Nightcap

  1. Israeli election season has been dominated by Bibi Michael Koplow, Ottomans & Zionists
  2. The Trump Era should make libertarians of us all David French, National Review
  3. Start planning NATOs 100th birthday Josef Joffe, American Interest
  4. Were European cities responsible for liberalism? Johnson & Koyama, Cato Unbound

Three Lessons on Institutions and Incentives (Part 7): Breaking the mold

This role of entrepreneurs also depends on an abstract characteristic of technological knowledge: it works in a manner contrary to that of most goods, since it is more productive to the extent that it is more widespread in the population. This characteristic of the abstract nature of technological knowledge is related to the phenomenon of the combination of skills (matching of skills): the negative side of creative destruction lies in substitution phenomena (a computer program of inventory management increases the productivity of work saving the salaries of the army of employees who used to carry them with pencil and paper), but the positive side comes from the phenomena of complementarity.

As William Easterly exemplifies, the cardiac surgeon will be more productive in a first world hospital, where he will have specialized nurses, other qualified doctors like him, a sophisticated system of hospital administration, and so on, being the only cardiac surgeon in a hospital. city ​​of the third world, where it does not have professionalized nurses, nor the help of other medical colleagues, working in a hospital in which he himself has to deal with administrative issues. If there were only substitution relations, it would be convenient for a doctor to practice his profession in the most remote place possible. However, as relations of complementarity of knowledge exponentially increase the productivity of the professionals involved, the doctor will find it more convenient to practice in a health center that has the largest number of doctors and paramedics possible.

The latter does lead to the phenomenon of “traps”: any rational agent, who maximizes the utility of their choices will be discouraged to deepen their studies if they perceive that they can not give any use to their education. There are the cases in which a person discovers that in his country there is no technology or the necessary number of professionals to develop a specific activity, or that, existing, you will find prohibited the exercise of their profession based on restrictions regarding their race, caste, social class, sex, etc. Since, rationally, a person who is included in a particular group under which he will be found forbidden or will be hindered the exercise of his profession, he will find as the most rational of their alternatives to abandon their studies, so that their chances of progress will no longer be limited only by legal or social barriers, but because of their lack of suitability for high-paying functions. Such are the so-called “poverty traps.”

There are also wealth traps. There are those cases in which the individual knows that he is within a favored group or in which he knows a large number of professionals and, therefore, invests time and money in his education because he knows that he has high chances of success, which will then be confirmed. Obviously, such phenomena of divergence generates another problem, addressed both by Easterly and by Daron Acemoglu & James Robinson, which is that of polarized societies.

Easterly affirms that it is the exchange of goods and services, through the mutual benefits that they report to the parties that participate in it, the main source of wealth generation. Where individuals are allowed to exchange, in a stable institutional framework with a stable currency, is where prosperity flourishes. However, Easterly recognizes that bad luck can devastate nations, as are the cases of geological and climatic phenomena such as earthquakes, tsunamis or mudslides, as well as recognizing that the situations of individuals involved in a poverty trap can only be resolved through an active public policy that not only provides education, but also establishes the conditions so that the recipients of that educational system can count on certain expectations that they will be able to apply that knowledge acquired through education and that, consequently, it is reasonable to study.

Just as the bad star can affect the economic performance of the countries, so can a favorable conjuncture, such as the case of a transitory improvement in terms of exchange of a given country. But this favorable circumstance can become a counter-march. Easterly explains that, for a simple statistical matter, it is very difficult for both a nation and an individual to always remain on the crest of the wave, over the years everything tends to return to the average. The problem occurs when a country -or a person, too- got used to a certain level of spending in the boom years and intends to maintain it through debt or emisionism. We come to the cases in which, according to Easterly, the government can “kill the growth.” Public debt and inflation generate capital consumption and, consequently, poverty.

Another way that governments have to discourage growth is through corruption. Not only because it means a transfer of resources from productive activities to unproductive activities, but because it also means a bad signal for citizens. However, in cases of corruption, as noted above, wealth at least changes hands. There is another case, even more pernicious, in which the government’s actions, whether motivated by corruption or inspired by good intentions, destroy wealth, without even redistributing it: this is the case of inconsistent public policies derived from highly polarized societies.

Public policies that aim to favor a given industry, but at the same time need to agree on measures with other sectors of the economy, whose purpose is to compensate for the losses generated by those policies, can lead to a tangle of inconsistent regulations that, instead of transfer riches from one sector to another, directly destroy them. For example: exchange controls harm the export sector, since they generate black markets. The exporters will have costs that will be partly quoted according to the black market prices (which are higher) and they will have to liquidate the value of their exports at the official exchange rate, which will be lower. Regulations of this kind may not involve acts of corruption, but they do destroy wealth, which there is no way to recover.

Easterly lists numerous examples of everything that needs to be done to destroy growth. However, there is something that deserves to be especially highlighted: the progress or stagnation of nations does not depend on educational, cultural or geographic factors, but rather on the incentive framework that predominates. This incentive framework will always be abstract, that is, it can be applied at any time and place.

[Editor’s note: Here is Part 6, and here is the entire, Longform Essay.]

Three Lessons on Institutions and Incentives (Part 1): Introduction

There are books that are aimed at a spectrum of readers that are counted within the “well-informed public.” They are not books confined to academic circles, they are not for mass consumption, but they do concern problems that involve entire countries and are written in a register that involves certain intellectual training. In this genre, there are three works that have much to say about the relationship between institutions and incentives. The first of them dates from 1990 and was published by a Nobel Prize winner in Economics, Douglass C. North: Institutions, Institutional Change and Economic Performance, which elaborates the distinction between formal and informal institutions and incremental and disruptive institutional change, ending with a historical analysis that seeks to explain the differences in economic performance between the United States and Latin America. It is an academic book that can be approached by the said well-informed public.

Eleven years later, in 2001, William Easterly published The Elusive Quest for Growth: Economists’ Adventures and Misadventures in the Tropics. It is proposed as a political essay in which an economist interprets his own professional experience as a member of international teams for the development of Third World countries. To do this, drawing on the theoretical notions of other leading economists, such as Paul Romer (who later, in 2018, received the Nobel Prize in Economics), he makes an assessment on the development plans for the Third World that were implemented since the end of World War II. The central thesis of Easterly stresses that, in order to have an empirical relevance, every theory of development -or of the absence of it- must carry the following behavioral postulate: “people respond to incentives.” If this reality is not taken into account, there is no public policy that can be successful. The main lessons that can be drawn come from the theoretical instruments deployed to explain the political dynamics of most of these countries, particularly in regard to the phenomenon of polarized societies.

The third book to consider is also the more recent publication. Why Nations Fail, by Daron Acemoglu & James A. Robinson, was published in 2012 and reached the global debate on the realm of the well-informed public. The proportions achieved by the population of academics and professionals, in addition to the extension of the internet, allowed the aforementioned book to generate varied opinions along both traditional and digital media throughout the world. Acemoglu & Robinson dedicate their pages to those countries that were successful, as well as those that were not, but also here, in the case of this book, the most juicy lessons truly comes from the conceptual structure that articulates the whole book. Among such notions, we find those of inclusive and extractive institutions, which in turn are divided into political and economic institutions. The worst of the institutions are preferable to the total lack of institutions. Thus, a country organized around a closed political and economic system will be preferable to a failed state. However, once a certain degree of centralization and institutionality has been achieved, it is preferable to move towards a pluralist democracy and a competitive economy. The challenge is how to accomplish such transitions.

Since there are still four years left until the year 2023 – following the periodicity of the selected works – we are still in time to make a brief synthesis of the ideas that can be applied to the analysis of the impact of the institutions on economic and political incentives.

[Editor’s note: this is the first part of a rich series on institutions and incentives. You can find the full, Longform Essay here.]

Italy and the Belt and Road Initiative

There has been a growing scepticism with regard to the Belt and Road Initiative (BRI) project in many quarters, due to the lack of transparency with regards to terms and conditions as well as the economic implications for countries which are part of the project. A report published in April 2018 by the Center for Global Development (CGD) in Washington flagged 8 countries (including Pakistan, Maldives, Laos, and Djibouti) where the level of debts are unsustainable.

Apart from the red flag raised by a number of researchers, the removal of Pro-China leadership in countries like Malaysia, Maldives, and Sri Lanka has also resulted in problems with the BRI project, and China’s economic dealings (which are clearly skewed in favour of Beijing) with other countries is drawing more attention.

The most vocal critic of China’s economic links has been Malaysian Prime Minister Mahathir Mohamad. During a visit to China in August 2018, Mahathir, alluded to China’s trade relations with poorer countries as ‘a new version of colonialism’. Mahathir later on denied that his statement was targeted at China or the BRI. The fact is that the Malaysian Prime Minister did scrap projects estimated at well over $20 billion (which includes a rail project, East Coast Link, as well as two gas pipelines).

Top officials in the Trump Administration, including US Vice President Mike Pence, have also been critical of the BRI project for a variety of reasons. The major criticism from US policy makers has been the economic ‘unsustainability’ of the project as well as the point that the project is skewed in favour of China.

Italy to join BRI Continue reading

The nature of the China-US-Vietnam economic triangle

While addressing a joint press conference in Hanoi, after his summit with North Korean Leader Kim Jong Un, US President Donald Trump spoke not just about the Summit, but also the current state of US-China relations. Trump criticised his predecessors for not doing enough to address the trade imbalance with China, while also making the point that he was all for China’s economic progress and growth, but not at the cost of the US.

If one were to look beyond the Summit in terms of the US-Vietnam economic relations, top US companies – Boeing and General Electric – sealed some important deals.

Given the focus of Trump’s visit (which was the Summit with Kim), perhaps these deals did not draw the attention they ought to have. The fact is that the US has begun to recognise Vietnam’s economic potential, as well as its geopolitical significance in Asia. This long note will give a backgrounder to Vietnam’s economic growth story in recent years, highlight some of it’s key strategic relationships, and then examine the nature of the China-US-Vietnam economic triangle.

Vietnam’s growth story: The key reasons Continue reading

Blame it on Rio

I grew up in Rio de Janeiro in a very middle-class neighborhood. Not the fanciest one, but also not the poorest. Very much in the middle. This neighborhood also had the characteristic of being surrounded by hills. Many if not most hills in Rio de Janeiro have favelas. Favelas are poor neighborhoods that are formed by poor people who mostly want to live close to where the jobs are. Because I grew up in a middle-class neighborhood, studied in middle-class schools and had a middle-class family I was in danger of only knowing middle-class people. The thing that prevented me from that the most was going to church. In church, I lived with people from all kind of social backgrounds – including people who lived in favelas.

The history of Rio de Janeiro is mostly a history of expansion from the area we today call downtown. On several occasions, poor people (including my grandfather and his mother) were relocated (or frankly expelled) from their houses by the government that wanted to make some urban reform. People faced two options: to be relocated to far removed areas, far away from their jobs, or to occupy some undeveloped area in the vicinities of where they previously lived and form a favela.

Because Rio de Janeiro is the historic capital of Brazil, it received a lot of investment by governments over the decades. Many governments wanted to make it a vitrine of Brazil’s development. Also, Brazil has a strong history of developmentalism. Especially since Getúlio Vargas, who rule the country from 1930 to 1945 and again from 1951 to 1954, Brazilian presidents tend to believe that it is their job to bring economic development to the country. The higher the GDP growth, the best. I mean, who am I to say that GDP growth is a bad thing?! But we have a lot of stories worldwide of countries that grew too fast in too little time leading among other things to major population dislocations and new pockets of poverty around great cities. Lagos, in Nigeria, is a textbook example. So is Caracas, in Venezuela. So is Rio de Janeiro. This kind of development is pretty much like using steroids: the results are fast, but the side effects are terrible. Fernando Henrique Cardoso tried to “flip the page” from Vargas in the 1990s, but Lula da Silva and Dilma Rousseff returned to developmentalist policies in the 2000s. Even Jair Bolsonaro often talks as a developmentalist, apparently a tic from his military years. Anyways, developmentalism led to the fast growth of Rio de Janeiro over the decades – and the formation of new favelas.

One of the best stories of developmentalism in Rio de Janeiro is the neighborhood of Barra da Tijuca. Until the 1960s this part of the city, caught between the hills and the ocean, was basically desert. That’s when the government commissioned the architect and urbanist Lucio Costa to develop the area. Mr. Costa was also responsible for designing the city of Brasília, and it shows: Brasília and Barra da Tijuca are fairly similar. Not my kind of city or neighborhood. It’s very hard or even impossible to explore Barra da Tijuca on foot. Its area is roughly the size of Manhattan, but it has no subway lines. The bus lines are not very dependable. The city blocks are very large. Everything is very distant.

In my evaluation, Mr. Costa thought that he was God. Brasília and Barra and very interesting if looked from above, from the sky. But if you are on the ground level and don’t have a car, they are just not friendly. But that’s how modernists (including socialists) are: they swear they love humanity but hate human beings.

The news that the government was developing the Barra da Tijuca area spread fast. Many families came to the region looking for jobs in construction. Many of them settled in the vicinity of Rio das Pedras. Rio das Pedras became one of the main favelas of the region. In the absence of government, people started to organize themselves in neighborhood associations. Even with most of the construction projects done, the families never left. Barra da Tijuca became an affluent neighborhood with many jobs. Alongside came drug trafficking.

The “pre-history” of drug trafficking in Rio de Janeiro is almost idyllic. You just have to watch the movie City of God (2002). Of course, one could not sell drugs in fancy neighborhoods like Ipanema or Copacabana, where the government is strongly present.

So, most drug trafficking happened in the favelas, including Rio das Pedras. The first generation of drug dealers was mostly respectful towards residents of the favelas and other poor neighborhoods. Some even became legendary for pacifying the neighborhoods from other forms of crime: because they didn’t want to have trouble with the police, drug dealers would punish criminals themselves. However, this changed very fast. The dispute for territory led drug dealers to become more and more violent.

In response to drug dealers and the slackness of the government, people organized in militias. What once were neighborhood associations became paramilitary organizations. Just like happened with the drug dealers, the vigilantes were initially friendly towards the people living in the neighborhoods. However, this changed very fast. The dispute for territory led militias to become more and more violent. Eventually, drug dealers and militias became mostly indistinguishable. Some militia leaders entered politics.

Marcelo Freixo, a Rio de Janeiro politician of the PSOL (Socialism and Liberty Party – as I said before, a contradiction in terms) rose to fame in the 2000s for presiding over a parliamentary inquiry on the militias. Mr. Freixo had a character inspired on him in the movie Elite Squad 2 (2010). The first Elite Squad (2007) was a very good movie. The sequel, not so much. Elite Squad is somewhat based on real events and tells the story of (what else?) BOPE, an elite squad in the Rio de Janeiro military police (somewhat analogous to the SWAT), especially during the visit of Pope John Paul II to the city in the late 1990s. The movie has some similarities to Black Hawk Down (2001). If you haven’t watched it and want to be spoil free, you might want to skip to the next paragraph.

Pope John Paul II decided to stay in a dangerous neighborhood, surrounded by favelas. The BOPE was responsible for his security. Although disagreeing with the strategic intelligence of allowing the Pope to stay in a dangerous region of the city, the squad did its job. In very military fashion, “orders are orders”. The movie shows the police officers as very dubious figures: they are extremely violent and often disrespectful towards citizens. But they are also very honest and dutybound. Captain Nascimento, the main character, is a tragic figure. He became a police officer to protect innocent citizens. He discovers that by obeying orders he is often just putting his life in risk for very little or no results. Worse, he is misunderstood by all those around him, including his family.

Even his son ends up calling him a fascist. Elite Squad also portrays the drug dealers in a nuanced way. They are violent and vengeful, but Captain Nascimento himself understands that no one grows up dreaming about becoming a drug dealer. Drug dealers and BOPE members fight a private war and ironically might be the only ones to truly understand one another. The real villains of the movie are the upper-middle class youngsters who use drugs, financing the drug dealers who the BOPE fights. It is against them that the police officers direct most of their rage.

So, I believe that Elite Squad is a very good movie, that pictures quite well how life in Rio de Janeiro is for many people. Most of the time it is hard to precisely identify villains or heroes. However, no wonder, despite being very popular, the movie was trashed by leftist intellectuals who called it fascist. The sequel gains in quality in almost everything but the characters, and this makes it worse than the original. The villains are completely villainous and the heroes, heroic. It lacks the nuances of the original. The character inspired by Marcelo Freixo is morally perfect. The vigilantes whom he fights are cartoonish evil.

Brazilian and international media gave much attention last year to the assassination of Marielle Franco, a Rio de Janeiro politician who, just like Mr. Freixo, was a member of the PSOL. Ms. Franco’s assassination, like any other, is a tragedy. The police investigation is still ongoing, and no one really knows who killed her, but it seems very likely that she was murdered by members of a militia. Despite what international media might lead one to believe, Ms. Franco was far from being the first Rio de Janeiro politician to be murdered in the last few years. Mr. Freixo himself is under police protection for many years now. Other politicians from several political parties were not so lucky and didn’t receive the same attention from the media. The left’s last blow against president Jair Bolsonaro is to say that one of his sons, Flávio Bolsonaro, is somehow connected to Ms. Franco assassination. In their narrative, Flávio would be connected to militias who in turn killed Ms. Franco. All things are possible. Not all are plausible. Definitely, not all are proven. To be honest, there are people in the right saying that Jean Wyllys, also from the PSOL, is connected to Jair Bolsonaro’s assassination attempt last September. Maybe they should all go have a drink together. They have much in common.

Making a generalization (but I hope not an overgeneralization), politicians and intellectuals from the left tend to romanticize drug dealers. They are pictured as social victims or social bandits, almost Robin Hoods. On the other hand, they vilify the militias in a cartoonish way. Just like Elite Squad 2. I began this text mentioning that going to church prevented me from entirely growing in a middle-class bubble. Because of that, I heard people saying that old drug dealers had at least some sense of justice. Younger ones (sometimes as young as 16 years old) are almost animals, psychopaths without any sense of empathy. If you watched The Godfather trilogy you know what I mean. I also heard people frustrated with the government, that offered no protection against criminals. The same people were (at least initially) supportive of militias.

Politicians in the right, in turn, consider unimaginable to legalize any drug. But on the other hand, they were very slow to understand the danger of the militias, and citizens making justice with their own hands in general.

So, this is a story about Rio de Janeiro, one of Brazil’s most important cities. For decades politicians believed it was their job to bring economic development to the country – and to the city. This led to fast economic growth, which in turn led to the development of favelas. Favelas are areas where the official government is generally not present.

Therefore, its residents form neighborhood associations. Favelas are also places where, because of the lack of government, drug dealers can work in relative peace. However, over time drug dealers become more and more violent in their dispute for territory. The neighborhood associations, in turn, become militias. And the militias quite often become mafias. Some politicians rise to fame fighting these mafias, but the policies they defend are the same that begin this story in the first place. Politicians on the right are accused of dangerous liaisons. And no one seems to be willing to limit government to its primary function of protecting life and private property.

Nightcap

  1. The costs of hospital protectionism Chris Pope, National Affairs
  2. Parasitic SETI and parasitic space science Nick Nielsen, Grand Strategy Annex
  3. Between two empires (Armenia) Peter Brown, New York Review of Books
  4. The transition from socialism to capitalism Branko Milanovic, globalinequality