Good governance and economic development

In North Korea the accepted value system is that even if one works hard, one is
not able to enjoy its fruits since it is immediately appropriated by the state. But
in the South, they are aware from early in life that if they are successful as
entrepreneurs or workers, they can enjoy the fruits of their hard labour. The
institutional structure in North Korea is extractive while that in South Korea is
inclusive. The picture shows young children listening to a speech by North
Korean Leader Kim Jong Un (unseen) at a youth rally speech – Pic courtesy CBS
News
 Part II of paper presented at SLEA Annual Sessions 2019

Economic policy governance

The rationale of economic policy governance could be explained by drawing on

the viewpoints expressed by French economist, philosopher and legislator
Frédéric Bastiat in two of his publications, one in 1848 and the other in 1850.

In the first publication, ‘Selected Essays in Political Economy,’ Bastiat has

distinguished between a bad economist and a good economist. A bad economist
would see only what is seen at the moment and upholds a policy if it contains, at
the very first glance, perceived benefits to society. A good economist would see
through the effects of the policy that would come subsequently as well. Since
such subsequent effects cannot be seen, they have to be foreseen. A good
economist, therefore, confines himself to both seen and to be foreseen.

Economic policies which are being implemented by those economists in the

government bureaucracy tend to overlook this ‘to be foreseen’ aspect because
such an approach does not serve the objective of their political masters, namely,
political expediency. Hence, they uphold only what is seen. If ‘to be foreseen
aspects’ bring in unsavoury effects, the policies pass unexpected miseries on
people who are supposed to be supported by them. Hence, it is necessary to
assess both the ‘seen aspects’ and ‘to be foreseen aspects’ before any policy is
introduced. This is the starting point of economic policy governance.
Legal powers of governments are to protect property and not to destroy it

Bastiat in his 1850 publication, ‘The Law,’ has remarked that law is simply “the
collective organisation of the individual right to lawful defence”. The right
referred to here is the right to person, liberty and property. The lawful defence
involves the use of force to defend oneself and not to destroy the right of another
to his person, liberty and property.

“And this common force,” says Bastiat, “is to do only what the
individual forces have a natural and lawful right to do: to protect persons,
liberties, and properties; to maintain the right of each, and to cause justice to
reign over us all”.

In such a society, according to Bastiat, order will prevail among the people in
thought as well as in deed. It therefore, carries rights as well as responsibilities:
right to protect oneself and responsibility not to destroy another’s. If the
government does not intervene, says Bastiat, it would cause to develop a system
in which people’s wants and their satisfaction would develop in a logical manner.

Explains Bastiat this logical manner in ‘The Law’: “We would not see poor families
seeking literary instruction before they have bread. We would not see cities
populated at the expense of rural districts, nor rural districts at the expense of
cities. We would not see the great displacements of capital, labour, and
population that are caused by legislative decisions.”

Labouring is painful, but plundering is easy

Bastiat remarks that man can live and satisfy his wants by using his labour and
mental faculties to natural resources ceaselessly, thereby giving birth to
‘property’. But man can also acquire property by plundering those developed by
others. Since this is the less painful and easier way to acquire property than
expending one’s labour, there is a natural tendency, according to Bastiat, for
plundering rather than labouring.
Because of this natural tendency, Bastiat says that neither religion nor morality
can stop people from resorting to plundering of property owned by others.
Though the force of law is to be used to stop plundering of property, alleges
Bastiat, those who wish to plunder would acquire power to make laws that enable
them to engage in lawful plundering. The result is a chain of events that converts
law, instead of an instrument of protection, to an instrument of lawful plundering.

Governments extract private resources

Modern governments, for practical reasons, cannot be relegated to laissez faire
governments with least intervention in the economy, though that has been the
most ideal form. Hence, powers have been given to governments to frame
economic policies to lead nations to prosperity, a common goal of all nations.
These powers enable governments to exact resources from society through
taxation, coercive expropriation or generating price inflation in the economy and
expend the same back on society.

The criterion to be used by governments in this seemingly public good delivering

exercise is simple: What is delivered to society should be more than what is
exacted from it. But these powers, contrary to the good intentions they underlie,
could be abused by bad economists in authority. They could just highlight only
what is seen and put into effect systems that permit lawful plundering of property
developed by one class by a class they favour. Such bad economic policies bring in
a loss to society on a net basis highlighting the need for establishing proper
economic policy governance systems.

Institutions are values and beliefs in society

In modern times, plundering of economic resources has been explained as the

cause for some nations to fail while others to succeed by two economists, Daron
Acemoglu of the Massachusetts Institute of Technology and James A Robinson of
Harvard University.

In their 2012 book, ‘Why Nations Fail: The Origins of Power, Prosperity and
Poverty’, the two economists have argued that it is all to do with the nature of
institutions a country has. Institutions for economists are not the institutions
which are commonly meant in society. In economics, they mean ‘the rules
influencing how the economy works and the incentive structure that motivates
people to do what they do’.

In other words, institutions are simply the values, beliefs and behavioural
patterns that guide a nation as a whole. This is equally applicable to individual
units functioning in an economy such as a family or a company and to their
aggregation at national levels which are called nations.

They have called the type of institutions that cause nations to fail as ‘extractive
economic institutions’; in the opposite, those who contribute for nations to
succeed are called ‘inclusive economic institutions’. A classic example, according
to Acemoglu and Robinson, to illustrate this has been provided by North Korea
and South Korea which are made of the same ethnic stock, the same geographical
attributes and the same natural endowments.

North Korea drives youth to despondency

Teenagers in North Korea are beset by a common institutional structure: growing

up in poverty without entrepreneurial initiative, creativity or adequate education
that equips them for skilled work. The accepted value system is that even if one
works hard, one is not able to enjoy its fruits since it is immediately appropriated
by the state. It forces some of them to get into illegal economic activities which
are high cost and high risky. For others, it is a life of despondency.

But in the South, the youth have prospect of growing up into success through
good education and excellence in chosen vocations. They are aware from early in
life that if they are successful as entrepreneurs or workers, they can enjoy the
fruits of their hard labour. They have the prospect of improving their standard of
living.

The institutional structure in North Korea is extractive while that in South Korea is
inclusive. In extractive institutional systems, the state plunders the fruits of hard
work by its population through various devices and apportions them among those
who support or are made up of the top echelon of the government.

Say Acemoglu and Robinson: They are “extractive because such institutions are
designed to extract incomes and wealth from one subset of society to benefit a
different subset”. In contrast, “inclusive economic institutions create inclusive
markets which not only give people freedom to pursue the vocations in life that
best suit their talents but also provide a level playing field that gives them the
opportunity to do so”.
Sri Lanka’s post-conflict situation has thrown an enormous challenge at the
country’s political leadership. That is, through good governance measures, to
establish ethnic, racial and religious harmony among diverse groups living in the
country. Such harmony is needed to avoid the repeat of a costly experience which
the country had to undergo during the past three-and-a-half decades. It requires
on the part of the political leaders to act with a foresight. Good governance
principles require that foresight to treat all ethnic groups in the country as shared
partners of a common destiny rather than considering one group as conquerors
and others as defeated subjects

Facilitating politicians prosper extracting economic institutions

Acemoglu and Robinson say that extractive economic institutions are prospered
by the type of the political setup prevailing in a country. If the political parties or
those who lead political parties wield exclusive political power, that is, only they
could engage in illegal acts with impunity and not others, the whole economic
system is converted to an institutional system that preys on others to sustain
itself.

Extracting resources from others is considered a normal and moral activity by

politicians and those who are around them. The values that are implanted into
the psyche of all those in society have only one element. That is, robbing from
society, either through government or through the market by means of franchises
bought from politicians, is a normal legitimate activity.

In such a system, misusing state property for private gains is considered an

innocent activity which should not be an offence to be handled by law
enforcement authorities or an immoral act to be discussed publicly by civil
society. Thus, all institutions in government or in civil society are converted to
instruments supportive of extraction.

An example was the recent downplaying, by the former President as a very trivial
act, of using some 20 odd vehicles belonging to the State for private commercial
gain by a top politician in Sri Lanka. Such intolerance of the acts of extraction
supported by its justification in public leads to the establishment of a value and
belief system endorsing what extractive economic institutions do in society.

Wholly inclusive economic institutions are the best

Economic policies can create either extractive institutions or inclusive institutions

or a mixture of both. Extractive institutions will plunder resources from beginning
to the end. Inclusive institutions will prosper resources and allow citizens to enjoy
the fruits of their labour.

The mixture of both extractive and inclusive will provide a better deal to society
depending on the relative importance of the extractive side or inclusive side in the
whole institutional structure. If the extractive side is preponderant, then, it is as
bad as extractive institutional setup created by the first type; in a setup where
inclusive type is preponderant, it is still acceptable though it is not the ideal setup
which a society should aspire to have. That is because it does not allow a society
to have the best for its future.

Dismiss extractive institutions

So, what is to be dismissed by a society is a structure in which institutions are

wholly extractive or preponderantly extractive. What is to be aspired is a wholly
inclusive institutional structure; a structure where inclusive aspects are
preponderant maybe accepted as a temporary arrangement until a society moves
to a wholly inclusive institutional structure.

Economic policies should not prosper extractive institutions

So, what is the responsibility cast on economic policymakers? They should avoid
policies that lead to wholly extractive or preponderantly extractive institutional
structures. If any policy leads to a structure where inclusive side is preponderant,
they should have that policy under continuous surveillance so that they could
adopt measures to change into wholly inclusive institutional structures as the final
goal of policy.

Contributors to extractive institutions

How could an extractive or preponderantly extractive institutional structure be

established in society? There are two contributors. One is the general policy being
implemented by the state favouring or promoting economic extraction. The other
is the individual policies that permit one setup of society to extract economic
resources from another setup.

Governments’ failure will generate extractive institutions

In the first case, governments’ failure to uphold three good governance

requirements will change the entire value and belief system in society. They are
the non-observance of the rule of law, violation of property rights and toleration
of bribery and corruption in society. When these bad elements are supported by
the prevailing exclusive political setup, the nation descends to a perilous state.

The programme to introduce constitutional reforms in Sri Lanka after the

Presidential election in January 2015 sought to address this issue. The
implementation of the programme only halfway through so far has denied society
the benefit which it sought to bring in. Hence, the system of governance in Sri
Lanka today is not different from that prevailed prior to Presidential election in
January, 2015. As such, the country has the same risk with respect to economic
policy governance.

Economic policies should be made by technically qualified experts and not

politicians

The individual policies are in the hands of the economists working under political
authorities. If they fail to assess the outcome of a policy as it pertains to today as
well as in the future, the overall impact of the policy, whether it is wholly
extractive, wholly inclusive or a mixture of both, is not taken into account. This is
the working of the bad economist referred to by Bastiat. The result is a net loss to
society.

To prevent such a net loss, economic policy making should be handed to a group
of technically qualified individuals instead of leaving in the hand of a single official
or a single politician or a group of politicians. Such group assessment will prevent
the implementation of policies that do not bring in overall economic benefits to
society. Hence, economic policy makers should be made accountable even after
they leave office if the policies which they have implemented have brought a net
loss to society by allowing one group of people to extract resources from another
group of people.

These are important requirements which have to be put in place in order to

satisfy economic policy governance. Since it is unlikely that politicians would
implement them on their own, it is important to empower civil society so that an
effective voice could be made whenever there are deviations from the accepted
policy.

Conclusions

Governance in both political and economic spheres has been an important

element in ensuring sustainable development of a society. However, issues
relating to governance arise due to two interconnected reasons: Principal-Agent
problem and selfish behaviour of individuals.

In ancient times, kings or rulers were required to observe 10 royal qualities of

government obviating the necessity for enforcing governance requirements from
outside. In modern times, such self-discipline cannot be expected of rulers and
therefore it has become necessary for societies to enforce governance codes as
explicit requirements.
Sri Lanka’s post-conflict situation has thrown an enormous challenge at the
country’s political leadership. That is, through good governance measures, to
establish ethnic, racial and religious harmony among diverse groups living in the
country. Such harmony is needed to avoid the repeat of a costly experience which
the country had to undergo during the past three-and-a-half decades. It requires
on the part of the political leaders to act with a foresight. Good governance
principles require that foresight to treat all ethnic groups in the country as shared
partners of a common destiny rather than considering one group as conquerors
and others as defeated subjects.

(W.A. Wijewardena, a former Deputy Governor of the Central Bank of Sri Lanka,
can be reached at waw1949@gmail.com.)
Posted by Thavam