Politics & Economics: An Initial Framework

Over the last few months I have been talking to a couple of economics research firms about possible jobs opportunities. One repeated theme in their research is that politics and economics cannot and should not be separated, they are intimately entwined. How then to think of them together? One approach is to think of economics as just one of many political tools to achieve political ends. However in this essay I want to explore thinking about politics through an economics lens. The brutal reality is that the, quite frankly astonishing, appetite for economics research is not borne from concern about the welfare of our fellow human beings but rather from a hunger for investment and financial understanding. In other words, how does politics inform economics? Not the other way around.

With that in mind the basic framework I came up with is to think of classifying governments within a 2 dimensional grid. One dimension is economic competence (the y axis). The other is governmental freedom of action (the x axis).

A country’s economic competence is ultimately just a judgment on the economic policies a government pursues and how those policies are carried out. Of course that judgment (at least in the short-run) is subjective and often depends upon which school of economic thought you subscribe too. Other factors matter too though, for example high levels of corruption where government officials pursue private ends over societal ones lowers economic competence whilst having lots of hard working and intelligent people in government increases economic competence. Remember this is politics and government policies judged through a purely economics lens and is not passing judgment on human rights are other societal and political objectives.

Governmental freedom of action on the other hand is to what extent can government do what it wants, particularly if what it wants is unpopular. Factors that might affect governmental freedom of action include the structure of government (democracy or dictatorship?), the size and economic strength of the country (big, strong economies mean bigger tax revenues and more ability to pursue big investment projects) and the values and beliefs of the society (if the public agree with your policies you can do more).

CASE STUDIES

To finish, I’d thought I’d explore the framework with a few case studies.

Mao’s China vs Deng Xiaoping’s China

Most modern-day economists agree that Deng Xiaoping’s decision to ‘open up’ China was a good one. It certainly coincided with the start of a stunning period of unprecedented economic growth in China that still continues to this day. Mao’s China in contrast was one where 5 Year Plans and the Agricultural Crisis of 59-61 had crippled China’s economy to the extent that economic growth between 1952 and 1971 was just 0.5% a year. Thus even though there was limited change (at least in the short-term) in the Chinese governments freedom of action there was a big change in its economic competency.

USA 1930’s vs USA WW2

The USA suffered years of sky high unemployment throughout the Great Depression but was ultimately saved by Keynesian policies that probably would not have been possible without World War 2. World War 2 and the threat from Hitler’s Germany created the political will and therefore gave the government the freedom of action it needed to – in purely economic terms – kick start the American economy.

Democracy vs Not

Governmental freedom of action is hugely important I believe in determining economic outcomes. Niall Ferguson argues that American democracy is superior to the Chinese system of government in everyway (particularly human rights) except that the Chinese government can think, plan and invest long term in a way an American government with elections every four years cannot. I have even gone as far to argue (in my piece on Justin Yifu Lin’s Comparative Advantage Following strategy of economic growth) that rather than hurting China’s economic future Mao’s policies laid the foundation for them. Mao though was blessed with a society unique in its ability to endure terrible hardship and human suffering, an ability which gave Mao an unprecedented freedom of action in choosing his economic policies.

This is a freedom of action that western economies with their large welfare states, bad bank balances and frequent democratic elections are unable to match. Only in wartime is political will (and therefore governments freedom of action) sufficient to have democratic nations really embarked on awesome public investment projects like the Space programme or the Manhattan Project. I think it is worth pointing out that although Western countries would consider themselves democratic there is no such thing as a pure democracy, everything is on a sliding scale. For example the United States if it had biannual Presidential elections would be a more democratic state, but every agrees that this would be crazy and that it is worth sacrificing a little bit of democracy for stability in leadership.

Although this framework is only concerned with economic outcomes it is important to recognise government freedom of action is usually determined by non-economic considerations. Democracy itself is structured to fight against those in power having too much of it or for too long. After all, as the well-worn phrase goes, power corrupts. In fact, according to Presidential historian David McCullough George Washington, Founding Father and the first President of the United States, greatest act was leaving office when he could have stayed. Like Rome’s Cincinnatus he ‘returned to the farm’ and in doing so not only created a precedent of just two terms in office but also helped protect America’s, at the time, still fragile democracy.

Going forward therefore, it might be cool to first try and classify all the governments of the world within this framework and second evaluate any changes in government leadership or policy in terms of how it affects a country’s position within the axes of economic competence and freedom of action. This might offer an interesting perspective on which countries you might want to invest in or which countries you think will have strong economic growth.

Charlie Munger, Warren Buffett’s partner at Berkshire Hathaway

‘It’s a very interesting problem, that our founders coped with in just how democratic you wanted the system. My favourite political system in terms of being adapted to its particular circumstances successfully is Singapore. I think Singapore is the single most successful governmental system that exists in the world. They’ve taken a small swamp to a very credible place… I think Singapore’s habit of stepping hard on things that will grow like cancer is the correct way to govern. In America we tend to wait until things are unfixable… And finally you reach a tipping point where the better people leave and then I don’t think you can solve the problem… I don’t think it is a pure democracy. I think our system has worked but… Let me tell you my story… I take a political science course [at university] and everybody teaches the more people that vote the better the systems will work and having a contrarian streak I’m not so damn sure that civilization doesn’t work better when a lot of people don’t vote… If you want to study, take Singapore: terrible malaria problem. It’s a swamp! He [Lee Kuan Yew] drains the swamps, he does not care if some little fish dies. He has a drug problem. He searches the world over for the right solution to the drug problem. He finds it in the United States, imagine someone in Singapore reading books on the United States and thinking the United States is the answer to Singapore’s problems. He copied the military’s drug policy so that anybody in Singapore will pee in a bottle instantly and if they fail they will immediately go to a tough compulsory rehab. Away went the drug problem. Just time after time after time he made these winning decisions. He wanted the place to prosperous. He figured out who he wanted to come in and he made the civilization very user friendly to what he wanted to attract. And it worked! Then it’s 70% Chinese and 30% Malay. And every Chinese thinks that the Chinese are superior to the Malays and he thinks thats terribly counterproductive if anybody should ever say so. So he passes a law. You can’t say if you’re Chinese in Singapore that you think there is any superiority in the Chinese. I think that’s a very sensible law for Singapore to have but of course it has some infringement of free speech! …I mean so this is a very unusually successful man with a very unusually successful history. So while I can’t answer your question if you will make a study of the life and work of Lee Kuan Yew you will find one of the most interesting and instructive political stories in the history of mankind. This is better than Athens. This is an unbelievable history. And you will learn a lot that will be useful in your own life. So my answer to you is don’t ask Charlie Munger. Study the life and work of Lee Kuan Yew. You’re going to be flabbergasted.’