Which comes first - markets or governance?

Govt needs to give priority to building markets while working with weak institutions

ISLAMABAD: I will start by posing a rhetorical and a possibly cyclic question today. For long-term development, if we are forced to choose, should we allow markets to develop on their own, randomly, haphazardly? Or should we first build institutions of governance and then focus on markets? In other words, should we do governance first or markets?

To answer this question, I first turn to probably two of the most well-known economists of Pakistan today - Nadeemul Haque and Ishrat Husain. Both of whom have made substantial contributions to the theory and practice of economic policy in Pakistan.

Haque believes that civil services reforms hold the key to growth and development. This is governance first approach. The governance first approach creates a market by defining and enforcing property rights which then become a basis for markets to develop.

One of his favourite examples is the prices of plots in cantonments which tend to be much higher than prices of land in other parts of the city. This is mainly, as he explains, due to clear and reliable property titles which minimises any risks and builds a trust in market agents – both investors and consumers. He has explained his ideas in his work of fiction "How Pakistan Became an Asian Tiger".

Husain, who recently wrote "Governing the Ungovernable", believes that resuscitation of institutions is the most important factor as it will "unshackle the entrepreneurial energies of the private sector". Thus, it is clear that he also believes in governance first.

In this sense, both Husain and Haque are on the same page, to use the favourite phrase of these days, though they may not agree.

This governance first model has been widely acknowledged in the world. This is the central idea in "Why Nations Fail" by Acemoglu and Robinson. They attribute under-development largely to "extractive institutions". This is also the mantra that multilaterals often repeat.

In a twisted manner, this is what the Pakistan Tehreek-e-Insaf (PTI) government is built upon. For them, governance is over and above everything. Taken at its face value, their accountability and anti-corruption is the other, and a simpler, version of good governance.

We have been told that once we fix governance, everything else will fall in place. Ideas have power and for now the Pakistani society and state have embraced and empowered the governance first model.

Discussing the same question, author Yuen Yuen Ang came up with a more nuanced and complex answer. In her path-breaking book "How China Escaped the Poverty Trap", Ang (2016) writes that China built markets first while working with weak institutions and later improved institutions while preserving markets.

Taking cue from Ang, I argue that we need markets first with weak institutions and then later invest in improving these institutions using the resources that we can generate by helping markets to grow at the first place.

If we go back to Pakistan's own economic history, we actually arrive at the same conclusion. Pakistan started on a relatively clean slate when it comes to institutions. It had, however, plenty of private capital. It was crucial at the time when state coffers were empty and India refused to release Pakistan's share of foreign exchange for several years.

Wealthy Muslim families like Ispahani and Habib were building Orient Airways, which later became PIA, Muslim Commercial Bank, shipping lines, insurance companies and a number of ventures, which were privately financed, and privately managed large enterprises.

Markets started to flourish without significant state support. Eventually when the state support came in, Ayub's Licence Raj to begin with, it did more harm than good for further private sector development.

In the last one year, economic activities have gone down to the back burner. The fear of an over-bearing taxation regime is killing business sentiment. The domestic agenda of the federal government is dominated by the governance first approach - accountability.

What matters for them is how many new NAB cases are registered and how many people are behind bars. There seems to be a witch hunt for hidden treasures both at home and abroad. This may be a result of crude political vendetta.

This may also be the result of a flawed hypothesis for which not only political leadership and establishment are responsible but economists and intellectuals should also assume responsibility.

We need to understand a complex and hybrid approach – we need to give priority to building markets first, while working with weak institutions, let resources be generated, and then use these resources to improve institutions. It is not market first, and governance later, but it is market first with whatever governance we have.

This is going to be an unwelcome example, but we need to appreciate those who can deliver world-class goods with a broken system, but instead of fixing an individual, we need to improve the system. THE WRITER IS THE FOUNDER OF PRIME INSTITUTE, AN INDEPENDENT THINK TANK BASED IN ISLAMABAD.