Charter cities

The idea of charter cities, originally promoted by Stanford economist Paul Romer, sparked a lively academic debate in the field of economic development. The idea of charter city rests on the premise of creating special reform zones within countries. The reform zone would not be governed by the prevailing system of formal and informal rules within countries. The concept of charter city would serve as an intellectual laboratory of ideas in which governments would be let to quickly adopt innovative system of rules. The purpose of charter cities is the empowerment of incentives in world's less developed countries to develop human capital skills, hence, to increase the level of productivity and real wages that could foster the increase in the standard of living. By and large, the core idea of building a charter city means building a city of about 1000 sq. kilometers in the unoccupied land of the host country and adopting an innovative system of formal and informal rules provided by the source country. The example of charter city include selling Guantanamo to Canada and turning the little piece of Cuban land into Caribbean Hong Kong by adopting a formal system of rules and governance based on limited government, strong rule of law and free market; and turning the new territory into manufacturing hub that could serve as a source of income for workers across Caribbean islands such as Haiti. The charter city would not only provide the opportunity for testing intellectual ideas and innovations but also migrational opportunities for individuals from world's most impoverished countries such as Haiti. The coordination of the charter city is managed by a triangle. First, the host country would provide the piece of land. Second, the source country would provide the infrastructure, human capital and ideas. And third, the guarantor country would provide the assurance that the charter would be respected by both countries.

The concept of the charter city has gained significant attention by development experts in discussing developmental malaise in world's least developed countries in Africa. The empirical evidence on Africa's underdevelopment is striking. It suggests a blinking interplay of corruption, institutional fragility and state failure. According to African Development Indicators, about 75 percent of firms in Cote d'Ivoire identify corruption as the major constraint in doing business. In Ethiopia, less than 2 percent of females enroll tertiary education. Moreover, the average Ethiopian female can expect only 7 years of total schooling. In Liberia, about 11 percent of married women partake a contraceptive use by any method. Hence, one third of young Liberian women, aged 15-19. In addition, 60 percent of Liberians live below $2 per day. In Mozambique and Sierra Leone, only 45 percent of young women are literate. A female at birth in Sub-Saharan Africa can expect to experience no more than 8 years of total schooling throughout her life.

The perennial question in the establishment of charter cities is whether the idea can serve as a source of good rules, promoting good governance through low-cost contract enforcement. Institutional fragility of states across world's least developed countries is largely the economic outcome stemming from wrong development diagnostics, mismatched policy choices and a rigid structure of formal and informal institutional arrangements which resulted in a myriad of bad rules and corrupt political leadership across the specturm of world's poorest countries. The general conclusion from the lessons of development policy is that in the last century, development policy failed to facilitate meaningful prescriptions for a permanent rise of GDP per capita. In particular, the misdiagnosis of essential development dilemma is not a consequence of technical failure in delivering concrete solutions to applied issues of economic development but a consequence of mismatched theoretical foundations which supplied wrong assumptions. Theoretical models of economic growth and development in late 1950s and early 1960s rested on the assumption on output per worker as an increasing and diminishing function of the capital per worker. Although the validity of the neoclassical growth theory remains undisputed, development policy and international aid donors failed to recognize that increasing the amount of aid does not lead to better development outcomes. In fact, the majority of Sub-Saharan countries experienced the relative decline of GDP per capita in the 20th century. In 1913, the GDP per capita of Ghana (in 1990 international dollars) represented 42 percent of the average GDP per capita of European periphery. In 2008, Ghana's GDP per capita represented merely 8 percent of the average GDP per capita of European periphery. By the available statistics, Algeria was the second wealthiest country in Africa, only after South Africa. In 1913, Ghana was the fourth richest society in Africa, only after South Africa, Algeria and Egypt. In 2008, Ghana's GDP per capita was ranked 20th in Africa, in the same range as Angola, Lesotho and Nigeria.

The question surrounding the emergence of the charter city is whether it can serve as a treatment to the contagious sclerosis of fragile institutional structure in failed states, marred by poor governance and the lack of law and order, causing the failure to enforce private contracts as to ensure the rule of law and provide the institutional impetus for sound governance and better formal and informal rules. A notable criticism of the institutional fragility in world's less developed countries pertains to the capture of the state by the political elites. The political elites in world's poorest regions have provided sufficient conditions for the capture of government and judicial system by incorporating a system of powerful informal arrangements through bloated corruption which consequently impaired investment and ultimately resulted in the expropriation of private property rights. The institutional chaos in the most failed states of the world culminated into behavioral adaption to bad rules. The sequence of harmful economic policies eventually seized upon poor development outcomes such as high rates of poverty, stagnating income per capita, low life expectancy and poor health and education indicators.

The foremost task of the charter city should facilitate the institutional decency to enforce private contracts without transaction cost barriers and ensure a robust system of the rule of law since better rules nonetheless depend on how informal institutions such as culture, habits and behavior embrace the virtues of free markets, limited government and the rule of law. Aside from the essential infrastructural arrangements, the provision of institutional conditions for living under a different set of rules does not necessarily imply sufficient prerequisites for the productivity growth that could, in the long run, transform the charter city from low-wage pool of unskilled labor into high-wage urban agglomeration. What is needed for a charter city to flourish is the acceptance of informal institutions of the liberal society such as the freedom of contract and the freedom from corruption. One should not hesitate that economic and personal liberties in world's poorest countries are plagued by predatory rent-seeking political behavior as well as contended against the principles of adherence to formal rules. Without a sensory adherence to these principles, it would be impossible to envisage the charter city as a solution to world poverty and underdevelopment.

For a charter city to provide a clear and cohesive framework of rules, it is essential to provide the credibility and predictability of rules. In early 1950s, Hong Kong was a small island chartered by the British who established a system of credibility over centuries. Hong Kong was the only place where Chinese workers were allowed to migrate from the mainland China. The credibility of the rules, emphasizing limited government over extensive government intervention, free markets over regulated command-and-control economy and the rule of law over political discretion and interest-group politics, proved vital in Hong Kong’s steady economic growth in the 20^th century. In 1950, Hong Kong’s income per capita was around GBP 2,500. By 1997, the average income per capita rose to GBP 20,000.

The idea of building charter cities to boost income per capita by innovative framework of governance is a valuable alternative to the mainstream development policy. First, setting a charter city in regions such as Sub-Saharan Africa and Latin America would encourage seasonal and permanent migration flows from areas with low population density both on domestic and international scale. David McKenzie and John Gibson examined the impact of New Zealand’s Recognized Seasonal Employer program (link), aimed at encouraging seasonal migration from Pacific islands Tonga and Vanuatu to New Zealand, benefitting employers at home. The empirical evidence and policy conclusions suggest that seasonal migration is offering a triple win since a migrant, the sending country and the receiving country benefit from participating in seasonal migration program:

“Nevertheless, there are several caveats to these conclusions. The first is that development is a long-term process, and some of the effects of the RSE may only materialize over many years of community involvement. These could include positive effects such as greater asset-building, investments and skill development if workers return for many seasons, as well as potential longer-term negative effects of continual absence of family members on family and community relations. Secondly, while the gains to households from this seasonal migration are large, they still pale in comparison to the gains from permanent international migration (McKenzie et al, 2010). A key policy issue is therefore the extent to which seasonal migration can or cannot eventually open up avenues for permanent migration. Finally, as with all evaluations, there is the question of how far the policy details and findings can be extrapolated to other settings and that it was developed drawing on lessons from experiences around the world should provide some external validity. As temporary migration programs are increasingly emphasized in policy discussions, there is likely to be plenty of scope for governments and researchers to work together in the future in assessing how well these lessons translate.”

Second, charter cities would nevertheless spur the diffusion of knowledge into the countries of poor regions in the world. In its most distinctive form, charter cities would be similar to the role of small states in the global economy. For instance, consider Mauritius. Back in 1968, when the island gained the political independence from the United Kingdom, the economic prospects of the country were undermined by rapid population growth, rachitic productivity and overdependence on sugar as the only export industry. In addition, trade policy imposed high tariffs and import quotas to protect sugar manufacturers. Since it was impossible to dismantle the barriers to trade, the government of Mauritius responded by creating a virtual special export zone. Any foreign and domestic company could enter and exit the export zone by retaining the profits earned. Companies within the export zone operated under different rules with no trade restrictions such as tariffs, import quotas, voluntary export restraints etc. Hence, the only entry requirement for locating in the special zone was that companies manufacture only for exports as not to compete with domestic markets. The special export zone proved to be a success story. Productivity and employment rates increased sharply, boosting income per capita and standard of living. In 2010, Mauritius’s GDP per capita ($15,500) is the second highest in the region, only behind Gabon ($14,600). The experience of Mauritius with the special export zone and its consequent impact on the economic prosperity of the island, suggests that institutional competition ultimately rewards the institutional structure with better economic outcomes. The entire concept of the charter city is based on encouraging the institutional competition between charter cities and politico-economic systems in poorer countries where charter cities would be most likely to settle. Low initial level of income per capita in charter cities would encourage low-wage employment with unskilled labor. The experience of countries such as Mauritius, Singapore and Hong Kong suggests that favorable institutional features at the beginning stage of development result in better economic policies, ultimately leading to stable economic growth, higher standard of living and better education and health indicators. In Mauritius, the judicial independence from political influence has been enhanced by delegating the highest court of appeal to the British Privy Council, a royal judicial committee (link), full powers of judicial authority.

Many smaller countries in the 20^th century, known for good development outcomes, have adopted roughly similar institutional impetus for economic growth and development. In Africa, countries with the highest level of economic freedom and the lowest perception of corruption, such as Mauritius, Botswana and Namibia, enjoy the highest level of GDP per capita in the African continent. In spite of the abundance of natural resources, Botswana adopted market-friendly economic policies in the second half of the 20^th century, conducive to private enterprise and investment. According to World Bank, it takes 152 hours to pay taxes in Botswana compared to Sub-Saharan average of 315 days. In addition, a claimant in Botswana can expect to recover 63.7 cents per $1 from an insolvent firm compared to 8.4 cents per 1$ in Angola, 16 cents per 1$ in Niger and 0 cents per 1$ in Madagascar.

And third, charter cities would vastly improve the infrastructure of the residents, choosing freely to enter and exit the city. Households in countries such as Guinea still lack the access to electricity, forcing students to do the homework under streetlights and use the car park lights to review school notes (link). Despite being one of the largest receivers of aid per capita, Guinea still suffers from the lack of widespread access to electricity. One could hardly believe that the efforts pledged by international aid donors to reduce poverty and improve the standard of living across the African continent, were not sufficient. What created the black hole, such as the above in Guinea, is the institutional structure plagued by persistent corruption, political cronyism and bad governance, creating bad rules and wrong incentives. Charter cities would ingeniously cure the widespread persistence of misrule and political misconduct since the system of rules would be defined by the founding charter of the city. Good prospects of charter cities would require free entry and exit from the city as well as transparent and honest oversight of the respect for rules by independent judicial authority, managed by a guarantor country such as the United Kingdom, U.S. or Canada. In the proposed form, a typical charter city would become a manufacturing hub. In particular, it would enable access to low labor costs and significant economies of scale to technology entrepreneurs from rich countries as well as transparent contract enforcement, law and order and the security of private property rights. On the other hand, cities would enable millions of people from poor countries to migrate to chartered cities and seek employment opportunities in an environment, safe from corruption, political restraint, violence and bad governance. Hence, charter cities would provide a necessary input to the intellectual competition of ideas in economics, law and political philosophy and elsewhere to be implemented in chartered cities.

The concept enables social scientists and development experts a real-world experiment of ideas. Hence, charter cities could provide a safe haven for prosecuted individuals in poor countries, suffering from judicial errors, physical and military violence or illicit property expropriation. The UN estimates that, over the next few decades, 3 billion people will move to cities. The inflow exerts a growing pressure on urban agglomerations. The lack of basic infrastructure and the continuity of predatory misrule could cause a rapid growth of slums in larger cities which, by and large, are the main source of infectious diseases, HIV prevalence and youth crime since the absence of access to clean water, electricity and education are the major impediment to the improvement of development outcomes in poor countries. A charter city could flourish to become an impulsive alternative to the current state of overdependence on foreign aid. However, it should be unambiguously clear that adherence to good rules and governance requires a bold and decisive change in the set of informal behavior; in which corruption, crime and nepotism are doomed to the fullest possible extent by the full enforcement of private contracts and the rule of law.

Foreign aid and development economics

The aim of main research agenda of development economics in the last century was to provide an evolving approach to curing the persistence of poverty and underdevelopment in world's least developed and developing countries. High economic growth in developing countries in the last decades has changed many developing nations into middle-income countries. For instance, real economic growth rate in China and India from 1960 onwards averaged 6.67 percent and 3.49 percent, respectively. In 2010, China and India were already classified as lower middle-income countries, belonging to the same income group as El Salvador, Armenia and Philippines. In the recent year, China's GDP per capita was higher than GDP per capita of many high-growing developing nations such as Ukraine, Nambia, Armenia and Bosnia and Herzegovina, and roughly at the same level as Algeria. Over the last decade, the economic growth in developing countries accelerated, driven by an increase in global commodity prices, robust investment rates, expansionary monetary policy and a growing domestic consumption. The economic growth in a majority of African states stagnated, consequently leading to a decrease in the overall standard of living. Between 1960 and 2009, average real GDP growth was negative in countries such as Congo, Democratic Republic (-2.26 percent), Liberia (-1.51 percent), Niger (-1.02 percent), Zambia (-0.52 percent) and Zimbabwe (-0.02 percent) with many other African countries with little or no growth in the second half of the 20th century. The stagnation of income per capita in countries such as Sierra Leone is largely the result of civil war and severe political instability, creating domestic violence and the persistence of poverty, malnutrition and AIDS/HIV prevalence. From the second half of the 20th century onwards, international aid donors have contributed significant amounts of foreign developmental assistance in various forms such as medical care and vaccination against polio, AIDS/HIV, measles and malaria, direct cash transfers and physical infrastructure. Despite significant official and unofficial developmental assitance from international aid donors, dispersion of real income per capita, measuring the level of cross-country convergence or divergence of income per capita, the gap in economic development widened in the course of the last century. In 2010, the percentage of countries with the level of real GDP per capita $1,500 or below equaled almost 20 percent (link).

The rise of development economics in the 20th century was a natural response to growing disparities in income per capita between rich and poor countries. In the framework of neoclassical theory, development economics emerged from a neoclassical growth theory, pioneered by the famous Solow-Swan model. In the simplest possible form, the growth of output per capita depends on the capital per worker and the initial level of output under stable rate of national saving and capital depreciation. Assuming diminishing returns to scale and constant rate of population growth, the increase in capital per worker would increase the output per worker that would, hence, approach its steady-state equilibrium. Theoretical notions of the Solow-Swan model were tested against the empirical data on economic growth. The key assumption of the neoclassical growth model is that poor countries would tend to catch-up rich countries, assuming higher output growth in poor countries. The convergence of income per capita would imply a neg relationship between the initial level of output per capita and output growth over time. Thus, countries with lower levels of output per capita in the initial period would experience faster rates of output growth. Consequently, the output per capita and the standard of living would approach to the level in rich countries. The empirical tests of the Solow-Swan model failed to confirm the theoretical hypothesis since economic growth rates in 20th century in developed countries were higher compared to developing countries. The divergence of income per capita led to the subsequent modifications of the Solow-Swan model. In fact, the main criticism of the model points out that the model itself failed to capture the role of technological progress in determining the level of output per worker. The mysterious growth episode in Japan and other East Asian nations posed a difficult question. How can a country with low initial level of output per worker at the end of the WW2, exceed the productivity level in rich countries? The obvious answer is that Solow-Swan growth model failed to capture the role of technology shocks which violate the assumption of diminishing capital returns, what could explain why initially poor countries subsequently converged to the level of productivity in rich countries and then exceeded the level. The phenomenon, known as growth residual, has subsequently reduced the predictive power of the Solow-Swan model since a considerable share of economic growth was not ascribed to capital and labor inputs but rather to the persistent role of technological change.

Policy implications from Solow-Swan model imply that the essential requirement to boost economic growth in a country with low initial level of output per capita is to increase the amount of capital per worker, namely by boosting public and private investment in infrastructure. From 1950s onwards, World Bank had repeatedly boosted the growth of infrastructure by facilitating developmental assistance into world's least developed countries. According to the neoclassical growth theory, higher capital-labor ratio would provide additional investment stimulus, thereby increasing the employment-to-population ratio. Proponents of the foreign aid provided the rationale for higher foreign aid spending by the analogy of post-WW2 Europe when Marshall Plan provided $13 billion, or roughly $100 billion in today's prices, to Western European economies to recover the physical infrastructure which had been destroyed during WW2. Marshall Plan intervention was rather short, quick and finite. The efficacy of foreign aid in Africa is questionable since little or no growth occured in many African states such as Burundi, Benin, Zimbabwe and Congo. Official forecasts from the United Nations from 1950s onwards, based on the famous Harrod-Domar growth model (link), often assumed a rapid increase in the level of GDP per capita in response to the increase in investment rates. The forecasts, based on the theoretical assumption of diminishing capital returns, predicted a persistent convergence of GDP per capita to the level sustained in richer countries. The fact that the launch of extensive investment in infrastructure resulted in further economic stagnation of many African states, has questioned both the validity and quality of prescriptions laid by the mainstream development economics.

The philosophy of the mainstream development economics was sharply criticized in the light of the fact that foreign aid failed to alleviate poverty and made the growth of African economies slower. The efforts by the World Bank have been diverted from correct diagnosis of the developmental issues in African states to repeated initiatives such as the commitment of the international community to increase the share of foreign aid to least-developed countries to at least 1 percent of the GDP. The criticism of the mainstream development economics was already formulated in 1958 when Mont Pelerin Society organized the 9th meeting and development economics seminar where professor Herbert Frankel of the Nuttfield College put forth the criticism of foreign aid and the failure of development economics:

"The lesson that flows from it is that it does pay to go to these remote areas and find out what the problem is, instead of assuming that one knows the problem before one begins. Until recent years, people have simply assumed in many of these territories in Africa, that there were no real, positive signs of enterprise among the indigenous population, which was supposed to be so uninstructed or inert that it was not able to fend for itself, experiment for itself, or improve itself. It was not realised that a reason why there was this apparent lack of initiative in the population was that there were serious customary or legal obstacles to the exercise of ordinary enterprise, even on a small scale."

Given the lack of the comprehensive diagnosis of the causes of underdevelopment in African countries, the mainstream development economics failed to capture the appropriate assumptions in the theoretical models of economic development, upon which developmental assistance was justified. A more reasonable theoretical solution to the economic stagnation and social conflict in Africa has been put forth by the human capital theory. In its broadest and most general form, the theory stated that the economic stagnation of African countries is a consequence of the lack of skills and investment in education that could provide the necessary input to increase the economic growth and, subsequently, alleviate the issues of AIDS/HIV, malaria, child malnutrition and domestic violence. There is no doubt that the growth of education initiatives in Africa has sent many children to school. In addition, many universities in Western Europe and the United States have expanded the initiative and offered students from African states preferential admission criteria in various forms such as graduate fellowships, student grants and lower required standardized test scores, to boost admission rates of African nationals at U.S. universities. The efforts of developed countries to bring educational initiatives to Africa encouraged school participation as well as international opportunities of African citizens to study abroad, even at world's most prestigious and highly-ranked universities. Notwithstanding the importance of education in creating the stock of human capital for the wealth of nations, educational initiatives should address the essential obstacles that creates the failure of African expatriates to return to home countries, hence, bring skills, knowledge and various other forms of human capital, which are essential to the process of long-run growth, the issues of labor market distortions in African countries. These distortions crucially impede the ability of young African graduates to matching jobs in regional labor market.

What the mainstream development economics failed to take into account is the institutional paralysis which prevails in a majority of African countries, plagued by the destructive tribal institutions based on widespread corruption, bribes and domestic violence as means of achieving political power. The prevalence of hybrid institutions, marred by the complete absence of the rule of law and judicial institutions that could facilitate efficient contract enforcement and the protection of private property rights, is not only a severe obstacle to higher economic growth but also the apparent mechanism that captures the set of explanatory features that could possibly account for what caused the misdiagnosis of the African development dilemma. Back in 2002, African Union estimated that each year, corruption costs African economies more than $148 billion or 25 percent of Africa's GDP. The significance of corruption in state structures in Africa manifests itself in poor quality and provision of public services, the absence of judicial independence from political regimes, cumbersome contract enforcement and unprotected private property rights. Such distortions impede the level of trust and provide evolving incentives to subvert the institutional independence into political cronyism, in which corruption substitutes the tax system through bribes and extortion as methods of lowering transaction costs in overcoming the malfunctioning of the judicial system. In 1978, Erwin Blumenthal of the central bank of the Federal Republic of Germany, warned the international community that "Zaire's political system is so corrupt that there's no prospect for Zaire's creditors to get their money back." (link)

The advancement of country's economic prospects requires not only transparent, sound and efficient regulations but, more importantly, highly efficient civil service. In 2010, Transparency International published Corruption Perception Index (link) by measuring the persistence of corruption in public sectors across the world. The findings showed that the vast majority of poor African countries were plagued by extensive and extortionate corruption and ranked in the bottom 20 percent of the distribution. Comparing the level bureaucracy against GDP per capita reveals the amplified evidence of the negative correlation between the efficiency of civil service and the GDP per capita. The ease of doing business in Africa in countries such as Botswana, Ghana, Mauritius and South Africa is remarkably easier with predictable, stable and efficient regulation, compared to countries such as Burundi, Burkina Faso, Côte d'Ivoire etc. where highly burdensome administrative procedures in doing business hamper capital formation and restrain productive investment in health-care, education and private-sector infrastructure that could provide the impetus to economic growth.

The relationship between the amount of foreign aid, received by the least-developed countries, and the scope of corruption as a rough approximation of the institutional quality in the least-developed states, could provide the answer to the question whether international donors consider the scope and significance of corruption in allocating the amount of foreign aid. The experience from the last century of development policy, suggest that international donors actually allocated more foreign aid to the countries, suffering from severe state failure, widespread corruption, government failure and the complete absence of judicial independence that could provide a system of checks and balances and the necessary restraint on the violiation of private property rights, extortion and violence by the political elites. In 1999, Alberto Alesina and Beatrice Weder (see "Do Corrupt Governments Receive Less Foreign Aid," American Economic Review, 92(4), pp. 1126-1137) found that, contrary to arguments of aid supporters, foreign aid is not used to reward good governments since more corrupt governments received more foreign aid and official development assistance from international donors. The most striking evidence, presented by Alesina and Weder, suggests that U.S donors seem to neglect the persistence of corruption in allocating foreign aid to poor countries while, on the other hand, Scandinavian donors deem the persistence of corruption as highly important, hence, rewarding governments with lower extent of corruption.

In the following graph, I estimated the impact of corruption on official development assitance in the sample of 41 least-developed countries in 2008. In the model, I set the official development assitance to be determined by the scope of corruption in least-developed countries. The official development assitance is expressed as a share of representative country's gross national income (GNI) for it provides a better measure of aid dependence than foreign aid per capita since the size of population is controlled by the main assumptions of the model. The data on official development assistance were download from World Bank's World Development Indicators (link). The data on the extent of corruption in least-developed countries were provided by Transparency International's 2008 Corruption Perception Index (link). The extent of corruption varies from 1 to 10, where lower values indicate more persistent corruption. I estimated whether countries with more corrupt governments receive a higher share of foreign aid from international donors. On the basis of 41 least-developed countries, sample estimates suggest that a 1 point improvment in corruption perception index tends to decrease, on average, the share of foreign aid in gross national income, on average, by 2.37 percentage points. Sample estimate of the slope coefficient is statistically significant at 5 percent level. Even though, the variation in corruption perception index accounts for 5.51 percent of the variation in official development assitance, the influence of the extent of corruption on the share of foreign aid in gross national income is not spurious but systematic and persistent.

Corruption and official development assistance

Source: World Bank, World Development Indicators, 2010. Transparency International, Corruption Perception Index, 2008.

The estimate suggests that international donors indeed reward more corrupt governments by increasing the share of official development assitance. In 2002, African Union estimated that corruption was costing the African continent $150 billion per year. The estimates of the total cost of corruption provide an ample evidence that, over the last century, international donors consistently allocated foreign aid to more corrupt governments, creating aid-dependent economies, prone to bloated bureaucracies and extractive institutions which subsequently led to the stagnation of income per capita in the last decades. An ample criticism of foreign aid initiative was put forth by Dambisa Moyo (link) in the WSJ two years ago: "The most obvious criticism of aid is its links to rampant corruption. Aid flows destined to help the average African end up supporting bloated bureaucracies in the form of the poor-country governments and donor-funded non-governmental organizations."

The consequence of rootedness of corruption and extractive political institutions in African tribal cultures can be, in a considerable part, drawn upon the colonial heritage that spread throughout the African continent from 19th century onwards. The colonial experience across the African continent (link) served not only as a conquest of newly discovered areas but, moreover, also as an experiment of developing political and economic institutions on the basis of European influence. The colonial heritage in Africa was mainly derived from the European occupation of African lands. Hereto, the presence of European colonisers in Africa provided a long-lasting foundation of the institutional lessons from which the African states went forth.

Given the heterogenity of the European perspectives on institutional development, the colonial period in Africa left a long-lasting impact on the economic and political development in Africa. Africa's richest countries, namely Botswana, South Africa and Mauritius, were influenced tremendously by the colonial heritage. In Botswana and South Africa, the colonial influence of English and Dutch on further economic development was mainly derived from setting strong institutional foundations of economic development such as the rule of law, judicial independence and limited government compared to other African states. Apart from the setting of formal institutions, fostering contract enforcement and the integrity of the political institutions, English and Dutch colonizers provided the establishment of cultural setting not prone to fraud, extortion and extractive institutions. Favorable institutional conditions furthered the advertance of trust and institutional efficiency, which are deemed essential in fostering the development of financial markets. Even the German presence in Namibia from 1884 to 1915 during Deutsch-Südwestafrika (link) fostered, to a certain extent, independent judiciary, relatively sound institutions and cohesive framework of the rule of law. As a result, Nambia retained the status of one of the least corrupt countries in Africa, known for relatively high degree of economic freedom in a regional comparison with other African states.

While the influence of German, English and Dutch colonizers was largely beneficial to African countries from the perspective of economic growth and development over the last century, the presence of French, Italian and Belgian colonizers arises serious concerns over the prospects of economic development across the African continent. The myraid of violence, in countries such as Congo Dem. Rep. and Somalia, which ultimately led to civil wars and the settlement of extractive institutions, largely reflects the innate ability of the colonial policies to provide the necessary conditions for the institutional integrity, the rule of law and stringent property rights that could underline the basis of economic development by restraining the power and domination of political elites and their ability to expropriate private property rights in pursuit of extractive monopoly rents from natural resources. That easily explains why countries such as Congo, Zambia, Nigeria and Zimbabwe, in spite of vast reserves of natural resources, were seized by the state capture of political elites. The colonial presence largely determined the size and scope of aid dependency in African states. The most plausible and persuasive explanation of the impact of European colonial policies in African countries was presented by Daron Acemoglu, Simon Johnson and David Robinson (see "Disease and Development" Journal of European Economic Association, 1(2/3), pp. 397-405):

"European colonists were much more likely to develop institutions of private property, encouraging economic and social development, in places where they settled. In contrast, in places where they did not settle, they were more likely to opt for extractive institutions, designed to extract resources without investing in institutional development. In these places, institutions were highly centralized, with political power concentrated in the hands of small elites and with almost no checks on this elite. The property rights and more general rights of the majority of the population were not protected."

The political and economic circumstances of the European institutional legacy in African states imparted aid dependency on those countries where the combination of tribal institutions, hostile to free enterprise and judicial restraint of political dictatorships, and unequivocally detrimental colonial policies dominated the development of political and economic institutions, setting the rules of the game. Therefore, the inability of many African societies to establish sensible and effective institutions resulted in the political capture of the state by the elites. The monopoly power of the political elites, enforcing anti-growth public policies, led to consistently poor economic outcomes, plagued by high rates of poverty and infectious diseases such as polio, malaria and measles.

The challenge of development economics is not to design aid schemes, which inevitably lead to aid dependency, marred by persistent corruption and political fraud, but to ascertain correct diagnosis of why foreign aid repeatedly resulted in the poor economic outcomes and the consequent stagnation of income per capita in many African states in 20th century. The failure of African societies to establish a rigorous system of incentives, which could significantly improve economic outcomes, is not a response to market failures (which deemed highly of early development economics) but a result of severe government failure to establish effective institutions of the rule of law, contract enforcement and stringent property rights. These institutions are the broadest foundations of economic development and the only viable alternative to political nepotism and the power of elites which, as poor development outcomes in Africa show, ultimately impose extractive institutions, causing the persistence of poverty and underdevelopment.

ECONOMICS OF WOMEN'S PROGRESS

Gary Becker (link) and Richard Posner (link) discuss the economic perspective in the empowerment of women and the weigh costs and benefits of public policy aimed at the empowerment of women.

THE CASE FOR CARBON TAX

Ted Gayer of the Brookings Institution testified before the U.S Senate, discussing the economic benefits of carbon tax over cap-and-trade (link)

MINIMUM WAGE AND OBESITY

David O. Meltzer and Zhuo Chen explored the relationship between minimum wage rate in the U.S and body weight (link):

"Growing consumption of increasingly less expensive food, and especially “fast food”, has been cited as a potential cause of increasing rate of obesity in the United States over the past several decades. Because the real minimum wage in the United States has declined by as much as half over 1968-2007 and because minimum wage labor is a major contributor to the cost of food away from home we hypothesized that changes in the minimum wage would be associated with changes in bodyweight over this period. To examine this, we use data from the Behavioral Risk Factor Surveillance System from 1984-2006 to test whether variation in the real minimum wage was associated with changes in body mass index (BMI). We also examine whether this association varied by gender, education and income, and used quantile regression to test whether the association varied over the BMI distribution. We also estimate the fraction of the increase in BMI since 1970 attributable to minimum wage declines. We find that a $1 decrease in the real minimum wage was associated with a 0.06 increase in BMI. This relationship was significant across gender and income groups and largest among the highest percentiles of the BMI distribution. Real minimum wage decreases can explain 10% of the change in BMI since 1970. We conclude that the declining real minimum wage rates has contributed to the increasing rate of overweight and obesity in the United States. Studies to clarify the mechanism by which minimum wages may affect obesity might help determine appropriate policy responses."

ANTITRUST, MARKETS AND COMPETITION

Earlier today, I read Steve Forbes's discussion (link) of recent antitrust reaction to the announced Yahoo-Microsoft search-engine global partnership deal (here and here) by the Department of Justice. The merger of Yahoo and Microsoft is ought to create a new competitor to tackle Google's supposed 75 percent market share in search advertising. Back in 2008, Department of Justice swatted the aligned Google-Yahoo search-advertising partnership, saying that "it would have furthered Google's monopoly"(link). Google is currently also under investigation by Department of Justice which accusses Google of copyright infringement in company's book-scanning project (link). In addition, Christine Varney, Obama's antitrust appointee at the Department of Justice, targeted Google's dominance in search-ad market by blaming the company for "starting to colonize the emerging cloud-computing industry and amassing enormous market power" which customers would hardly escape.

The antitrust policy enhanced by Sherman Act, Clayton Act and Robinson-Patman Act prohibits the so-called "predatory behavior" that could restrain trade, induce monopolization efforts or impose unfair trade practices such as price discrimination. The antitrust targeting of Google has been inspired by the antitrust case from 1964 United States vs. Aluminium Company of America in which the court, headed by Judge Learned Hand, laid down a landmark decision that "under certain circumstances, a company may come to dominate its field through superior skill, foresight and industry." (here, here and here).

Donald Marron, former CEA economist, recently wrote a nice piece on how Google may defend itself against Department's potential antitrust investigation (link). First, Dept. of Justice will face a difficult task in defining Google's relevant market. Antitrust commentators often point out that Google possesses more than 70 percent of revenues in search-advertising market. However, Google's top antitrust attorney say that such definition of the relevant market is too narrow, arguing that the company actually receives less than 2 percent of revenues from search-ad market. The merger of Yahoo and Microsoft's internet search-engines could deteriorate Google's market share.

The enforcement of antitrust policy in preserving competitive market structures has resulted in complete failures several times. Recently, the European Commission imposed € 1.06 billion fine on Intel Corporation for exercising illegal practices such as giving loyalty discounts and implicit rebates to computer manufacturers and major retailer under the condition that Intel's chips are integrated into CPUs. The Commission argued that such "illegal practices" prevented customers from choosing alternative products (link) and thus, Intel supposedly abused the dominant position. That is against the provisions of EC Treaty.

The enactment of antitrust policy relies on the idea of competitive market structures. Microeconomic theory teaches that a monopoly leads to a deadweight loss and, thus, its relative efficiency is inferior to competitive market structure which operate under zero-profit assumption. However, the classic microeconomic theory neglects economies of scale in industries with significant fixed costs and entry costs such as high tech, health-care and airline.

However, antitrust policy embodied in Clayton Act, Sherman Act and other legislative acts, often leads to protectionist pressures from interest groups since the enforcement of antitrust is driven by the political process. Thomas DiLorenzo, famous Austrian economist, showed how interest group use lobbying pressures to exercise antitrust policy in favor of protecting competitors rather than competition (link).

In recent years Google acquired several smaller companies. The Federal Trade Commission and Dept. of Justice, for instance, put the acquisition of DoubleClick in 2008 under investigation. However, acquisitions in tech industry could produce significant efficiencies in distribution and consumer prices (link).

The notion of Sherman Act is that practices that restrain trade are illegal and doomed to be prosecuted. However, antitrust enforcers should recognized that high fixed costs and entry costs are not the result of market action or conspiracy but natural obstacle. Thus, industrial organization in technology, retail, health care and airline industries, enables significant economies of scale through lower average costs of production. This requires high levels of innovation including merging resources and joint cooperation. By the token of perfect competition for instance, Wal-Mart should be broken (link). If federal antitrust enforces forced Wal-Mart to split into more parts, gains in distribution which enable low prices and various discounts, would diminish considerably.

Thus, the real aim of antitrust enforcement should not be to prosecute successful firms and deprive them of productive gains, but to prevent alledged conspiracy that inhibits market entry and harms the consumers. In a free market, natural monopolies are short-lived and challenged by either new entrants or international competition.

THE ORIGINS OF OBESITY

David Cutler, Ed Glaeser and Jesse Shapiro provide the evidence of high rates of obesity in the United States (link):

"Americans have become considerably more obese over the past 25 years. This increase is primarily the result of consuming more calories. The increase in food consumption is itself the result of technological innovations which made it possible for food to be mass prepared far from the point of consumption, and consumed with lower time costs of preparation and cleaning. Price changes are normally beneficial, but may not be if people have self-control problems. This applies to some population."

WHAT IS THE COST OF POLITICAL CORRECTNESS

Inside Higher Ed published an interactive article about political correctness by discipline. The article can be read here.

FREE ONLINE ECONOMICS TEXTBOOKS

Here is a list of textbooks on economics availible online. The books contain a high degree of quality and valuable theoretical as well as analytical content in studying modern economics. Among the books there are Ariel Rubenstein's Lecture notes in Microeconomic theory, (2006), Robert Wilson's Short Course on Non-linear Pricing (1999), Introduction to Modern Economic Growth (2007) by Daron Acemoglu, Kenneth Train's Discrete Choice Models with Simulation and a lot of other books with content topics recommended to be studied in the course of macroeconomics and microeconomics nevertheless.

NOBEL PRIZE IN ECONOMICS 2007

This year's Nobel prize in economics jointly goes to Leonid Hurwicz of the University of Minnesota, Eric S. Maskin of the Princeton's Institute for Advanced Study and Roger B. Myerson of the University of Chicago, for having laid the foundations of mechanism design theory, as released by the Royal Swedish Academy of Sciences (link).

Adam Smith's invisible hand refers to how market mechanism ensure an efficient allocation of resources under ample conditions. In pratice, those conditions are distanced from the ideal. Competition is not completely free as there exist oligopolistic, imperfect and monopolistic type of competition.

Among four basic definitive principles of perfect competition, there is an assumption that consumers initialize perfect information about the anticipation of the market. Consumption and production may generate externalities, a positive influence on by-standers. However, many transaction do not actually occur in the open market but in the depth of the microeconomic transactions between firms or in particular exchange agreements between individuals, interest groups (link).

In addition, transactions also occur as an institutional phenomena. The question is not if such transactions are equitable but whether such allocation mechanisms function optimally. The subsequent question is also what is actually the optimal mechanism in going for a certain goal whether it be a goal related to welfare or/and profit maximization. In fact, contemporary economic theory is based on extremal theory of utility and profit maximization.

As in the upgrading of the circular-flow of the economic cycle, there is also the role of government regulation and the question, under which conditions, government regulation is supportive to achieving concrete goals and objectives. From the basic point of view, governments can sometimes improve the economic well-being and welfare nevertheless. For example, government anti-trust and anti-monopoly policies can benefit the overall economic well-being through the enforcement of competitive law as a way towards making welfare deliverable.

However, it is an absurd idea that government should own enterprises due to the fact that the scale of externalities is rare and hardly attainable on the locus of benefits and advantages of the private sector as markets are usually a good way of organizing the economic activity. The issues regarding the efficiency of allocation mechanisms are difficult to tackle mostly due to asymmetric information among market actors.

The fact, that information about individual preferences of particular choice and availible inputs (such as technology) may be dispersed and the fact that information about the individual interest is delivered asymmetrically and through random variables, is probably the core of the theory of allocation mechanism.

This year's Nobel winning economists succinctly initiated and further developed a theory of mechanism design. Enhanced by the laws of complexitiy, optimal allocation mechanism cannot be stated on the typical view from government's perspective, assuming that market failures occur frequently and, further, thus government distortion of market and exchange is non-peculiar.

Contrary to popular assertions, mechanism design theory distinguishes situations in which markets work well and in which they don't, judging the validity of allocation resource mechanism regarding the private information and individual incentives to fluctuations in the market accountably.

In practice, mechanism design theory is a great tool of assistance in experimenting various different mechanisms of trade and multiple exchange, schemes of sound regulation and deregulation. The theory is also applicable in the field of political science as it may upgrade voting procedures to perform efficiently with the supportive role of the economic theory in the process respectively.