David Warsh has given us a non-technical survey of the theories of developmental economics from Adam Smith’s great work by a similar name down to the present day. Warsh’s sweeping narrative is an eminently readable tale (okay, readable as far as books about economics go) about the historical settings, personalities and unique contributions to economic growth theory, culminating with an in-depth discussion of Dr. Paul Romer’s revolutionary paper titled Endogenous Technological Change, first published in 1990.
I usually wince at things that present themselves as a tyranny of the or. Is something this or that? Is the world ruled by economics or religion? Secular economists, for example, might make the argument, and not without considerable merit, that economic development is the critical issue facing world leaders today. They might argue that:
- Global Islamic terrorism is fueled by economic & political disenfranchisement – too many young Arab men, many from upper class families, have such limited economic prospects that they are easily seduced into joining schemes bent on overthrowing the current world economic system.
- There is a growing divide between developed and developing countries as evidenced by the increasingly virulent rhetoric from such world leaders as Venezuela’s Hugo Chavez and Iran’s Mahmoud Ahmadinejad. Not incidentally, Iran’s pursuit of a national energy program is viewed by the USA as a drive to obtain new terrorist weapons, while Iran views it as a necessary step towards their own economic development. (How you look at the debate seems to depend on what side of the chasm you are on.)
- World population growth and drive for economic development in just a handful of developing countries (China and India) are placing huge strains on the global supply of energy and natural resources (c.f. recent shortages of and spikes in the prices for steel, concrete, to say nothing of oil).
- Continued exploitation of natural resources is placing strain on the global ecology (pollution, destruction of natural habitats), giving serious support to the idea that traditional patterns of economic development (i.e. English 18th industrial revolution) are no longer viable for the planet. It’s no longer a question of jobs vs. the environment; its development vs. the survival of the world.
And yet if you were to interview, say, a fundamentalist Christian or Muslim, you might hear a very different kind of rhetoric, such as “preserving the faith of our founding fathers”, “restoring righteousness in the world”, “being on the side of (or against) Israel in the end times”, or “putting the Bible (Koran) in its rightful place in the center of culture and society”.
Two more radically opposed world views – secularists and religionists – are hard to imagine. Each camp is trying to assert its influence in different ways. The secularists basically control the universities & political organs (Council of Economic Advisors, Federal Reserve Bank, etc.); and the religionists operate through charismatic religious teachers, popular media, legislation and social action. Our world seems to becoming more polarized between the secularists and the religionists. Politicians, of course, are re-elected (or not) depending on how well they weave a position that appeals to the most people in both camps.
I think the secularists and religious folk tend to talk past each other too often. So perhaps an occasional excursion from one side over to the other side’s camp could be a beautiful thing! But who wants to read a book on economics? Really!! It’s not called the dismal science for nothing.
Well, Knowledge and the Wealth of Nations might be as good a “day trip” over to the secular side as any. David Warsh has given us a non-technical survey of the theories of developmental economics from Adam Smith’s great work by a similar name down to the present day. Warsh’s sweeping narrative is an eminently readable tale (okay, readable as far as books about economics go) about the historical settings, personalities and unique contributions to economic growth theory, culminating with an in-depth discussion of Dr. Paul Romer’s revolutionary paper titled Endogenous Technological Change, first published in 1990.
The book and Dr. Romer’s paper center on a paradox that had been troubling the theory of economic development for some 300 years. It was the phenomenon of falling costs.
Here’s the paradox in a nutshell. (Don’t panic, this only gets an inch deep.) Since the time of Adam Smith, economic output was thought to be generated from three factors of production: land, labor & capital. As production increased, shortages could be expected in one or more of these factors, leading to rising costs. Guided by the “invisible hand” of market forces, these factors were tapped in amounts and at prices to reach production levels that met market demand for the goods at the offered price. A simple graph nicely illustrated the concept – supply and demand in equilibrium at full employment. Land, labor and capital, and parsing production into goods and services, seemed an adequate model to explain miracles of economic growth such as the industrial revolution in Northern Europe.
And yet this model, however convenient shorthand for economic output, had a major theoretical shortcoming. It was observed that in some economic settings, each additional customer (marginal production) could be served with little or no incremental cost, thus lowering average total production costs. The apparent immunity of these certain industries (typically railroads, telecoms and other “systems”) to the laws of scarcity led to various public policy responses: government regulation, outright public ownership of enterprises (“natural monopolies”) and even government lawsuits against private sector companies, such as the one filed by the US Department of Justice against Microsoft for driving out its competition (Netscape) by pricing its product (Internet Explorer) at nearly zero.
But I’m getting ahead of myself. The Great Depression of 1929 showed that economic output could reach equilibrium with demand at levels of unemployment far below acceptable levels. (Curiously, it was 25% unemployment then, and seems to be 25% in Muslim France today). His brilliant solution to this problem – a new theory broadly adopted by the politicians — is what brought John Maynard Keynes and the theory of economic growth to prominence. Unfortunately, 60 years later the idea of fiscal stimulus (priming the pump to get an economy rolling) seems to have largely run out of steam (pardon the pun) in many countries today. Government budgets (as percentage of GDP) are at an all time high and yet so many economies are generating far fewer new jobs than demanded by their people. (Ask the French, or better yet, the Muslim immigrants in France what they think about this.) Additional fiscal spending seems to be only inflationary.
Noteworthy in the original “land, labor and capital” formulation was the absence of any specific discussion about the role of knowledge – technical know-how – in growth theory. Although Adam Smith spent considerable time discussing specialization and improvements in productivity, the idea of knowledge itself as a key determinate of economic output remained outside the formal economic models (i.e. it remained an “exogenous” variable – out of the box).
Economists, like physicists, are working towards a unified economic model that explains all observed economic phenomena, a quest for a sort of “unified field theory” of economics. Clearly a more comprehensive formal economic model was called for to understand, or even better, cure the economic woes of our day.
Enter Dr. Paul Romer, and his revolutionary paper titled Endogenous Technological Change (“Romer 90”, for short), which focused on the apparent paradox of both rising costs and falling costs. Dr. Romer’s breakthrough thinking (presented in the mathematical language of the day) was to reformulate the factors of economic output into “people, ideas and things” and to partition goods into rival goods (which cannot be shared) vs. non-rival goods, such as software, movies, telecoms systems, which can be shared readily by large numbers of people simultaneously. The breakthrough, published in 1990 in the Journal of Political Economy, was to put knowledge center-stage in the discussion of the drivers of economic growth. The impact on theories of economic growth has been profound and is still continuing.
Along the way, Walsh treats the reader to a panoramic view of some of the most important ideas, places and things in the industry he writes about:
- The “underground river” – the idea that knowledge was the “secret sauce” that made economies go – is traced through the writings of the great economic thinkers — Adam Smith, Thomas Malthus, John Stuart Mill, David Ricardo, John Maynard Keynes, and Robert Solow, to name a few — with each contribution raising the awareness in some ways, and missing key insights in other ways.
- The shift in the center of gravity in economic research from Europe to the US, and gives us a peek at the keen rivalries between the major economics departments of US universities.
- The major political/economic ideas that have held sway on the world stage today — free markets vs. planned economies, government intervention vs. socialism, natural monopolies, Reaganomics, the third industrial revolution (a.k.a. the “Dot-com economies) and modern globalization.
- The personalities and lifestyles of the brightest economic intellects of our day, competition & professional ethics, the institutions they work in, and the political organs through which economists influence national and world scene.
It’s quite a tour, and for those not used to looking at the world through the lens of economic thinking, a real eye-opener!
Dr. Romer’s insight, however, should be no surprise to the religionists. For centuries the Scriptures have taught a connection between knowledge (wisdom) and prosperity. “How blessed is the man who finds wisdom, and the man who gains understanding. For its profit is better than the profit of silver, and its gain than fine gold… In her left hand are riches and honor.”
Conversely, people of the book (Torah and Bible) like Adam Smith, Thomas Malthus — have been in the mainstream of the development of economic thought for a long time. No less than 12 Nobel laureate economists have been Jewish.
That economic needs of people should be met is a fundamental spiritual/religious principle. The Apostle James put it this way: “Suppose a brother or sister is without clothes and daily food. If one of you says to him, ‘Go, I wish you well; keep warm and well fed,’ but does nothing about his physical needs, what good is it?”
Dr. Romer’s work and David Warsh’s eminently readable expose of it is helpful in seeing what the secularists see in just how to do this. Dr. Romer’s work points to the connection between man’s knowledge and his welfare, both personally and in creating the wealth of an entire nation. For those of us who are prone to a religious world view, perhaps Warsh’s book can be a useful bridge over to the secular economic camp, to gain a greater appreciation of what these brilliant men have learned about how to make the world a richer and happier place for us all.
