the basic forces of globalization - cheaper intercontinental travel and internet communication - are a third force that promises to intensify. Trade agreements and political unions (like the EU) are a fourth factor. Finally, the fifth factor is the policy innovation of immigration "points" systems in places like Australia, Britain, Canada, and New Zealand. Notice how these are English-speaking nations aiming, presumably, for English-speaking (American) brains.

One might read the chapter more as a critique of restrictive immigration policies than tax policies, but the authors turn to the competition among nations for wealthy people. With 31 percent of the world's 10 million millionaires, America has much to lose. But countries like Britain, with light taxation toward non domicile migrants or "nondoms" understand that only a small portion of wealth is inherited. Most wealth is created by first-generation earners / entrepreneurs. Thus, it is not the estate tax which is the most important, or even the nefarious wealth tax, but the most basic tax of all: the burden on current work and investment.

As a throwaway observation, I've long pondered the phrase "capital gains." It's a puzzle to me why gains made from investing in a firm are treated as "capital gains" just the same as gains made from creating that firm. Newsflash: I'm not an expert on this, but I can't help but wonder if an economy encourages more entrepreneurship if its tax code distinguishes between the two types of gains: capital and creative.

Back to Edwards and Mitchell ... the remainder of their Chapter 5 is a stunning world tour. The French state's hunger for tax revenue is appalling and not a little sad. With 300,000 French citizens living in Britain, numerous stories about fleeing young workers, and an internal advisory report to the government in Paris that "10,000 business leaders have left France in the last 15 years," one can't help but shudder. The wealth tax translates into an immediately unpayable burden on successful entrepreneurs whose illiquid firms are valued highly.

Germany, Italy, even Britain have their own weaknesses, but America is one the least responsive to the growing policy competition. The U.S. still has powerful advantages, but it does not seem to realize how quickly they are eroding.

U.S. to Scientists: Get Out!

During the closing decades of the 20th century, roughly 80% of the Chinese and Indians who earned U.S. Ph.D.s in science, technology, engineering, and mathematics (STEM) fields have stayed in the United States and provided a critical boost to the nation’s economy. Perversely, now that China and India are becoming formidable economic competitors, the United States seems inclined to enhance their economic productivity by supplying them with an army of U.S.-trained scientists and engineers. These returnees are spurring a technology boom in their home countries, expanding their capacity to provide outsourcing services for U.S. companies, and adding increasingly sophisticated primary R&D capability in knowledge industries such as aerospace, medical devices, pharmaceutical research, and software design.

One obvious sign of U.S. complacency about these developments is the absence of data to confirm the anecdotal evidence. In spite of all the controversy surrounding immigration policy, the government has not bothered to determine how much immigrants contribute to the economy or to assess the likelihood and consequences of a major shift in their desire to work in the United States in the future. To fill this gap, the Global Engineering and Entrepreneurship project at Duke University has attempted to quantify the role of immigrants in founding entrepreneurial companies and developing new technologies, to understand how federal policies affect decisions about working in the United States, and to assess the competing opportunities in India and China and the other factors that influence life decisions.

With financial support from the Kauffman Foundation, a research team including Gary Gereffi of Duke University, AnnaLee Saxenian of University of California at Berkeley, Richard Freeman of Harvard University, Ben Rissing of the Massachusetts Institute of Technology, and Guillermina Jasso of New York University spent three years conducting multiple surveys of thousands of technology and engineering startup companies, interviewed hundreds of company founders, surveyed more than 1,000 foreign students and more than 1,000 returnees, and made several trips to India and China to understand the on-the-ground realities in those countries.

U.S. immigration policy has been made in an information void. Although our research is far from conclusive, we believe it is fair to say that current immigration policy significantly undervalues the contributions these skilled immigrants make to high-growth segments of the U.S. economy. It appears that immigrants spur innovation in the United States and even help foment innovation by non-immigrants. At present, U.S. technological preeminence is not in question. Furthermore, some degree of intellectual dispersion and circulation is inevitable and valuable to the global economy. The United States cannot expect to maintain its previously overwhelming technological superiority in an increasingly globalized economy. But it takes a rare blend of short-sightedness and hubris to fail to investigate trends in the movement of global talent or to reconsider immigration policies that are not only economically counterproductive but also potentially damaging to U.S. national security.

That's from the excellent essay by Vivek Wadwha in ISSUES.

The Matrix and the Superorganism

On the latest episode of Flight of the Conchords the other night, the prime minister of New Zealand, on a visit to the United States, believes he's living inside The Matrix and, detecting a glitch (deja vu), leaps off a building to escape. This is good TV.

Aside from comic relief, the show's invocation of the Matrix resonated as I read Tim Flannery's interesting review of what sounds like a fascinating book, The Superorganism. In what struck me as a stretch, Flannery sought to analogize the superorganism civilizations of ants to human society, particularly the continued growth of the Internet and global concerns like climate change and economic meltdown.

Humans, perhaps thankfully, are still a long way from building a global superorganism, whether intentionally or not. Even advanced societies do not function in the finely striated ways that ant colonies do, despite the awe-inspiring realization that human societies, like the ants, operate smoothly in the absence of any controlling intelligence.

Yet a reasonable analogy between ants and humans might be the systems that humans build, and I have in mind specifically the global financial system. This seems to be a close approximation of the ant superorganism in that the division of labor is quite deep, the system can often be said to be acting in one unified direction (up or down), there is innovation (ants "invented" agriculture long before humans), and it is marked by behavior in response to discrete signals.

So how does such a superorganism collapse? Here, the story becomes almost entirely human: as Alan Greenspan observed, there was "a flaw in the model that I perceived is the critical functioning structure that defines how the world works." What was the flaw? Every commentator in the economic and financial world has answered this question, but it really comes down to something as old as human civilization: hubris. Probability and risk (really, uncertainty) were distorted, misunderstood, and subsumed within an irresistible superorganism of hubris.

National Public Radio reported the other day that college students, in response to the financial crash and recession, are flocking to a major in economics. This seems understandable, but I can't help wondering: if the current generation of economists utterly failed to suspect something to be a tad askew with the global financial system, will the next generation? (Trained, incidentally, by today's economists.) Given the entirely human traits involved here, perhaps literature or classics or history would be better-advised courses of study? 

Or let's update those staid majors, even. I heard somewhere recently that some college or university now offers a master's degree in the Beatles. Maybe we need one in The Matrix as well.

More immigrants = more growth

Would more high-skill immigrants help the U.S. economy grow?  The research says yes, according to Vivek Wadhwa.  Actually, according to the research: more start-ups, more patents (even by natives), and more jobs. This paper's finding was a big surprise:

Jennifer Hunt of McGill University and Marjolaine Gauthier-Loiselle of Princeton University analyzed long-term changes in a paper published in January titled "How Much Does Immigration Boost Innovation?".

According to their calculations, for every percentage point rise in the share of immigrant college graduates in the U.S. population, the total per capita number of patents for the entire population should increase by an astonishing 6%. Even more important, Hunt and Gauthier-Loiselle found that natives are not crowded out by immigrants, and that "immigrants do have positive spillovers, resulting in an increase in patents per capita of 9%-18% in response to a one-percentage-point increase in immigrant college graduates."

God bless Jimmy Carter

Zimbabwe under Mugabe equals the definitive case study in negative economic growth. This is a sad story, but thanks to President Carter for shining a light on it.

Carter said he learned of conditions in which the official inflation rate has soared to about 231 million percent while thousands of Zimbabweans stand in line for their daily allowance of about 2 cents a day -- from their own bank accounts. The allowance does not afford them a half loaf of bread, he said.

Text of my Speech in Korea

spoke at the launch event in Seoul, South Korea for Global Entrepreneurship Week, which was hosted by Dr. Park Jin and The Korea Institute for Future Strategies (KIFS). Here is the full text of my speech:

Global Entrepreneurship Week

Kane Speech

Hello and thank you for having me here today. I would like to especially thank Dr. Park Jin and his staff at KIFS for hosting this event, as well as John Fogarasi and Mike Choi of the Commerce Department for all their support. I appreciate this chance to speak to you about a vital environmental issue that concerns all of us. I'm not referring to polar icecaps or carbon footprints—although these are important. I'm talking about a world of competing economic models – where each nation has a unique business environment. Some are clear and organized, others are cold and barren, and others are growing wildly.

Recent financial failures and market meltdowns have left many of us stunned and searching for answers. Some are even talking about the end of capitalism.I'm here to tell you that entrepreneurship is the engine that will drive economic recovery and growth from this point forward. It is in places like South Korea where the spirit of a new kind of capitalism – entrepreneurial capitalism – is taking hold and showing the rest of the world that the miracle of growth is no miracle at all. Growth, as all Koreans understand, is about innovation and new technology and dramatic change for the next generation.

GEW  --  SLIDES 3, 4

This is precisely the big idea behind Global Entrepreneurship Week.  At this very moment, millions of aspiring young entrepreneurs from more than 75 countries are connecting and realizing how they can turn their dreams into reality.

Founded by the Kauffman Foundation in the U.S. and the Make Your Mark campaign in the UK, the first-of-its-kind initiative is engaging young innovators in an array of activities and challenges through November 23^rd—and for a week in  November during the next three years.  Our goal?  To use the intense activity of Global Entrepreneurship Week as fuel to engage a new community of entrepreneurial talent.  And the glue that will connect these creative minds year-round is Unleashing-ideas-dot-org.

The "Unleash It!" crowd-sourcing website will link entrepreneurial problem-solvers around the world with a common mission: To tackle today's key challenges—from simple conveniences in daily life to the biological state of our planet.

"Speednetwork the Globe" activities will help local young innovators sharpen their networking skills.  They'll meet in groups to share ideas with each other, local entrepreneurs, potential investors and community leaders. In essence, with Global Entrepreneurship Week, we are engineering an idea movement.  Our ongoing work will inspire a new generation of revolutionary thinkers to chase their dreams and realize their potential.  Of course, we know that devoting a week each November to entrepreneurship will not sufficiently alter the environment.  It can raise awareness, build excitement and spark new relationships.

GROWTH  --  SLIDE 5

Real change demands real wisdom, namely an answer to the question, What truly causes economic growth?  Many leading scholars would now say innovation is the underlying cause of growth, although many others still echo the old argument that investment and capital are key.  They do call it capitalism after all. But even if the new models that emphasize innovation are right, this begs the next question, Where does innovation come from?  Ewing Marion Kauffman believed that entrepreneurs were the source of innovation, and thus profoundly important to everyone else who dreams of progress.

Economic growth is a challenge for every nation, every city, and every company. A superficial look at any successful country or company will see both growth and heavy capital investment. What could be simpler? Yet research studies over the years have shown that investment is not a cause of growth. Rather, growth comes first, and investment follows.  The story that William Easterly tells of Africa is that many nations were advised by the World Bank to undertake massive "Big Push" national investments, and they did, and they did not grow. Massive centrally planned investment strategies have ended in heartbreak again and again. The same thing happens with every investment bubble.  Money, sadly, cannot buy progress, or innovation, or real change.  Instead, real change comes from incentives, or what we call a pro-growth environment.

GROWTH  --  SLIDE 6

Consider this chart comparing GDP per capita in a handful of countries during the years 1950-2000.

Each country had a different set of institutions – property rights, labor laws, openness to foreign trade and investment, taxes, monetary policy. We can see success and failure, wealth and poverty.  America during this half century defined the productivity frontier. In 1950, the average US citizen made an annual income of $11,000. The average Korean made one-tenth of that amount, roughly $1000, while India and China were both much poorer than that.  During the next 50 years, America's GDP per person grew at 2-3 percent per year.  The theory of convergence implies that other industrial countries should have caught up to the U.S. because they could borrow non-rival technologies – pure ideas – without the R&D expense of invention.  But experience tells us the Europeans as a rule only caught up to a level that was around 80 percent of the productivity frontier. Why?  Meanwhile, Japan proved to the West that prosperity outside of the Atlantic orbit was possible. And Korea proved that even overlooked places can become superpowers.  Real per capita GDP in Korea in 2000 was higher than in the USA back in 1960, and its sustained growth rate has been literally unthinkable to the traditional growth theorists.  But perhaps the most surprising economy on this chart is Ireland (the Korea of Europe).  For centuries, the Irish lagged far behind the average wealth of Britain. Then in 1990, the Irish people tossed off the yoke of anti-business dogma and cut their corporate taxes from 50 to 12 percent.  Ever since, its economy has roared ahead of other EU nations, as well as Japan.  We also see that the giant economies of China and India while growing at rates of 8-12 percent every year, remain far behind the technology frontier.  For now!

KOREA

PHOTO  --  SLIDE 7

Allow me to turn our attention to the economy of South Korea, and to start if I may with some personal reflections. I was personally drawn to Korea as a young man. In college, I learned the game Baduk, and became friends with the Korean-American professional Baduk champion, Janic Kim. So when the U.S. Air Force asked me to choose which place in the world I wanted to go, I put the military base at Yongsan in Seoul at the top of my list. From 1991 to 1992, I lived in the middle of the "miracle on the Han" and saw in the Korean people a hunger for progress. I also learned at the Baduk board how mediocre my sense of strategy can be.

What I witnessed in Seoul and the Korean countryside inspired me to study economic development further, and so I eventually pursued a Ph.D. in economics. I learned there is much unknown about the mystery of economic growth, even though the common sense of farmer can be more insightful than the collected knowledge of the IMF.

The fact is that Korea is a role model to the world.  Too often, people compare the economic "miracle" of South Korea to communism in North Korea. I would like the world to notice that the comparison to North Korea is an outdated lesson from the 20^th century. The world must recognize that growth in Korea is no miracle. Korean growth is the result of intelligence and hard work, a culture and environment of education and entrepreneurship. The world should compare Korea to the leading economies of the Europe, North America as well as the other success stories such as Chile and Ireland

.

WHAT IS THE ECONOMY?  --  SLIDE 8

Entrepreneurs everywhere turn ideas into disruptive breakthroughs. They have no stake in the status quo. So they have no problem flipping it upside down to introduce new products, processes and services.

Left to their own devices in dorm rooms and garages, young innovators will exercise their power to change things for the better.  Their ideas often revolutionize the way we live and increase wealth in all its measures—finance, health, happiness, opportunity and productivity.

Who are today's young innovators? You may first think of Internet geniuses like Facebook founder Mark Zuckerberg or Kevin Rose, the co-founder of Pownce and Digg.  But tech geniuses make up only a small part of the picture.   

Not long ago, a college student in California told two friends about her grandmother's struggle with bulky, restrictive oxygen tanks.  The trio of twenty-somethings put their heads together and devised an idea for a portable oxygen concentrator that would mean unprecedented freedom and mobility for patients everywhere.  They turned their new idea into a business plan, and their business plan into Inogen—a company that now generates $100 million in revenue.

These young people and thousands like them exemplify what's possible when you pursue your dreams. Perhaps they were the inspiration for magazine mogul Steve Forbes when he stated "the real source of wealth and capital in this new era is not material things.  It is the human mind, the human spirit, the human imagination and our faith in the future."

Of course, the traditional Keynesian model of total GDP is simply aggregate demand – familiar to economic students as the classic identity Y = C + I + G + NX. Consumption in this paradigm makes up two-thirds of the economy, with the rest being investment (I), government spending (G) and net exports (NX). Of course, knowing that the economy is two-thirds consumption is about as useful as knowing the human body is two-thirds water. The magic is not in the material, but in how that material is combined.

The new models of prosperity focus on growth, and a highly simplified equation of how growth happens.  Scale and technology.  An economy can stay isolated and grow through innovation.  Likewise, an economy can innovate nothing, but grow through increased specialization enabled by linking to other economies (or by expanding internal connections as the U.S. did during the 1880s with the railroad).  Today, of course, globalization is enhancing trade and communications scale at an unprecedented level.

Another truth that we have learned from economic development empirics is that there are two fundamental stages of growth.  Relatively poor countries can grow by simply adopting innovations made elsewhere.  But that adoption model runs out below the productivity frontier – probably around 80-90 % level, where most European nations and Japan are today. To continue growing, advanced economies must transition to a system that generates innovation internally. That means they must have a robust entrepreneurial culture.  I believe that culture is hard to obtain, but simple to envision.  It is simply economic freedom, especially freedom from a government that is too heavily involved in managing.

From a government perspective, I mentioned earlier how officials in Ireland sparked economic growth by reforming policies. You'll find similar examples in the economic turnarounds of Estonia, Israel, India and the United States.  Mountains of evidence prove that policies designed to encourage entrepreneurial innovation can lead to economic growth.

In 2006, the Wall Street Journal and Heritage Foundation asked me to take on the role of lead editor and author of their annual Index of Economic Freedom. For those of you who don't know, my right hand man on this project was Anthony Kim. He has been working on the Index since 2001 and continues today. Together, we oversaw a reform of the Index methodology and design of the book with new measures and charts. Although this presentation today is not about the Index, this is important because one our objectives was to incorporate measures of entrepreneurship in the measures used by the Index, notably business freedom and labor freedom which are based on exciting new data from the World Bank's DoingBusiness dataset.

Take, for instance, the ease of getting a new venture off the ground.  The World Bank ranks Australia first among 178 nations for being an easy place to start a new business. In 2007, Australia reported a per capita G-D-P of just over $37,000.  On the other end of the scale, Bangladesh ranked 92^nd and reported a per capita G-D-P of $1,400. See the connection?

ECONOMIC FREEDOM – Slide 9

This brings us to the economic freedom score that South Korea received.  I was honestly surprised that Seoul's score was not higher. Although it has a higher score than the world average in 7 out of 10 freedoms, Korea lags in three areas, especially in labor freedom. According to the 2008 Index, "The high cost of laying off a worker creates a risk aversion for companies that would otherwise hire more people and grow."  Like any country, there is room for improvement (incidentally, I also use the Index to criticize the United States). But Korea has two freedoms that are world leaders. Korea 's business freedom score (84 percent) is one of the best in the world. For example, it takes the world average is 43 days to start a company, but in Korea a new company can be established in 17 days. The results show that Korea's level of freedom is good for a developing country, very good. But now that Korea is the 10^th largest economy in the world, the empirical relationship between economic freedom and prosperity suggests that the nation's institutions will have to be reformed for faster long-term growth.

FRAMEWORK  --  SLIDE 10

My colleagues at Kauffman – Carl Schramm and Bob Litan – co-authored the book GOOD CAPITALISM, BAD CAPITALISM with William Baumol to summarize what the economics literature has discovered about growth. One of the central arguments in the book is that there are different kinds of capitalism – state-managed, oligarchic, big-firm, and entrepreneurial. I hope I am not giving away the ending when I tell you that entrepreneurial capitalism is the ideal form.

An economy that gives entrepreneurs freedom to create business leads to innovation which leads to growth and new jobs.  As I mentioned above, investment follows innovation, and hopefully we have learned that bad capitalism is based not on bad intentions, but on misunderstanding this point –neither the state or large corporations can create growth by pushing investments. Only the entrepreneurial process of discovery, experimentation, and tolerance for failure can invention emerge.  Let's not forget that Thomas Edison tried tens of thousands of failed materials before finding a filament that allowed the light bulb to work. The eternal optimist, Edison actually referred to this process as "successfully discovering 10,000 ways not to invent a light bulb."

 

The way to tell if you are living in an entrepreneurial economy is if you see a large amount of turnover in the labor market, what economist call dynamics.  In America – which has a long history of entrepreneurial dynamics – there are 600,000 new firms created each year. These firms are central in the creation of over 8 million new jobs every quarter. But the brilliance of the dynamic economy is its tolerance for lost jobs. Again, in America, there are an astonishing gross decline of 7.7 million jobs each quarter.

Consider the results.

THE FUTURE IS NOW  --  SLIDE 11

This graphic comes from a study of U.S. labor markets dating back to 1800.  It was done by the Federal Reserve Bank in Dallas.  And what it shows is that the U.S. economy has gone through a massive liberation of farm labor which shifted first into manufacturing but then during the last century into services. At the dawn of the 21^st century, more than 8 in 10 workers in the U.S. are in services.  Doctors, actors, lawyers, computer programmers, musicians, artists, designers, and yes, even economists. As Korea prepares to grow in the new century, I imagine it can anticipate a similar transformation.  Manufacturing jobs will become increasingly automated and industrial workers, whether they want this or not, will either be liberated or be uncompetitive. This is not an easy transformation, but it is coming.

Growing economies will see this transformation as an opportunity, because it is clear that the service economy will be dominated by knowledge workers – that is, workers with strong academic potential and achievement. Korea's culture is excellent in these regards. What will enhance Korea's success (and America's incidentally) is greater openness for its knowledge workers to the world. A prime example of greater openness is the pending KORUS free trade agreement. Once in place, the expansion of trade between these two economic giants would lead to greater growth than we can imagine, and arguably it would also provide for greater resilience against future recessionary pressures. The absence of a free trade agreement between our two countries has always been a puzzle to me personally, as a former soldier. We soldiers tend to have a universal bond, regardless of which nation we served.  Is it not odd that our troops have fought together as allies, and mixed blood on the battlefield, yet our politicians are so hesitant to let our goods mix freely in the market?

KANE'S PYRAMID  --  SLIDE 12

What other steps can we take to enhance entrepreneurial growth? To help myself think through these issues, I drew up this conceptual model which I call the pyramid. Every nation has a given physical geography that serves as its foundation, and we know that some locations are more fortunate than others – some rich with natural resources, warm winds and gentle rains, wide rivers and healthy forests.

These other four stages represent steps in the national economic environment for innovation.  Human capital and financial capital are both here, and they are the final steps leading to the ideas themselves.  Interestingly, the model helps us see how little control governments have over the final results, primarily because financial capital is the most liquid of the steps – meaning that it will come and go as it sees fit.  Financial capital without the other foundation stages is ineffective.  Alternatively, if the other stages are strong, then capital will flow in on its own, without any boost from the government.  No, the one critical area for government involvement is establishing institutions and laws and regulations that are pro-growth.

For all of the dreamers and would-be innovators here today, I share with you these thoughts. Moving an idea from concept to disruptive breakthrough requires you to tackle your fears, particularly your fears of risk and failure. Greatness is born from risk.

I urge you to stand on the shoulders of the giants who came before you.  Even Steven Jobs was fired from Apple, before he came back to transform the marketplace with the iPod and iPhone. It must have seemed crazy ten years ago to imagine a world where people could thrive in a job as a professional video game player, but now we know thanks to Starcraft in South Korea, that every young boy's dream can come true (and for the record, I play Protoss).

Let's not listen to those who say entrepreneurs are crazy. Investors often see failure as an asset in your record—not a liability.  To them, failure suggests a tolerance for risk, a perseverance to succeed and, most important, a passion to push the envelope. So don't give up. Learn from every mistake. And at each step, seek out and capitalize on the resources available to you, of the monetary and human varieties.

As for the rest of us, it's our imperative to support the new generation of entrepreneurs and keep the pipeline of innovative ideas full and flowing.  Young entrepreneurs are the world's greatest natural resource.  Innovators and those who inspire, connect and mentor them will lead the way out of economic danger and toward greater prosperity for all of society.

Thank you.

 

R&D Recession?

The journal nature asks in an online column what the recession will mean for R&D spending, with special attention to energy research and the venture capital scene:

If history is any guide, the worldwide research enterprise could survive this downturn comparatively well. Total research and development (R&D) spending by both government and industry rose at a fairly steady rate through major recessions in the early 1980s and 1990s, as well as through the 'dot-com' bust in the early 2000s.

...

Japan, for example, has dipped in and out of recession since an asset bubble burst in the late 1980s. But Hayashi Towatari, the head of the science ministry's science and technology policy bureau, points out that Japan has maintained one of the highest rates of R&D investment as a proportion of gross domestic product (GDP) in the world — 3.62% in 2007. The science budget is currently flat, he says, and seems unlikely to grow anytime soon given the economic turmoil. But even so, he says, Japan is committed to the idea that science will build the economy

To be honest, the example of Japan may not be the best. Many critics of Japan would suggest it's economic growth would have been much higher with a greater focus on institutitonal reform and less on centralized investment strategies.

Bloggingheads.tv and the Kauffman Foundation

Brink Lindsey of the Cato Institute and Bob Litan of Kauffman sat down for a Bloggingheads.tv chat to discuss Fannie and Freddie, its parallels with the savings and loan crisis of the '80s, declining Democratic support for free trade, the dangers of preferential trade agreements, and why the U.S. needs a competitive educational system.

In the future, expect more diavlogs with us both. I am working on setting one up with GMU econ prof Bryan Caplan soon ....

Broda: China Helps America's Poor

Threatening China with increased protectionism has become a hobby horse of both the populist Left and the populist Right, with predictably bad outcomes. Disdain for free trade  is often couched in a fear that trade leads to rising inequality, despoiling of the environment, etc. And so it isn't surprising that fully twenty members of Congress that voted for trade agreements, turned against them when President Bush became elected. (Politics often trumps economics when the chips are down.)

Is Global Trade Actually Helping America's Poor?

Our friend, colleague, and blogging guest, Dane Stangler wrote this post In Defense of Consumption back in August detailing a new paper from U.Chicago that shows low income Americans  benefit by cheap, imported Chinese goods and when the inflation of so-called luxury goods or services are taken into account, income inequality virtually disappears.

The American's guest columnist, Heather Wilhelm, has written a lengthy profile of the author of that study, Christian Brody, and his work. Here are some of the more fascinating take aways with especially relevant sections bolded:

In their newest study, Broda and Romalis contend that inequality has actually grown very little over the last decade. According to their research, the perceived rise in inequality—accepted as gospel by many economists and political figures—comes down to a simple measurement error, namely, focusing only on income, rather than on the prices of goods that particular groups consume.

“We are underestimating the gains from trade,” Broda says. “The current statistical interpretation ignores the fact that a poor household today can access goods that, in the 1960s, they could not—microwaves, DVDs—and, more importantly, that the prices of the staples that lower-income households consume have also gone down dramatically.”

Indeed, he claims that lower-income Americans, who tend to spend more on certain goods, have made impressive strides over the past decade, thanks largely to U.S. trade with China.

The Broda-Romalis paper, “Inequality and Prices: Does China Benefit the Poor in America?,” shows that from 1994 to 2005, much of the increase in U.S. income inequality was actually offset by a decline in the price index of the goods that poorer households consume. Inflation for the richest 10 percent of U.S. households, which tend to spend more on services, was 6 percent higher than inflation for the poorest 10 percent, which tend to spend more on nondurable goods, the type of goods often imported from China and sold at Wal-Mart.

Broda and Romalis found that in the sectors where Chinese imports have increased the most (especially nondurable goods such as canned food and clothing), prices have fallen dramatically. They estimate that about one-third of the price decline for the poor is directly associated with rising imports from China. “In the sectors where there is no Chinese presence,” Broda says, “inflation has been more than 20 percent.”

Government, Entrepreneurship, and Empire!

Gary Becker wrote yesterday about the cyclical publishing industry on the topic of America's decline:

So far, this expansion of the role of government has not been a crucial deterrent to entrepreneurship and private energies in the United States - a much greater expansion of government has had much more harmful effects in countries like Italy and France. Although I remain optimistic, I do fear that interest group pressures toward a much larger role of government in the United States may become much harder to resist in the future, and that this could eventually kill, or at least badly wound, the free market-entrepreneurial goose that has been laying the golden eggs.

Richard Posner responds by broadening the discussion to relative growth rates and the nature of geopolitical power, which is what the question of decline is essentially about. I highlight two statements:

Some nations will grow faster than the United States, but I do not see the growth rate of the United States dropping below the world average.

...

From a political rather than an economic standpoint, the United States today may be in a position comparable to that of the Roman Empire in the fourth century A.D. or the British Empire in the 1930s: the world's leading "empire" (in the sense not of having colonies, but of having the most influence over other countries), but, as an empire, in decline.

On the first point, I think Posner is correct, but he leaves some ambiguity. To say that the U.S. will remain above the "world average" growth rate is hardly a comfort to the typical patriot who worries that China's double-digit growth rate remains permanent. I suspect Posner would agree that it will not, that in fact, China will fail to converge to America's GDP per capita, let alone surpass it. There is little reason to believe that China or any nation can overtake the U.S. position as the lead economy at the edge of the productivity frontier unless America chooses to abandon the frontier.

On the second point, there is way too much talk about American hegemony, comparisons to Rome, and the idea of imperial overstretch. The whole notion of power in a static world such as 400 AD or 1850 AD is not applicable to the modern experience where even the dullest voter understands the primacy of technological dynamism. Bigger armies, fighting spirit, even national unity all pale against the dominance of the Army with the best tech. But even that misses the point. The world just isn't organized along imperial or hegemonic lines; the world is increasingly organized as a market where competition has been harnessed as a creative rather than destructive force. Furthermore, accelerating technological change makes it harder than ever for imitative economies to ever catch up.

So the real question is: Will the U.S. loses its lead in innovation? Some people think so. I think the age of turbulence is very real and that the hunger for prosperity will keep America rising ever faster. But I do share Becker's concern. The political climate is so hostile to inequality that the innovative environment could easily be poisoned, and the ability for capital and skill to migrate away quickly is an increasingly dangerous aspect of globalization that does not forgive policy mistakes.