Possibilism: Albert Hirschman and Daniel Adelman

Possibilism

by

Howard Adelman

 

“Political Economics and Possibilism” (pp. 1-34) by Albert Hirschman in A Bias for Hope: Essays on Development in Latin America (1971) Yale University Press.

In the Focus section of The Globe and Mail on Saturday, John Ibbitson invited five leaders outside Parliament to offer the Conservative Government a bold new vision to be included in its throne speech this week. Readers were asked to weigh in as well. John Manley, a former Liberal cabinet minister and now President of the Canadian Council of Chief Executives, suggested raising our vision of population growth from 44 million in 2036 to 50 million by offering citizenship to every foreign student who completes a graduate degree in Canada on the grounds that immigrants create jobs by growing the market for products and goods while at the same time, this proposed youth immigration would do a great deal to re-balance the trend line of an aging population.

David Emerson, a former Liberal and Conservative cabinet minister, senior public servant and business executive,  advocated investing in space in the order of $20 billion over the next two decades as the new railway of the twenty-first century arguing that advanced satellite technology would make it easier to identify potential resources, monitor environmental data, enhance the use of the Arctic trade route and the ability of Canadians to communicate with one another as well as deliver health and education resources to remote communities.

Jaycynthe Coté, CEO of Rio Tinto Alcan, echoing John Manley, advocated doubling the annual intake of foreign students from a quarter to a half million and building on our position as a safe, diverse and welcoming country while offering excellent job prospects. Such an initiative would give us both the immediate benefit of the expenditure of foreign student fees in Canada but also the long term benefits of potential educated citizens or good will ambassadors if those students opt to return home.

Pat Carney, a former Conservative cabinet minister and British Columbian senator proposed an enhanced program on ocean protection with an investment of an additional billion dollars in building on our excellence in ocean observatory technology while developing our ability to ship our natural resources abroad. Preston Manning, former head of the Reform Party and head of the Manning Centre for Building Democracy, proposed a charter of consumer obligations to accompany the rumoured forthcoming consumer bill of rights rooted in greater transparency, choice and recourse. Greater transparency would add to the possibility of wiser consumer choices when consumers know the economic costs of what they consume.

All five proposals offered political links between the economy and political decisions that have become central to our political dynamic. Second, all five proposals, though headlined “immodest”, easily fell within the range of the politically possible. In contrast, one of the three “immodest” proposals published from readers’ submissions was by my son, Daniel Adelman (misspelled as “Aderman” in the article), was truly immodest. His proposal fell into the realm of “necessitism” rather than “possibilism”, even though he too echoed the other proposals in linking economics and politics. As an ardent opponent to the Enbridge Northern Gateway pipeline, unlike his co-provincial Pat Carney, Daniel who lives on Vancouver Island, advocated a radical shift in thinking by recognizing natural capital as a public good, putting an economic value on natural systems and the services they provide (now considered as a freebie), and emphasizing and prioritizing public benefits over private profits. This is an example of necessitism rather than possibilism, not simply because it lies so far outside the Conservative Party’s field of vision, but because the implicit argument behind this immodest proposal is that such change is imperative for without such radical changes, the planet and our way of life will not survive.

Albert Hirschman wrote on the link between politics and economics as integral to the process of social change. Like the above so-called immodest proposals, whether by illustrious or modest Canadians, he was not so much interested in the unique and permanent economic characteristic or characteristics that makes political organization possible as in many political theories such as those by John Locke and Adam Smith, but in the continuing interplay between the two realms. Daniel’s immodest proposal differed from the others not only in its necessitism but in insisting on the methodological: application of modes of reasoning and analytical tools originally developed in economics to the political process, but going even further, by re-categorizing that which is considered a public good, applying economic value to the given world and not just the world into which we have invested our labour and converted it into property or possessions, and by inverting our value priorities to place the greater emphasis on public goods over private property.

One result of such a transvaluation of values would be, presumably, a very different allocation of scarce resources among competing ends, radically different algorithms of input-output relationships and a very radical revolution in political decision-making by presuming a doomsday certainty unless these types of radical decisions are undertaken. Instead of being concerned with making decisions under uncertainly, politics would be energized by making decisions in the face of an apocalyptic doomsday certainty that will soon be upon us if action is further delayed.

The close linkage between politics and economics is the central motif of politics these days whether in the budget crisis and the refusal to raise the debt ceiling in Washington or in the proposal for a consumer bill of rights promising more competition (past promises) or more and better consumer options (presumably the forthcoming throne speech) clearly intended as an effort to lure voters to the Conservative banner. Such initiatives are now undertaken in the standard assumption that just as entrepreneurs are profit maximizers, politicians are voter maximizers.

There are other, more reliable truisms than these misleading analogies. Wealth translates into political influence as indicated in the eulogies of Paul Desmarais of Power Corporation, not in the mundane sense of trying to use positions of wealth to sway a politician, but in earning the respect of politicians who invite the input of a wealthy entrepreneur. Similarly with voters! Increased unemployment, high rates of inflation and other economic phenomena all erode faith in the party in power. These influences are vast but trivial as an observation and need no economics training to grasp. Hirschman stands out by reversing the interplay between the disciplines as he showed that a comparison could be made between those who flee a country when they give up faith in the governing power and when consumers give up on a product like a Blackberry and abandon it for another product.

The effort to import economic ideas into politics that primarily concerned Hirschman, and for which he made his name, took place at what he called “the finer features of the economic landscape”. In the international sphere when economic indifference and transformation curves are applied to international relations in documenting the relationship of trade between small and large countries, Hirschman documented the effect of trade on influence and power relations between large and small trading partners. The resultant trade and transformation curve, dependent on whether there is an import or an export bias by either country, politically implies a level of political dependence. 

Whether the import of economic ideas into the political sphere is useful on the domestic or the international level to any degree, it appears to break down in the arena of public goods on which Daniel focuses. Economists concerned with public goods concern themselves with the free rider problem, that is, individuals or corporations that benefit from resources, goods or services without paying anything or with only paying a fraction of their real value. When the concept of a free rider was applied to the political protests of the sixties, as Hirschman pointed out, the analogy did not work because political participation was not a cost but considered a right in the political sphere. Turning a right into a cost in analyzing politics distorted the basic meaning of a democracy.

One of these observations applied to Canada when Prime Minister Mulroney initiated a free trade regime between Canada and the United States in the late eighties. Hirschman had written that “the political chances of the formation of a (economic) union are the exact obverse of its economic effects; the larger the trade-creating effects, that is, the greater the need to reallocate resources in the wake of tariff abolition, the greater will be the resistance to the union among the producer interests of the potential participating countries.” (p. 8) Seemingly in the face of such a principle, Brian Mulroney in the 1988 election campaign put forth a free trade platform promising to eliminate tariffs between the two countries by 1998. He won, but his support was reduced to only 43% of the popular vote and his majority was reduced; the Liberals and NDP both opposed the free trade agreement and between them won 56% of the vote. Had the Liberals been better prepared to counteract the counterattack of the Tories forged by Alan Gregg in the election, most pundits predicted that the Liberals would have swept back into power. Instead, Brian Mulroney became the first Tory to win two back-to-back elections in the twentieth century, seemingly confounding Hirschman’s observation.

However, many components influence election results and Hirschman’s observation proved true when a great deal of the Canadian recession, its largest and longest since the Great Depression, lasting technically from 1989 to 1992, but in most Canadian experiences to 1994, and other factors led to the subsequent decimation of the Conservatives. In 1993, Jean Chretien and his Liberals swept into power and the Tories were reduced to just two seats.  The highly unpopular Goods and Services Tax (GST) to replace the manufacturer’s sales tax to enable Canadian manufacturers to compete on a more level playing field in a free trade environment, the fact that the GST was introduced by Mulroney threatening to pack the Senate using Section 26 of the Canadian Constitution (the Deadlock Clause), the successive embarrassing failures of Meech Lake  and the Charlottetown Accord (perhaps because of the unpopularity of the GST), all contributed to that rout. I believe that the misguided effort to maintain a zero inflation target in the face of a severe recession that resulted in sky-high interest rates, massive bankruptcies in the Canadian building development industry and annual budget deficits that soared towards equalling the Canadian GDP, were also key features in the destruction of the grand Tory coalition and the ignominious defeat. The irony, of course, was that free trade proved in the long run to be a success even though the political repercussions, according to Hirschman’s observations that theoretical economic concepts such as gain from trade had hidden negative political implications, proved to be valid to a degree in the short run.

One of Hirschman’s most significant insights into these hidden negative political effects emerged in his study of the coffee trade. Because of the nature of the coffee business in which the lag between high prices and the ability to respond with higher production requires five years to plant trees and bring them to maturity, this results in coffee growers forming a powerful political interest group to ensure that prices do not fall when either bumper crops result or when the trees reach maturity and the international market experiences a surplus of coffee beans. Not only does low price elasticity in the short run of coffee bean supplies have this indirect public policy result in the push by the coffee growing cartel to form, it has the even more important push on the state to assume responsibilities and interfere in market forces. Market doctrinaires might be critical of such a result, but one of the indirect effects is that the government powerful role in the economy allows the government to shift resources from the coffee sector, when its development is mature and that sector is producing high profits, to new emerging sectors in significant contrast to the efforts of countries such as Argentina under Juan Peron to shift support from wheat and cattle – two short-cycle agricultural endeavours – to other sectors.

The effects of economics on politics also flow the other way. Hirschman observed that countries with very diverse ethnic groups have a much smaller tolerance for economic disparities than countries with more uniform ethnic constituencies. Without arguing for the merger of the two disciplines in the older model of departments of political economy, Hirschman nevertheless challenged the dominant prevailing model of regarding both realms as endogenous zones in which the primary effects in each sector could be examined as internally produced as in the model of a self-regulating economic market place or self-regulating equilibrium growth models in economic development theory that treat any political interferences as distortions of economic forces. Realms that allow political considerations to intervene simply make pacts with the devil.

This brings me back to my son Daniel and his arguments from necessitism. These are moral superego trips. However valid the argument may be, the imperative is not to wave the moral flag of the coming apocalypse and propose alternative grand economic gestures, but to work out the detailed mutual economic and political repercussions of such changes so that the effects of raising costs by pricing natural resources at higher values have on economic competition and employment, and how they may be counteracted, have to be worked out. Daniel argues that economic forces as presently practiced are destroying our ecological equilibrium. However, it is not sufficient to demand replacing an economic spoiler doctrine with an alternative political spoiler doctrine for the economic backlash will doom such a proposal to utopian thinking, Rather, the detailed work of the interaction of the two realms have to be worked out to develop a strategy and a system of tactics to handle such changes. The historical process of change must be projected by a realistic assessment of both economic and political factors and their interaction that cannot be encompassed in the hundred words of sloganeering that The Globe and Mail invited the utopian public to introduce and propose for a political platform. I applaud Daniel’s passion for his cause and devotion literally to cleaning up environmental messes on the ground, but his political proposals require detailed research on politics and economics as well as the environment. .

Hirschman’s lessons are not only applicable to the larger spheres of the economy and politics but to the intricacies of family life and the relations of a father to a very much loved son and the problem of how to get a lesson across without undermining his son’s passion and zest for a just cause. Necessitism may be correct as an abstraction. Possibilism, however, is the real moral imperative. And I am not just speaking of politics as the art of the possible, but the need to rest the possible not only on environmental science but on both the sciences of politics and economics and their mutual interaction. Recall that the same man who took $225,000 or $300,000 in cash from the German arms trader, Karlheinz Schreiber, in the so-called Airbus affair, was the same politician, Brian Mulroney who negotiated the very successful acid rain treaty with President Ronald Reagan. The lesson is not only that the “devil is in the details” but that even the devil can contribute to the good if we undertake not only environmental science but understand the sciences of economics and politics and their interaction at an even deeper level.

Albert Hirschman and Alice Monroe

Albert Hirschman and Alice Munro

by

Howard Adelman

My son, Jeremy Adelman’s new book, an edited collection of essays by Albert Hirschman, (The Essential Hirschman) has just appeared (Princeton University Press). Alice Munro just won the Nobel prize for literature. The two writers have a great deal in common even though Hirschman’s beat was the marketplace and civic and political life writ large while Munro’s habitus was the small town and the intricacies of lives writ small.

Both found what Jeremy described in his introduction as “beauty in the diminutive”, but also tension and pain, acts of cowardice and courage. Both revered the imagination, Alice Munro the literary imagination and Albert Hirschman the intellectual imagination, as the portal for “finding seams in the most impregnable structures”. My daughter, Rachel, in her biblical writings, calls these interstices, the gaps that open up new possibilities in the operation of moral, legal and social norms and allow established certainties to be challenged. Just as Tamar in Genesis disguises herself as a whore at a crossroads where she seduces her father-in-law, Judah, and bears him two children, such normally unimaginable actions and deeds use these gaps to allow the cunning of reason to emerge both in our personal lives and our lives on the world stage.

Both writers have always been concerned with the complexity of the human condition and both bring those complexities out by looking at the world when crossing points, gates and junctions are traversed whether in political, economic and emotional lives or the intricacies of our personal lives. The transformation is made possible by the enchantment and the art of writing, mainly essays by Albert Hirschman and short stories by Alice Munro that combine penetrating wit, unforgettable metaphors, an elegance and economy of style and brilliant insights and analyses to create unique voices. Experience and acute observation were the tools of their trade. They are world masters of underappreciated literary forms using brevity itself to pull back the veil of the personal and write parables of horror and hope.

Munro, the artist committed to the small canvas, did not so much paint with words as John Updike did or allow us to hear as Philip Roth did, but went further and allowed us to feel and smell the paint and hear the music in the sounds of words as the world of senses became palpable in a way that went beyond the visual and the oral to create a subversive elusive beauty that always undermined repressive self-denial and stoical determination. As in Hirschman, the writing is always informed by a profound compassion so it is no surprise to read (or hear) that Gladwell (as well as many others) cried when he finished reading Jeremy’s biography of Hirschman.

Both Hirschman and Munro have been modest people and modest writers who avoided bombast and pomposity, grand theories and grandiose epics. This does not mean they lacked opponents. Hirschmann was out to slay the grand dragons of both communist and liberal theory with their overarching visions of how to propel change. Alice Munro, though pigeonholed by Margaret Atwood and Graham Gibson as one of the representatives of the school of Southern Ontario Gothic along with such different writers as Timothy Findley, James Reaney, Robertson Davies, Jane Urquhart and Marian Engel, in fact always managed to escape the confines of categorization. Both writers wrote from a position that was always somewhat off kilter, from an angular vision that avoided an Aristotelian balanced approach to truth. Both wrote in a seemingly effortless straightforwardness manner where a deeper complexity always remained to be encountered on re-reading. Both communicated a powerful intensity arising from the mundane and the ordinary.

Both used words with great economy, Munro to share the intimate knowledge of her brilliantly realized strangely compelling characters, Hirschman to gain insight into vast economic, social and political changes underway. Both transform the mundane into the marvellous, converting strange but brutal worlds that are so common and recognizable into the realm of wonder and possibilities. Events take surprising turns, but instead of being thrown off balance by those twists, each exhibits supreme poise and confidence. Mysteries are dealt with using understatement that hides the magic of the creativity.

Both were concerned with the theme of escape or what Hirschman called “exit”. That exit or escape was made necessary by unleashed passions, coming from the larger political processes of ideology and movements in Hirschman’s world and from the inner desires of Munro’s mesmerizing female characters. In each case, the desire is ungovernable and wrecks havoc on the world. However, in Hirschman’s world, there may be unintended consequences even though the results are overwhelmingly destructive. In the case of Alice Munro, a gleam, a promise and a liberating freedom is often left as a residue. Both writers were always wedded to both imagining (and bringing about) new possibilities. As Jeremy put it, “what appears as immutable, stubborn, and impervious to change could become a source of options”.

I will resume my writing on Hirschman by focusing on an essay each day from Jeremy’s new book interwoven with one of Hirschman’s larger books and comments on another chapter of Jeremy’s biography of Hirschman.

Strategies vs Theory and Causes

Worldly Philosopher: The Odyssey of Albert O. Hirschman by Jeremy Adelman

Conversation – Strategies vs Theory and Causes

Chapter 11. Following My Truth                                                                

                                               

by

 

Howard Adelman

 

Why did Jeremy call the U.S. 1952 election in which Adlai Stevenson ran against General Eisenhower for president “one of the most appalling in modern American history”? (p. 325) Was it because Eisenhower’s Vice-Presidential running mate, Richard Nixon, ran such a dirty anti-communist crusade? Was it because Dwight Eisenhower himself in his famous Wisconsin election speech not only did not defend his old colleague, Secretary of State George Marshall, against Senator Joseph McCarthy’s rants against Marshall as part of a communist conspiracy, but himself engaged in outlandish anti-communist rhetoric, picking up McCarthy’s line that communists had infiltrated the nations schools, unions, media and government? In Jeremy’s biography, the depiction merely set the stage to explain why it was not a propitious time for AH to return to America.

 

Suddenly, without plans or forethought, an unexpected invitation arrived four years later inviting AH to become a research professor at YaleUniversity for all or part of the 1956-7 academic year. “As Machiavelli instructed his prince, it is equally important to seize opportunities and align the forces of virtŭ and fortuna on one’s side in order to convert an opportunity into achievement. It was with this Machiavellian esprit that Hirschman relocated once more.” (p. 327) As a research professor, he was not expected to teach but he was expected to use his time to write a book.  He wrote The Strategy of Economic Development (1958). Further, when unable to finish the book within the year – a dubious proposition to begin with aside from his decision to engage in extensive re-writes after attending a conference in Brazil – he managed to get a Rockefeller grant to extend his appointment for an extra year.

 

Jeremy sets this against the backdrop of the new North American orthodoxy of development theory that I discussed in the last blog – balanced growth designed both to offset chokepoints to insure against over-production with too little demand as well as infuse capital that would be strategically distributed to ensure there were no shortages in countries with surplus labour and severe capital shortages. In contrast, Latin American economists (Roberto Campos and Alexandre Kafka) argued that growth itself produced disequilibrium and imbalances spawning both greater inequalities and inflation. Change was the problem, not inertia. These influences on AH, supplemented by Edmund Burke and Friedrich von Hayek, pushed a thesis about disequilibrium as central and the possibility of strategies to manage that disequilibrium rather than chimerical theories to do away with it. AH also picked up the notions of frustration, aggression and anxiety from Erich Fromm to add a psychological dimension to his analysis.

 

His methodological approach matched what he saw as the approach of agents in history – in particular, entrepreneurs – who tackled problems, not events, who dreamt up ways of overcoming obstacles rather than envisioning the absence of any obstacles whatsoever. Stress and tension were healthy as long as they were used to transform a situation into a creative solution rather than simply being allowed to eat away at oneself. Once again, the cunning of reason worked through paradoxes and problems to unleash new contradictions and new problems. More practically, do not start with large megaprojects like dams and ports to eliminate bottlenecks before the demand had even sufficiently developed. Rather invest in industries and agriculture, in entrepreneurs and businesses. Invest in productive people and not plans and planners. The key was creative decision making – the same creativity that invented money itself in the first place.

 

Piecemeal planning was offered in opposition to comprehensive and coherent general plans. What Jane Jacobs would offer to urban planners three years later with her classic (1961) The Death and Life of Great American Cities, Albert Hirschman was offering to the theorists of economic development on a larger scale. The same premises were at work. Instead of big planners of dams and ports, Jacobs had to contend with big planners of roads, such as Robert Moses, and huge housing estates with no eyes on the ground at street level to keep the passageways safe through the many eyes looking about.

 

In the sixties, the zeitgeist favoured writers like Hirschman and Jacobs and the revolt against liberal master builders. In the sixties, Ike might not have been given the opportunity that he had in the fifties to build his system of interstate highways that allowed the creation of suburban America, the car culture that paradoxically facilitated the eventual destruction of Detroit as a city.

 

Why was AH’s answer inadequate as Jeremy suggests through the criticisms of Amartya Sen and others at the end of the chapter? I want to use an example from a related field much more au courant today than development theory or urban planning – resource economics and the unintentional spoliation of the commons. More particularly, I want to examine Elinor Ostrom’s book, Governing the Commons, that came out just over three decades after AH wrote The Strategy of Economic Development. Ostrom’s book helped her earn her 2009 Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel, the Economics Nobel Prize.

 

Like AH, Ostrom loved case studies. She also loved paradoxes. Though suspicious of theory based on an inadequate collection of empirical data, she did not have a knee-jerk antithetical approach to theory in the sense of abstract modelling. Further, she suspected metaphors as dangerous. Her book begins with an explication of the tragedy of the commons as illustrated by the total depletion of the fishery off the Grand Banks (her resource, my location). State regulation not only did not prevent its destruction but exacerbated it. Would it have been destroyed without state control? Undoubtedly! The tragedy of the commons and the free rider problem illustrate that if individuals are left to pursue their own best self-interest in the use of the commons where the long term delayed costs are deterioration which is against each individual’s longer term self interest, the propensity will be to effectively destroy the commons.

This example can be illustrated all over the world and reaches tragic proportions in cases where the depletion of natural resources is exacerbated by climate change, such as in the desertification of the Sahara region. In Darfur, the human population exploded by 500% over a century and the animal population by almost double that amount at the same time as the resources to support the nomadic populations shrunk. The clash with the settled agriculturalists with whom the nomads had lived in a symbiotic relationship previously was almost inevitable. The result could not have been worse – the ethnic cleaning (sometimes misnamed a genocide) of the non-Arabic agricultural tribes to the south, the Fur, Zaghawa and Massalit tribes through an alliance of Arab nomads and the state government of Sudan.

 

Everyone’s property becomes no one’s property and the cost is the private property of others. As the users exceed the capacity of the commons to support them, the resources withdrawn will be larger than those needed to renew them. It is but an illustration of the prisoner’s dilemma where individual rational strategies lead to collective irrational outcomes that betray those same individual interests. Why? Because there will always be individuals who cannot be excluded from the general benefits available to everyone who will choose to withdraw more and contribute less. They are free riders whether they are sharing a bathroom with other students (my very mundane example in my book, The Beds of Academe arguing why domestic washrooms were preferable and much cheaper to build in residences than institutional washrooms) or sharing a huge grazing and agricultural field the size of France.

 

So the question arises of governance – how to manage a commons? The two dominant models have been state control (governance by the Leviathan) versus assigning the management to private enterprise as in the case of keeping the commons clean through waste management. There is a third model based on joint collective management by the users themselves, a cooperative versus private or state models, but it easily breaks down when subjected to strong external pressures (climate change and corrupt central governments) and internal pressures (population growth).

 

AH’s answer, as was also Ostrom’s, – the solution is situation specific. The state option presumes the state has complete or at least adequately comprehensive information, can fairly assign capacities, monitor use and has an effective justice system for sanctioning non-compliance to generate an optimum equilibrium. This utopian premise was at the heart of the weakness of balanced growth economic development theories. As AH showed, a serious error in information, unfair assignations, inadequate monitoring or meting out justice, let alone a combination of them, inevitably led to disastrous consequences, sometimes (or often) worse than if the individuals were allowed to operate in a strictly laissez-faire way.

 

What about those who say that the answer is to convert the commons to private ownership. How can this take place with grazing land already used by an excessive number of herders let alone when applied to water or fisheries? Ostrom illustrated through a number of cases how cooperative solutions often worked much better than either the laissez-faire or the state governing model. AH concurred. Better solutions were often developed through the initiatives of the users themselves based on the recognition that the information available was far from optimum, continued decisions re assigning capacity would have to be made, continuing monitoring conducted and penalties enforced for non-compliance. However, one of the problems of the cooperative model is that over time it tended to develop either into a quasi-state with all its problems (the Canadian Wheat Board for marketing Canadian wheat) or a private corporation (such as Sunkist Oranges).

 

The reality is that the solutions vary over different situations and, as situations change over time, the model solution applicable may change as the institution changes and adapts. No one type of solution is universally applicable. I recall when Fidel Castro, before he had fallen out with the United States by openly advocating communism, made a speech to the association of cooperative farmers in Cuba in 1959. In a speech that lasted almost four hours he explained how members of cooperatives are inherently selfish since they are only concerned with the well-being of the members of the cooperative and not with everyone in the country. Since the state had a shortage of seeds, he would have to allocate those seeds to state owned farms that had everyone’s interest at heart. The cooperatives voted to convert to state owned farms and, miraculously, all state farms, including the former cooperatives, were able to get seeds. Ideologues, particularly communist ideologues, are blind to their own self-contradictory positions and the evidence that falsifies their own convictions – in this case, the ability of state owned farms to adequately satisfy demand.

 

Ostram provided reams of evidence to suggest that self-organizing and self-governing forms of collective action, based on empirical findings, could, in some situations at some times, offer a more effective answer to governance of the commons. AH offered a more general thesis on the same topic about the category of development itself. Yet he never received the Nobel Prize for Economics.

An Orthogonal Development Theory

Worldly Philosopher: The Odyssey of Albert O. Hirschman by Jeremy Adelman

Conversation – Instalment 12: An Orthogonal Development Theory

Chapter 10. Columbia Years                                                                       

                                               

by

 

Howard Adelman

                                                                         A

 

 

 

 

 

 

 

 

 

 

 

                                                           

 

   C                                                                    B                                                             D

The lines AB and CD are orthogonal to one another.

If CB and BD represent two oppositional development theories, then AB, at right angles to both theories and illustrated as perpendicular to both, makes the third theory mathematically orthogonically related to the other two theories. On p. 322, Jeremy describes AH’s thinking as so “orthogonal”. (p. 322) By explicating and clarifying the key characteristics of AH’s development “theory”, I want to show that it is indeed a theory –contrary to Hirschman’s (and Jeremy’s) protests otherwise. As Jeremy put it, AH “began to think about development in Columbia from the ground up – with a style but with no theory.” (p. 303) As AH worded it, “I looked at ‘reality’ without theoretical preconceptions of any kind.” (p. 297)

This is correct if “theory” is exclusively restricted to sets of statements or principles which are abstract and in terms of which events or actions are explained and even can be predicted. But theory also applies to principles that guide action or a set of practices by means of which judgments can be made. So although AH never had a theory of development in terms of a general abstract model, he certainly did have a theory about interpreting the phenomenal world of experience.

The problem goes back to the Greeks, and Aristotle in particular, where theoria was contrasted and seen as wholly other than practice. This is one reason his theory of health and the humours was so messed up and his theory of humours was so misleading for health practitioners for centuries. Diagnosis of disease begins with identifying four sets of key variables: a set of symptoms or indicators, anatomical location, physiological functions and an interpretation of the aetiology of the disease. The theoretical designation of a disease is then modified in each of these categories in accordance with experience and actual practice. There is no abstract model of the disease. AH developed a theory of development in precisely these terms.

Beginning with a quote from Franz Kafka as usual, Jeremy begins his chapter on Hirschman’s work in Columbia, the country to which he went when his career in Washington was still encountering roadblocks. “You can hold yourself back from the sufferings of the world, that is something you are free to do and it accords with your nature, but perhaps this very holding back is the one suffering that you could avoid.” (p. 295) The quotes from Kafka are always very pointed, but this one I found to be particularly poignant. When Jeremy was still in high school during the seventies, he took a year off to serve as a volunteer with Canada World Youth and served that year in a very remote part of Columbia living with a poor peasant family and assisting them while, at the same time, he gained his mastery of Spanish, albeit with a Colombian accent.

While Jeremy was with the family, the mother gave birth. When the infant was very young, he contacted me from this remote part of Colombia. The infant was very ill. The family lacked the resources to travel some distance and take the infant to the nearest nursing station or infirmary. He felt helpless because the ideology of Canada World Youth ran on a doctrine of non-interference in the local situation other than providing volunteers. Infusions of wealth from outside would deform the local economy, introduce distortions and such interventions were actively prohibited by volunteers. Jeremy wanted to ask me for the money to help out but was conflicted since he felt bound by the principles he had accepted when joining Canada World Youth. He was deeply torn. The issue was clearly not the amount since it would have been a relative pittance even if the health fees were added to the travel costs. Instead of insisting on sending him the money and persuading Jeremy that, “To save one child is to save the world,” I also practiced non-intervention and did nothing. I felt terrible. He felt very much worse as he watched the infant die in front of him. I am convinced that we both acted improperly at the time. I believe, to this day, that this event scarred Jeremy, though I believe it instilled in him his first suspicions of abstract doctrine and his attraction to dealing with the present and the immediate demands of the moment. The event certainly scarred me.

Development theory has very direct consequences on the lives of ordinary families. AH arrived in a country torn by civil war (La Violencia). Jeremy characterizes AH’s years in Colombia as the best of his and Sarah’s lives, a place of adventure and cultural stimulation where Albert was intellectually reborn. The World Bank had already reinvented itself in the aftermath of the Marshall Plan as the vehicle to save the Third World from communism and ultra-ambitious state planning. Colombia was to be its first test case. AH brought a scepticism of abstract ideological formulations, an attraction to direct observation of small things and routine practices combined with the opportunity and continuity over time to make those observations, and a belief in learning by doing reinforced by Eugenio Colorni and his readings of Montaigne.

The World Bank formed a survey mission led by the Canadian-born economist from Nova Scotia, Lauchlin Currie, whom I met briefly at SimonFraserUniversity in the late sixties when I participated in developing a plan for student housing for the university. I regret that I never got to know him, especially since, in retrospect, he had developed, I believe, the theory of money similar and far more profound than the one I espoused. He also showed that he had an intimate acquaintance with cooperatives. He had attended St. of X (FrancisXavierUniversity) where he was undoubtedly infused with its Catholic teachings of social service and cooperation. Currie went to LSE and then earned his PhD at Harvard writing his thesis on banking and the money supply. He was an ardent Keynsian New Dealer adviser to FDR during WWII, a close adviser to Harry Dexter White at Bretton Woods and had been involved in the secret VENONA Project decrypting Soviet cables where he (inadvertently?) became a source to Soviet intelligence. He ran the World Bank Colombian Survey Mission from 1949 to 1953 and stayed on in Colombia when the USA refused to renew his U.S. passport.

For Currie, the object of economic planning was to raise the standard of living in Colombia and directly tackle the problem of poverty.  In one year, starting in July 1949, a team had been assembled, a comprehensive plan developed and a National Planning Institute initiated to implement the plan, The Basis of a Development Program for Colombia. The plan envisioned “aggressive and coordinated improvements on all fronts simultaneously to avoid distortions, bottlenecks, and lags.” (p. 300) The plan was based on the developmental conception of “balanced growth” and the “big push” only to have the grandiose expectations crash against “inconvenient realities”.

One of those very inconvenient realities was the clash of personalities and approaches. AH was hired as advisor to the National Planning Council. Currie, through the machinations of Emilio Toro, the Colombian member of the Board of Executive Directors of the World Bank, returned as an “adviser” to the Council so the Council now had two advisors though Hirschman was the one charged with overseeing implementation but, unlike Currie, did not have a Board member in his pocket to push his views. AH had left Washington’s skulduggery for Bogota’s. “Currie liked big plans, especially when they made administrative reform the condition for everything else; Hirschman preferred projects, even big ones – but the more specific, the better. Aligned with the Liberals, Currie tended to create animosity between the Council and the Conservative government; Hirschman eschewed partisanship and wanted to focus on problem solving.” (p. 301)

If Hirschman was burdened with the Currie-Toro duo undermining his authority and ability to act, the Council hired another outside economic adviser from Belgium, Jacques Torfs, who approached the problem of development from his own idiosyncratic abstract esoteric theory of minimizing capital-to-output ratios. In addition to rival abstract theorists posing problems, AH took seriously the principle of being an adviser to facilitate and advance local expertise and authority, while Currie believed that detachment as well as true expertise gave foreigners an advantage. AH did not have the same reverence for detachment. He preferred experience and close observation. He wanted to concentrate on what the country was doing right and not its grand pathologies. However, his proposed study on successful businesses and successful entrepreneurs and managers and their methods and means of financing never took place.

When General Rojas Pinilla’s military coup in June of 1953 quickly developed into the usual predatory military capitalism compounded by a slide in coffee prices, Colombia’s economy slipped quickly down hill. At the same time, austerism, the other end of the abstract theoretical economic spectrum, took command. Currie went off to raise prize Holstein cattle. AH determined he was now impotent. He resigned just when Senator Joseph McCarthy was at the pinnacle of his power heading the Senate Permanent Subcommittee on Investigations in 1953 and 1954. Prudently, AH went into private practice as an economic consultant in Bogota to help investors identify opportunities and solutions to problems. Opportunism (AB) had been developed as a counterpoint to both Keynesian master large scale planning and stimulus for a broad approach to balanced growth (BD) as opposed to austerism (BC), a policy advocating restrictions on money supply and reductions in deficits just when a country needed a stimulus.

Opportunism focussed on the openings for entrepreneurs, focussed on civil society initiatives rather than grand government policy of either the austerists or the Keynesians. The theory, in the second sense I specified at the beginning, stressed initiatives from the bottom rather than grand views from the top. This was precisely when Walt Whitman Rostow’s The Stages of Economic Growth: A Non-Communist Manifesto was published by Cambridge University Press and became must reading when I was an undergraduate. In spite of all Rostow’s bended intellectual knee to the uniqueness of each nation’s experience and the somewhat arbitrariness of the stages-of-growth and its limitations, his book offered a very positive law-like approach to understanding economic development that built on and went beyond Croce’s Historical Materialism and the Economics of Karl Marx in providing both a grand theory of economic development as well as a grand theory of history in terms of dialectics without Marx’s romantic revolutionary spirit. Rostow had proposed a grand theory of modernization depicting the worship of sustained long-term economic growth itself as a central part of the doctrine and the key determining forces at each stage of economic development.

Rostow’s treatise would soon be followed by Max Millikan’s 1963 volume, The Political Case for Economic Development and his 1966 even more influential book as far as I was concerned, Equity versus Productivity in Economic Development. Liberals had their antidote to Marxism and their own romantic versions of how to rescue impoverished countries from the debilitation of stagnant economic circumstances.

To a conference in October 1954 on the new theories and their implications for policy, AH brought the message that the emperor was naked and that the empirical date behind the theories were almost entirely lacking. The abstraction of balanced and comprehensive planning hit the shoals not only of a complete lack of sufficient evidence and too high a degree of abstraction, but a belief that the future was predictable and could be managed whereas AH had been too deeply steeped in the Hegelian dictum that we can only understand by looking backward. As Hegel wrote in the Preface to the Philosophy of Right, “One more word about giving instruction as to what the world ought to be. Philosophy in any case always comes on the scene too late to give it… When philosophy paints its gloomy picture then a form of life has grown old. It cannot be rejuvenated by the gloomy picture, but only understood. Only when the dusk starts to fall does the owl of Minerva spread its wings and fly.”

During this period in the philosophy of history, two major theories were in contention,. One was the positivist views inherited from Benedetto Croce of Carl Hempel who was then at Princeton. For Hempel, history should be akin to a science and explain events and actions by subsuming them under general laws that could be verified by their predictability. Opposed to the grand theories of the positivists were the theories of the verstehen school then led by the University of Toronto philosopher, William Dray, who thought that history was about re-enacting the thought processes of historical agents and, as I wrote in my PhD thesis, subsuming decisions about which actions to take under more general hypothetical imperatives to guide human conduct. Was history a subject matter for pure scientific reasoning or for hypothetical imperatives and practical normative reasoning? I, like Albert Hirschman, opted for neither. Both theories never even met the conditions of satisfying the cases each side cited. We do not explain historical actions by subsuming them under general scientific laws or subsuming them under normative imperatives. Further, we do not even explain actions or events; rather, we explain incongruencies. We deal with puzzles that face us and focus on problems not on actions abstracted from the context of the inquirer.  

Why do I call this orthogonal approach a theory when it so stridently disavows abstract modeling? Because it does not! It only disavows extending any generalization into the future without irrefutable solid evidence. In the interim, analysis can reveal patterns of contradictions and ways of resolving them, but the dialectical pattern revealed cannot be applied to futurology for the very essential dynamic of the model depends on innovation and re-inventing itself thereby creating new but unpredictable opportunities that will be taken advantage of on the ground while those actual innovations are entirely missed by the theorists rooted as they are in extrapolations from the past.

In sum, AH did have a theory of development, one not based on either supposedly scientific laws of explanation and prediction nor on empathetic re-enactment to reveal the moral imperatives governing agent’s choices and actions. The theory, loosely referred to as Opportunism or, more awkwardly, Possibilism, had the following characteristics.

1. Focus on problems or incongruencies;

2. Use detailed case studies and focus on acute observation of fine details and distinctions;

3. Establish concrete and routine practices that can be continued over time to test efficaciousness – learn by doing;

4. Try to locate and identify initiatives that will be game changers;

5. Bureaucracy, whether in a state or a private firm, inherently wears blinders;

6. Evaluations of development projects should not simply be about cost-effect studies but about assumptions, capacities, priorities and unintended as well as intended effects.

Both right wing monetarism and the stress on entrepreneurs, and left wing or liberal Keynesians stressing wide scale government economic interventions in bad economic time, are both correct, but monetarism must give up its vision of an ideal balancing point in a system at equilibrium, when, by its nature as an innovative enterprise, it is inherently unstable, and Keynesians must not allow stimulus and intervention to be transmogrified into “permanent revolution” and continuing governance (as distinct from regulation). AH provided the most important antidote to the excesses of both theories when applied to development.  

McCarthyism and Mindblindness – Chapter 9. The Biography of a File

Worldly Philosopher: The Odyssey of Albert O. Hirschman by Jeremy Adelman

Conversation – Instalment 11: McCarthyism and Mondblindness

Chapter 9. The Biography of a File                                                                                                       

by

Howard Adelman

The question for Albert Hirschman was NOT to be or not to be, but to know or not to know. The story of Plato’s cave begins with the shadows on the cave wall. The shadow is the darkened area where the light from a source behind a living person tied to a log in a fixed position is then projected on the wall of a cave. The person in Plato’s story takes those shadows produced by the obstruction of the real person to be themselves real. Note the following. The person on the log is opaque; the light does not pass through him or her as he or she blocks the light. The shadow we see is the light that is blocked but we do not see either the person blocking the light and certainly not into the person.  

This is the realm of spooks. This is the realm of images taken to be real. This is the realm of opinion taken to be as valuable as truth. This is the realm of rumours and gossip and half and quarter-truths. This is the realm of the FBI file that haunted Hirschman but which Hirschman only barely recognized as possibly existing and inhibiting his employment in any significant role in the OSS during WWII and in Washington after the war. The difference was that Hirschman was not chained to the log. He could have turned around. He could have sought out the source of the beam of light shining upon him and radically distorting who he was. As Jeremy writes:

From 1943 to 1966, a shadow trailed Albert Hirschman. But unlike most shadows, this was one he never saw. Hirschman did suspect that some invisible force was at work; some things in his life were too unfathomable. He did not understand why the OSS did not make more of his intelligence skills and preferred to employ him as a mere interpreter; he tended to explain this away as the bureaucratic ineptitude of armies or large organizations., in part because he had less and less affection for them. But there were times when his career ran into inexplicable roadblocks. 

I want to suggest a different description than the one Jeremy offers. The shadow was not behind him but in front of him. He could see the shadow that seemed to precede him wherever he went in those years. The blockage was NOT invisible but he preferred to account for it in terms of bureaucracy rather than assigning it to the malignant forces apparent everywhere in America in those years. McCarthyism was the BIG STORY, certainly by the early fifties though it had already reared its ugly head in the FBI and during WWII. Why would he believe himself to be immune? What was occurring was not at all unfathomable and was not simply seen clearly only in hindsight. The seemingly inexplicable was explicable if only he dared to look, inquire and investigate. There were plenty of clues.

Was it the fear of the insecure stateless person that inhibited him? Did Albert Hirschman and Hannah Arendt share a kind of mindblindness, an unwillingness to attribute deliberate beliefs, desires and intentions, in Albert’s case, to American officials, in Hannah Arendt’s case, to Adolph Eichmann? Why would they want or be willing to make pervasive evil, though certainly of very different and incomparable degrees, banal? Did the reasons have the same general source because both always remained deeply loyal to German culture even as they severed their loyalty to the German state? Both had developed a new loyalty to America but had not developed a deep passion for the culture of America. Neither could read its whimsical variations.

Jeremy goes in an opposite direction than I would and gives an inanimate bureaucratic file a life of its own “independent of the person about whom it purportedly reported, in part because it was so inaccurate, a likeness of someone else.” (p. 285) Jeremy opined: “The file remains nonetheless a sad portrait about the power of innuendo and paranoia that governed some people’s lives for many years.” But it wasn’t just the power of innuendo. It was the power of deliberate and conscious malevolence. And, in Albert’s case certainly, it was not a matter of too much paranoia, but too little following up on suspicion. And if we are talking about the McCarthyites, there is a big difference between manipulating paranoia for political purposes – which both Hitler and McCarthy did – and irrationally feeling persecuted. There is a difference between feeding and capitalizing on a paranoia you helped develop about the omnipresence of communists as you transgressed every single constitutional protection versus crediting paranoia with the reason for Hirschman’s ill-treatment. 

I had, and probably still have, a very thick file of information on my activities when I was young collected by the RCMP. I know of the information because I could watch as it was collected by unmistakeable RCMP officers at demonstrations and marches in which I participated as a youthful activist. I also know of the file because, when I was an undergraduate, Professor McCurdy in the Philosophy Department invited me in to his office to speak to him. He told me in confidence that he had been asked to come down to the offices of the RCMP and was queried about me and my beliefs. He told me that the file on me that the RCMP had opened on their desk was at least 5-6 inches thick. Later, I was one of the organizers of the Praxis Corporation, a research institute concerned with spreading democracy beyond politics and into civil society. The offices were raided, the building was torched and copies of material in the files appeared on the desk of Peter Worthington, the editor of The Sun. In the McDonald Inquiry into the activities of the RCMP, we learned that the Mounties had broken into our offices and burned down our building. (Cf. pt. 5, C/Superintendant S.V.P. Chisolm to A/Commissioner M.S. Sexsmith, 27 June 1977; ibid, ‘Praxis Corp.,’ 26 February 1971; ibid, pt. 2, ‘Praxis Corporation,’ 15 April 1971; ibid., ‘Praxis Corporation – Toronto,’ Memorandum of Sergeant W. Ormshaw, 8 June 1971.) 

We too had not been suspicious enough of the misbehaviour of government agencies. To this day I have no reason to believe my life was misdirected for periods because of it as had been the case with Albert Hirschman. On the other hand, I do recognize that a similar tendency to read the best into government activities did blind me to a degree to the ill use that officials could make with collected material. I, in fact, used to joke all the time that if I was ever worthy of a biography – which I am not – at least the RCMP would have done the work of accumulating the needed research material for some future scholar. Perhaps there is a correlation between AH’s recognition of his own potential importance and the added degree that he contributed to his own mindblindness. Further, AH was important enough that he needed a security clearance; I never reached that status.   

Jeremy is to be credited with getting and studying the file and showing how, even though the overwhelming evidence clearly pointed against either fascist or communist sympathies, activism alone and its extent in Germany, Spain and Italy was sufficient to set off alarms. And one did not even have to be an activist. One merely had to be active – in the case of Harry Dexter White – in believing (correctly or incorrectly) one could work with mutual benefit with the USSR. One could have the wrong beliefs, the wrong contacts, the wrong actions. Witch hunts do not require evidence, only suspicions, even if those suspicions were based on actions and activism in cooperation with ardent anti-fascists and anti-communists like Eugenio Colorni. Action and activism as well as reasoned conviction were all grounds for suspicion. It did not help that the investigators were so ignorant or so error prone with regard to local politics that they would confuse anti-communist socialists with their enemies, the communists. Allegations and suspicions were sufficient to taint a career.  Finally, in 1966, AH was allowed to have his own voice to answer these unchallenged allegations, but even then, Jeremy reveals, he left out of his account his actions in Spain. This suggests that he did indeed have a strong sense of the source of a stain on his file. Only then, with the added testimonials on his behalf, was AH finally given a clean bill of political health and no longer regarded as a potentially contagious agent. 

Chapter 8. Worldly Philosopher – The Anthill: Repressed versus Joyful Capital

Worldly Philosopher: The Odyssey of Albert O. Hirschman by Jeremy Adelman
Conversation – Instalment 9B: The Paradoxes of Economic Recovery
Chapter 8. The Anthill: Repressed versus Joyful Capital
Part II

by

Howard Adelman

My own theory of money began with my graduate course on political theory that I took with C.B. Macpherson. Brough’s book on Possessive Individualism had just appeared. In it he had argued that there was a contradiction between the state of nature as depicted in The Second Treatise on Government which was all peaceful and without conflict and the subsequent state of conflict depicted afterwards as the precursor for the social contract. After money was invented, hoarding, scarcity and conflict resulted and turned the state of nature into a state of war necessitating developing a social contract.

In my first paper for Brough, I argued that he had misread John Locke. The invention of money was not something like a deus ex machina that took place at the beginning of his story (rather than the end of the book) that turned humans into accumulators and protectors of their property. In Locke, men were possessive individualists from the get go. The world was peaceful and the laws of the state of nature dictated there was enough and sufficient for all because there was no mechanism for creating shortages. However, the drive to accumulate private property was so great that it impelled the creation of money. Suddenly, the products of one’s labours could be represented by a token that meant wealth could be accumulated. Humans were not restricted to hunting and gathering only what they could consume. The result – wealth accumulation, scarcity and a war of all against all – at least, according to John Locke – had been made possible.

The paper not only criticized Brough for imposing a contradiction on Locke when there was none. It argued that the primary doctrine in economics and politics was not the labour theory of value wherein humans inserted their labour into nature and what was given in nature combined with the labour to extract it and convert what is given into an artefact gave value to what was produced. Money was supposed to represent that value. Marx would inherit the same flawed idea of a labour theory of value via Ricardo and John Stuart Mill and add the theory of expropriation and exploitation of the worker. Instead, my paper suggested that value was not a product of mixing raw labour with the given material universe and converting it into artefacts, but was only present when it could be symbolized by abstract tokens – money – to which the collectivity directly or indirectly agreed to assign a value.

Beyond re-reading Locke in this light as not being self-contradictory, this implied the following:
a) possessive individualism in Locke was inherent and not a by-product of the invention of money;
b) value was itself a by-product of convention of the group and not an arithmetic calculation of labour expenditure invested into the natural world;
c) Two simultaneous and somewhat paradoxical actions had to take place to lead to a social contract: i) the desire to use one’s labour to change the given world; and ii) a society among whom agreement could be made how to represent the value of those goods through an abstraction deemed to be money.

Further, analysis suggested that Milton Friedman’s monetarism was correct in emphasizing the importance of the government as representing the social contract in governing the money supply as the most crucial input that could influence economic productivity over time. Setting aside his right wing economic ideology and his belief in “equilibrium” between growth in productivity and demand as the key measure for determining the money supply, the recognition that an abstraction, like money, was absolutely crucial to economic growth was foundational. The problem that remained was twofold. First, what was being measured was difficult since entrepreneurs with their ingenuity kept creating new debt instruments that effectively expanded the money supply when the government was not yet in a position to count it let alone regulate it. This happened with the last financial crisis in 2007 with the innovations of swaps, credit-defaults, securitization and tranching with respect to residential mortgage securities.

Without both the individual self-interest and the communal concurrence to create a convention, there would be no economic development. A social contract was a precondition of any economic system and not a product of violent conflict because of the absence of a social contract. What was the nature of that money and how did one determine its value? The nature of money could be any token – beads, gold, a national currency, personal debt, derivatives, future values of the sale of tulip bulbs. Societies did not determine the value of money through governments alone; markets, trade, exchanges were crucial contributors. But on what basis?

I was asked to give a paper at the John F. Kennedy School at Harvard at the beginning of the seventies. They wanted to use the techniques we used to develop student co-op housing to rebuild the slums in the northern cities then overwhelmingly occupied by the American Black population. From Halifax to Los Angeles we had shown how student housing could be built – mostly co-ops – without an initial infusion of capital by the owners. At the time, we built a total of about $100 million worth of student housing over a 3-4 year period (about $200 billion in value in today’s property values).

When I arrived at Harvard, I entered an overflowing room with graduate students and very renowned economists and faculty members. I was overwhelmed as I gave a talk called, “Joyful Capital”. The talk itself was a total bust – no one was in the least interested in my weird economic theory. The audience wanted to know technically how what we had done had been accomplished and became very animated in the question period. They ended up enthused. I left depressed.

The theory was not complicated. It argued that the token used for money was an abstraction based not primarily on past production where money supply had to be balanced with productivity but much more on an estimate of future possibility. Value was rooted more in hope and possibilities than in actualities, though a past record could enhance the strength given to that hope. The issue was one of faith – faith in what you could do and not primarily in what you had done. Never did this become as clear as in the .com revolution where enormous values were given to companies with relatively little track record. It was subsequently repeated in the American housing bubble of the twenty-first century based on the forms of mortgage derivatives and tranches in the United States and in the European state debt crisis. (My explanation for that crisis based on a fuller elaboration of this theory of money can be found in a paper that I gave in Scotland in 2009 and that was published in an edited collection the following year: “Trust and Transparency: The Need for Early Warning,” in Iain MacNeil and Justin O’Brien (eds.) The Future of Financial Regulation, Oxford: Hart Publishing, Ch. 18, 322-336.)

Let me recapitulate the theory.

First, on value, instead of emphasizing labour as the crucial input, stress was placed on technology and innovation through not only improving efficiencies, productivity and quality, but the most fundamental innovation of all, creating tools to represent future risk, that is, innovations that expand the money supply well beyond the amount of money printed or regulated by the state. That does not mean the value is independent of anything underlying it in the tradition of the theories of Thorstein Veblen and Jacques Ellul and that there is no reality referent whatsoever and that appearances alone determine value whereby an elite consciously distracts the public with endless superficial entertainments in a compelling cornucopia of illusory visions complemented by a plausible simulacrum of justice, equality of opportunity and good governance to foster a sense of identity in a celebrity consuming culture where outward appearance is seen as providing meaning in wearing the right labels and driving a “cool” car.

Thus, while rejecting the labour theory of value and the concept of money as an artifact that represents the value of labour beneath and past accumulated productivity, on one end of the spectrum, and the concept of money as the ultimate simulacrum, the tool in terms of which the values of all other simulacrums are denominated freed up from any connection to past productivity but representing only the degree of faith in the amount of future wealth that can and will be created, I have held the view that money is a force in its own right when it is freed up from any natural measure, such as a gold standard, and is, in fact, the most fundamental innovation of all connecting past accumulated value with future faith in the preservation and enhancement of that value. That is why any effort to balance the money supply with productivity gains is doomed to failure and why the money supply will continually be indirectly expanded to facilitate those productivity gains.
Joseph Schumpeter was an advocate of Werner Sombart’s thesis of creative destruction (Cf. Schumpeter, J.A. (1911; 1961 The theory of economic development: an inquiry into profits, capital, credit, interest, and the business cycle. See also Alan Greenspan (2007) The Age of Turbulence: Adventures of a New World and Thomas K. McCraw (2007) Prophet of Innovation: Joseph Schumpeter and Creative Destruction), that is, that radical innovation is the essence of capitalism that transforms and leaves behind the old order. Thus, the key player is the entrepreneur and innovator, in German, the Unternehmergeist, the entrepreneurial spirit that AH celebrated. Innovation is the key in the formula of the creative destructive process of capitalism. For innovation not only adds new wealth but has to make up for the diminishing returns of capital and labour invested in nature to produce artifacts. Capital (diminishing returns) + Labour (diminishing returns) + Innovation (greater than the diminishing returns of capital and labour) together produce a positive sum game.

This is the theory of Joyful Capital with the destructive aspect bracketed. Money in its various forms is thus the object of eminent possession given universality for its omnipotence as the ultimate pimp, the procurer between real needs and imagined ones mediating not only between one’s personal aspirations and real circumstances but relations with others. The last crisis was not, as Alan Greenberg, former head of the Federal Reserve, opined, a savings crisis – too much money chasing too few opportunities. Nor was it a debt crisis and a failure to prime the pump in a timely fashion through increased government spending. The sages from both ends of the spectrum said that the problem that turned a crisis into a catastrophe was not too much debt or not enough debt fostered by an increase in the money supply to prevent the crisis from spinning out of control.

Paul Krugman and Robin Wells (“Our Giant Banking Crisis – What to Expect, LVII:8, 13 May 2010, 113) provided another answer. The issue is not the amount of debt but the ability to repay it. The problem was not the rate of increase in debt but the slow rate of growth to repay the debt. Debt had to be aligned with productivity. Greed facilitated by creativity develops new instruments for expanding credit beyond the established instruments and regulations provided the foundation for the financial crisis that exploded.

Lack of regulation played a role in the financial crisis, not because the capitalist system is intolerant of regulation, but because the system of regulation is always playing catch up with the new creative forms of abstractly representing wealth and credit. In other words, the reason the risks are not recognized is because we currently rely on regulatory mechanisms that are designed for what has happened in the past. These mechanisms can only catch up to the destructive potential of creativity when the damage is done and the dangers recognized. Further, regulatory mechanisms are inherently incapable of recognizing systemic problems especially when we are increasingly incapable of measuring productivity gains.

For example, examine the productivity benefits of computers; they are grossly overestimated. Computers may perform a variety of tasks, but only do the old tasks faster rather than in any particularly new or efficient manner. That advantage is often offset by the fact that the mastery of computers requires time, the scarcest complementary human input. Further, the ´´productivity-revenues´´ are hidden by data; the ratios for input and output, and, therefore, the revenue benefits, are almost impossible to parse, particularly in the service sector. The net benefit of the incorporation of computers into the productivity process may not even be noticeable because their introduction will accelerate the diminishing returns of capital and labour resulting in losses in other divisions/departments of the company. The mis-measurement and displacement factors are compounded by a third element – the time lag. Productivity gains of computers are realized only after a lag period because complementary forms of capital investment must be developed to allow computers to be used to their full potential. For even if computers increase productivity by 50%, in the time lag for their introduction, the capital input may offset the benefit in the short run. Finally, even several decades into the information revolution, we do not have the data to either confirm or falsify any of these hypotheses. So it is not surprising that, in this “veil of ignorance”, managers mis-manage and cannot determine when and where to invest capital in communications technology. In the end, there may be a systemic problem: we lack the measures for calculating the increases in productivity due to computers, especially if the productivity gains are reflected in quality changes and new products.

This was at its simplest the basis for the last financial crisis. The specifics are just an elaboration. The first step was put in place in the early eighties with the institutionalizing of the “swap” by Salmon Brothers that involved trading obligations and rewards without the necessity to transfer the underlying security itself. When Jamie Dimon, CEO of J.P. Morgan, held his intense brainstorming session in 1994 with his “mafia” beside a pool in Boca Raton, swaps had grown into a twelve trillion dollar business. In their quest for new tools and new sources of profit in what had become a highly competitive business, the team came up with the idea of swapping the risk rather than the interest rate obligations of loans. Instead of arranging a loan to secure the debt, secure the risk itself requiring a fraction of the amount of the loan itself thereby drastically reducing the cash that needed to be held in reserve and enormously increasing the credit supply. The mechanism came to be known as the “credit-default swap”.

The third step in the development of this new mechanism of increasing the money-supply and the amount of credit available was based on securitization, bundling together different debts and, based on the law of averages, selling the risk of the bundled securities rather than that of a single loan, thereby ostensibly reducing the risk if a single loan failed. The fourth invention involved “tranching,” that is dividing the bundled securities into different slices and paying interest according to the degree of risk of that slice of the bundled securities. Safer tranches paid less interest and highly risky tranches paid higher interest. In this fourth step, an offshore company, a “Special Purposes Vehicle” to handle all the transactions involved in the tranching of these credit-default swaps, was created. The fifth step involved getting the rating agencies to go along with the risk analysis of this new mechanism called CDOs, synthetic “collateralized debt obligations”, which Moodys did for J.P. Morgan in 1997. However, the real large profits could only come when the whole process was streamlined and industrialized. This was the sixth and absolutely necessary step accomplished when a simple algorithm was created to calculate the risk.

Felix Salmon in 2009 branded this as the “Recipe for Disaster: The Formula that Killed Wall Street”. (Wired Magazine, 23 February 2009) David Li was the creator of applying the Gaussian copula function to financial risk applications.

Based on his research work at the University of Waterloo on loss modelling applied to insurance (after he graduated and when he was already a partner in J.P. Morgan’s Risk Metrics unit), he adapted the formula in 2000 to enable a new generation of risk-based securities to be leveraged. (See David Li (2000 “On Default Correlation: A Copula Function Approach,” The Journal of Fixed Income, March 2000, 43-51.) As Cathal Kelly wrote in The Toronto Star (“Meet the Canadian whose big idea felled Wall Street,” 18 March, A01, A17), “Li’s model sidestepped the problem of trying to correlate all the variables that determine risk. Instead it based its assumptions of the historic dips and swells of the market itself. In essence, Li used the past to map the future.” (My bold)

In the formula, the correlation “P” of disparate variants, where each variant has a maximum correlation of 100% or >1, is a multiple standard normal cumulative distribution function multiplied by these variable risks combined in a common formula, but one not based on independent assessments of risk but on historical patterns. The algorithm linked and correlated different disparate risks, that is, formulated a multivariant distribution (a copula) representing different degrees of interconnectedness to estimate probabilities of future occurrences of a bundled group of separate risk items based on traditional patterns. The bundling was supposed to reduce risk because of linking different degrees of risk. The formula explicitly did not reduce risk of any single occurrence and was not applicable where risks were systemic and applied to the whole system. By 2005, Li warned that the model was limited in its application for it could not predict what would happen in extreme economic environments. (Mark Whitehouse, “Slice of Risk,” Wall Street Journal, 12 September 2005) Nor did it predict that the formula itself was a crucial component in creating that extreme environment.

When Jamie Dimon and his “mafia” invented the “credit-default swap” in 1993, Felix Rohatyn warned derivatives were “financial hydrogen bombs built on personal computers by 26-year-olds with MBAs”. Ten years later, an economist at the bank for International Settlement, Claudio Borio, assisted by the acute analysis of data of Bill White, challenged the belief that financial innovation was an unadulterated good. Ignoring these warnings and the accumulating black clouds, the European Securitisation Forum at its annual meeting entitled, “Global Asset Backed Securitisation: Towards a New Dawn!” on 11 June 2007 in Barcelona celebrated the most profitable year in history for investment banks. The next day, Bear Stearns began to unravel and was eventually bought at a bargain price by JP Morgan Chase. Jamie Dimon, the CEO, fifteen years after the pool party where his team came up with the idea of the credit-default swap, held another party at the World Economic Forum in Davos, Switzerland, not to celebrate the fifteenth anniversary of that revolutionary innovation, but to hail the hundredth anniversary of J. Pierpont Morgan as the savior of the financial system in 1907.
I have argued since the sixties that entrepreneurship depends on playful creativity to try to see how to use existing rules in new ways to provide for future capital growth and accumulation rooted in our creative playful imagination. But the system has to be managed in terms of a recognizable set of rules so outsiders can trust the players. After a bubble of confidence bursts, the key and central problem remains how to restore faith in our material god, in this case, the very lifeblood and circulatory basis of the system itself, the financial sector. As Albert Hirschman argued, the core rules may be simple but their application to specific situations at specific times and places varies. The propensity of any entrepreneur will be to adapt the rules to favour his or her own style of play. When the mathematical model developed is a positivist one based on extending past experience into the future without taking into account the fact that the new model itself, let alone other new factors, confront principles of indeterminacy and the effects of cumulative chance factors to alter or even inverse previous patterns, we challenge fate.

A system had been created with an enormous range but one which did not and could not take into account systemic failure when batches of credit default swaps could themselves be combined into collateralized debt obligations (CDOs) without the necessity of purchasing bonds at all. Based on historic patterns, investors were betting on a group of players winning at a casino and banks were selling and trading these CDOs and significantly increasing their sources of profit. The insurance system had been turned into a lottery and the lottery became an item for investment, but an item that did not include the possibility of the casino burning down or the workers in the casino going on strike. Further, rating companies no longer had to do their homework but began to rely on the formula.

Thus, there is an inherent tension between the referee obligated to uphold the existing rules and the entrepreneur driven to adapt and alter rules to facilitate play. There never will be or can be a stable set of fixed rules, for the very nature of entrepreneurship as creative play will mean challenging and adapting the rules themselves. There will always be a tension between ensuring the rules are not utilized for either nefarious purposes or for products and ideas that are beyond the elasticity of the system to handle. But there is also a need to adjust rules to allow for creativity and new situations.

Instalment 9: The Paradoxes of Economic Recovery

Worldly Philosopher: The Odyssey of Albert O. Hirschman by Jeremy Adelman

Conversation – Instalment 9: The Paradoxes of Economic Recovery

Chapter 8. The Anthill: Repressed versus Joyful Capital                        

Part I

                                               

by

 

Howard Adelman

 

Back to economics, seeking a job and onto Washington. AH had just served in the OSS, even if not given any significant assignments. His book, National Power and the Structure of Foreign Trade, had just been published. There was a dire need for economists with experience in international trade. Why would he not be snapped up? The World Bank, the IMF, the work on the Marshall Plan for the Department of Trade, the OSS and the State Department all needed his intelligence and experience. Further, Albert still had the rest of his leave from his Rockefeller grant to tide him over.

 

As Jeremy records the tale, as he relocated from California with hep from Sarah’s parents, Albert’s skills as a superb networker were of no avail. Promises and warm receptions were followed by terse rejections, long silences or lame excuses at the same time as he was trying to help the rest of his family in Europe with “care packages”. George Jaszi, his close friend from LSE days who was then working for Averell Harriman at the Commerce Department, emerged as his saviour. But the Clearing Office for Foreign Transactions was dull routine work with little in the way of intellectual rewards. He was saved a second time by his colleague from California, Alexander (Shura) Gerschenkron, who offered Albert a research job in the Federal Reserve Board.

 

It did not take long for Albert to make his mark. He covered Western Europe and showed how the French economy was in a bind. Robert Schuman, the French Minister of Finance, could not devalue to improve France’s gaping trade deficit for that would make imports more expensive and heighten the pressures on inflation. This paradox stood in stark contrast to the economic religious belief that markets were self-correcting. Then the Republicans took office just when the European economic crisis took a further nose dive compounded by the coldest and snowiest winter since 1813-14 that began its unremitting grip in the second week of January 1947. At the time, I was nine years old. I recall being in grade five. Miss Chapman was my teacher in KingEdwardPublic School. My memory is that we spent a good deal of our class time collecting items and knitting woollen gloves and socks (yes, I learned to knit) to ship to the people in Britain.

 

Hirschman was asked to write a report on the crisis for the Federal Reserve Bulletin. After collecting data on rationing, price controls, the banking collapse (familiar?), mounting inflation, falling production and deteriorating trade balances, he showed how the policies that France, Britain and Italy were adopting – quotas, tariffs, foreign exchange controls and protection measures – were only making the crisis worse. They could not import what they needed and could not export to earn the monies to pay for imports. Interventions by Paris and Rome only accelerated inflation and compounded the problem. The left led strikes that further paralyzed the economy.

 

Thus the title of the chapter and the reference to AH’s metaphor of the disrupted anthill where the ameliorative effects of rebuilding infrastructure had been exhausted without any further elasticity to give the economy lift off so that the ants were left idle. The crisis was one of trade needed to stimulate production but autarky and bilateral deals had replaced the efforts to move trade towards a more open system. Perhaps the creativity had to be exerted on the system itself.

 

AH provided a landmark report. Ease the bottlenecks to trade and the path to recovery was open. AH had provided the hidden hand behind the Marshall Plan.  But the Washington bureaucracy was itself an anthill with underemployed and misemployed and misdirected workers. Meanwhile, the communists were threatening takeovers in Czechoslovakia, Italy and Paris through the ballot box. Hirschman hoped that the crisis was deep enough to provoke change without being so deep that the system collapsed.

 

The new initiative came from the top with the European Recovery Program better known as the Marshall Plan which Secretary of State George Marshall put in place in April 1948 with bipartisan support and the leadership of George Kennan and William Clayton from the State Department. When the austerists prevailed – as in Italy – matters only became worse.  The American plan launched Europe away from the brink of disaster towards recovery. In preparing the draft for Congressional approval, AH was drafted to join the MIT economist, Richard Bissell, who at been at LSE just before AH and who was born, incidentally, in Mark Twain’s old home in Hartford, Connecticut, giving him by osmosis a spirit of adventure rather than a propensity to tie down the hatches and take cover. Inject working capital and watch the paralyzed financial sector throw off its lethargy and tackle the chronic balance of payments problem. A more open trade system would accompany and follow the change. The domestic plan of 2008 in the USA was not fundamentally different.

 

However, to work it required European initiatives to lift exchange controls and bilateral barter deals and accords in favour of regional cooperation. The Organization for European Economic Cooperation (OEEC) became the institutional tool. Though Hirschman’s plan for a central bank and a unified currency was prophetic, it was also politically well ahead of its time as a measure to tackle the immediate convertibility crisis. The foremost initiative was to make the European currencies transferable and convertible thereby establishing the foundations of regionalism and multilateralism that would form the foundation for the European Economic Community and eventually the Euro. This was accomplished through the 1950 European Payments Union (EPU), effectively, a federally controlled common clearing system. (See James Ransom “‘A Little Marshall Plan’: Britain and the Formation of the European Payments Union,” The International History Review 32:3, Sept. 2010, 437-454. I will later return to why I believe this monetary reform was the crucial key and not the trade regime established, however important that was as well.) Europe, however, was ready for a trading federation based on a monetary proto quasi-union. The revolution was as significant as the overthrow of mercantilism in Europe.

 

The political window was, however, closing with the rise of the Republicans to power, the rise of the Communists in China, the consolidation of communist controls in Eastern Europe and a plethora of Soviet spies flushed out into the daylight. Paranoia would once again rule the roost fostering defensive rather than creative responses. The North Koreans were on the march. The brains trust that had been assembled began to desert the ship of state now caught in an ice jam with respect to development policy.   

 

The result sparked an even greater depression than the one that AH had suffered in Algeria and in Italy. He could not stand being an under-utilized ant and crept back to his classic books and self-isolation. One catalyst was the death by heart attack of Harry Dexter White, one of the standard bearers of Bretton Woods (see Benn Steil, The Battle of Bretton Woods: John Maynard Keynes, Harry Dexter White, and the Making of a New World Order), who had been the founding director of the IMF. He died three days after being summoned before HUAC to face charges of passing secrets to the Soviet Union. (See R. Bruce Craig’s book, Treasonable Doubts.) The political and economic repressives had retaken the citadels of power and influence. Arthur Marger, with his orthodox economic doctrines, became the new head of The Fed. AH’s ideas could not even get a hearing.  When he sought to go elsewhere in Washington, it was now apparent that some item in his file blocked all movement there. When he sought to go to Paris, a review of his security clearance was initiated. He learned that the Loyalty Review Board of the Civil Service Commission would not approve his transfer on security grounds and he was advised to leave the civil service voluntarily. He was now without a paycheque.

 

In the next blog I will deal with the haunting security file and AH’s opting to go to Colombia. In part 2 of this blog, I want to discuss a theory of money and why the EPU was so important.