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International Monetary Fund. External Relations Dept.
Published Date:
January 1994
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Getting better measures of environmental degradation

There is much that is thoughtful in the article by Andrew Steer and Ernst Lutz on “Measuring Environmentally Sustainable Development” (Finance & Development, December 1993). However, I find the handling of national income adjustment rather disappointing. The article asserts that if the environmentally adjusted accounts should indicate reduced or negative investment, a “careless interpretation might conclude that … the productive capacity of the economy had actually declined.” The authors appear to think that “human capital formation and technological progress” can automatically be offsetting to environmental disinvestment.

The two issues, I submit, are separate and should not be confused. Environmental capital deterioration is certain to undermine sustain-ability, and a greater investment effort will be needed to counteract its effect on future income. Human capital formation, by convention, is left out of the national accounts for various reasons, one of which is that, if it is truly productive, it will be reflected through enhanced productivity in a higher GDP. By contrast, the loss of environmental capital, if not recorded, may take some time before it will reflect itself in income and product measurements. Anyhow, should not a proper comparison be made of the effect of both on national income, before such a summary judgment is made?

Besides properly measuring investment, there are other policy implications of failure to reflect environmental deterioration (especially natural resource depletion) in the national accounts. Without the adjustment we would not be able to know, for example, if an economy that is dependent on such resources is genuinely growing or merely living unsustainably on asset sales beyond its true income; whether the balance of payments is in surplus or deficit on current account (if exports contain environmental capital elements); and whether the exchange rate needs to be changed. The authors, by effectively saying “not to worry,” are in fact depreciating the utility of adjusting the accounts—contrary to what they are ostensibly advocating.

Salah El Serafy

Andrew Steer and Ernst Lutz respond:

We gratefully agree with Mr. El Serafy’s first sentence but have to disagree thereafter. He claims we think that human capital can automatically substitute for resource depletion. We do not, as our article makes clear. There are many situations where neither human nor fabricated capital can substitute for a loss of natural capital and, as we argue in the article, it is essential to analyze what is happening to each type of capital separately. Nonetheless, it is quite wrong to assert that depleting natural capital will always reduce the productive capacity of the nation. If Indonesia uses its oil wealth to invest in its children’s education (as it has wisely done), with the result that fertility rates fall and productive practices become more efficient, few rational people would believe that the country is either poorer or less sustainable. The point we make is that if calculations on trends in a nation’s aggregate capital stock are to be useful for policymakers, they must include human as well as natural and fabricated capital. The Environmentally Sustainable Development Vice Presidency of the World Bank is currently involved in an effort to make both sets of adjustments.

Mr. El Serafy’s argument is that human capital formation can be ignored because, if productive, its presence will be reflected in future income. Of course! So, too, will changes in natural and fabricated capital. The belief that changes in human capital have a “quicker” impact on income than changes in natural capital is not necessarily true; nor is it relevant. What is relevant is that some human capital formation gets recorded in the current account of the national accounts, and some (knowledge breakthroughs) gets omitted altogether. When we assess trends in a nation’s productive capacity, we need a complete picture.

None of this detracts from the vital importance of getting better measures of the high costs of environmental degradation, which was the main theme of our article and where we and Mr. El Serafy are in full agreement.

Culture and development

William Easterly’s review of my book, Who Prospers? How Cultural Values Shape Economic and Political Success (Finance & Development, March 1994) demonstrates how shackled one can become to a conventional wisdom, even when compelling evidence exists that the conventional wisdom is untenable. He concludes his review with, “… there is a lot to be said for the old-fashioned view that people are the same everywhere and will respond to the right economic opportunities and incentives.” How then would he explain the extraordinary performance of some ethnic groups in multiethnic societies, where everyone operates with the same signals: for example, the Chinese in Thailand, Malaysia, Indonesia, the Philippines, and the United States; the Japanese in Brazil, Peru, and the United States; the Koreans in the United States; the Basques in Spain and Latin America; the Germans in Latin America; and the Jewish people wherever they have migrated?

It is Mr. Easterly’s embrace of economic dogma that leads him to caricature Who Prospers? I explain East Asia’s phenomenal success as an important reflection of the progress-prone values in Confucianism/Taoism: future orientation, work, education, frugality, merit, and community. Mr. Easterly asserts that “such a theory is of little use for predicting who is going to succeed.” On the contrary, it would have predicted, without exception, the performance of Japan, Korea, Taiwan Province of China, Singapore, Hong Kong, post-Mao China, and the overseas Chinese.

Mr. Easterly remarks that “when East Asian nations do well, it is the latent positive forces in their own culture; when Spain does well, it is the influx of foreign culture.” But there are differences, and there are costs to the Spanish model: the Spanish economy has grown about half as fast as those of the East Asian countries; Spain saves substantially less and has depended heavily on foreign investment; about one half of GDP is produced by state-owned firms; and Spain has been plagued by very high unemployment, currently above 20 percent, reflecting in part an indisposition toward entrepreneurship. Spain’s per capita GNP is about one half the Western European average and trails Hong Kong and Singapore.

Cause and effect clearly run in both directions in the relationship between culture and development. Indeed, open economic policies have contributed to progressive cultural change, as well as to economic success in some cases. But, as Mr. Easterly suggests, “the old-fashioned view that people are the same everywhere and will respond to the right economic opportunities and incentives” has been with us throughout the past four decades of disappointing performance in most of the Third World. While the Third World should certainly be pursuing the open policies that have proven successful in a few countries, it should also be pondering the values common to successful societies around the globe.

Lawrence E. Harrison

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