The Filter^: Capitalism 3.0

I was at the LSE's impressive "New Academic Building" last night for Dani Rodrik's talk, Capitalism 3.0. I got there 10 minutes early but had one of the last available seats, with many people being forced to watch via a live video feed from the room next door. It was an impressive and justified turnout.
Whilst waiting for it to begin I reflected on the title. I was surprised (and disappointed) that Rodrik would go for such a gimmick, but the more I thought about it the less grating I found it. Web 2.0 wasn't so much about a concerted effort to redefine and remodel global computing, but a label applied to the spontanous order that had emerged out of the previous system. Indeed as with most "revolutions" it's hard to establish a distinctive discontinuity, showing that we live in a world of marginal change. If Rodrik's talk was simply an attempt to label and focus attention (i.e. create communities of shared understanding) on the ways int which the global economic system will evolve following the financial crisis, fine.
So it was amusing when the first thing Rodrik did was apologise for his "too cute by half" title, which (somewhat facetiously) he likened to something Tom Friedman would come up with. But what grated the most was not the choice of title, but the underlying objective. This wasn't about interpretation and judgment, it was a positive program for global statesmanship. This was the talk of an architect.

If anyone can justify reflecting deeply and widely about global capitalism, it's Rodrik. He is a notorious heretic of globalisation and the development community. He is one of the few leading academics to simulatanously oppose the "one size fits all" Washington consensus (see Anne Kruegar), and the "spend it and they will come" approach to large scale aid-sponsored infrastructure (see Jeff Sachs). My problem with Rodrik is that the self-styled "Mr Institutionist", or "Mr Context" is less of a maverick than he thinks. At the end of the day he's a tenured Professor at Harvard, indellibly committed to mainstream methodological devices (even his analytic narratives, for example, are more straightforward case studies than what Bates et al propose), and sits at the top table of public debate. I'm sorry, but Rodrik is an "establishment" economist. I was bouyed by his recent engagement with Pete Leeson over anarchy (albeit - as I mentioned here - I feel he made more concessions than he realised) but Rodrik seems acutely unaware that he's not the only academic economist that opposes both the Washington consensus, and exporting socialism. what would it take to avtively engage with Rodrik, and for him to make a charitable reading of the work of the Global Prosperity Initiative at the Mercatus Center? For example:

Boettke, Coyne and Leeson on "Institutional Stickiness and the New Development Economics"
Boettke, Coyne, Leeson and Sautet on "The New Comparative Political Economy"
Bryan Caplan on "The Myth of the Rational Voter"
Elinor Ostrom on "Understanding Institutional Diversity"
Doug North on "Understanding the Process of Economic Change"
Aligica and Evans on "The Neoliberal Revolution in Eastern Europe: Economic Ideas in the Transition from Communism" [sorry, couldn't resist!]

There are sophisticated works by economists that treat institutions and ideas seriously. The policy conclusions and general libertarian outlooks of the authors should not preclude engagement. Indeed a recurring theme of Rodrik's talk was that libertarianism was self-evidently not a serious option. His argument would be stronger if he engaged in making that argument.

Back to the title, and my other frustration was Rodrik's premise that capitalism is malleable and evolves over time. I'm not sure this is helpful. The economic system that we experience is malleable, and evolves over time, for sure. Our understanding of capitalism, might well be likewise. But "capitalism" itself? Can we not give it a non-arbitrary definition? Surely the only way we can study evolving processes is by defining terms so that they act as stable reference points. This might be a minor point, but I don't think there is a fundamental conflict between "American capitalism" and "Chinese capitalism" because neither truly are capitalism, because "capitalism" is a thought experiment.

The talk of Capitalism 3.0 suggests there's been previous "versions", and indeed Rodrik traces a familiar story:

Capitalism 1.0: "Miracle of markets": the view that markets unleash prosperity, the proper role for the state is as nightwatchman
Capitalism 2.0: Keynesian economics + the welfare states: markets aren't self-regulating and need to be embedded in non-market institutions

[Aside: the audience seemed to lap up Rodrik's comment that the current financial crises shows that markets aren't self-regulating. Whilst student Fabians might buy this, we as economists have a responsibility to be a little more honest. In the US and the UK we have a monopoly issuer of base money, and it is a nationalised institution. The financial system is built around a central planning board. It is no where close to being a free market. This seems such an obvious and basic point but we need to repeat it over and over again]

Rodrik argued that this has resulted in a fundamental imbalance between the reach of markets (a global system of Capitalism 1.0) and the the scope of governance (numerous local systems of Capitalism 2.0). He pointed out two "neoliberal" blindspots: (1) the belief that where markets go institutions will automatically follow; (2) integration has benign effects on domestic institutions; arguing that they lead to the following:

An erosion in the legitimacy of national institutions
"Global macro imbalances" (i.e. US vs Chinese style capitalism (where one is debt-led and the other is a savings glut) and regulation hasn't been able to keep up with the pace of integration

Indeed his explanation for the financial crisis is the combination of the above.

But wait a minute. I think there's two major flaws with this. The first is that he's taken for granted that the previous systems have failed. He's essentially saying that what the First World War did to Capitalism 1.0, the 2008 financial crisis did to Capitalism 2.0. It's not stretching the point too much to say that his implication is once again we're back where we started. But we're not. Living standards are immeasurably higher now than prior to either Capitalism 1.0 or 2.0. We have seen real increases in wealth that will not all be swept away during this recession. Interestingly in the Q&A session Danny Quah stated that US real median incomes have fallen over the last few decades. I just find this factually inaccurate.

Secondly, Rodrik spent a lot of time explaining why Capitalism 2.0 was inherently flawed (I was impressed by his acknowledgment that a global government is (i) simply not going to happen since countries won't relinquish sovereignty; and (ii) undesireable since it ignores the richness of institutional diversity at national levels), but he took for granted that the laissez faire model of Capitalism 1.0 was suboptimal. The only attention he gave to this was not so much that libertarianism is inefficient, but that it's unethical. His example was the "difficulty" in deciding on labour standards between countries at different stages of development. He mentioned jobs that "last 12 hours a day" or "take place in hazardous conditions" and questioned whether trading rules should prevent companies from getting around domestic labour laws through outsourcing. However there is a legal distinction between importing a good from a supplier and manufacturing it itself (to be fair to Rodrik maybe he said "outsourcing" when he meant "offshoring"), and there is a non-arbitrary way to "solve" this "problem" - allow people to form voluntary contracts. He said that "although libertarians wouldn't see a problem with allowing domestic companies to participate in such labour practices, the rest of us would legitimately have a problem" (or words to that effect). Really? You don't think people should be allowed to work 12 hour shifts or in hazardous conditions? It's a sign of how rare it is to consider libertarian objections that his examples were so weak.
Another dilemma that he posed was the impact on trade agreements if the EU citizenry were allowed to adopt tougher environmental standards than the rest of the world. And in this example I think his whole framework falls apart. Should the EU citizenry be allowed to choose tougher environmental standards? This is the importance of methodological individualism and Public Choice analysis. It's at best a naive view of politics that equates national policy with the will of the governed. Later on in his talk he attempted to deal with the special cases of "non-democratic" countries, and acknowledged that special rules would have to apply for countries where the population don't give their consent to be governed. But it's one thing to say that a refusal to emigrate is tacit commitment to a national institution, and quite another to take for granted that the outcome of a democratic process is less arbitrary and more consensual than non-democratic regimes. Rodrik short changed the libertarian position because he was operating from a model of benevolent governance and enlightened constructivism. When push comes to shove he's almost as bad as Joe Stigliitz, "halfway there". Yeah Dani, all attempts at intergovernmental statecraft have failed, but if only *you* were in charge it would work.
So, having explained and destroyed 1.0 and 2.0, he outlined a vision for the future (note: not a projection of what might occur, but an opinion about what should happen)

Capitalism 3.0: Broad guidelines:

Markets need to be embedded in systems of governance [fine, but governance needn't come from the state]
Political communities will remain predominantly in nation states [a fair assumption]
No "one way" institutional design [well, we'd expect some similarities such as rule of law, protection of private property, freedom of speech etc in prosperous nations, but this needn't be imposed uniformly]
Countries have the right to protect social institutions, but not impose them on others [a perfectly legitimate guidelines for peaceful coexistence between cultural groups, but as mentioned above there's no reason to use nations as the unit of analysis]

Ultimately Rodrik wants to aim for the maximum "thickness"/depth of exchange between "like minded" nations, consistent with maintaining space for national diversity (and "traffic rules" to manage the interface between "thin"/shallow exchange. Again, I'm reminded of Chandran Kukathas' work and the image of a liberal archipelago. My estimate would be a large system of culturally and socially embedded countries enjoying the fruits of an international division of labour (i.e. globalisation), with a large population suffering from either: domestic government failure (that fails to protect rights and uphold the rule of law); and international government failure (that fails to include them in the process of globalisation).
Rodrik believes - somewhat naively - in the power and efficacy of deliberative policy formation. I probably underestimate the degree to which policy reform can and does occur with widescale public participation. Like Rodrik I believe in the power of ideas to overcome vested interests, and the role of public debate to improve economic policy. Whilst the audience seemed deeply hostile to the point, Rodrik elegantly and forcefully argued that interest explanations are incomplete, and even though we don't know the scale, there must be scope for ideas. As he said to finish:

"If you don't think ideas matter, why did you come here"

Comments

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US median incomes have been stagnant recently, but it doesn't mean what the people who say it think it means. A median can be stagnant or even fall *over time* even though every person at T1 is higher at T2. All you need is "new entrants" at T2 who come in below the median.

Most US households have seen their incomes improve over time while households new to the distribution each year come in below the old median. Hence the median doesn't rise, but everyone is still better off. And to the extent the new households are immigrants, they are very likely to be better off at the bottom of the US distribution than wherever they were at home.

Posted by: Steve Horwitz | June 17, 2009 at 09:16 PM

If prices are falling, people are better off on the same income. I understand that in the late 19th century US there was something like 40% price deflation over some decades with stable wages but wage-earners had 40% more buying power.

What is the problem with deflation? (If you are not a faux Keynesian?)

Posted by: Rafe Champion | June 18, 2009 at 12:27 AM

What is this supposed to mean? Matter for what? I personally enjoy ideas and would have gone to this lecture (had it been in New York) for that reason alone. But the fact that you can get an audience for a lecture doesn't prove much regarding the main issues. George Stigler got an audience but he didn't think that abstract ideas of intellectuals had much influence on the development of political institutions. Intellectuals, otherwise powerless, love to feel that they influence big events in a significant way. The jury is still out in my opinion.

Posted by: Mario Rizzo | June 18, 2009 at 01:59 AM

Steve and Rafe - great points. If I were to challenge Danny on this I'd have made the two points you mention: (i) there's a heap of measurement issues that fail to capture technological advancement that lead to falling real prices and increases in quality (Don Boudreaux is good on this); (ii) a longitudinal study would show that the bottom decile in 1970 are not the same people in 2000 (Steve - your powerpoint on this is excellent)

Mario - even if intellectuals have little practical influence, the fact that the think they do implies they believe ideas matter. To a hardline Marxist (which were probably present) then I don't think attendance is a contradiction, but Rodrik was probably directing that at those of us who were there for more than just curiosity and intellectual self-development

Posted by: aje | June 18, 2009 at 09:13 AM

Just a couple of questions in relation to the above comments that may appear to seem like sniping and nit-picking, but aren't meant that way. I'm just seeking clarification.

Rafe; you say that "in the late 19th century US there was something like 40% price deflation over some decades with stable wages". But doesn't that mean that 'real' incomes rose over that period?

AJE; you mention that "the bottom decile in 1970 are not the same people in 2000" which is no doubt true, but surely that's not the whole story, and not the point being made? You would expect that group to consist of different people over time since, a) eventually they will all be dead, and, b) people in that group will move jobs, gain promotion, emigrate, and so on. Isn't the point being made that overall incomes for people in certain strata of society have not improved? That the poorest are still as poor as before, and that when they improve their lot and join the median income group they are no better off than those on median incomes a decade ago? In other words, a rising tide doesn't lift all boats after all, albeit some boats are able to move to plusher harbours, but under their own steam.

Posted by: Quinn | June 18, 2009 at 12:43 PM