Economic planning – part II : Govt needs to take a back seat

When it comes to devising economic strategy, politicians need to stay out.

In the first part of this article, we had reached the conclusion that the government is not good at choosing winners. What it is good at is in setting enabling conditions and environment out of which winners can emerge. And for that we need to know what those conditions are.

Finding the conditions that allowed winners to emerge was the intellectual programme of Adam Smith and later thinkers such as Friedrich Von Hayek, Milton Friedman, Ronald Coase, Gary Becker, Robert E Lucas, all Nobel prize winners in economics and recently Paul Romer and other economic growth theorists. Their message was and is that government does not have the information about what people want and what they are capable of. Without such information it makes no sense for government to design and orchestrate what people should consume and produce. Instead government should allow people to experiment and discover the answer themselves in the setting of a market based system, which is more flexible than the command system. In Adam Smith’s Invisible Hand, the market system establishes efficient prices, which play the dual role of guiding the economy to most efficient production and allocation of goods and services, based on free interactions between buyers and sellers.

If everything works right, the sorts of calculations individuals make in their own self interest will actually also be in the collective interest or at least not against it. What is at issue here is a sort of social calculus. Individuals calculate what is good for them. When we cumulate the result of these calculations is everyone better off or are we in stasis, or worse, going backwards? You might think of the economy as a sort of computer with algorithms which solve the problems of coordinating people. The algorithms guide the self equilibrating exchanges which ensure that a balance exists between what people put into the system and what they get out. Without this balance the individual elements of the system will move away and the system loses its coherence.

So what would be the elements of the economic computer algorithm of the sort we need in Pakistan? I think the answer lies in the observation that Pakistan has abundant human capital but little physical or financial capital. We invest in creating children because investments in physical capital are so risky. We do not protect property in Pakistan with the same resolution that brought Western countries out of their mire and propelled them into their industrial revolutions. Instead we resemble Imperial China where the only sort of capital one could be sure of holding on to was learning. The Chinese became a nation of sophisticated intellectuals traipsing on a substratum of shady entrepreneurs never certain of when the next expropriation would come, and continuously engaging in rent-seeking activities. That sort of society can last a long time provided no external threats present themselves. Well, we know that we do not benefit from such luxury. We must protect capital, too — both physical and intellectual capital. We must bring it under the rule of law and transparent governance with swift adjudication.

Property under the protection of law is the purest manifestation of what economists call the principle of Pareto-efficiency. There are always questions about the best use of such property. One way of resolving a difference of opinion is to let one party buy out another’s ownership of property which the buyer thinks is not being efficiently used. The purchase is Pareto efficient in the sense that it makes no one worse off and may make both better off. This is why economists revere private property under the protection of rule of law. And it is why we must concentrate on protecting property, including intellectual property, in Pakistan. There is no priority more urgent for our economic development.

The writer, holds a PhD from the University of Chicago and is the Chief Economist of the Planning Commission

 

Published in The Express Tribune, April 11^th,  2011.