Friday, November 05, 2004

Time horizons

The more general point to make in this post is about time horizons, political power and economic growth. A Marxist framework is easiest: imagine an unchanging class of “capitalists.” Their economic power translates into political power. What do they do with this power? There are basically two options. One, they use their power to capture short-run scarcity rents. In doing so, government policy is not conducive to economic growth. While the capitalists do better over some short time horizon (say ten years), over the long run, the economy has not grown as much so they have captured a larger share of a smaller pie. Second, the capitalists could consider the long-run (say fifty years). They realize that they (or their descendants) will be the beneficiaries of economic growth -- given that it will produce both a larger pie, more GDP, and a better pie, more innovation. So they use their political power to force the government into a reasonable policy conducive to economic growth. Then there is a larger pie and while their share of the pie remains about constant the pie is big enough that they are better off than they would have been.

Why is it that we see the capitalist classes picking the first, rather than the second option? One, what matters to an individual in society is relative prosperity not absolute prosperity. I don’t care how rich I am, so long as I am n-times richer than you. I’ll do anything, even sacrifice overall levels of prosperity, in order to increase my relative advantage over you. Second, the people making decisions for the capitalist class only have time horizons of ten years or so. By the time you have power in a company or significant wealth, you are probably fifty or sixty and so do not care about the long-run (per Keynes we’re all dead then anyways). And you act in your own self-interest rather than that of the classes. So people who have an interest in the long-run get screwed.

This is basically the argument that Vivek Chibber makes in Locked in Place: State Building and Late Industrialization in India, that in the 1940s Indian capitalists did not use their political power to facilitate a developmental state, instead, they blocked it. Obviously this short-term behavior is, in some sense, rational. But if there are no political forces focused on the long-run then a given economy cannot grow, making everyone worse off. And what is worrying about that article is that there is no constituency for a long-run focus. The negotiation between long-run and short-run is a whole other post...

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