Friday, November 16, 2007

My Review of Dani Rodrik's 'One Economics': Part 1

Dani Rodrik’s theme is distinctive. He makes the obligatory genuflection to his on-message credentials (if he didn’t, he would not get the hearing he seeks in the mainstream economics profession who run and influence the decision makers about these things) in clarifying his adherence to ‘neoclassical economic analysis’. Which he sums as ‘social phenomena can be understood by considering them to be an aggregation of purposeful behaviour by individuals … interacting with each other and acting under the constraints that their environment imposes’(p 3).

His definition neatly encapsulates his theme; he doesn’t consider that the Washington Consensus properly takes account of the ‘constraints that their environment imposes’ in the cases of many of the developing countries, which are a disparate bunch to say the least.

The Washington Consensus consists of rules of good behaviour necessary for promoting economic growth – one size fits all- set out in Fig 1, ten original rules plus ten augmented rules. Briefly, the facts appear to show, of which Dani Rodrik provides detailed analysis, that in practice their application over 50 years has proved disappointing to say the least. Those countries that accepted the rules and applied them have fared less well than those that didn’t, or rather, some of those that didn’t did much better than others that didn’t and those that did (Chapter 1).

His excellent Chapter 2 on Growth Diagnostics is on how to analyse growth performance in developing countries (especially Fig 2.1) and applies it to three countries Brazil, Dominican Republic and El Salvador. This usefully unpicks their differences (broadly their ‘environment’). I think Dani Rodrik shows that using these tools as a ‘way of thinking’ about a reform agenda is much more productive that merely ticking the 10 or 20 boxes associated with the Washington Consensus and tackling the unticked boxes with imposed reforms from the ‘one size fits all’ approach to growth and development.

Chapter 3 discusses industrial policy for the 21st century, and this means confronting the usual polar views on market and government failure and the imposed views of international bodies like the IMF and the World Bank. Dani Rodrik supports his survey with two long tables, Tables 4.2 and 4.4 (pp 122-47). The conclusions are not flattering to optimism that they work, nor necessarily encouraging of their detractors. For instance, Dani Rodrik lists six assertions (p 150) that the can’t work, included such as ‘governments cannot pick winners’, ‘prone to political capture and corruption’, ‘there is little evidence that industrial policies work’, and six assertions that they can be made to work (pp 150-51).

Dani Rodrik concludes that ‘industrial policy is a process of economic self-discovery in the broader sense. The right image to carry in one’s head is not of omniscient planners who can intervene with the first-best Pigovian subsidies to internalise any and all externalities, but of an interactive process of strategic co-operation between the private and public sectors that, on the one hand, serves to elicit information on business opportunities and constraints, and on the other hand, generates policy initiatives in response’ (p 151).

Chapter 5 discusses the kinds of institutions that would facilitate ‘high-quality growth’. He opens with discovering that homo economicus is ‘alive and well’ (memories of George Stigler on Adam Smith being ‘alive and well and living in Chicago’ crossed my mind) wherever development policies have worked, that is wherever ‘price incentives are able to operate', from which he concludes that ‘neoclassical economic analysis has much to contribute to development policy’, but qualifies this (contentious) assertion with the observation that exponents of this view ‘led for a while what was perhaps an excessive focus on relative prices’.

If homo economicus was ‘alive and well’ in some successful developing countries, the species was not prevalent elsewhere that needed them most. And in fact, as Dani Rodrik’s segmented data shows, those developing countries that succeeded did not conform to the neoclassical economic paradigm of open economies (South Korea, Taiwan, Japan, Malaysia, Singapore). And neither did those countries that applied the policies that failed do so well (South America, Africa).

Dani Rodrik blames the ‘absence of adequate institutions’, which I would have thought should have been noticed before the neoclassical treatment was assumed to work. And that’s the problem that Dani Rodrik keeps coming up against: neoclassical economics does not take account of the absence of ‘adequate institution’ because its models assume that they exist, even though the slightest acquaintance with such countries would reveal their absence (they did visit them, didn’t they – what do you mean they didn’t!).

His discussion on pages 156-61 of what constitutes ‘adequate institution’ is a welcome acknowledgement of what for 50 years has been ignored by the international institutions and neoclassical economists in the developed countries national institutions charged with promoting development.

[I shall break off here and continue later as I have other pressing tasks to complete today. I will continue with summarising Dani Rodrik's excellent book and commenting from a Smithian viewpoint.]


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