Sunday, January 30, 2011

Who Ate All the Fruit?

I wasted an inordinate amount of time over the week commenting on Tyler Cowen's new essay, "The Great Stagnation."  This post is to compile the comments I left at Free Exchange and Democracy in America that are linked to this topic.  They are slightly cleaned up and corrected where I noticed mistakes, but not essentially changed even to make them flow better.  The next post will be the promised expansion.

From Free Exchange's take on the subject:

"And this trend is due, he says, to the exhaustion of the supply of low-hanging economic fruit"
Ok, I hope this is controversial because it's so well presented and ties in with other ideas. Otherwise, me and half my generation passed up on becoming famous as angry high school students who noted that the cell phone and internet, while cool, weren't anything like previous generations got with the introduction of mass automobiles, refrigerators, cars, and electricity. We never got the joy of mass change those generations did. One more source of high school angst for a geeky high schooler.

Assuming that it was fairly obvious that diminishing marginal returns would set in as societies grow (and I've read enough development literature to know this isn't a fresh idea), I'm curious about how Cowen discusses the role of government. It seems to me that in the development of societies it becomes necessary for someone to coordinate both the development of social, institutional, and physical infrastructure to wring just a little bit more out of all of societies aggregate assets for us to continue growing. This seems descriptive of long run historical development. In this scenario why is the growth of government not a good thing? Shouldn't it cost more in the way of both investment and costs to maintain current infrastructure to allow society as a whole to grow by an additional increment? Growth of government seems like a necessary precondition rather than as simply a neutral factor.

Third point, something that always struck me as odd at comparing this century to others is that we count as growth so much that is now being supplied on the market that used to be supplied for free. Is it really growth to replace the extended family, with both old age and child care supplied in the household unit, with paid childcare and elder care instead? This of course can be growth, if it allows the adults to go on do higher value added labor, but it can also be a net loss if the adults are going on to be fry cooks at McDonalds while Grandma is getting cared for by Medicare nursing home care at a cost of 4 times her daughters salary and the kids are running wild on the street. Simply moving something into a tradeable market good isn't necessarily growth, it's just accounting. So when looking at the internet it's not a bad thing at all it's being produced. The question is how to let that production count towards trying to allocate other scarce goods and to encourage the creation of more quality scarce internet goods that are currently not reimbursable in the form of goods on the market.

Also, how does Cowen's growth ideas tie in with other ways of conceiving of growth, such as Mokyr's investment (Solovian), commercial (Smithian), scale (extensive), and technological (or Schumpterian) growth?
I'll have to read the book for myself when I've got time. I do love the idea of internet publishing.

Now that I'm done reading the actual book some first impressions. First of all, to paraphrase something close to one of the Amazon reviewers, this is mostly stuff I already knew, and that I think any broadly read person would be aware of. That said, it's well written and to my knowledge this hasn't all been laid out in one place before and certainly not with the citations to back it up. He gives a number of figures and citations to back up the idea that scientific progress is becoming more difficult. This isn't news to anyone that has been reading histories of technology (such as Mokyr's) but it's a shorter read than those and ties in more generally with other ideas. It's the fighter jet effect, each new iteration becomes exponentially more expensive. So far we're more or less keeping up, but I don't really think there's ever going to be the same level of society changing technical progress that marked the period of mid 19th to mid 20th century. I could be wrong, but I'd be willing to bet a substantial sum on it.

There are some major points I disagree with, particularly in regards to Cowen's take on government. He claims that government growth is simply something that happened along with other growth occurring and doesn't see it as any way causal. I disagree with this rather strongly. I think there is an easy connection to be made between the role of government and picking some of that hard to reach fruit, particularly in regards to that marginal worker from a broken family who is difficult to educate and inadequately prepared. This is where government becomes necessary, incentives aren't going to change any of that background and that student will still be difficult to educate. So if we're going to get the marginal growth from that particular worker that would come with educating him, it's necessary to do something to mitigate the challenges that come with a broken home, someone that's not the most naturally gifted, and that probably lacks drive and ambition. The incentives aren't going to get any larger to inspire this individual to achieve despite these difficulties, if society wants the growth that individual is capable of its going to have to do some spending, and accept that the marginal return is going to be rather lower than if it was someone from a good family, or that was naturally gifted, or that had drive and ambition. That's what diminishing returns is, each additional increment takes more investment for less return.

Now, why do I think government is the only institution capable of playing this role? This leads to something I write a bit on my blog and am happy to bore anyone with that will listen. I see the 19th and 20th centuries, and to a lesser degree the 18th, as representing a temporary disjunction from broader historical trends. The factors driving this have slowly been coming to an end allowing social forces that used to be important but that have been overshadowed by forces linked to the industrial revolution (technological change and the historically unusual prominent role of investment) to reassert themselves and to play roles similar to what they played before the industrial revolution (not that the industrial revolution's forces will cease, they'll just decline in importance relative to older forces).

Now, a caveat. I'm in the preliminary stages of researching this. It's based on some research I've done but I've got about 20 books sitting on my shelf waiting to be read on this topic (and those will undoubtedly lead me to many more). I'm only mentioning it here because it's timely, it isn't ready yet. Looking at longer historical periods growth is driven by a multitude of factors, and until the industrial revolution happened, generally occurred slowly. Looking at successful polities there are strong trends you see across them, including government centralization, marketization, and cultural integration. These trends tend to be mutually reinforcing, you don't see marketization happening without parallel government centralization and growth and this occurs along with cultural integration. They simply don't happen in isolation.

When looking at the societies that had the technological breakthroughs of the industrial revolution, you see some parallels. The governments are unusually centralized (in the sense of government integration, England was far more uniform in administration than France, even if the French king had more freedom to lop heads off and didn't have to listen to parliament), the economies marketized, and the government vastly superior at taxation and revenue extraction (the US is unusual in this period due to its potential for extensive growth through land and immigration making comparison difficult since these can't be controlled for).

The sequencing in all cases seems to be that government centralization preceded marketization though it often went hand in hand with more efficient revenue extraction, with marketization sometimes occurring in parallel. Comparing the US with other first movers in industrialization reveals the reason why marketization requires growth in government. A key component of economies loosely tied into the market is that a very significant portion of their consumption is produced in the household. As marketization proceeds this declines, first with food production, later with progressively more household goods, and finally many services until today a great deal of childcare and elder care are both supplied on the market. This allows a larger portion of societies labor endowment to be traded on the market. Of course, this leads to social disruption, goods previously supplied by the household now have to be procured on the market and this takes time to settle into a stable pattern, often requiring government intervention for all households to be able to provide the same services as before. In many cases, costs become socialized (such as kids not properly raised or the elderly whose kids have moved away due to labor markets not getting the assistance they need) while the gains are privatized (in the form of businessmen having more labor available and individuals having an income to buy more stuff despite their kids running wild). This eventually drags down growth in the society as a whole.

To cope with this, as society's income rises government spending must rise in conjunction to supply goods formerly produced in the household for additional marginal units of labor (marginal units of both quality and quantity) to be available on the market. If spending does not rise (of course, the efficiency of spending is also critical but in an environment where everything is being cut immediate savings are more likely to be realized then efficient savings, leading to a downward spiral in efficiency and thus labor supply) there is a downward spiral in society's base resource endowment, largely in the form of labor.

This is far more apparent in pre-modern societies where the relationships are simpler than in modern ones. A fairly consistent pattern is that initial growth and marketization happens. Wealth concentrates and then those who have become powerful begin to resist government imposition leading to a declining revenue base. The government becomes increasingly unable to deal with society's problems and you see factors such as land consolidation, and at certain technological points, declining productivity as large landowners accept the trade off of them gaining a smaller net surplus privately than the larger surplus provided by a small, private farm. This eventually leads to a death spiral as wealth concentrates, the state becomes unable to mobilize resources efficiently because progressively smaller numbers of people possess wealth to tax and those that have it can resist taxation, labor both becomes more inefficient and begins to flee the state, the state becomes unable to mobilize resources to meet challenges, and either internal chaos due to deprivation ruins the state or competitors destroy.

To get back to Cowen, I think these older patterns of society are reasserting themselves. It's becoming progressively more difficult to mobilize each additional marginal component of our resource endowment to lead to a further increment of growth. I see state spending (efficient state spending, it can also be wasteful) as something that must increase in order for society to grow to each progressively higher level of GDP. Of course, this spending competes with private spending which slows the growth to whatever current level of GDP is possible at a given resource level. Too high of state spending can actually erode this as it consumes private capital and investment, leading to any social capital that is created being unused.

I've gotten very carried away with myself, and will already be quite late for work. I'll follow up on this on my blog over the weekend, and probably with something more formal in a year or two (in addition to my historical research I also need to advance my mathematics and macroeconomics a bit to tackle what I want to tackle here convincingly). To sum up, I see growth as a function of a current resource endowment that consists of available land, population, and technology. This is modified by government spending to increase labor productivity and to enhance marketization by allowing more goods and services to be produced in the market rather than by households. In addition private investment maximizes growth potential at a current endowment of resources. Further investment is required to increase this base endowment, usually by government though historically religious groups have played the same role in various times and places, but this competes with private investment that maximizes productivity at a given resource endowment. So the proper level of government spending increases with each increase in per capita GDP but if this spending expands too much at any given stage of development then this growth slows as the private sector cannot invest sufficiently to take advantage of the increased resource endowments.

Some thoughts on how centralization relates to this from Democracy in America.
It's on the Great Stagnation post. I don't deal specifically with federal vs. state spending, it's implied as part of the general trend towards centralization. The closest single source I'm drawing from is Lieberman's Strange Parallels, while he's dealing with the period of 800 - 1800 I see no reason to believe similar social forces wouldn't continue to exist.

To expand on what he wrote a bit, something that is consistently seen throughout history is that aside from small cities states and other fragile outliers that fill specialized roles in every era, growth and standard of living is always closely associated with increased government centralization, up to a point at any given set of social and technological endowments. At a certain point however, the capacity of a given set of social institutions for further centralization is reached and the best efforts of state authorities to drive further centralization is reached, local authorities refuse to countenance it, and the state eventually gives up and begins to stagnate. This eventually leads to collapse, either due to internal or external forces.

The cyclicality sets in because eventually a new polity consolidates that is able to maintain a higher degree of centralization allowing for developments such as increased marketization, less internal barriers to trade, and greater economies of scale. There's no compelling reason to believe this process has halted.
It's also fully consistent to think that current political problems and polarization are due to these pressures for greater centralization. This is a feature of this kind of cycle. Elites, and often the public though early records are sparse on this, resist further development of the state. This eventually erodes the legitimacy of the central government and leads to it either declining relative to rivals or internal collapse. In either case, eventually there's either extremely disruptive internal reforms (which in our case could be an expansion of federal power or alternately a consolidation of the current 50 states into a smaller number that are more appropriate for our level of technological and social development), or eventually relative decline becomes severe enough the state can't hold back rivals or local authorities begin to resist central power. Giving in to localisms would ease this internal pressure, but would put us on a path of eventual decline similar to that experienced by Poland or any other of a number of states that decentralized in an effort to ease internal political pressures while their rivals modernized and centralized. I see no compelling reason to believe these historical patterns have been interrupted by modern developments. They meet my basic criteria of persisting across multiple regions and multiple time periods in greatly varying social contexts.

Of course, these are trends that happen over decades and centuries. I'm not suggesting we're on the brink of collapse. I do think there's some real threats 30 - 50 years down the line if we don't start seriously considering large reforms, a topic I've been chipping away at on my blog.

Democracies are capable of vastly greater centralization than authoritarian states are, this is one of their primary advantages.

There's some possibility of confusion with the term centralization it gets used for two closely related but distinct ideas. For examples of these, read French histories that talk about how centralized absolutist France is, then read texts on British history that write about how many advantages Britain had as a result of its superior centralization. The first is the centralization of decision making, which is the kind related to authoritarianism. This involves narrowing the number of individuals ultimately involved in making a decision and giving them greater freedom of action. This would describe 18th and 19th century absolutist states or the Soviet Union, and to some degree China today. This comes at the cost of considerable autonomy of local officials in carrying out orders from the center. It also tends towards the multiplication of a confusing variety of central agencies and departments without clear divisions of authority leading to frequent jurisdictional disputes between powerful officials and localities as they struggle for precedence (look at Chinese local officials for a modern example). This is frequently a reaction to decentralization that has created powerful localities which leads to the center trading recognition of the power of localities to execute central dictates as they will for greater freedom of action of the center to not consult anyone regarding the use of powers left to the central authorities.

The other type of centralization means greater central control over the various layers of government. It doesn't mean less layers (too many or too few layers can create problems, but this is distinct from centralization), just the degree to which the hierarchy is clear and the extent of the center's powers. This comes with a trade off between the degree of consultation necessary and the scope of the power's that the center possesses. Greater checks and balances at the highest level and increasingly sophisticated methods of gathering both information and consent from the lowest possible levels of society (in the modern generally individual level feedback and aggregates thereof) are a necessary feature of the center increasing the scope of its powers and control over lower administrative units, localities, and local elites.

The second type of centralization leads to a variety of benefits and is a necessary feature of an increasing need for intensification of the efficient use of existing resources for a variety of reasons its too lengthy to get into here. Decentralization is useful only where centralization has proceeded further than social and technological advances allow for (something I don't think applies to the US, particularly when compared to other modern societies) or when possibilities of extensive growth become possible such as in colonialism or US westward expansion (the modern EU and other transnational organizations can also be related to this, but that's a complex tangent).

Now, as I said on Free Exchange my research on this remains preliminary, though it does inform the series I've been doing on my blog on what is necessary for US renewal. The first form of centralization tends to be a sign of too strong localities (or just bad theories of government in the Soviet Union's case) but not strong enough to insure a massively decentralized regime (which will only exist at the forbearance of its neighbors, or due to particular local advantages) as well as a sign of decline in polities that are becoming increasingly uncompetitive.

The rest is based on parallels that I am currently researching, so are very preliminary. Based on what I know, I think they hold but I am open to revising them if the evidence doesn't bear out, I have a number of cases in mind but not enough to be writing with a great deal of confidence. The US has been leaning increasingly towards the first type of centralization with increasing authority being concentrated in the executive branch at the expense of its legislative functions. This seems to me to be a strong sign of too much decentralization in the second sense of the term. The federal authorities seem increasingly unable to use legislative action to get states and localities to take the action that the federal government deems necessary to deal with an increasing array of urgent, and mostly novel, problems, leading to our relative decline. It is instead relying on executive powers and the disbursement of funds for localities with increasingly weak controls rather than using legislative action to drive changes that could enjoy the advantages of scale and standardization. There is also an increasing multiplication of federal agencies with uncertain overlapping jurisdictions leading to a further weakening of central authority relative to states, localities, and elites.

Further decentralization threatens to reinforce these tendencies by further limiting the ability of the legislature to enact change, requiring increasingly heavy reliance on the executive and on lower levels of authority. Since many of problems really require action at the national level, this will only reinforce calls for greater decentralization as the central authorities become increasingly unable to deal with our challenges and people call for more authority to be granted to relatively effective states and localities. As authority is decentralized local elites will come to exert increasing influence over government since state and local authorities are far more easy to manipulate, especially by getting localities to compete in a race to the bottom, than are federal officials, which, while not immune, tend to be far more difficult for groups to sway relative to their reliance on the electorate as a whole. Eventually, the benefits of centralization that allow for individuals and small entrepreneurs to compete with larger entities will be lost since they cannot navigate the thicket of local laws and exemptions to expand while larger entities are able to navigate the array of increasingly differentiated local administrations.

This is of course greatly simplified and I'm already well into my second post. Greater elaboration on many points would be required to fully explain this. I eventually hope to tackle this more fully in a book, that's a few years in the future however. For now, this has been informing the suggestions on my blog for government reform and for the US to renew itself and become more competitive. I see two possibilities for reform if we are to remain competitive in this century (we could also decide that the changes necessary are too high a price and accept decline). The first is very unlikely so I won't spend time on it. That is administrative reform to vastly reduce the number of states thus increasing their power relative to local interests and to allow them many of the advantages currently enjoyed by central authority. This is far fetched, but it would allow for a very weak central authority and allow for states to more easily coordinate with each other and to resist the tyranny of local particularisms.

The second is more likely, though still far fetched. This would be a reduction in the power of executive, state and local authorities and a vast strengthening of federal legislative power so that we can more effectively deal with problems such as health care, immigration, a weak social safety net ill suited to preparing workers for the modern economy, education, etc. Federal agencies would be merged to make them more responsive to central authority and to reduce the number of federal regulations, which would further enhance central power by clarifying authority which can currently be contested due to sometimes contradictory rules and overlapping authority.

Required as part of this would be basic constitutional reforms to better reflect how people actually live. In particular, the increasing degree to which people identify with the nation rather than their particular state or locality. A number of polls show that elections, and even state level politics, increasingly hinge on questions of national importance. Addressing this need would require the election of Senators and Representatives at large to represent the increasing importance of a national consciousness and individual identity. This would also better reflect the reality of the national labor market and the increasing reach of even local businesses to reach a national market through the internet. I believe the breakdowns in our political system are largely attributable to the increasingly national nature of our problems, decentralizing would weaken our ability to deal with these trends and decrease our ability to leverage gains from these developments. This would lead to a further weakening of central authority and lead to individuals becoming ever weaker relative to local elites. We need a far more centralized and responsive federal government which would have the ability to reign in overzealous and complicated local authorities and decrease the burden of government that goes along with decentralization. Further standardization would make government seem less intrusive and make it easier for individuals to start businesses that could compete across state lines and reduce uncertainties currently associated with moving across competing jurisdictions.

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