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the prospect of institutional stagnation

Paul Romer explains the historical process of economic development as a product of technological discoveries — how to make more with less — and, in turn, argues that technological innovation depends on sets of rules and institutions that provide incentives to innovate. The rules and customs that govern a society are therefore crucial to the question of development. As Romer notes, China had all the component technological pieces a thousand years ago to grow beyond its European rivals, but the elites turned inward, and the innovations whithered away rather than fomenting further innovation and growth.

The informal customs and formal rules that govern society are often referred to as institutions, and it is institutional innovation that allowed for the industrial explosion in 19th century Europe and subsequent growth in various economies, such as China and India.  Today, Romer hopes to help catalyze this same institutional development in the corners of the world untouched by the economic progress of the past few hundred years, and he believes that in Hong Kong he has found his archetype.

Romer contends that it was the success of Hong Kong that inspired Deng Xiaoping and the Chinese to create the additional pockets of liberal trade zones that drove the past thirty years of growth, calling it the greatest economic development project of all time. In this spirit, Romer advocates charter cities, the voluntary outsourcing of administrative control to foreign entities (presumably, developed nation-states), such as the operation of the Guantanamo Bay area by Canada.

Romer’s brazen call for international intervention will certainly strike many as neocolonialist, and Romer stresses that these charter cities would be voluntary, with the impetus of expanding opportunities rather than establishing vassal states.  His proposal certainly raises many questions, but it is the type of bold thinking that promises to invigorate the economic development debate.

In addition, Romer’s argument begets a grander discussion on the future of institutional innovation: from where will the next insititutional leaps forward come?

In the late-19th century, Frederick Jackson Turner put forth his Frontier Thesis to explain how European immigrants broke away from Old World customs and forged the uniquely American character and institutions that so struck Alexis de Tocqueville.

Turner argued that the political and cultural innovations that came to define America depended on the opportunity afforded by the frontier — a blank canvas devoid of the politically entrenched interests and institutions fending off innovation and experimentation in Europe. In essence, each push west provided a new chance to remake society: “American social development has been continually beginning over again on the frontier.”

While Turner was concerned specifically with the American frontier and the vitality it imbued in American institutions, his thesis has implications for political and social development more generally: how can political and social innovations best occur in an environment with few frontiers?

Historically, conquest and migration provided the political space necessary for new rules and customs to arise. Societies competed amongst eachother for scarce resources, and beneficial rules were mimicked by those who survived to adapt for another day.  The parallel to market competition is clear: Athens arose to fend off Persia as Google took on Microsoft.

In both business and politics, new entries are vital to progress.  Romer asks, “What if there were no new companies?” What would be the effect on innovation if we froze business entry in 1970, leaving the computer industry in the hands of Xerox? What would the internet look like?

In turn, what will happen to political progress if new entry is virtually verboten? Yes, there will be new regimes, as there are new CEOs, and innovation is possible to some degree in this context. But if the bold new ways of doing business have come from new businesses, where shall we find the bold new modes of politics? Romer points to  charter cities, but if this idea is untenable, will institutional innovation continue to lag behind the exponential progress we’ve enjoyed in business and technology?  If so, what does this mean for society — at some point will the lack of innovation hamper human development?


Filed under: General Welfare

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