Policy signals in Nobel prizes ’09 in economics
By Shahid Javed Burki
Monday, 19 Oct, 2009
THE various Scandinavian committees charged with awarding the Nobel Prize for various endeavours continue to send powerful signals for policy shifts.
First the Norwegians awarded the coveted Peace Prize to President Barack Obama of the United States saying that by preferring diplomacy over unilateral action, he had set a new tone in world affairs.
Obama is showing that the United States cannot dictate to the rest of the world what is only in its own interests. Now the committee in Sweden has awarded the Nobel Prize in economics – formally known as the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel – to two American scholars who had discarded the rationality and “market is perfect” approach to economics by concentrating on the way the real world works.
The two who were thus honoured are Elinor Ostrom, a political economist at Indiana University, and Oliver Williamson of the Berkeley campus of the University of California. The work done by the two – in particular by Professor Ostrom – is of considerable significance for developing countries such as Pakistan. She is also the first woman to be given the prize in its 41 years’ history. And she is the first winner of the prize whose basic training was in political science rather than in economics.
The Nobel judges, in their description of the work done by the two winners said that economic science should extend beyond market theory and into actual behaviour. The two academics awarded the prize had done that. In a news conference given after the award was announced, Ostrom said that her “work shows the importance of combining ideas from economics, political science, sociology and other fields in order to understand how the real world works”.
Summarising their work, the award announcement said: “Rules that are imposed from the outside or unilaterally dictated by powerful insiders have less legitimacy and are more likely to be violated. Likewise monitoring and enforcement work better when conducted by insiders than by outsiders. These principles are in stark contrast to the common view that monitoring and sanctions are the responsibility of the state and should be conducted by public employees.” Professor Williamson received the reward for his work on large corporations and for his findings that they exist because, under the right conditions, they are an efficient way to do business. According to Nobel Committee’s citation applauding his work, “large corporations may, of course, abuse their power.They may, for instance, participate in undesirable political lobbying and exhibit anti-competitive behaviour.” What should be done to ensure that large firms use their economic and financial power that does not go against larger social interest?
In reacting to the news that he had won the Nobel Prize, Professor Williamson answered this question by reminding people that the confidence in the selfcorrecting role of the market can be misplaced. “If you believe that markets operate in Alan Greenspan fashion, then you don’t enquire into the details. One assumes that that the outcome is optimal but that assumption cannot be made”.
However, it is the work of Professor Ostrom that has much greater relevance for a country such as Pakistan that is struggling to develop local systems that would protect the economic interests of the less-well-endowed and prevent poaching by the po litically and socially powerful. She works in collaboration with Vincent Ostrom, her 90 year old husband, and has gathered most of the material for her work by undertaking extensive field work.
Her initial focus was on understanding what economists call, “the tragedy of the commons”. According to this line of thinking, it is perfectly rational for people to maximise their own welfare when using common resources even when such an approach would do long-term harm. Thus when there is common ground available to shepherds, the tendency will be to overgraze it even if the land would be damaged over the long-run. There are two ways of handling this problem. One is to have a central authority institute laws to manage the commons. The laws would discourage irresponsible use even when it produces private profit by punishing those who violate it. Such an approach creates powerful bureaucracies that abuse their power in rent seeking behaviour.
The other is to move the common property to private ownership. Ms Ostrom concluded in her earlier work that the tragedy of the commons was an inaccurate concept. “Particularly in the 17th and 18th century England and Scotland, the concept described villagers’ overgrazing their herd on the village commons, thereby destroying it as pasture.’ Privatisation of land that ensued inflicted a lot of damage on the poor. Privatisation of the property held by a community of users often results in harming the majority of its members. According to Joseph Stiglitz, another winner of the Nobel Prize, “conservatives used the tragedy of the commons to argue for property rights, and efficiency was achieved as people were thrown off the commons. But the effects of throwing a lot of people out of their livelihood were enormous. What Ostrom has demonstrated is the existence of social control mechanisms that regulate the use of commons without having to resort to property rights.” Ms Ostrom has applied her findings to a number of different situations. “When local users of a forest have a long-term perspective, they are more likely to monitor each other’s use of the land, developing rules of behaviour. It is an area that standard market theory does not touch,” she has written.
Another example comes from the field of environment. Degradation of the earth’s atmosphere has been caused by the excessive discharge of pollutants such as carbon dioxide into the atmosphere. There is resistance to any attempts to regulate this or to have the pollutants pay the price for their activities. But it has been found that the same people will behave differently when the damage they are doing is obvious and visible. Getting the government to intervene when civic responsibility is not viewed in terms of personal interest is often not very productive.
Translating these findings to the situation in Pakistan, one would conclude the following. First, greater space should be given to the communities to formulate their own rules of behaviour. This means developing institutions of local governance that are flexible so that each community can develop its own way of conducting its business. This would not only lessen the burden on the government but also ensure that the rules are followed by all members of the community.
Second, education should include explaining to the people what are the benefits and costs to them of their everyday actions. In that way they will be able to change their behaviour in a way that brings them long-term benefits.