too much democracy is bad for growth, OK?

Les Schaffer schaffer at
Wed Apr 18 14:10:38 MDT 2001

[ from Mark Jones ]

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Subject: Hanley on Haber, editor, _Political Institutions and Economic
Growth in Latin America: Essays in Policy, History, and Political

------------ EH.NET BOOK REVIEW --------------
Published by EH.NET (April 2001)

Stephen Haber, editor, _Political Institutions and Economic Growth in
Latin America: Essays in Policy, History, and Political Economy_.
Stanford, CA: Hoover Institution Press, 2000. x + 294 pp. $18.95
(paper), ISBN 0-8179-9662-1.

Reviewed for EH.NET by Anne Hanley, Department of History, Northern
Illinois University. <ahanley at>

_Political Institutions and Economic Growth in Latin America_ is a
book of essays that explore the important question of how, when and
why institutions -- the rules and regulations that permit and bound
economic behavior -- matter in the process of economic growth and
development. There is widespread agreement among social scientists
that institutions matter, but because this relationship is so
difficult to test social scientists are unsure which institutions
affect growth and to what degree. The principal problem, it seems, is
that most research has studied cases that have long histories of
well-developed markets. The question becomes one of feedback. Did the
market evolve in anticipation of or in reaction to institutional

Stephen Haber, the editor of this volume as well as a contributor,
argues that to truly test this hypothesis the social scientist needs
cases where uncertainty and upheaval, rather than successful
institutional and market evolution, reigned. We need cases where
institutions departed from the progressive path to actually reduce
property rights; where political regimes shifted abruptly; where
social and economic revolutions made it impossible for markets to
anticipate institutional change. What we need, in short, is to study
Latin America. Latin America's instability is so great, so legendary,
that it makes it not just a possible laboratory but the _perfect_
laboratory to test the central tenet of institutional theory.

The five essays in this volume, the product of a collaborative
research symposium held at the Hoover Institution in 1998, examine a
range of notions we hold to be true: access to capital is good for
business development, railroads reduce costs and generate gains for
the economy, education is critical to improving income levels and
hence standards of living, clearly-specified contracts lower
transactions costs, politicians can muck up the best of economies.
The innovation is that the authors devise tests to measure how these
truths behave in the face of political institutions that enhance,
distort or diminish their power to transform economy and society.

The theoretical point of departure that binds these works together "is
the notion that economic institutions cannot be studied in isolation
from the institutions that regulate politics. Economic institutions,
and their enforcement and refinement ... are the result of both
interest group demands and the specific features of decision making in
the polity, which themselves are governed by institutions"
(p. 10). Thus, the study of the origins and consequences of economic
institutions also requires that we study the institutions that
structure political decision making. The result is a powerful set of
insights into Latin America's persistent failure to break out of its
poverty and rectify its inequality.

Stephen Haber takes the idea that access to capital is good for
business development and applies it to Brazilian textiles to
demonstrate how well-developed capital markets matter in economic
growth. A sudden shift in political regimes brought on by a coup in
1889 ushered in a government friendly to business. This government,
reversing decades of ambivalence toward domestic development,
introduced sweeping changes to the regulatory environment that made it
easy to form limited-liability joint-stock companies. The resulting
improvements to capital mobility, Haber argues, promoted rapid
industrial growth after 1890. In a rich and multi-layered analysis of
the textile industry from 1866 to 1934, Haber finds that the
joint-stock firms formed after the 1890 reform were larger, had higher
rates of investment and growth, and higher total factor productivity
than the private firms formed both before and after
1890. Institutional reform, then, created a positive environment for
economic growth.

Alan Taylor addresses the stark fact that the gains of the early
twentieth century, like those identified by Haber, didn't last.
Capital flows to Latin America dried up after the 1930s and incomes
have fallen farther behind both the OECD and the Asian NICs ever
since. For Taylor, who uses capital accumulation as a proxy for
growth, an important part of the story lies in capital controls
introduced by economic nationalists in the 1930s. Comparing Latin
America to Asia, Taylor finds the greatest long-run distortions in the
price of capital (hence its supply) in countries that actively
intervened with capital controls to manage their economy vis-a-vis a
disintegrating world order. Taylor correlates the propensity to
intervene with the type of political regime and finds that the
interveners had greater tendencies toward populism and even democracy
than the regimes that didn't intervene. In reading this essay one
can't help think that autocratic regimes allowing little competitive
political participation might have produced a better record of
economic growth for Latin America. Indeed, observes Taylor, Robert
Barro's "alarming claim that too much democracy may be bad for
economic growth" is echoed in his findings for Latin America (p.152).

The idea that regimes responding to interest group pressures
sacrificed growth for political gain is reinforced in William
Summerhill's outstanding essay on the distribution of railroad
subsidies in nineteenth-century Brazil. He shows, as expected, that
railroads reduced costs and generated gains for the economy. These
gains could have been greater, however, because most of the rail lines
generated an incredibly low or even negative social rate of
return. Was the Brazilian government that bad at allocating its
subsidies? From an economic standpoint the answer is yes, says
Summerhill, but economic efficiency did not determine the placement of
railroads. Political considerations did. This representative, majority
rule, centralized government allocated benefits to regional projects
via vote in parliament. This meant that provinces with more seats, and
therefore more voting power, were more likely to capture the
subsidies. The resulting railroad network corresponded to political
benefits rather than economic efficiency, and the gap between the two
"proved particularly acute in the context of low levels of overall
productivity and income" that prevailed in nineteenth century Brazil
(p. 64).

Productivity and income can both be increased by investment in human
capital through education, but this is an area in which Latin America
has clearly lagged behind other New World nations. In an engaging
study comparing public education policies among New World countries
Elisa Mariscal and Kenneth Sokoloff ask why only a few of the
prosperous societies arising out of European colonization supported
the establishment of primary schools. For them, the answer lies
primarily in the extent of political participation. Analyzing data
from across the Americas they find a strong positive correlation
between the extent of the franchise and the spread of primary
schools. In the US and Canada, adoption of universal (white) male
suffrage in the nineteenth century was followed almost immediately by
movements for tax-supported schools. The many taxed themselves to
provide schools for their children. In nations of restricted suffrage,
however, universal education would require the few holding the right
to vote to tax themselves to pay for the education of the rest. Since
most nations of Latin America had either wealth or literacy voting
requirements in the nineteenth century, political inequality was
pronounced. Country by country data show this political inequality was
responsible for regional differences in schooling. Given what we know
about the strong relationship between education and income attainment,
this is a powerful way of explaining Latin America's poor record on
equality and development.

Alan Dye's research on Cuban sugar cane contracts rounds out this
inquiry into political institutions nicely because it spans a period
of no government meddling followed by active meddling and suggests how
political considerations distort the efficient allocation of
resources. In the pre-meddling period, cane supplies were delivered by
independent growers to central mills based on contracts negotiated
between grower and miller. Left alone, these parties over time worked
out contract provisions that successfully reduced the costs of
transacting cane. Overcapacity and international crisis in the 1920s
and 1930s disrupted this relationship, however, when the government
intervened to fix quotas for growers and millers. The reason for this
intervention was political: the least efficient mills turned out to be
Cuban owned while the more efficient mills were foreign owned. The
quota system protected Cuban growers and millers in an environment
that almost certainly would have wiped them out, but the action
compromised long-run growth. Dye finds that sugar-to-cane yields,
which had been making steady gains up to the 1920s, stalled as a
result of economic nationalism.

The essays in this book, as well as the comments and critiques
provided in a concluding chapter by Douglass North and Barry Weingast,
all raise questions, qualifiers, and caveats that provide additional
avenues of research into the relationship between political
institutions and economic growth. The strongest case for research,
implied but largely unstated here except in Summerhill's concluding
remarks, is that Latin America's poor growth record has far more to do
with local institutional arrangements than with the external culprits
championed by dependency theory. The fine articles brought together by
Stephen Haber in this volume demonstrate the power of wedding economic
history to institutional history and the promise of doing so in the
Latin American laboratory.

Anne Hanley is author of "Business Finance and the Sco Paulo Bolsa,
1886-1917" in John Coatsworth and Alan Taylor, editors, _Latin America
and the World Economy since 1800_ (Harvard University Press, 1998) and
is currently writing a book on the role of financial institutions in
Brazilian economic modernization.

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