Big Ideas from Small Countries

CAMBRIDGE – Two decades ago, many people thought that the lesson of the 1980’s was that Japan’s variant of capitalism was the best model, and that other countries around the world should and would follow it. The Japanese model quickly lost its luster in the 1990’s. A decade ago, many thought that the lesson of the 1990’s was that the United States’ variant of capitalism was the best model, and that other countries should and would follow. The American model lost its attractiveness in the 2000’s. So, where should countries look now, in 2010, for models of economic success to emulate? Perhaps they should look to the periphery of the world economy. Many small countries there have experimented with policies and institutions that could usefully be adopted by others. Costa Rica in Central America and Mauritius in Africa each pulled ahead of its regional peers some time ago. Among many other decisions that have worked out well for them, both countries have foregone a standing army. The results in both cases have been a political history devoid of coups, and financial savings that can be used for education, investment, and other good things. A panoply of innovations has helped Chile to outperform its South American neighbors. Chile’s fiscal institutions insure a countercyclical budget. Many governments increase spending excessively in booms, and then are forced to cut back in downturns, thereby exacerbating the cyclical swings. There are two key elements to Chile’s fiscal institutions:● A structural budget balance rule allows deficits only to the extent that the current price of copper is below its 10-year equilibrium or output is below its long-term trend. ● Two panels of technical experts are the ones to judge trends in copper prices and output, respectively, insulated from the political processes that can otherwise succumb to wishful thinking. These institutions are particularly worthy of imitation by other commodity-exporting countries, in order to defeat the so-called “natural-resource curse.” Even advanced countries such as the US and UK could learn something from Chile, given that in the last expansion they evidently forgot how to run countercyclical fiscal policy. Singapore achieved rich-country status with a unique development strategy. Among its many innovations were a paternalistic approach to saving and use of the price mechanism to defeat urban traffic congestion (an approach later adopted by London). Other small advanced countries also have lessons to offer. New Zealand led the way for much of the world’s central banks with inflation targeting, along with many liberalizing reforms in the late 1980’s. Perhaps its Labor Party should be given credit for pioneering the principle that center-left governments can sometimes achieve economic liberalization better than their center-right opponents. Ireland showed the importance of foreign direct investment. Estonia led the way in simplifying its tax system by means of a successful flat tax in 1994, followed by Slovakia and other small countries in Central and Eastern Europe and elsewhere (including Mauritius again). Mexico pioneered the idea of Conditional Cash Transfers (the OPORTUNIDADES program – originally PROGRESA – which was launched in 1998). CCT programs have subsequently been emulated by many countries in Latin America, Asia, and Africa. Mexico’s innovation was really two revolutions in one. First, there was the specific policy idea of making poverty benefits contingent on children’s school attendance (an idea which has been embraced even in New York City). Second, and perhaps more importantly, the Mexicans implemented the methodological idea of conducting controlled experiments to find out which policies work and which don’t work in developing countries (which has fed into the exciting Randomized Control Trials movement in the field of development economics). Also in the 1990’s, largely thanks to the leadership of then-President Ernesto Zedillo, Mexico adopted non-partisan federal electoral institutions that in 2006 proved able to resolve successfully a disputed election. (By contrast, it turned out in November 2000 that the US had no such mechanism in place, other than the preferences of political appointees.) More recently, the current president, Felipe Calderón, has shut down the entrenched electric utility and pursued much-needed tax, pension, and other reforms. In highlighting some very specific institutions that could be usefully adopted elsewhere, I do not mean to suggest that they can be effortlessly translated from one national context to another. Nor do I mean to suggest that these examples are entirely responsible for the economic success of the countries where they are found. (Indeed, a few of these countries have recently been wrestling with severe problems.) But a country does not have to be large to serve as a model for others. Small countries tend to be open to trade. Often, they are open to new ideas – and freer than large countries to experiment. The results of such experiments – even those that fail – include useful lessons for all of us. Jeffrey Frankel is Professor of Government at Harvard University’s John F. Kennedy School of Government. Copyright: Project Syndicate, 2010. www.project-syndicate.org