- Concerning the economics sciences, you have criticised the methodology that economists use to diagnose and prescribe treatments to policymakers, arguing that we should stop acting as advocates for specific approaches. What do you think is the role of an economist and, in particular, a development economist?
I think economics is fundamentally about context, about teasing out the implications of different initial conditions, exogenous circumstances, the outcomes that we care about, economic wellbeing, economic development and growth, efficiency and equality. Thus, every model that we study and we teach is really a contextual model because it tells you what happens under the assumptions and, with that, comes the idea that we are not always very good at thinking through its implications, since different contexts and models produce different results. So, if you are approaching the world with the framework where all markets are perfectly competitive and there are no borrowing constraints, you are going to get different results than when you have frictions and financial constraints and our wisdom, to the extent that we have any, consists in being able to figure out the implications of different parameters, initial conditions. Then, the craft part of economics is figuring out which model is the most appropriate one to apply in a given setting. However, this is something that we don’t teach necessarily in graduate schools… We do teach about testing, but that is not real time: it is not necessarily useful and here is where we need to do a lot of more work.
- Then how should we teach the new generation?
Well, I do not think that we necessarily do a bad job teaching graduate students. I think Introductory Economics is a little bit different because there we tend to overly emphasize the benchmark with perfectly competitive markets and so on and not necessarily focus on the real world complications. But by the time that you get to be a grad student, you get exposed to all varieties of models, and what we could do a little bit better of is develop what I have called a science of economic diagnostics, which is learning how to pick the right model depending on context. However, as I mentioned before, this is always going to be partly hard, because it is going to be a question of judgement and experience, as much as empirical analysis and theoretical modelling. The other thing we need to be much better at is in terms of the sociology of the prejudices where, regardless of what is told in the class, we tend to develop fixations and attachments to a subset of these models and the way that economists approach the real world. For instance, we had in the 50’s and 60’s maybe too much attachment to the planning model where we thought that the government could basically fix things. Then, in the 80’s and 90’s it turned around, and it became too much of a free market oriented approach, so, it is on these waves of dominant thinking about the real world where I think we need to fight against and try to bring this heterogeneity and context specificity in a way that we discuss the real world.
- You have argued that the success in China is, at least in part, due to its eclectic and pragmatic strategy with an experimental approach. Do you think there exists a contradiction, or at least, a constraint, between this strategy and other spheres of success like, for instance, democratic quality? In particular, do you think that democracy is indeed an obstacle for economic growth or for implementing the correct reforms?
I don’t view democracy as an obstacle to economic growth, neither theoretically nor empirically. If you think of Latin America or Sub-Saharan Africa, for example, in many of those places some of the worst economic policies that produced significant and very costly crisis in the 80’s were the result of authoritarian governments that ran their economies to the ground: and paradoxically, it were the democratic governments that subsequently came into power in Chile, Brazil, Argentina that stabilized and fixed those economies. Similarly in Africa, this last decade of relatively stable macroeconomic framework is really the product of much more democratic governments. I would say, on the other side, that in China even though the government certainly is an authoritarian one, the reason that the country has managed to reform and grow so rapidly is not because an authoritarian government has been able to take difficult reform decisions that ended up hurting some of the important insiders and political stakeholders. In fact, quite to the contrary, since the reform strategy in China was a Pareto superior strategy where they always do care to ensure that the insiders are beneficiaries of the rents from the planned and regulated system. They were compensated or able to retain their rents, like in the agricultural reform, the reform of the state enterprises, like the creation of private enterprises, and so on, where each of these policies was designed to prevent the creation of losers. Thus, the idea that the reforms are difficult because it means that some insiders and politically connected groups will lose, and the need for an authoritarian government to take on this tough task, is not at all the model of reform that China has pursued. Moreover, you can expand and look at Vietnam, again an authoritarian regime with the Communist Party, where the method of reform has been highly consensual and not based on imposing significant distribution of costs on important insiders. So I think that the relationship between democracy and economic performance is a more complicated one, where democracy tends to be associated with the difficulty of changing policies too rapidly so you get greater stability, but on the other side, democracy is also associated with the preference for avoiding policies that are going to be very costly economically and you tend to avoid much bigger crises. So, if you look at the data, you get much less volatility and long term instability under democracies than under authoritarian regimes.
- Turning to a third topic, which we are glad to discuss here due to your contributions to its understanding, you have exposed the problems that countries face with the process of globalization. Which are the main limitations (or the Trilemma in your work) that they have to take into account?
Let’s start looking at the textbook model of globalization which I call Hyper-globalization. It is a model where there are no transaction costs associated with national borders. Such a world is possible not only if there are no barriers at the borders like tariffs, but also that national regulatory differences have been harmonized so that differences in regulation do not impose transaction costs at the border. We can achieve that kind of hyper-globalization under two different possibilities. One is where we still have political entities that we call nation states, but essentially they are completely unresponsive to any attempt by democratic electorates to design regulation and these sorts of policies that might create differences in regulatory outcomes from those of their trade partners. I would say that in the 19th century, with the gold standard (or Golden Straitjacket) model, essentially countries do nothing at all on economic policy except to ensure that there are minimum transaction costs associated with national borders, and that is a model which effectively limits how much democracy you can have because you are telling to your voters, “You can ask for anything you want, but I can’t give it to you since I am bounded by these restrictions, and thus, I cannot have taxation on capital or food and safety regulations that differ from those of my trade partners:” so that is the gold standard possibility. The other allows to you to still keep hyper-globalization but getting rid of nation states, where we can collectively design these rules at the transnational level so we create transnational political institutions, a sort of a United States of the world. However, the problem of that is both, the practicality as well as that there is no reason to believe that, even with the best of the intensions, there is a common set of harmonized regulations that would fit from countries that are so diverse. And then, logically, the third possibility is to keep hyper-globalization at the bay and put some limits on globalization, and then be able to keep both nation states and democratic politics. So that, in a nutshell, is the Trilemma that I talk about and that is summarized in the figure above.
- These are extreme case decisions: is it perhaps possible to keep a part of the three possibilities.
Yes, but still you can take the Trilemma in a first-difference way where you cannot simultaneously expand globalization and deepen democracy while keeping the nation state as it is. This is how you would apply the Trilemma when you are not in the corners but somewhere in between.
- How can these problems be applied to the actual situation that the Eurozone and, more generally, the European Union is facing now? What should be the right direction and the next steps or reforms that should we follow and implement?
As long as Europe wants to be governed democratically the choice has been either greater political union or less economic union: that is what the Trilemma says. I think that what the Eurozone has been doing is basically continually kicking the can down the road so we get a little bit of strengthening of transnational institutions like the Banking Union, but very little in terms of the creation of transnational political community and transnational fiscal and political institutions that would need to underpin a true political and economic union. So when you are stuck in the middle of very uncomfortable ground, what the Trilemma suggests is that you get a democratic backlash, just as in 1920’s and 1930’s with an ugly form of politics, because the respectable political forces have committed themselves ideologically to continue the union and remain economically with the union: this creates the argument for restrictions on European institutions, on immigration, and even potentially leaving the Eurozone. Those arguments can only be made by extremist groups, and you are essentially empowering these extreme groups, whereas on the left or on the right, as we have seen on the latest European elections, this is a completely predictable outcome of these trade-offs which the Trilemma encapsulates.