Modern Mind: An Intellectual History of the 20th Century (129 page)

Nevertheless, despite all that was happening on the stock markets, the growth performance of the major Western economies remained unimpressive, certainly in comparison with pre-1973 levels. At the same time there was a major jump in the inequalities of wealth distribution. In the 1980s growth and inequality were the two main theoretical issues that concerned economists, much more so than politicians, Western politicians anyway.

Traditionally, three reasons are given for the slowdown in growth after the oil crisis. The first is technological. MIT’s
Robert Solow
was the first economist to show exactly how this worked (he won a Nobel Prize in 1987). In his view, productivity growth comes from technological innovation – what is known in economics now as the Solow Residual.
¹³
Many technological breakthroughs matured in World War II, and in the period of peace and stability that followed, these innovations came to fruition as products. However, all of these high-tech goods – the jet, television, washing machines, long-playing records, portable radios, the car – once they had achieved saturation, and once they had developed to a certain point of sophistication, could no longer add further innovation worth the name, and by around 1970 the advances in technology were slowing down. Paul Krugman, in his history of economics, underlines this point with a reference to the Boeing 747 jet. Still, in 2000
AD,
the backbone of many
airlines, this first came into service in 1969. The second reason for the slowdown in growth was sociological. In the 1960s the baby-boom generation reached maturity. During that same decade many of the assumptions of capitalism came under attack, and several commentators observed a decline thereafter in educational standards. As Krugman wrote, ‘The expansion of the underclass has been a significant drag on US growth…. There is a plausible case to be made that social problems – the loss of economic drive among the children of the middle class, the declining standards of education, the rise of the underclass – played a significant role in the productivity slowdown. This story is very different from the technological explanation; yet it has in common with that story a fatalistic feel…. [It] would seem to suggest that we should learn to live with slow productivity growth, not demand that the government somehow turn it around.’
¹⁴
The third explanation is political. This is the Friedman argument that government policies were responsible for the slow growth and that only a reduction in taxes and a rolling back of regulations would free up the forces needed for growth to recur. Of these three, the last, because it was overtly political, was the most amenable to change. The Thatcher government and the Reagan administration both sought to follow monetarist and supply-side policies. Feldstein was himself taken into the Reagan White House.

Ironically, however, again as Paul Krugman makes clear, 1980 was actually the high point of conservative economics, and since then ideas have moved on once more, concentrating on the more fundamental forces behind growth and inequality.
¹⁵
The two dominant centres of economic thinking, certainly in the United States, have been Chicago and Cambridge, Massachusetts – home to Harvard and MIT. Whereas Chicago was associated primarily with conservative economics, Cambridge, in the form of Feldstein, Galbraith, Samuelson, Solow, Krugman, and Sen (now at Cambridge, England), embraces both worldviews.

After his discovery of the
‘residual’
named after him, Robert Solow’s interest in understanding growth, its relation to welfare, work, and unemployment, is perhaps the best example of what currently concerns theoretical economists involved with macroeconomics (as opposed to the economics of specific, closed systems). The ideas of Solow and others, fashioned in the 1950s and 1960s, coalesced into
Old Growth Theory.
¹⁶
This said essentially that growth was fuelled by technological innovation, that no one could predict when such innovation would arise, and that the gain produced would be temporary, in the sense that there would be a rise in prosperity but it would level off after a while. This idea was refined by
Kenneth Arrow
at Stanford, who showed that there was a further gain to be made – of about 30 percent – because workers learned on the job: they became more skilled, enabling them to complete tasks faster, and with fewer workers needed. This meant that prosperity lasted longer, but even here diminishing returns applied, and growth levelled off.
¹⁷

New Growth Theory,
which emerged in the 1980s, pioneered by
Robert Lucas
at Chicago but added to by Solow himself, argued that on the contrary, substantial investment by government and private initiative can ensure
sustained
growth because, apart from anything else, it results in a more educated and better motivated workforce, who realise the importance of innovation.
¹⁸
This
idea was remarkable for two reasons. In the first place Lucas came from conservative Chicago, yet was making a case for
more
government intervention and expenditure. Second, it marked the coming together of sociology, social psychology, and economics: a final recognition of David Riesman’s argument in
The Lonely Crowd,
which had shown that ‘other-directed’ people loved innovation. It is too soon to say whether New Growth Theory will turn out to be right.
¹⁹
The explosion of computer technology and biotechnology in the 1990s, the ease with which new ideas have been accepted, certainly suggests that it might do. Which makes it all the more curious that Margaret Thatcher railed so much against the universities while she was in power. Universities are one of the main ways governments can help fuel technological innovation and therefore srimulate growth.

Milton and Rose Friedman, and the Chicago school in general, based their theories on what they called the key insight of the Scotsman Adam Smith, ‘the father of modern economics,’ who wrote
The Wealth of Nations
in 1776. ‘Adam Smith’s key insight was that both parties to an exchange can benefit and that, so long as cooperation is strictly voluntary, no exchange will take place unless both parties do benefit.’
²⁰
Free-market economics, therefore, not only work: they have an ethical base.

There was, however, a rival strand of economic thinking that did not share the Friedmans’ faith in the open market system. There was little space in
Free to Choose
for a consideration of poverty, which the Friedmans thought in any case would be drastically reduced if their system were allowed full rein. But many other economists were worried about economic inequality, the more so after John Rawls and Ronald Dworkin had written their books. The man who came to represent these other economists was an Indian but Oxford- and Cambridge-trained academic, Amartya Sen. In a prolific series of papers and books Sen, who later held joint appointments at Harvard and Cambridge, attempted to move economics away from what he saw as the narrow interests of the Friedmans and the monetarists. One area he promoted was ‘welfare economics,’ in effect economics that looked beyond the operation of the market to scrutinise the institution of poverty and the concept of ‘need.’ Many of Sen’s articles were highly technical mathematical exercises, as he attempted to measure poverty and different types of need. A classic Sen problem, for example, would be trying to calculate who was worse off, someone with more income but with a chronic health problem, for which treatment had to be regularly sought and paid for, or someone with less income but better health.

Sen’s first achievement was the development of various technical measures which enabled governments to calculate how many poor people there were within their jurisdiction, and what exactly the level of need was in various categories. These were no mean accomplishments, but he himself called them ‘engineering problems,’ with ‘nuts and bolts’ solutions. Here too economics and sociology came together. Of wider relevance were two other ideas that contributed equally to his winning the Nobel Prize for Economics in 1998. The first of these was his marriage of economics and ethics. Sen took as a
starting point a non sequitur that he had observed: many people who were not poor were nevertheless interested in the problem of poverty, and its removal, not because they thought it was more efficient to remove it, but because it was wrong. In other words, individuals often behaved ethically, without putting their own self-interest first. This, he noted, went against not only the ideas of economists like the Friedmans but also those of some evolutionary thinkers, like Edward O. Wilson and Richard Dawkins. In his book
On Ethics and Economics
(1987), Sen quoted the well-known Prisoners’ Dilemma game, which Dawkins also made so much of in
The Selfish Gene.
Sen noted that, while cooperation might be preferable in the evolutionary context, in the industrial or commercial setting the selfish strategy is theoretically what pays any single person, seen from that person’s point of view. In practice, however, various cooperative strategies are invariably adopted, because people have notions of other people’s rights, as well as their own; they have a sense of community, which they want to continue. In other words, people
do
have a general ethical view of life that is not purely selfish. He thought these findings had implications for the economic organisation of society, taxation structure, financial assistance to the poor and the recognition of social needs.
²¹

But the work of Sen’s that really caught the world’s imagination was
Poverty and Famines,
his 1981 report for the World Employment Programme of the International Labour Organisation, written when he was professor of political economy at Oxford and a Fellow of All Souls.
²²
The subtitle of Sen’s book was ‘An Essay on Entitlement and Deprivation,’ which brings us back to Dworkin’s concept of rights. In his report, Sen examined four major famines – the Great Bengal Famine in 1943, when about 1.5 million people starved to death; the Ethiopian famines of 1972–74 (more than 100,000 deaths); the 1973 drought and famine in the Sahel (100,000 dead); and the 1974 flood and famine in Bangladesh (figures vary from 26,000 to 100,000 dead). His most important finding was that, in each case, in the areas most affected, there was no significant decline in the availability of food (FAD, for ‘food availability decline’ in the jargon); in fact, in many cases, and in many of the regions where famine was occurring, food production, and food production per capita, actually rose (e.g., in Ethiopia, barley, maize, and sorghum production was above normal in six out of fourteen provinces).
²³
Instead, what Sen found typically happened in a famine was that a natural disaster, like a flood or a drought, (a) made people
think
there would be a shortage of food, and (b) at the same time affected the ability of certain sectors of the population – peasants, labourers, agricultural workers – to earn money. Possessors of food hoard what they have, and so the price rises at the very time large segments of the population suffer a substantial fall in income. Either the floods mean there is no work to be had on the land, or drought causes the poor to be evicted from where they are living, because they can’t grow enough to earn enough to pay the rent. But the chief factor is, as Sen phrases it, a fall in ‘entitlement’: they have less and less to exchange for food. It is a failure of the market system, which operates on what people think is happening, or soon will happen. But, objectively, in terms of the aggregate food availability, the market is wrong. Sen’s analysis was startling, partly because,
as he himself said, it was counterintuitive, going against the grain of common sense, but also because it showed how the market could make a bad situation worse. Apart from helping governments understand in a practical way how famines develop, and therefore might be avoided or the effects mitigated, his empirical results highlighted some special limitations of the free-market philosophy and its ethical base. Famines might be a special case, but they affect a lot of people.

In his economic history of the last quarter of the century,
Peddling Prosperity,
the MIT economist, Paul Krugman charts the rise of right-wing economics and then describes its declining influence in the 1980s, devoting the last third of his book to the revival of Keynesianism (albeit in new clothes) in the late 1980s and 1990s.
²⁴
Krugman’s account described the failure of such right-wing doctrines as ‘business-cycle’ theory, and the drag on the U.S. economy brought about by the huge budget deficits, the result of Ronald Reagan’s various monetarist policies. He similarly took to task the ideas of more recent, more liberal economic thinkers such as Lester Thurow, in
Zero-Sum Society
(1980), and notions of ‘strategic trade’ put forward by the Canadian economist James Brander and his Australian coauthor, Barbara Spencer. Strategic trade views countries as similar to companies – corporations – who seek to ‘place’ their economy in a strategic position vis-à-vis other economies. This view held sway in the Clinton White House, at least for a while – until Larry Summers became economic secretary in May 1999 – but it was misplaced, argues Krugman, for countries are not companies and do not necessarily need to compete to survive and prosper, and such apparently intelligent thinking is in any case doomed to failure because, as most research in the 1980s and 1990s showed, people behave not in a perfectly rational way, as classical economists always claimed, but in a ‘near-rational’ way, thinking mainly of the short term and using only such information as comes their way
easily.
For Krugman, this recent insight is an advance because it means that individual decisions, each one taken sensibly, can have disastrous collective consequences (in short, this is why recessions occur). Krugman therefore allies himself with the new Keynesians who believe that some government intervention in macroeconomic matters is essential to exert an influence on invention/inflation/unemployment/international trade. But Krugman’s conclusion, in the mid-1990s, was that the two main economic problems still outstanding were slow growth and productivity on the one hand, and rising poverty on the other: ‘Everything else is either of secondary importance, or a non-issue.’
²⁵
This brings us to a familiar name: J. K. Galbraith.