The evolution of independent regulation

Last Friday I participated in London in a very interesting debate organized by the Regulatory Policy Institute about the future of independent regulators in network industries. These agencies were born in the XIX in the US with the Interstate Commerce Commission, and were introduced in Europe after the British privatizations of the 1980s. Since then, they have been made mandatory by EU directives in energy and telecommunications, and have proliferated in many developing countries under the recommendation of international institutions. It was very interesting to listen to the ideas of past and present regulators about the evolution of the institution in the UK. Antonio Estache and myself participated in a session about the experiences with independent regulators in other countries. It was interesting to see that there was a sort of convergence between other countries and the UK. Whereas the UK had lost some of the initial enthusiasm with the institution, European, Latin American and other countries had seen the institution expand, but only very seldom reaching a true high level of independence from government. One of the reasons why British regulators seem to have lost some of their earlier independence is that they are doing more tasks now than when they started their operations 30 years ago. Initial regulators where expected to be in operation for a few years before the advent of competition, and in that short period of time their basically only role was to fix the productivity parameter X in the RPI-X formula. Things have become more complex over time, and there is today a general recognition that more competition means more and not less regulation, and that regulation interacts with other areas of public intervention that are much less prone to strategic delegation. Democratic societies are willing to delegate into insulated experts when they do a small number of tasks that are easy to monitor and for which they can be held accountable.

Kaushik Basu's groundwork

Almost by chance I recently came across the work of the great Indian economist Kaushik Basu. He has a brilliant trajectory as an economic theorist, having done his PhD with Amartya Sen. He is also a practitioner, as former advisor of the Indian government on economic policy and chief economist of the World Bank. I just finished reading an excellent book of his, "Beyond the Invisible Hand. Groundwork for a New Economics." In this book, Basu is cautiously optimistic that we can build a new economic science for a better world. One building block of a new economics must be the recognition that social norms condition individual behaviour, and that social norms that foster cooperative and distributive behaviour are as possible as the individualistic social norms that have been prevalent for most of the history of capitalism in western societies. Basu is no naive revolutionary, he is perfectly aware of the failures of previous attempts to build a different society. But he says that precisely because we can learn from previous mistakes, and because the evidence of the failure of capitalism to deliver in terms of stability, justice and even efficiency, economists should join the ranks of those who fight for a better world with solvency. As opposed to Dani Rodrik, who argues that it is not even desirable to try to build a global democratic governance, Basu says that there is no other option but to try to do precisely this. To those who believe that this is impossible, he presents the argument of the recent success of governments of big countries, such as China or India, which among both rule over one third of humanity. If such a large chunk of the world is under two governments, making progress towards, if not one single world government, at least a small number of world democratic institutions, should not be impossible.

More reviews of "Why Nations Fail"

In previous posts I have commented on the controversy surrounding "Why Nations Fail," the book by Acemoglu and Robinson. I have recently come across three new review articles. One of them is a negative comment by Microsoft's founder, Bill Gates, which has already been replied by the authors of the book. A positive comment is provided by Peter Coy. The deepest review so far (in my opinion) has been provided by W. Bentley MacLeod in the Journal of Economic Literature. MacLeod argues that previous criticisms of the book focus on the fact that the book promotes a uni-causal view of why nations fail to develop (based on the need for inclusive institutions) and that social life is too complex to be left to only one cause. But these other reviews do not seriously question that inclusive institutions are important. MacLeod instead argues that institutions sometimes have to be inclusive and sometimes have to be exclusive, and gives as example the literature on the economics of firms and organizations, where it is argued that participation by everybody at the same hierarchical level may fail to alleviate information asymmetries or solve problems of specific investments. The reviewer also argues that the book (and also the book Pillars of Prosperity, by Besley and Persson, reviewed in the same essay) shows that despite the usual homily that correlation is not causation, the authors establish correlations by showing historical examples (too many to keep track), but no causation. For example, for poor countries it may be optimal NOT to secure property rights, in the absence of complete insurance markets, while for rich countries it may be optimal to secure property rights. Then we may observe a positive correlation between secure property rights and national wealth, although it would be sub-optimal (and therefore bad policy advice) to recommend to poor countries that they should adopt secure property rights.

Colin Mayer’s reform of the firm

Colin Mayer, an expert in corporate finance from Oxford University whom I visited in 1996 when I was starting to work on my PhD thesis at the European University Institute, has recently published a very valuable essay, “Firm Commitment,” where he summarizes for a broad audience his ideas about the past, present and future of the corporation. His main idea is that large firms have become too much captured by shareholders to the detriment of other stakeholders, such as workers, customers, suppliers or communities. Mayer says that it is not true that the other stakeholders that are not shareholders are fully covered by contracts, as it is commonly argued. The solution according to the author is a reformed corporation that he calls “The trust firm”, one that espouses moral values and shows commitment to them in the long run. This kind of reformed firm would make it possible to address not only private but also public needs, making regulation redundant and Corporate Social Responsibility much more concrete and binding. Public Private Partnerships would also be unnecessary. As The Economist has argued in its review, the diagnostic is more persuasive than the suggested cure. I agree that the reformed firm postulated by Mayer should have a wider role, but it is hard to see how it can come to replace all regulation and PPPs. There are few short cuts to improving public policies and therefore politics. But it is an excellent book on the importance of the firm and the need to discuss its role for a better world.

Niskanen was wrong

William Niskanen was a Public Choice economist that was very influential in the Reagan administration in the US in the 1980s. Niskanen was a prominent contributor to public choice theory, a field of both economics and political science that examines the behaviour of politicians and other government officials. Public choice eschewed the traditional notion that these agents are motivated by selfless interest in the public good, and instead considered them as typically self-interested, like other agents. His chief contribution to public choice theory was the budget-maximizing model –the notion that bureaucrats will attempt to maximize their agency's budget and authority.
Since then, Niskanen's theories have been very much discredited by the observation that many public sector workers have intrinsic motivations and a public-sector ethos that replace the sharp monetary incentives that are supposed to prevail in the private sector. Of course, some public servants fulfil Niskanen's assumptions, but many, perhaps most, do not. I've had a recent experience of it. My mother has been in a public hospital in Barcelona for more than one month, and she is being treated all day by caring nurses and doctors whose public sector ethos, kindness and generosity goes beyond anything I had dreamed of and Niskanen had ever imagined. Please, more budget for them.