Monday, June 11, 2012

Division of labor is not in fact the source of wealth


I find I have a lot to say still about Deirdre McCloskey's book Bourgeois Dignity: Why Economics Can't Explain the Modern World, which I think is proportionate to the insightfulnesss and intellectual range of her book. In fact there's still four main topics i want to cover: Allocative efficiency, Institutions, Science and Technology, as well as my puzzlement over why she does not relate her thesis about innovation to studies about evolution and algorithmic efficiency. Take allocative efficiency first, because it is so ingrained in any of us who have studied economics.

Nor was Adam Smith correct that the wealth of the nation depended on the division of labor. True, the economy did specialize. Ann Kussmaul's pioneering work on rural specialization showed it happening in England from the sixteenth century onward.
So it was too early to explain the revolution by itself. And increases in efficiency don't add up, either. Perhaps I'd forgotten, or didn't come across at college, Harberger's growth accounting. If you multiply increases in efficiency in key sectors by their actual size in the economy, you get quite small numbers. Take enclosure for example.

Harberger's Law asserts itself again: (1/3) (1/2) (io percent) = 1.7 percent of national income to be gained from the enclosure of open fields.
Allocative efficiency does not take you very far in itself. Changes in the allocation of labor to rising or falling industries does not make a great deal of difference.

Expanding the woolen industry and shrinking the growing of wheat might achieve for the nation, if the reshufflers were lucky or skilled, a national gain of 10 percent. But not 1,500 percent. To put the findings another way, we have learned since 1970 many nots: that industrialization in Britain was not a matter of internal reallocation of the labor force, nor of transport innovation, nor of investment in factories, nor even of foreign trade-all of which are matters of reshuffling the employment of labor, land, and capital. The making of the modern world was not a matter of a merely reshuffling prudence and temperance.

This of course has implications for how important you think capital markets or private equity are to the economy. It isn't a welcome argument for Bain Capital and co. (Sorry, Mitt.)

Trade and Empire

Nor, she says, was the great leap a matter of international trade and empire.

Empires were not necessary. Thus Belgium, without an empire on its formation in 1830, industrialized smartly, as at the same time did the Rhineland, which was a part of a non-nautical and nonimperial (overseas) Prussia. Both of them saw the price of tobacco, sugar, spices, bananas, cotton, and other tropical and subtropical products fall greatly as imperialist and nonimperialist Europeans traded with the world. Overseas trade was not about Britain but about Europe. Britain's overseas trade, in short, can't explain Britain's peculiarity.
And forget, as we saw with Marx's notion of primitive accumulation, your dependencia or anti-colonial prejudices.

The modern corollary of the historical argument is that the prosperity of the West depends not at all, or at the worst very little, on exploiting the third world. Imperialism was bad. Badness, however, does not invariably bring profit to the bad man. British imperialism was about protecting the sea routes to India. Yet India itself, one can show, yielded no economic benefit to the average person in Britain. Imperialism had therefore no national economic point.
Again, her point is that innovation matters far more than anything else. Pushing out the production possibility frontier matters far more than efficient allocation within it. After all, even the greedy, exploitative rich in the past were not, in fact, all that rich.

What comes out of the economics, in other words, is that on the whole, and time and again, the attempt to live off poor people has not been very profitable. Even the rich in former times, who for millennia did in fact live off poor people, remained poor by the standard of ordinary people after modern economic growth.
Louis XIV did not have a reliable hot shower or color tv, even if he was way ahead in gold trinkets and horses. In the end, efficiency and accumulation do not explain the great leap.

None of the static arguments, and few of the dynamic, have any chance of explaining what happened in modern economic growth. No merely static improvement of conventional economic factors in 1780 or 1700 can come remotely close to the curve of Now. That's why this greatest of secular historical events cannot be explained by static reallocation. And if it is to be explained by "dynamic" accumulation one has to explain, too, why earlier accumulation did not get the same explosive result.


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