Economics

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Questions and answers on private cities

I was just informed my Freeman piece on private cities was reblogged by Don Boudreaux, Arnold Kling, and Isegoria. First off, thanks! It’s fun to see my piece making the rounds, especially as it is one of the first I wrote. Before writing on why private cities haven’t emerged, I’d like to argue that they are going to emerge.

The most promising development is in Honduras. Honduras passed a law allowing ZEDEs (zonas de empleado y desarollo economico). ZEDEs are granted wide degrees of autonomy, being exempted from Honduran civil and commercial law. Currently the Committee for the Adoption of Best Practices is writing a set of guidelines that ZEDEs will have to meet. At least one company interested in Honduras is trying to start a proprietary community.

Beyond Honduras, there are several other countries that have expressed interest in setting up similar zones. There has also been a resurgence in interest cities, with books such as Glaesars Triumph of the City. I think the trend is toward decentralization and one aspect of that will be private cities.

Kling raises three questions as to why there aren’t private cities:

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Ibrahim

Filling in the incentive void of democracy

It’s clear that democratization is not the panacea for the problems of developing countries. Elected leaders even lack some of the incentives for good leadership that unelected leaders have, since their terms are limited and their rule is a short saga in the history books. Problems that demand solutions that exceed the term of the elected executive can easily be ignored. Sudanese-born telecommunications billionaire Mo Ibrahim seems to have have a solution to this: his own Mo Ibrahim Prize for Achievement in African Leadership. An African himself, it is easy to see that Ibrahim wants to to see his continent prosper. For maximum impact, he has made a monetary surgical strike: paying the leaders themselves to actually care about their country’s prosperity and future. A generous sum, $5 million US plus a $200,000 US yearly payment, is awarded to leaders of African nations who have recently left office, and who:

  • Have developed their countries, lifted people out of poverty and paved the way for sustainable and equitable prosperity
  • Are exceptional role models for the continent
  • Ensure that Africa continues to benefit from the experience and expertise of exceptional leaders when they leave national office, by enabling them to continue in other public roles on the continent

All of these criteria are apparently geared towards incentivizing leadership that is focused on the good to come after the statesman leaves office. Kicking the can down the road, which is de rigeur for elected officials, is no longer possible with the independent oversight of the Ibrahim Foundation. Politicians normally serve the interests of their parties or themselves. In poor countries governments are at their most predatory, being, as Mark Lutter pointed out, the major culprit behind third world squalor. Spinning, rhetoric, and political grandstanding, which work on the voting public, presumably do not work for the award committee of the Ibrahim Foundation, which is entrusted with handling millions upon millions of dollars.

What exactly is the subtext of this award? It is that political systems, on their own, are not built to act in the interest of the nations that they control. The much vaunted democratic political system has not brought African nations to the promised land. So why does the Foundation require that leaders who receive the award to be democratically elected? To the naive, this might be seen as an encouragement of democratic leadership, which is certainly a better alternative to dictatorship. I would guess that Ibrahim also wants to in fact fix democracy and all its misplaced incentives, having the requirement of a democratic election in order pinpoint these problems, and using his wealth to tip the scales from favoring government to favoring society.

Entrepreneurs and the informal economy

Here is a very interesting new paper on the informal economy by Andrei Shleifer and Rafeal la Porta. It is great to see two prominent economists write on the subject. The abstract gives an overview of the first half of the paper:

We establish five facts about the informal economy in developing countries. First, it is huge, reaching about half of the total in the poorest countries. Second, it has extremely low productivity compared to the formal economy: informal firms are typically small, inefficient,  and run by poorly educated entrepreneurs. Third, although avoidance of taxes and regulations is an important reason for informality, the productivity of informal firms is too low for them to thrive in the formal sector. Lowering registration costs neither brings many informal firms into the formal sector, nor unleashes economic growth. Fourth, the informal economy is largely disconnected from the formal economy. Informal firms rarely transition to formality, and continue their existence, often for years or even decades, without much growth or improvement. Fifth, as countries grow and develop, the informal economy eventually shrinks, and the formal economy comes to dominate economic life.

I found the second half more interesting. They critique Hernando de Soto, who argues informal economies are an untapped reservoir of potential constrained by regulations. Because of the need for business permits and government recognition of property they are unable to enter the formal economy. Shleifer and la Porta find that most informal businesses are constrained by finance, not regulation, and fail to enter the formal economy. This suggests the problem is not regulation. Instead, they conclude:

The evidence suggests that an important bottleneck to economic growth is not the supply of  better educated workers; indeed, at least on many observable characteristics the workers are rather  similar in informal and formal firms. Rather, the bottleneck is the supply of educated entrepreneurs –  people who can run productive businesses. These entrepreneurs create and expand modern businesses  with which informal firms, despite all their benefits of avoiding taxes and regulations, simply cannot compete.

This is largely consistent with my experience during the last week in Honduras. I was interviewing with a firm run by an Italian. In his words, the firm imports business models from middle income countries, Mexico and Argentina, to low income countries, Honduras, Guatemala, and Nicaragua. His success, without substantial changes in economic freedom, suggests the problem is not institutional, but entrepreneurial. I very much look forward to more research along these lines.

On child labor

I have been in Honduras since Monday and am spending the next week in El Salvador. One thing I notice when traveling in the third world is child labor. There are always children, some as young as 7 years old, trying to sell you something, usually gum, other candy, or cigarettes. These kids are not in school and their futures are bleak. However, despite the obvious poverty of their situation one feels compelled to buy from them. Buying from them increases their income, making them better off. There is an implicit recognition that the alternative is not school, but hunger.

There are two reactions to child labor, one which comes from thinking about it, and the other which comes from seeing it. No one likes the idea of child labor to the extent that even considering it can get you ostracized from polite society. However, actually seeing child labor elicits a different reaction. The feeling is not to ban the child labor itself, but to help the kids in another way. The visualization of child labor forces one to understand the poverty of the choices they face.

The question is how to get people to understand opportunity cost as an abstract concept. Common arguments that children are working because it is the best option available to them fall on deaf ears. Even pointing out the outcomes that follow from restricting child labor is not enough. Paul Krugman notes that when Bangladesh banned child labor many kids turned to prostitution or starved. Even this is sometimes not enough. People have ideological predilections so strong they ignore problems of scarcity, ignoring the fact that the literal alternative to child labor is occasionally starvation.

When we think about child labor sometimes it is better to forget the statistics. Remember the kid trying to sell you gum. Would you take away his livelihood? How would he live? How would he eat?

Source

A review of Peter Leeson’s ‘Anarchy Unbound’

Anarchy Unbound by Peter Leeson is the newest addition to the academic anarcho-capitalist literature, books and articles that attempt to engage mainstream academia on the topic of anarchism. He begins by setting an admittedly low bar, why anarchism works better than you think. Then he takes you on historical examples to show how self-governance can produce better outcomes than governments.

I strongly recommend this book. It is the clearest exposition of the George Mason approach to anarchism. That being said, reading it, I can more clearly identify a growing gap between popular anarchism, exemplified by attendees of Porcfest, and academic anarchism.

Popular anarchism is a social program, an argument that a stateless society today can lead to better outcomes than most countries. Snapping ones fingers and replacing the state with Friedmanesque, non-territorial, dispute resolution agencies would improve social outcomes. Transitioning is, or course, tricky, but can be ignored for the current discussion.

The primary critique of anarchism is that it is unstable. If a state is inevitable, than anarchism as a social program is, at best, an unachievable ideal. Unfortunately, Leeson never investigates the inevitability of states. As such, I do not think his book has much value for those interested in the possibility of actually enacting of a modern stateless society.

The most recent research suggests the state emerges whenever there is a surplus of wealth that can be expropriated. Raul Sanchez de la Sierra studies villages in Congo, a country whose central government can barely project power outside the capital. He finds pseudo-states emerge in these villages when the price of cobalt rises. On the other hand, nothing of the sort happens when the price of gold rises, as gold is easy to conceal.

This suggests a different research path for those interested in the possibility of a modern anarchist society than Leeson has followed. Rather than investigating stateless societies, anarchists should examine the emergence and growth of states. Under what condition are states inevitable? Do those conditions still exist? Responsible advocacy of anarchism requires answers to these questions. Unfortunately, few are currently considering them.

The real stakes of the Asia-Pacific pivot

The most important geo-political change of the last few years is not the resurgence of Russian aggression, nor the Arab spring; it is the American pivot to East Asia. The U.S. is shifting its focus from the Middle East to contain China, strengthening regional alliances to curb Chinese attempts to expand their sphere of influence.

While much ink has been spilled over the strategy, few seem to actually understand the basic tradeoff. America can limit Chinese sphere of influence by (slightly) raising the possibility of war. We can imagine a circle around China; the larger the circle, the lower the probability of war. However, the countries inside the circle are less likely to have democracy and open markets.

Policy preferences are going to depend on the relative weights placed on the alternatives. If you believe the probability of war is slight, or you discount the cost of war, you will prefer a more aggressive containment strategy. On the other hand, if you think China will allow relatively open markets, or think the cost of war is high, you will allow China to peacefully expand.

People on both sides of the debate will deny these terms. Neocons will argue the probability of war is so close to zero it can be ignored. Noninterventionists will ignore the unfree markets that China imposes on its neighbors. However, as it is probable this tension will continue for at least a decade, it is worth understanding the tradeoffs being faced.