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Easterly channels Hayek

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Bill Easterly understands [2] the flaws in the search for panaceas in development:

Yesterday we ran a blog post [3] that fits into a now classic genre in development commentary. This genre, after some discussion, always ends with a conclusion like: “Solution X (a transparency law, microcredit, malaria bed nets, conditional cash transfers, web-based clever thing, eliminating business red tape, etc.) is moderately helpful, but a long way from a panacea.” Of course, nobody really claims explicitly “X will be a panacea!” But each new X is systematically oversold, expectations are raised way too high, and the expectations are always later disappointed.

Here’s why direct solutions to problems cannot foster development. Each direct solution depends on lots of other complementary factors, so the solutions can seldom be generalized across different settings; Solutions must fit each local context. Solutions that generate the highest payoff in each setting should be a higher priority than the lowest payoff solutions. Since there is little or no feedback on how well each solution is working in each local situation, there is little possibility for any such adjustments.

Development happens thanks to problem-solving systems. To vastly oversimplify for illustrative purposes, the market is a decentralized (private) problem solving system with rich feedback and accountability. Democracy, civil liberties, free speech, protection of rights of dissidents and activists is a decentralized (public) problem solving system with (imperfect) feedback and accountability. Individual liberty in general fosters systems that allow many different individuals to use their particular local knowledge and expertise to attempt many different independent trials at solutions. When you have a large number of independent trials, the probability of solutions goes way up.

Good systems make the private returns to decentralized problem-solvers close to the social returns. Again oversimplifying to drive home the big point, the market does this with private goods (even allowing for well-known exceptions of market failures), and a free political system is the best way known to do this for public goods (reward political actors in line with the social return to their actions).

The problem-solving systems could very well use some of the same solutions that were discussed above (a transparency law, microcredit, malaria bed nets, conditional cash transfers, web-based clever thing, eliminating business red tape). This leads to much confusion, as people then try to directly imitate particular solutions in the absence of a problem-solving system, which as stated above, leads to disappointing results.

Easterly makes two points about the search for solutions or at least things that might help poor people live better lives. One is that solutions are often proposed in isolation and are unlikely to work in isolation. Second, any solution that is going to work is likely to come from the use of local knowledge or at least dispersed knowledge rather than some expert who proposes some solution from the outside without local knowledge. These are both Hayekian insights.

The first point is harder to make but I think just as deep and usually neglected. I also think it applies to much more than development. I interviewed Diane Ravitch [4] recently about her new book on educational reform. She shows that many incentive-based “reforms” of education fail miserably. But why? Why isn’t using incentives a good idea? Don’t markets use them all the time? They do, but incentives don’t emerge in isolation. They emerge with other pieces of the market-process. Without those other pieces, incentives can create pathological results. People who don’t trust markets want to use the pieces of markets they like and avoid the rest of the messiness that comes along with freedom. But these “solutions” rarely work as advertised because of unseen consequences. Ravitch’s conclusion is that we need better reforms. My solution is that we need to get the government out of the education business. Or at least don’t be deluded into thinking you are mimicking a market solution because you have incentives.

Another example was the California energy “market” that had an auction but also had price controls. Didn’t work very well.

The point is that you can’t just take some piece of a market-based solution and impose it from the top down. You want organically emergent solutions that bring all the pieces along at once. Competition encourages the other pieces to emerge. Top-down solutions usually constrain competition and miss out on the extra parts of the puzzle.

These insights are difficult to accept when it comes to development. They seem to suggest that there is little we can do from the outside to help people improve their lives. We don’t want to believe this and our selfish side encourages us to believe it even if it is not true. But it may be true in which case aid is a waste of time and money and we ought to be figuring out ways to liberate people to help themselves rather than trying to create outcomes that in isolation seem attractive.

How do you liberate people to allow them to help themselves? You look for the barriers that keep them from helping themselves. Ironically, sending large amounts of money to corrupt leaders probably creates the single largest barrier.