Tuesday, September 18, 2012

The World Through Institutional Lenses

What explains the differences in prosperity among nations? How does a nation create sustainable broad base economic growth? Is growth the result of differences in human capital and technology? According to Daron Acemogluthe Elizabeth and James Killian Professor of Economics at Massachusetts Institute of Technology, and James Robinson, the David Florence Professor of Government at Harvard University, the differences among nations cannot simply be explained by economic factors. The answer lies in the ability of nations to create inclusive (versus extractive) political, economic, and social institutions. Below is a conversation with Daron Acemoglu done by Edge.org that gives insight in how to view the economic system through institutional lenses.  

BOSTON - When I got into economics one of the things that attracted me was thinking about why some nations are rich and some are poor, why some are democratic and others aren't, and why they're socially, politically, and economically so different. I grew up in Turkey and I came of age in the middle of a military regime and the economy wasn't doing well so those questions were in the air. That's the sort of thing that attracted me to economics.

When I came into economics I realized those weren't the issues that most economists worked on. I was still interested in economic development and economic growth, but I tried to think about it using the same approach as economists did. Then about 17 or 18 years ago, I started talking to James Robinson who became my long time collaborator, and James and I both had the same issues with the economics approach. A lot of the interesting issues related to politics, institutions, and the roots of the politics of policies and institutions were left out. We started working, thinking, and discussing to try to write papers on these things. At the time it wasn't a big area within economics.

The collaboration with James and my work and thinking on this has been the most defining aspect of my career. The main issues that I have worked on have all come out of that collaboration and that process. At the center of it is the huge difference in prosperity that we see around us. We live in a very integrated globalized world, but if you compare the United States to Haiti, that's not that far, or the United States to some countries in sub-Saharan Africa there are huge differences in prosperity. Depending on how you measure it there are 40, 50, 60-fold differences in income per capita.
At the time that Adam Smith wrote the defining text of economics in the 18th Century, the same gaps would have been four or five fold at most. So even though we're in a much more unified world, these gaps, these disparities are huge and I think that's one of the major questions facing social science. What I've been trying to do is trying to understand that. The standard economic approach is all about understanding why countries grow thinking about human capital—education, skills, and so on—thinking about physical capital—machinery or technology—but really at the root of these things there must be some other differences.

We can't really have a satisfactory explanation for why the United States is so much richer than Haiti by saying the United States has much better machinery, has much better education, and so on. The question is why? Why did the United States end up with this better machinery? Why did the people make the choices to go to schooling or why did they organize their production and factories differently?

The perspective that has shaped my thinking on this is all about institutions. 'Institutions' is a catch-all word. Many things in a society are part of its institutions. Douglass North who was one of the leading proponents of the institutions view defined it as the set of humanly designed constraints that shape human behavior. That's a very broad definition. What James and I tried to do is bring greater clarity and discipline to thinking about institutions both empirically and theoretically. We distinguish between economic and political institutions.

Economic institutions are those that really shape the economic incentives. They create opportunities or incentives for investment and innovation. They are crucially related to how level the playing field is. You now have many societies in which only a small fraction of the population are given the opportunity to get into the action. They are the only ones who can work in the modern sector. They're the only ones that can open businesses or open factories or get into trade or get into whatever occupations that they want. So that's really important to have this level playing field, in addition to economic institutions such as property rights and contracting institutions that give incentives to people to take advantage of whatever calling they have in life. (read more)

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