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Finance & Development, September 2015
Article

Book Reviews

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
August 2015
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Dirk Philipsen

When Big Is not Beautiful

The Little Big Number

How GDP Came to Rule the World and What to Do about It

Princeton University Press, Princeton, New Jersey, 2015, 416 pp., $29.95 (cloth).

GDP is out of favor in some quarters. Some environmentalists take issue with the idea of prioritizing economic growth, measured by GDP, at all. Others argue that a wider perspective on progress is urgently needed. The global financial crisis, climate change, and the focus on inequality—all have contributed to a renewed interest in alternative ways of measuring how the economy is doing.

Many readers will therefore like the polemical tone of The Little Big Number. It looks at the history of GDP, its inadequacies as a measure of social welfare, and the environmental consequences of seeking continuing economic growth. It covers some of the same ground as a number of other books, including—from the same critical perspective—Lorenzo Fioramonti’s Gross Domestic Problem, and—from a more nuanced perspective—my own GDP: A Brief but Affectionate History and Zachary Karabell’s The Leading Indicators.

Dirk Philipsen’s book has some additional historical detail but it is a rather emotional book. There are, for example, assertions like: “It is safe to say our ancestors, for some 200,000 years prior to the agricultural revolution, engaged in labour only to the very extent to which it helped them survive.” Really? No cave paintings, ancient jewelry, religion? Or, because of our “fixation with the accumulation of things,” trying to capture the reality of late 18th century life “by saying that people were poor would represent a fundamental misread.” So were they not less well-nourished than we with more illnesses, and shorter lives, and many children dying in infancy? Did women (and even men) not spend hours in domestic drudgery? I do not hesitate to call people in the 18th century poor on this basis; it was nothing to do with a passion for accumulating cars or handbags. I don’t want more than one washing machine but wouldn’t be without the one.

The Little Big Number identifies the turn to growth rather than levels of national income as a policy aim in the 1950s. Philipsen attributes this to American optimism as the victor in World War II. Another possibility is that it was driven by the dawning Cold War, and the need to demonstrate over and over that the American system was superior to the Soviet one. Geoff Tily pinpoints a 1961 Organisation for Economic Co-operation and Development document as the first official reference to targeting growth, so quite a while after the end of the Second World War.

The second half of the book looks at the “beyond GDP” debate, oddly asserting that nobody paid much attention to the limitations of our conventional economic measurement between Robert Kennedy’s assassination and congressional hearings in 2001. This is U.S.-centric; the global environmental movement kept the candle burning for alternatives all through that period.

Philipsen likes indicators such as the Global Progress Index. These show progress coming to a complete halt in the 1970s. This always seems absurd to me: even if the 1970s were a real turning point in terms of costs to the environment, which gets a heavy weight in such alternative indices, there has been a lot of welfare-enhancing innovation and straightforward growth since the 1970s. It’s not just the invention of the cancer-busting drug tamoxifen or of the Internet, but the fact that more westerners live in houses with phones, indoor toilets, and central heating. Of course there is a tradeoff with the environment but is that really no progress? Nor is Philipsen interested in the issues about defining either market output or social welfare for the growing category of digital goods that are often free and have strong public good characteristics.

The book advocates ditching GDP completely, and having a national dialogue about economic goals based on the principles of sustainability, equity, democratic accountability, and economic viability. It isn’t clear how this prescription fits with the several “dashboard” initiatives under way now, which are described here. Named in a nod to the kind of indicator dashboards many companies use, these include a number of indicators meant to capture a broader sense of social well-being, such as work-life balance, environmental quality, and civic engagement. They were recommended by the influential Stiglitz-Sen-Fitoussi Commission in its 2009 report.

The dashboard approach is attractive, as is public consultation. However, it isn’t yet clear which dashboard is best or what should go in it.

So the real need now in order to create a “Beyond GDP” set of social accounts is for the hard grind of the kind that the forerunners and creators of modern national accounts, Simon Kuznets, Richard Stone, and James Meade and their many colleagues, sustained through the 1930s and 1940s in creating GDP in the first place.

Some nominal aggregate measure of activity is necessary for fiscal and monetary policy. The national accounts statistics as a whole also contain a lot of the material that could furnish a meaningful dashboard, so again it would be a waste of an intellectual asset to ditch all of that. However, the answer to the underlying question, are we going to move “beyond GDP”? is a resounding “yes.”

Diane Coyle

Professor of Economics at the

University of Manchester and author of

GDP: A Brief but Affectionate History

Being Human

Richard Thaler

Misbehaving

The Making of Behavioural Economics

W.W. Norton & Company Inc, New York, 2014, 432 pp., $27.95.

Behavioral economics sees the world as full of humans, not “econs,” in the language Richard Thaler and Cass Sunstein popularized in Nudge, their seminal work in this area. Now Thaler has a new book on the subject, but this time he describes his struggle for acceptance of behavioral approaches by the economics profession. The result is a very human book, starting with a moving tribute to Amos Tversky, whose work with Daniel Kahneman would surely have won him the Nobel Prize had he not died tragically at 59.

In the spirit of full disclosure, I worked with Thaler when the U.K. government was setting up the first major “nudge unit” to test behavioral concepts. I enjoy his company and his ideas: when I took him to the pub in London, we discussed whether the British habit of buying drinks in “rounds,” taking turns to pay for everyone, leads to drinking too much.

The book is highly readable but also a serious study of behavioral economics as an example of a paradigm shift, as suggested by Thomas Kuhn in The Structure of Scientific Revolutions. Debate inside the University of Chicago and beyond was clearly intense and sometimes personal. Thaler describes his own career as a struggle against the prevailing orthodox model of “rational choice.” The book lists “anomalies,” findings that appear to contradict the rational model, from fields as far apart as game shows and pension savings. These findings were clearly not received warmly by many economists. Thaler talks of “running the gauntlet” at seminars, where opponents said the evidence was irrelevant because it is still possible to assume people behave “as if” they were following the rational choice model. His stories suggest that many econs display the very human trait of confirmation bias, which is not surprising given the radical way behavioral insights challenge traditional theories.

Thaler’s anomalies compellingly demolish old approaches, but what should take their place? Presumably we need to base our models on assumptions consistent with how humans actually behave. The real success of behavioral economics is that it has led governments to change policies and the way they are implemented. Thanks to behavioral insights more people now donate organs in Brazil, pay taxes in Guatemala, hesitate to litter in Denmark, use condoms in Kenya, and save for retirement in India, the United States, and the United Kingdom. The list is long, impressive, and growing. Of course, the book isn’t perfect: Thaler is human. Those outside American universities don’t get much attention. Thaler is, in many ways, a traditional economist—not surprising for someone who has spent so much time in American economics departments. In fact, while I was Executive Director at the IMF and the World Bank, my gripe about economists there was that despite their apparent diversity, all had been trained at American universities to think in similar ways. In the book, you will look in vain for references to University College, London’s Centre for Behaviour Change, or the Centre for Behavioural Economics at the National University of Singapore. I would also have liked to read more about philosophical issues: the balance between libertarian and paternalist aspects highlighted in Thaler’s first book. Thaler is very much a utilitarian, but shies away from measures of subjective well-being.

Thaler worked hard to keep the book to a manageable length, which unfortunately meant skipping over some other interesting topics, such as applications to development policy in, for example, Abhijit Banerjee and Esther Duflo’s Poor Economics and the World Bank’s 2015 World Development Review. Nor does he get into the nitty-gritty of testing behavioral insights. Theories are not precise enough to tell us what works in various situations and contexts, so testing is crucial. Joseph Henrich, Steven J. Heine, and Ara Norenzayan have pointed out that nearly all research in psychology is conducted on a small subset of people from cultures that are Western, educated, industrialized, rich, and democratic—or WEIRD, to use their arresting acronym.

Global institutions should therefore be wary of applying such findings to other cultures. I tested this out at a lecture in Australia, showing the audience messages the U.K. nudge team had used to persuade people to donate their organs. The message the Australians chose as most persuasive differed from the one obtained through U.K. randomized trials. The Australian audience was fairly WEIRD but clearly different.

Thaler has a message for the IMF: there is plenty of room for behavioral approaches to fiscal areas—improved tax collection, for example—but behavioral economists should move from the world of microeconomics to macro. This leap represents an understanding that politicians, bureaucrats, managers, workers—and even staff in international institutions—turn out to be human. Policy prescriptions that assume otherwise can go badly astray. In my view, failing to read this book should definitely count as misbehaving.

Gus O’Donnell

Non-Executive Chairman of

Frontier (Europe) and previously

U.K. Cabinet Secretary

Paradise Lost?

David Kotz

The Rise and Fall of Neoliberal Capitalism

Harvard University Press, Cambridge, Massachusetts, 2015, 270 pp., $39.95 (cloth).

The worst kind of nostalgia is pining away for a time that never was. The Bible kicked it off with its account of Eden. Hollywood kept it going with films about the Wild West. Economist David Kotz contributes to the genre with The Rise and Fall of Neoliberal Capitalism. The book is an economic history of the period after World War II, when—according to Kotz—capitalism was gentler, more humane, and much better regulated.

The form of capitalism Kotz thinks held sway between the end of the war and the early 1980s was fraught with contradictions. He asserts that even though taxes were higher then, people did better and the economy grew faster. Even though trade was more restricted, companies thrived. Even though prices for many goods were not allowed to float freely (they could be set under “fair trade” rules), people saved more. Even though Wall Street’s commissions were fixed and higher than today’s averages, the financial sector accounted for a much smaller share of GDP and of profits than it does now.

Kotz says there was harmony between employees and employers, with unions granted a seat at the table. (However, somewhere under a parking lot or football stadium lies disappeared labor union leader Jimmy Hoffa, who can confirm or deny just how harmoniously labor and business interacted.) The economic geniality and harmony of the 1950s, 60s, and 70s was a hallmark of post-World War II capitalism, Kotz suggests.

In Kotz’s history, every group was better off yesterday than today, except the 1 percent. But Kotz doesn’t mention how the environment fared or how safe workers were in the workplace before the U.S. Occupational Safety and Health Administration and Environmental Protection Agency. Nor does he talk about health care or today’s medical, pharmaceutical, and scientific breakthroughs. Kotz also bypasses innovation. This book is about economics; it is not a business book.

He also passes rapidly over finance. And when he glances at it, Kotz does so mostly in negative terms—for example, in his examination of mortgages, especially the saga of Countrywide, the largest provider of home mortgages before the housing crisis.

A problem with Kotz’s book is that no one knows for certain whether his counterintuitive view that when capitalism was more tightly regulated it was more vibrant is right or wrong. There is a lot of noise in the numbers Kotz uses to make his points. For example, he writes that GDP grew at an average rate of 4 percent from 1948 to 1973 and slowed to 3 percent from 1973 to 2008. This fall-off in the growth rate indicates to Kotz that when capitalism was restrained by tougher rules and regulations, it did better. Far from slowing growth, as many economists argue, New Deal and post-WWII regulations accelerated it. The argument is capitalism does best when its hands are tied.

Global growth, according to Kotz, followed much the same trajectory. He argues that the global slowdown was the result of a capitalist system that was more competitive (and more cutthroat), and as market prices replaced managed prices, these more intensely competitive forces were a drag on growth. Really?

I find other arguments about growth during these periods to be much more persuasive. For instance, during the 1950s and 60s, the economy was vigorous because the world was still rebuilding in the aftermath of the war. In addition, housing exploded as the country tried to accommodate the baby boom. Housing sales, as we know, have a powerful effect on the economy since homeowners tend to fill up their new digs with everything from furniture to dishwashers and refrigerators.

The big question is how today’s capitalism compares with post-WWII.

Investments in big projects—infrastructure, housing, and so forth—have among the highest and longest-lasting economic multiplier effects, and these effects were especially beneficial for young males without skills trying to decide whether to go to college under the GI Bill or acquire skills some other way. Taken together, big infrastructure projects led not just to jobs but to a shortage of labor. Such shortages drove up wages and increased savings.

The big question this book raises is how today’s form of capitalism compares with what it was immediately after World War II. It is an interesting question and could even yield counterintuitive answers, but Kotz’s case is not persuasive. He just doesn’t make the case that highly regulated economies are healthier, grow faster, and accommodate the needs of people better than more laissez-faire forms of capitalism.

I was disappointed. This book seems to be the kind of project that was begun when the world leaned one way but finished when it was leaning the other way, and Kotz failed to include those changes in the book. In other words, the highly regulated, fast-growing, harmonious period Kotz wrote about (with as much nostalgia as an economist can muster) never really took place.

Joel Kurtzman

Senior Fellow at the Milken Institute

and the Wharton School’s

SEI Center for Advanced Studies

in Management

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