Growth and wealth are the two sides of the same Holy Coin. Like its medieval counterpart the Holy Grail, the Holy Coin is not easy neither to locate nor to grasp. A meticulous and uncertain quest is the only way to the next clue. Indeed, shrewd knights (read economists (Solow (1956), Romer (1986) Jones (1998), Brenner (2002)), historians ((Braudel (1979), Baechler (1995), Favier (1987), Landes (1998)), social scientists (Weber (1947)) have embarked into a far-reaching crusade to undertand why some countries grow (grew) rich while others remain(ed) or became poor. In his address to the 1989 American Economic Association Meeting, Harvard historian, David S. Landes, chose the following title: “Why are we so rich and they so poor?” Adam Smith was looking for the same Holy Coin in his famous 1776 treaty “An Inquiry into the Nature and Causes of the Wealth of Nations”. For all its repeated efforts, this intellectual Round Table has not really succeeded in its quest. Although our understanding of economic miracles and curses has improved much is still left to discover.
In an insightful book, University of California Medical School Professor of Physiology, Jared Diamond (1998), has a colourful way of summarising the situation. In July 1972, he was studying bird evolution in New Guinea. When walking on the beach, he met a local politician named Yali. Yali was characterised by an insatiable curiosity. At some point, Yali asked Diamond a question that had been burning his lips for a while:
“Why is that you white people developed so much cargo and brought it to New Guinea, but we black people had little cargo of our own?” (Cargo refers to the goods (steel axes, matches, clothing, umbrellas etc…) that were brought to New Guinea by planes. For New Guinea people these planes looked like Holy Planes! See also Brenner (2002) for an account of the so-called “cargo cult”)
Same coin again, same tough question. These days Yali’s question is even more vocal. From Genoa to Porto Allegre, a growing crowd of people is angry and worried. It voices its concerns about globalisation and the so-called increasing growth-wealth divide between the riche and poor. It agrees to disagree with the world that is supposedly being shaped by the Davos Forum and its members. The divide is deep and more and more binary.
This brings us back to the Holy Coin quest. According to traditional growth theory à la Solow, we are richer because we invest more and have lower population growth rates. Hence, we accumulate more capital per worker and we increase labour productivity. Moreover, technological progress makes this growth in wealth sustainable. We spend more time learning and acquiring new technologies. So far, so good. But how is it that this simple recipe does not apply everywhere from West to East, North to South? The Holy Coin strikes back. One answer is institutions. The recipe assumes that the conditions – equality before laws, for example - to reap all the rewards are in place. Well, anyone who has run a business in a country like Peru knows that this is a rather bold assumption to make. The rights of minority shareholders–foreigners in particular – are a non-existent notion in most countries around the world. No wonder not much capital flows to such countries. Sometimes,the reverse is true: too much “hot money” flows to these countries. Indeed, the safety net deployed by the IMF induces many investors to leap before looking. Even just having simple property rights defined and enforced is an oddity in many places around the world.
Peruvian economist Hernando De Soto is inexhaustible on the latter issue. His argument is far from rhetorical. In his 1989 book “The Other Path”, he conducted with his team a hands-on experience to estimate the impediments (complying with local regulations, processing red tape…) brought up by the lack of proper infrastructure in his native Peru. To do so, he started a small garment factory in the outskirts of Lima. The nightmare went live: He and his team estimated the cost inflicted on their small operation to roughly thirty-two times the monthly minimum living wage. So much for legal and enforcement infrastructure.
In another illuminating book “The Mystery of Capital” De Soto pushed the argument even further:
“ This 80% majority is not, as Westerners often imagine, desperately impoverished. In spite of their
obvious poverty, even those who live under the most grossly unequal regimes possess far more than anybody has ever understood. What they possess, however, is not represented in such a way as to produce additional value.”
De Soto highlights the case of Egypt. He argues that when you leave Cairo’s Nile Hilton, what you leave behind is not fax machines, television, air-conditioning or antibiotics. What you really leave behind is “ the world of legally enforceable transactions on property rights”. You are drawn form a formal world to an informal one. This is quite a quantum leap: A leap from the live to the dead. Indeed, assets do exist but “ nobody can identify who owns what, addresses cannot be easily verified, people cannot be made to pay their debts etc…” According to De Soto, capital is dead. It cannot be used as, say, a collateral to create value.
This sad state of affairs begs an obvious question: Why is that? How come the curse of dead capital is affecting some countries so vividly? The answer is less obvious. It is true that, absent legal and enforcement infrastructure, a major piece of the growth engine is missing. Without these institutions, poverty cannot be eradicated. People will get by. But they won’t be able to thrive. However, it is not the only missing piece. A related one – interconnected with the former - is the lack of risk-sharing opportunities. One cannot design securities and/or institutions to share risks, when property rights are not well defined and when their enforcement is not guaranteed when needed.
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