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Institutions and economic performance: Election Outlook-XIX

There is a long list of economists-from Adam Smith to W Arthur Lewis and from Douglas C North to Niall Ferguson-who have strongly highlighted the importance of institution building for economic growth. Unlike others, Smith harboured no animosity against the Marxist dogma because of one simple fact that he died one century before Karl Marx wrote his Das Kapital. Harvard professor Ferguson, however, always chides- disdainfully or in a sceptically humorous manner- the practitioners of command or centralised economies for their sloppiness. He often makes derisively mocking remarks to draw some parallels between the manufacturing prowess of the countries following laissez faire principles and those identified as strong proponents of systems that employ central planning and use accounting system based on the labour hours expended production. In this respect, he often cites the examples of state-of-art Mercedes cars produced by the then West Germany and old-fashioned Trabant automobiles (a befitting answer to West Germany’s VW Beetle) by the then East Germany with a view to driving his point home to his audience.

He also draws interesting parallels between North and South Korea where people share identical ethnic and cultural features but profoundly different economic systems. He, however, is found handicapped on this count insofar as China is concerned because he has yet to find a country or countries to advance-on similar lines-his argument against China where the Communist Party of China has presided over the revolutionary economic transformation of one of the poorest countries on earth into the second largest economy of the world in less than half a century. More importantly, it is not known what Professor Ferguson et al will have to say with regard to the countries that are endowed with identical institutions but their economies are profoundly characterised by diverse economic outcomes.

In their joint work titled “Institutions versus Policies: A Tale of Two Islands”, carried by an American Economic Association (AEA) journal, for example, Peter Blair Henry and Conrad Miller argue that the income levels of Barbados and Jamaica diverge “over a 40-year stretch in spite of no obvious differences in institutional arrangements of their economies at the beginning of the observation period”. They have also convincingly argued that the “explanation for the divergence lies not with differences in institutions but differences in macroeconomic policy”. In their conclusion, they surmise, inter alia, that “the macroeconomic decisions of governments can exert just as much influence on the trajectory of the economy as the institutional framework within which those decisions take place”.

Their articulation brings to one’s mind the tale of two colonial cousins-India and Pakistan. Both have experiences in institution building and political-economic policymaking that draw apart enormously. The then US President, George W Bush, appeared to be quite aware of this deep policy divergence between the two neighbours when he crudely declined Pakistan’s request for a civilian nuclear deal by saying that “both [India and Pakistan] have different needs and histories”.

The ‘third-time prime minister’, Nawaz Sharif, appears to be fully cognisant or informed of India’s experience of institution building and concomitant economic progress. He wants to engage India for both increased trade and dispute resolution with a view to improving bilateral relations that witnessed a new low because of Mumbai attacks in 2008. He is said to be keen to go for such a policy reset even weeks and months before the exit of Nato troops from Afghanistan. In other words, Nawaz perhaps appreciates the fact that while institutional structures of India and Pakistan are not close at all, their approaches to macroeconomic policy exhibit less divergence.

The incoming government’s policy making is expected to take, albeit unknowingly, a leaf out of certain stipulations that former World Bank chief economist Justin Yifu Lin has offered in his body of work that clearly and unambiguously resonates in developing world’s audiences in particular. In his “The Quest for Prosperity: How Developing Economies Can Take Off”, Lin has proposed a six-point framework as part of “new structural economics”. For example, he has underscored the need for a developing country to attract foreign direct investments from a country in the neighbourhood that is not too far ahead in the same industries identified by comparative advantage. And it will be required to mitigate the most formidable constraint in an effective and meaningful manner. Last but not least, “Institutions versus Policies: A Tale of Two Islands” tells people that “countries have no control over their geographic location, colonial heritage, or legal origin, but they do have agency over the policies that they implement”. Not only does Nawaz show strong appreciation of Lin, he understands the writers of this tale very well.

The writer is newspaper’s News Editor. He’s member of the American Economic Association (AEA)

Sarfaraz Ahmed, "Institutions and economic performance: Election Outlook-XIX," Business recorder. 2013-05-30.
Keywords: Economic issues , Economic policy , Economic system , Economic growth , Macroeconomic policy , Policy making , Macroeconomic , Germany