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Big and small ideas in development economics: Theory, evidence and practice

Karthik Muralidharan, Associate Professor of Economics, University of California, San Diego speaks with Kaushik Basu, Chief Economist and Senior Vice President, World Bank and former Chief Economic Adviser, Government of India, on the World Bank’s global development agenda; inequality and the design of anti-poverty policies; contribution of recent academic research to development policy; research evidence, political economy and policymaking; State capacity for implementation; and law and economics.

Introduction and the global development agenda of the World Bank

Karthik Muralidharan (KM):  It is my pleasure to welcome Kaushik Basu to the ‘Ideas for India Conversation Series’. This is the second of these and we hope to use this platform to have deep, engaged discussions. In a world of sound bite journalism and ‘gotcha’, big-fight TV studio dynamics, there is really a missing market for deep, engaged discussion of ideas. I am particularly delighted to have Prof. Basu here given his academic and policy credentials - having been on both sides of the divide.

So Kaushik, let’s get started with a big picture question: the Chief Economist of the World Bank is probably the most prominent position from which to set a global agenda for both research and practice in growth and development. What would you characterise as your main intellectual and policy thrusts since you have taken over in the last 15 months?

Kaushik Basu (KB): Before getting to that, let me thank ‘Ideas for India’ for doing this. As you said, we get a lot of economic discussion which is little sound bites for the next morning’s interest but you miss out on some of the larger questions which need to be debated. The long-run benefits, or even the downside of doing these things wrong, can be huge. So having a forum where you allow for questions which may not quite be of interest for the next morning’s headlines but of interest to the subject, is very welcome. 

With that, let me go to your first question. I feel blessed having this forum of being the Chief Economist of the World Bank because it gives you an opportunity for engagement with the policy end of development economics in quite an amazing way. The reach in terms of global engagement is large. For me especially, this was a great opportunity because I have done my life in research and teaching. Before this, of course, I had my India experience which was a hands-on experience, and then this. There are ideas – lots of important ideas - to be brought to the table. 

First of all, I must point out something which is to do with the profession of economics itself, which is heartening and which makes a segue into development economics that I am able to steer a little, using my position at the World Bank. One important change in the economics profession is that some of the extreme thinking that was ideologically rooted without having enough grounds has become very weak. If you look at the good economists – the top end of it – 90-95% would be broadly sharing a lot of common ideas, which was never the case earlier. The extreme right and left fringes have somehow fallen off and that is very important because there are two important recognitions which have come – first, leaving it all to the free market - just letting it run free for itself - doesn’t work and even if it does, it can lead to such gross inequalities that it is going to put ordinary life in peril; political stability is going to go. On the other hand, the belief on the other side that you can bring in the State and the State takes over and does it all has also gone out because you realise that the market, individual enterprise, creativity - these things are very powerful forces. So this coming together of these views with the edges becoming unimportant is very important for the profession itself. When I joined World Bank, I was very keen to have development economics reflect this. Some of this was happening on its own – I don’t want to exaggerate what I have been doing – but it is important to bring this to the table. 

There are a couple of other directions in which I wanted to give a gentle push. The World Bank has for long been engaged in poverty and poverty eradication policies. But to go beyond that to say that it is not just poverty eradication but something in terms of sharing the pie that is important. We took it upon ourselves and these were written down as the two goals of the World Bank – formally brought in last year in April. We must strive to bring down poverty in the world especially when you define it as $1.25 a day, which is a shockingly low poverty line but what is even more shocking is that with that shockingly low poverty line, 1 billion people happen to be below it. So we have to fight for that. Secondly, we have to fight for shared prosperity and by that we mean that for every society, there ought to be special attention paid to the bottom 40% and how that is doing - 40% is a bit of an arbitrary number but the point is that you have to pay attention to the sharing of the pie. Subsequently, the World Bank declared this as one of its two major goals, giving it a lot of salience. This has come into play, there have been statements by other economists - Piketty of course is very prominent. IMF has gone into this topic. So this is gaining some ground and I feel pleased about it. It ought to be discussed in a rational way - you don’t want to destroy market forces when you battle this but at the same time you have to nurture that. 

One more important move that I think I can say that I played a role – I worked with the World Bank President early on when I came in, to say that economic development depends a lot on getting your fiscal policy right, monetary policy right, taxation right, but it is also rooted in human psychology, sociology, culture and norms. In the economics profession there is a bit of resistance to this because it is sort of giving ground to the neighbouring disciplines. But very early, we pushed for this and we have got a World Development Report (WDR) which has just come out on the behavioural and social foundations of development and it is doing extremely well. It is very well written and uses a lot of methods which you are familiar with. So it is a very powerful entry into mainstream development economics. I was at an event in New York City with very prominent policymakers – the Report is being received very well over there. It is heartening to see this because economics is a big profession – you can’t push and nudge and change it in a huge way but small bits of tilting, moving is possible and I think it is being done very nicely.

Inequality and the design of anti-poverty policies

Karthik Muralidharan (KM): Fantastic. Probably the biggest pivot in the policy space in India in the past decade was the pivot towards rights-based legislation of trying to secure precisely the interests of the poorest 40% that the Bank is now targeting. But I think - whether you look at the Mahatma Gandhi National Rural Employment Guarantee Scheme (MNREGS), or the Food Security Act or the Right to Education (RTE) – the general sense among a lot of economists is that these are extremely well intentioned but relatively poorly designed in terms of the first principles of economics. Given that this political churn of pivoting policy towards the poor was happening, why do you think economists lost the battle so badly in terms of the design of these things? Like the Food Security Act – we know that it’s not that we don’t want to get food to the poor; it is basic design principles that the Public Distribution System (PDS) violates, and the Minimum Support Price (MSP) violates in terms of what it does to the non-diversification of agriculture. So why have economists lost the battle, conditional on wanting to do something for the poor? Why have we not had the kind of impact you would think we should be having in better design of these programmes?

Kaushik Basu (KB): The economists have lost the battle - if you want to put it that way – or rather the policymakers have lost the battle because the political economy of this was not appreciated enough. I think the economists were pretty much on the same side apart from some marginal differences on how you would do it, the need for better design. But the political economy was a problem. 

Let me step back and point to one thing - since you brought up the rights question - my own view on rights is that certain rights are extremely important and ought to be enshrined as rights. But with rights comes a responsibility and obligation that what you are enshrining as a right, you must be able to deliver on those. To write things down as rights and not deliver is to do disservice to the very concept of rights. Since you mentioned food – food, I do think, should be a right. India today is in a position to guarantee everyone gets the food. You are right that the problem is on the design – how do you get the food to the people. A lot of the problem in India was not that you want to give food to everyone - you should jolly well want to give food to everyone, you should make sure everyone gets it. But how do you weave market forces with the government stepping in - there is a very intricate sort of weaving of the public and the private to get the food to the doorstep of the people. Very often, you don’t want to use the mechanism of actually carrying the food to the doorstep and dropping it there - you may use other mechanisms empowering people to buy and letting the ordinary traders to supply this. I don’t want to get into the details of this only because it is intricate - but the design is the key, not the objective. 

It is true that not enough is being done and we need to work on this. This is one area where, in fact, the economics profession has a lot to offer because we have had experiments from around the world - Brazil, Mexico, Indonesia have tried various things. There have been experiments in India. Then there is economic theory. All of these give us pretty much of a consensus of broadly the way of doing things (again, there will be some disagreement). The thing here is that you have to win over the people and the political decision-makers about the importance of the design – not to push the design aside and run on slogans. This is a challenge that we have to take on and I hope that economists will be able to work with politicians to be able to deliver on these better.

KM: My own take on what is happening in economics as a profession, talking to people in other disciplines, is that our fundamental weakness at some level is that because the touchstone of policy evaluation is the idea of a Pareto improvement (is someone better off and no one worse off) - effectively, economists do not question the justice of the initial positions. You kind of take the initial position as granted and say that conditional on this, how do I improve things on the margin. Given vast inequalities in the opening deal of cards, so to speak, there is obviously a deep political need to create the space for more pro-poor policy. I think because the professional economists have abdicated that space to saying that it is a philosophical debate and we have really nothing to say, the rights-based movement that has created the political space for pro-poor policy has also then occupied the space of how to design it because they are the people who have created the political movement. My own view on this is that because economists have kind of been seen as apologists for the status quo in many settings, we have lost the credibility to say that we are as pro-poor as you are, but conditional on these objectives there are much better ways to design it. 

Having worked on PDS reforms for some time, I think what is really unfortunate is that beyond a point the reason the reform is difficult is not because of the activists but because the vested interests have become so strong. You have got entire patronage networks built up on the machinery of leakage. So at some point it becomes just too politically difficult to take on. I am pleased to see that the World Bank is now officially saying that the bottom 40% are an explicit policy objective because hopefully that then creates the space for economists to come in and say that – give us credibility for working in the space and trust us to do more on the design, and perhaps move towards things like universal minimum incomes/ transfers. Is that something you broadly agree with?

KB: Some agreements and disagreements. I fully agree with the first line that you took - treating the status quo as right does abdicate something very important to others. Fortunately, I feel there is a shift beginning to take place in economics and I do believe that our shared prosperity focus talks to that. One of the things we looked into when we were working on this (for me this is still back-of-the-envelope calculation), one reason why economists did abdicate the space, is that if you look at the current distribution of income, there is one school of thought that some people tend to work harder, they earn more, and some people prefer leisure, they earn less - and you have got this distribution caused by that. I feel that is utterly na├»ve, and the most important reason is that it is possible to compute inequality at birth. There are people being born in slums with absolutely nothing and then there are people being born multimillionaire from the start. These are the extremities, but there is a range of inequality at birth. If you compute inequality at birth – and I have just done some back-of-the-envelope calculations - a large part of today’s inequality is inequality at birth. Given that babies are not distinguished by hard working babies and lazy babies (none of them work), this is just a gross injustice to start with. This fortunately has now come to the table - and you are probably right that this space was being given up too much to another group - but once the mainstream comes on board to say that we need to recognise this great injustice, this can be corrected. 

One area where I may have a small disagreement with you is about vested interests as a block for why these changes cannot take place. Soon after I joined the Indian government in 2009, some journalists would ask me: what is the most important thing you have learnt, moving from pure academia to the world of policymaking. One of the things I became convinced of was what Keynes had talked about - vested interests are important but even more important are ideas that are ossified in the head. I do feel that if you have got so much leakage in the PDS and other benefits, there are vested interests but the bigger restriction or hurdle is the block in the human mind. People who have run a particular programme for the last 20 years may not have a direct vested interest in it but they have a vested interest in that idea. Battling that is very difficult. So you sit in a meeting with a group of policymakers – I don’t doubt their honesty, they don’t have friends that are benefitting from this – but they are totally committed that this is the only way to do it. And you are an outsider bringing in a new idea. Yes, vested interests are important but the ossified ideas also play a role. That brings me to a quick tribute to a forum like this – we have to engage people in deeper discussions, where ossified ideas begin to break a little bit and you begin to think afresh.

KM: That’s exactly where I think the evidence then comes in. One executive summary of Jean Tirole’s work leading up to his Noble Prize, said that if you ask him his opinion on any regulatory policy question, his answer would be ‘it depends’. The science of theory gives you general frameworks; the art of theory is in knowing the parameter space you live in.

KB: Daniel Kahneman – the guru of behavioural economics - was at the New York meeting that I was referring to earlier. People were shooting questions to him about every possible problem in life. Most of the time, his answer was ‘I don’t know’; there are little things where I have an understanding, where I have something to say – on others, it depends on x, y etc. and I don’t have a full answer. I feel that the admission of ignorance is a sign of his deep thought, rather than not knowing. 

KM: I have seen this in my own work on education policy. For example, when you write an academic paper, it is exactly about being honest about your confidence intervals. But then because the economists are, in some sense, not taking the step towards policy, that abdication is in fact allowing people to fill it with even less knowledge than the economists. So it is a delicate balancing act. For example, in the context of my work on the 12th five year plan, I learnt to bifurcate my own brain in the sense of saying - here is everything we don’t know as researchers but we still know more than a lot of people and so there is some obligation to channel that. 

Coming back to vested interests, an example is what we have seen in our work on biometric smartcards in Andhra Pradesh. It is quite subtle. Here is a programme that is reducing leakage by say 35% so people are losing out. But what we were seeing in our work with the government of Andhra Pradesh was that the stories that would trickle to the top were not the stories of the benefits but the stories of the few times the authentication did not work, stories about how beneficiaries were being hurt. So vested interests are not going to come and say that kill this programme because I am not making money, they are going to hide behind the genuine beneficiaries and then try to derail the programme. We had data from our experiment with 20 million people that showed that 90% of the people unambiguously preferred this and so it was a great illustration of a case of concentrated costs and diffused benefits and how the vested interests show up. You can also see this in the context of the LPG subsidies. The LPG subsidies were rolled back. There is a very nice paper by Prabhat Barnwal, a Ph.D. student at Columbia, which shows how the black market prices reacted to the LPG direct cash transfer - as kind of a story of vested interests. But your point is well taken that in the end – it is a well-known framework in trade policy and other political economy discussions – ideas, interests, and institutions of how you make changes. Ideas are clearly at the bottom of the pyramid, which is why we are here.

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