The Wealth of Nations

The economics of “development” goes back hardly a generation. It emerged with the dissolution of the European empires following World War II, and was given stimulus by cold war politics and claims made for the Marshall Plan in reconstructing Western Europe. On the pattern of the Marshall Plan, relatively small amounts of aid over a short period, it was thought, would set the “newly emergent nations” firmly on a course toward material prosperity without the necessity for social and economic revolution. The task of development economics was to chart that course.

Ian M.D. Little describes his book as a “rather comprehensive, critical survey of development economics, including the main international economic issues that have given rise to North–South confrontation.” A fluent and clear writer, he identifies two basic approaches, one “structuralist,” the other “neoclassical.” “The structuralist,” according to Little, “sees the world as inflexible. Change is inhibited by obstacles, bottlenecks, and constraints. People find it hard to move or adapt, and resources tend to be stuck. In economic terms, the supply of most things is inelastic,” i.e., unresponsive to changes in price. The emphasis of this approach is on planning and controls. “The structuralist view of the world provides a reason for distrusting the price mechanism and for trying to bring about change in other ways…. It primarily seeks to provide a reason for managing change by administrative action.”

In contrast, “a neoclassical vision of the world is one of flexibility,…people adapt readily to changing opportunities…. Most markets usually tend to achieve an equilibrium without wild price fluctuations. In short, the price mechanism can be expected to work rather well.” Milton Friedman and his disciples could accuse Little of insufficient faith; one must, he cautions, “be on the watch for aberrations and ways of correcting them.” But for all his qualifications, Little is firmly in the neoclassical camp. In his judgment, development has been impeded where structuralist policies of planning and controls have superseded the market mechanism. His clarity on this point is one of the book’s virtues.

Much of Little’s book is taken up not with the actual economic conditions of the poor nations but with the rise and fall of structuralist theory and the subsequent rise of neoclassical theory. He attributes the success of structuralist diagnoses in dominating development economics until the 1960s to two factors. First was the general distrust of the market in the aftermath of the Great Depression and World War II. One might say that structuralism was to the developing world what Keynesian economics was to the developed. The second factor was the apparent success of the Soviet Union in transforming a backward agricultural country into a powerful industrial one; the quantitative deficiencies of Soviet growth were still in the future. (The elites of third-world countries who looked to the Soviet Union were probably not as blind to the human costs of the Soviet experience as Little suggests; they expected to avoid these costs while enjoying the benefits of planned growth.)

An early example of structuralist theorizing was the “big push” thesis, advanced by Paul Rosenstein-Rodan and Ragnar Nurkse. A coal mine, a steel plant, or an automobile factory could not be profitable in isolation because, in contrast with the situation in a developed capitalist nation, it would find no market for its product. But all three together had a potential for success that the components lacked individually. Coal could be used to make steel and steel to make automobiles. The wage earners in all three concerns would form a market for automobiles. The implication for policy was clear: the market could not do the job, for potential investors in one branch of industry could never be sure what investors would do in other branches. Planning would be necessary to provide the requisite coordination.

Little criticizes the “big push” thesis, emphasizing that pessimistic assessments of the possibilities for export led to misguided enthusiasm for this and other structuralist policies. If export is a relevant alternative, achieving a balance between complementary branches of industry becomes less important. If, for instance, steel can be exported, a profitable steel project need not be linked to automobile plants or other steel-using industries. At the same time the foreign exchange earned by selling steel can be used to pay for coal and other inputs.

Here Little is on solid ground. The actual historical record of the quarter century following World War II did not justify the pessimism of the early development economists, who were influenced by the gloomy trade experience of the period before World War II. The unprecedented growth in the capitalist economies of Europe, North America, and Japan that ended with the first oil shock of 1973 led to an equally unprecedented growth in world trade. Accordingly, the export possibilities of third-world countries were much greater during this period than economists whose expectations were formed by the pre–World War II period ever imagined. For countries like South Korea and Taiwan, exports formed the basis of a substantial increase in the standard of living. Like the proverbial general who is more proficient at fighting the last war than the next one, structuralist economists proved more skillful at predicting the previous cycle than the next one.

At the same time that the possibilities for export-led growth were underestimated, so were the problems of planning and coordination. It is not surprising that during the 1960s the market would appear more and more attractive. But this is not the whole story. Economists, like most other people, are less swayed by immediate facts than by deep-seated prejudices, and the prejudice in favor of the market goes back to Adam Smith, whose Wealth of Nations had already answered the basic question of development economics—what policies would lead a nation to prosperity?—by arguing that in a market system the invisible hand would channel to socially beneficial ends the natural acquisitive instincts that all of us harbor.

There is a striking parallel between the eclipse of structuralism as the basis of development economics and the eclipse of Keynesian theory as the basis for economic policy in the industrialized countries. Like the failure of planning and controls to promote development, the failure of Keynesian fiscal policy to create a capitalist utopia of full employment, steady growth, and stable prices contributed to the resurgence of neoclassical economics. In both cases the failure of a rival school was part of the story, but the prejudices of the economics profession against government intervention were decisive.

In retrospect it is more puzzling that structuralist and Keynesian theories ever captured as much ground as they did than that they subsequently lost it. Their success, I believe, lies in the unique characteristics of the generation of economists trained between the late 1930s and early 1960s. During this period, no doubt because of the shock of the Great Depression, economics attracted people of unusually liberal persuasion, more skeptical of the market and more trusting of the government, than has been the case before or since.

Little briefly considers alternatives to both the structuralist and neoclassical approaches to development. He professes both sympathy and skepticism for what is called the “basic needs” approach, in which emphasis is put on directly providing adequate food, shelter, education, and medical care to the poorest of the poor. This came into prominence during the 1970s when it became generally accepted (even by the World Bank) that three decades of development had done almost nothing for the poorest groups in the third-world countries. I share both Little’s sympathy and his skepticism toward this approach, but I wish he had taken his skepticism a step further. Does the lack of commitment of third-world governments to fulfilling basic needs reflect technical and economic problems or social and political ones? Is the problem a lack of resources or is it the prevailing distribution of power?

The judicious answer of course is “both.” My own suspicion is that by far the larger part of the problem is that those who have power—landlords and businessmen, generals and technocrats, politicians and civil servants—have nothing to gain from following a policy of putting basic needs first. Those who would gain—the poorest 20 percent of the people—have little power. The problem with Little’s treatment of the subject is not that he disagrees with this view. It is that he doesn’t even pose the question.

Little is more hostile to what he calls neo-Marxian views on development; he puts misleading emphasis on dependency theories that stress the limitations and distortions imposed on third-world development by the rich capitalist countries. He begins by castigating Marxists for “the manner in which they manipulate language,” a fair judgment on its face. But if Little is implying that the language of other economic schools is free from such manipulation, he might recall his rebuke of 1950 to his neoclassical brethren for using the term “optimality” to describe situations in which, though nobody could be made better off except at someone else’s expense, the income distribution might be perfectly horrible.¹ Neoclassical economists who use such words as “efficiency,” “welfare,” and even “Pareto optimality” (Little’s own substitute for “optimality”) are hardly in a position to complain of distortions of the neo-Marxist, who sees the world in terms of “exploitation,” “unequal exchange,” and the like.

Little characterizes the neo-Marxian view of development as “a tissue of truth, half-truth, and misleading insinuation.” Unfortunately, this is equally a description of his own account of the neo-Marxian perspective. One example must suffice: he dismisses the notion that multinational corporations exercise undue power in the third world with the observation that any less developed country, “however tiny, is sovereign over its own territory.” As Little himself recognizes, however, a multinational corporation is not without resources to fight back. It “can try to organize some punishment through the United States Government…or privately through its friends in the business world.” Little apparently fails to appreciate the force of this qualification. Salvador Allende did.

Little is less concerned with history than with doctrine, less with development itself than with the vagaries of the theories about it. Not that he ignores history, however. He gives an informative account of the post–World War II evolution of international trade and financial arrangements, although unfortunately this ends in 1980, too soon for the huge Latin American debt of recent years to be a major concern. By contrast, his historical treatment of the internal development process itself is spotty at best. Questions that seem to me central—land reform, income distribution, and ecology—get little attention, about as much space as the problems of shipping.

Little’s enthusiasm for Taiwan and South Korea makes the absence of serious treatment of land reform all the more surprising, for, along with Japan, these countries provide the only instances of successful land reform in the “free” world. (In all three of them the reforms were imposed by outsiders after World War II.) Is it pure coincidence that the growth rates of these countries have been among the highest in the capitalist world and their income distributions among the most egalitarian? Once again, Little does not pose the question, much less examine the relationship between growth and income distribution.

Indeed, he generally ignores the elementary facts about income distribution in the poorer countries. One does not learn, for instance, that in Latin America the top 10 percent of the population typically enjoys 35 to 50 percent of the income, compared with 20 to 30 percent in Europe, North America, and Japan. Nor that the bottom 20 percent must make do with 2 percent of the total income, as in Brazil, as against the 5 percent typical of the advanced countries. Little suggests that growth has benefited the poorest even in Brazil, where the income distribution actually worsened over the years. But he gives little evidence for his conclusion. And, in any case, throughout Latin America the twin catastrophes of recession and financial crisis (which have taken place since Little’s book was completed) have very likely wiped out in one year whatever gains the bottom 20 percent of the population might have made over the previous two decades.

He says even less—nothing, to be precise—about the capacity of resources to support the plans of developers, private or public. The word “ecology” does not appear in his book. The damage caused by the Brazilian project of transforming Amazonian tropical forests into agriculturally productive lands—the deus ex machina of Brazilian hopes for a more equal economic development—is only the most dramatic of the ecological problems that forty years of development have cast up. Little does not mention it.

His case for the market mechanism rests on the doctrine of comparative advantage, the idea, first developed by Riccardo, that each nation should specialize in doing the things at which nature and history have made it relatively most proficient. Suppose Brobdingnagians can type one hundred words per minute and compose one symphony per week, whereas Lilliputians can type only fifty words per minute and compose a symphony every three weeks. Brobdingnagians are evidently faster typists and faster composers. But they are relatively faster composers (three times as fast as Lilliputians) than typists (twice their speed). Economists say that Brobdingnag has an absolute advantage in both fields but a comparative advantage only in musical composition.

The beauty of comparative advantage is that there is something in it for everyone. Lilliputians can type while Brobdingnagians compose. A second virtue of comparative advantage is that it seems easy to put into practice. The prices under a system of free trade will reveal to each country where its comparative advantage lies; the invisible hand will channel the quest for private profit to social gain. The only measures a government need take are negative: avoid the sins of tariff protection, import quotas, and export subsidies—and embrace the market. Practically, comparative advantage makes development economics into economic engineering. The economist’s task becomes one of getting prices right, against the pressures of government bureaucrats and special interests who insist on distorting the domestic price structure for political or local advantage.

Every economist has his own favorite horror story about price distortions. Mine is the pricing of gasoline in Venezuela, where people pay the equivalent of 25 cents per gallon. One consequence was that Venezuela became a magnet for second-hand American cars using large amounts of fuel. Another was enormous pollution that made Caracas the smog capital of South America. A third was traffic far beyond the capacity of the rudimentary expressway system. A fourth was more rapid depletion of the oil on which the Venezuelan standard of living depends. Finally, the low gasoline price has been in effect a huge subsidy for upper-income groups—the poor do not own cars in Venezuela. This last consideration is probably the key to an otherwise outrageous policy. No government has been willing to bear the onus of raising the price of gasoline.

But the case for making domestic prices reflect world prices so as to give effect to comparative advantage is hardly as conclusive as this and other horror stories suggest. Ian Little would in principle agree to qualifications, though he would undoubtedly disagree on their importance. In the first place, for comparative advantage to work—and here I risk laboring the obvious—it must be supposed that third-world countries can freely export. At its most free, world trade never expanded rapidly enough that a large country like India could have followed the path of countries like Taiwan and South Korea in exporting television sets and the like. In order to reap the benefits of comparative advantage, larger countries, by virtue of their size, do not need to trade as much in proportion to their GNP as smaller countries; but with a population almost twenty times as large as South Korea, India could find sufficiently large markets only if Americans changed television sets as fast as shirts.

Even for the smaller countries, it is by no means certain or even likely that export possibilities will expand in the 1980s and 1990s as in the 1950s and 1960s. Third-world exports have always been dependent on first-world growth, and it is an open question when (or even if) growth will again reach the rates attained during the post–World War II boom. The optimism about exports engendered during the 1950s and 1960s may be no better guide to the future than the pessimism based on the 1920s and 1930s; the decade since the first oil shock is hardly encouraging. Neoclassical economists, like structuralists, may be more adept at formulating policy for the past than for the future.

Nor is export-led growth without its price. Ian Little misleads the reader when he asserts that “there is never any dependency in competitive trade or exchange” (Little’s emphasis). The catch is the word “competitive.” In the stylized world of the economics textbook a competitive market is one in which sellers can find buyers at the going price for any quantity of their product they might like. In this sense competitive markets are few and widely scattered. Ask for examples and you’ll likely be directed to the Chicago Board of Trade or the New York Stock Exchange.

In the real world, the more dependent a country is on exports, the more vulnerable it is to the business cycle. The third world is currently paying a steep price both for the Reagan-Volcker recession of recent memory. Moreover, exporters are subject to political pressures from their customers—in direct proportion to the degree of competition and the availability of alternative sources of supply. The United States and the Soviet Union, as the largest customers in their respective blocs, have the most economic leverage. Neither has exactly shrunk from using this leverage for political ends.

There are many other exceptions to the virtues of free trade and comparative advantage, of which I will mention only some of the most important, none of them given careful consideration by Little. First is the “infant industry argument,” which justifies government intervention (tariffs, subsidies, quotas, etc.) to allow new industries at home to acquire the experience they need to compete with more established producers abroad. The basis of this argument is that people learn by doing and that practice therefore may make perfect. If Lilliputian orchestras are required to play the music of their countrymen, Lilliputian composers may in time develop their musical talents and skills to the point that they can fairly compete with Brobdingnagians. By contrast, if Lilliputians follow the dictates of comparative advantage and concentrate on typing, they will never become adequate composers.

Comparative advantage is essentially a static doctrine that appeals more to the haves than to the have-nots. It is not an accident that its virtues were better appreciated in Britain during the nineteenth century than in the United States or Germany, or that it has greater appeal today in the United States than in Mexico. In principle, comparative advantage can be made most dynamic by incorporating the potential gains of “learning by doing” into the analysis. In practice, projections of this kind are largely acts of faith. If the Japanese had taken comparative advantage seriously, they would still be exporting silk cloth and parasols rather than automobiles, cameras, television sets, and semiconductors.

A second problem concerns the “transitional” costs of implementing comparative advantage. The benefits of free trade are widely diffused and appear only in the long run while its costs are concentrated and appear right away. Only fanatical believers in neoclassical economics hold that adjustment to the market is instantaneous and painless. The moderate majority, which Little represents, recognizes that “temporary” hardships can accompany the transition from an interventionist to a free-market regime. The problem is that the moderates fail to tell us how much temporary hardship must be endured, by whom, or for how long. Lay people and even some economists often find the game not worth the candle. We need go no further than Detroit and Pittsburgh for an illustration of the problems that arise during what is reassuringly described as the “short run.” For the middle-aged auto and steel worker, plant shutdowns would likely mean a succession of low-wage, low-productivity jobs followed by early retirement rather than a move to the Sun Belt. The costs of government intervention in the market may appear less excessive when the hardships of those workers and their families are taken into account.

Finally, neoclassical economics over-emphasizes the virtues of the market mechanism by assuming, usually implicitly, a separation between the “economy” and “society.” About the time that development economics was born, Karl Polanyi argued persuasively in The Great Transformation² that in the West this separation dates only from the emergence of capitalism, in contrast both to an earlier period in our own history and to non-Western societies whose economic life is embedded in a network of social relationships. India is exceptional in encouraging hand spinning and weaving as well as other crafts even when they are not “economical” relative to mechanized techniques. However, I dare say the principal motive for doing so is not the legacy of Gandhi but increasing the number of jobs. The ways that older techniques of production help to maintain the social system are probably not accorded much weight. The Westernized elite that makes policy in India is too estranged from the traditional society to value such considerations very highly.

The balance of the case for and against the market is not easy to draw; it never is in economic argument. But one fact ought to carry weight: historically, a thorough-going laissez-faire system has required, almost without exception, an authoritarian political order to impose it in the underdeveloped countries. Where people are free to vote in such countries, the strictly free market has been rejected consistently.³

The doctrinal disputes that are central to Little’s book are largely about means, not ends. Most neo-Marxists would join structuralist and neoclassical economists in accepting Little’s view that economic development occurs when there is a “rise in the present value of average (weighted) consumption per head.” Most exponents of the free market, as well as exponents of government intervention, would join neo-Marxists in giving priority to the poorest 20 percent within third-world countries. The disagreement is over how well the market works to promote growth and whether intervention by existing third-world governments can improve on market allocations, as well as over how much growth—whether spontaneous or induced—will trickle down to the poor. Hardly novel questions: but whatever one’s opinion about the relative merits of the market and government in the advanced societies, there is legitimate room for doubt about the efficacy of both in Asia, Africa, and Latin America. Little underlines the failures of government but neglects those of the market.

A deeper question might be raised about the views he shares with those he otherwise disagrees with: that consumption should be the measure of development. When neoclassical economists identify development with consumption, they base this belief on the universal validity of Western values. Largely ignoring cultural differences, they take for granted a common human nature that supposedly makes people everywhere the same—and therefore like us. On this view, the Indian peasant is no less calculating, no less competitive, no less attuned to the maxim “Every man for himself and the devil take the hindmost” than the Kansas wheat farmer. Indeed, when the neoclassical economist considers the problems of an Indian peasant, he tends to see a Kansas wheat farmer, an economic man striving to “maximize” his well-being, as an economics textbook says he does.

Structuralists and neo-Marxists generally hold a different view. They stress cultural differences where neoclassical economists minimize them and see development as the process of transforming traditional cultural practices in the economic sphere into Western ones. Their confidence in Western values is thus no less marked than that of neoclassical economists. Indeed, the very term “development” reveals a bias common to structuralists and neo-Marxists. Where neoclassical economists see third-world people as miniature adults, structuralists and neo-Marxists see them as children. The concept of “development” makes sense in analyzing the transformation of a child into an adult precisely because adult behavior is an agreed-upon standard of behavior against which to measure the progress of the child.⁴ Evidently the “first-world,” or capitalist, nations, are the adults, at least for the structuralists. (Neo-Marxists have a more difficult problem: they generally see the “second-world,” or socialist, countries as, at best, deformed adults.)

For neoclassical, structuralist, and neo-Marxian economists, then, consumption levels (including “consumption” of leisure) provide a suitable measure of development in the third world because it is the standard by which we in the West—both capitalist and socialist—measure our own progress. But consumption is not prized only for material reasons. Economists who share little else agree on a link between consumption and the highest value of Western culture, individual freedom. According to Nobel laureate W. Arthur Lewis (whom Little quotes approvingly), “The case for economic growth is that it gives man more control over his environment, and thereby increases his freedom.”⁵ For Lewis, a structuralist, as for Little, a neoclassical economist, the freedom at issue is freedom to choose. When productivity and incomes increase, the domain of free choice expands: “In the primitive state,” Lewis continues, “we have to work hard merely to stay alive. With economic growth, we can choose to have more leisure or more goods, and we do indeed choose to have both.”⁶

Lewis’s view that growth uniformly expands the domain of choice can be challenged at two points. First, although life for most “primitive” peoples is relatively short, it is by no means nasty and brutish. In the decades since Lewis wrote, anthropologists studying Amazon Indians, Australian aborigines, African bushmen, and other hunter-gatherer societies have shown that “primitive” cannot simply be equated with “poor.” Far from having “to work hard to keep alive,” many of these communities feed, clothe, and shelter themselves with surprisingly little effort. Their most prominent characteristic is the enormous amount of leisure available for play, gossip, or just loafing about. Indeed, one prominent anthropologist has labeled hunter-gatherers “the original affluent society.”⁷

If the choices of “primitive” hunter-gatherers are not as restricted as was once thought, neither is the range of choice in “advanced” societies as large as our material prosperity makes it appear. With material prosperity has come very real poverty in other aspects of our lives. When commodities have such a huge part in our culture, we can ask ourselves whether they do not serve to compensate for spiritual and emotional emptiness. Most of us choose between Chevrolets and Volkswagens, but we can hardly choose between finding meaning in the commodities we consume and finding meaning in the work that we do. Lacking control over the work process and its product, many of us derive no more meaning from the work we do than a paycheck at the end of the week. In our society work for the most part stands outside the satisfactions of life, opposed to pleasure.⁸ Even fewer of us would claim to find transcendent social meaning in collective labor, as even the most humble worker might once have done when the medieval cathedrals were taking shape, or as the “primitive” does regularly in day-to-day activities.

Our parents may be able to choose between one nursing home and another, but how many of them will be able to choose to spend their last days in their own homes? We middle-aged children, living in nuclear and even subnuclear families, are hardly freer to keep our aging parents at home than members of traditional societies are free to put their parents in nursing homes. We put our parents in nursing homes because we lack a family structure to provide for the old in dignity as well as comfort. We torture language when we say our young people “choose” to join one or another of the authoritarian or destructive cults that abound. Many of them seem to be searching, however desperately, for the community and family that our single-minded attention to GNP has helped to destroy. In short, rather than expanding the domain of choice uniformly, growth expands choice in some dimensions but restricts it in others. Economists usually lump these restrictions under the rubric “externalities”; in economics as in medieval demonology, to name a devil is to exorcise it. Ian Little, for his part, simply ignores such social effects of development. Alas, the problems will not go away so simply.

To raise such questions is not to advocate zero growth. The “affluent” hunter-gatherers probably do not have much of a future, in any case, if only because their resources, particularly forest resources, are too valuable to be left alone by us more “developed” peoples. Increasingly in contact with Western cultures, their societies are rapidly disintegrating. Peasant societies, generally regarded as at a stage of social evolution beyond hunter-gatherers, are in fact frequently poorer. In South Asia, Latin America, and sub-Saharan Africa a large fraction of the population lives on the margin of malnutrition and ill health. In these societies poverty not only kills people but threatens the continuing existence of entire social groups.

In such situations, the desirability, indeed the necessity, of growth can hardly be questioned. But at the same time its dangers should be recognized: growth on the Western model is an addictive drug. As a nation proceeds along the Western path of development, it finds it increasingly difficult to shape a society that combines the productive technologies at which the West excels with the traditional culture that is its own birthright. A task of development economics is to chart a path that will provide the growth necessary to fulfill people’s basic needs, without making growth the substitute for spiritual and emotional fulfillment that it has become in the West. A hard task, indeed, not least because of the conflicts within third-world countries about what kinds of societies they are going to become. But it is a task in which we all have a stake: in a world of limited resources, we might learn something useful for our future too.