Read Online Fault Lines: How Hidden Fractures Still Threaten the World Economy by Raghuram G. Rajan - Free Book Online Page B
Authors: Raghuram G. Rajan
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served the public interest, rather than from the spoils of office. In other words, he believed that the absence of monetary incentives for performance accorded well with the nature of the bureaucrat’s work.
Moreover, because performance in many government activities is hard to measure, government officials are typically not given monetary incentives for fear that they might focus on the measurable (for example, the number of files cleared) rather than the useful (the quality of decisions made). Instead, a plethora of rules guide their behavior. Because large organizations find it hard to manage the intra-organizational frictions and jealousies that arise when compensation structures differ considerably within them, it is probably not surprising that even bureaucrats undertaking measurable tasks, such as implementing clear, time-bound projects, are not given strong monetary incentives. As a result, government projects take too long, and administrators do not adapt flexibly to circumstances. Such flexibility would typically mean the bureaucrat’s exercising initiative and violating some rule.
Inefficiency arising from poor incentives within the organization is compounded by the fact that the government is a monopoly and has little fear of running out of resources so long as the taxpayer can be squeezed. The combination of poor incentives and little competition typically results in poor outcomes when governments undertake activities that should belong to the private domain. For instance, Argentina’s telephone system under state ownership in the 1980s was notorious for its inefficiency—the waiting period for a phone line was more than six years, and some businesses employed staff who sole job was to hold a telephone handset for hours on end until they heard a dial tone. 13
History does offer some examples of strong state-owned-enterprise-led growth. Under Stalin, the Soviet Union grew rapidly while the rest of the world was mired in the Great Depression. Indeed, much as Japan was the role model for East Asian economies like South Korea, the Soviet Union, with its state-led growth, was the role model for leaders like Jawaharlal Nehru and Mao Zedong. 14 Unfortunately, the imitators did not realize that the incentive for bureaucrats to perform in the Soviet Union at that time might have come initially from revolutionary and patriotic fervor, fortified with a dose of terror: if failure to complete a project on time is met with accusations of sabotage and a firing squad, bureaucrats can become surprisingly energetic. However, such incentives cannot be maintained over sustained periods of time: fervor turns to cynicism, and terror eventually turns on itself.
Moreover, even if the incentives within government-owned firms can be maintained, the relationships between the firms become far more complicated over time, as poor economies finish catching up on the essential. Growth eventually requires not only more steel but also much more detailed information—which grade of steel is needed, how much, when, and where. The Nobel Laureate Friedrich von Hayek recognized that this information is diffused in society: it is possessed by the various consumers and distributors of steel products around the country. It could be aggregated in the planning ministry if everyone is asked to file reports, but a lot of tacit information would be lost on the way as the respondents’ feel for a market was converted into a hard number. Furthermore, the reported numbers would be distorted by each one’s incentives—with consumers wanting to shade demand numbers up so as to encourage production and producers wanting lower numbers so as to ease the pressure on them.
Hayek’s fundamental contribution was to recognize that market prices can play a role in aggregating information in a way that is not biased by organizational disabilities or biases. The market prices of various grades of steel, for instance, are established every day—sometimes on
Moreover, because performance in many government activities is hard to measure, government officials are typically not given monetary incentives for fear that they might focus on the measurable (for example, the number of files cleared) rather than the useful (the quality of decisions made). Instead, a plethora of rules guide their behavior. Because large organizations find it hard to manage the intra-organizational frictions and jealousies that arise when compensation structures differ considerably within them, it is probably not surprising that even bureaucrats undertaking measurable tasks, such as implementing clear, time-bound projects, are not given strong monetary incentives. As a result, government projects take too long, and administrators do not adapt flexibly to circumstances. Such flexibility would typically mean the bureaucrat’s exercising initiative and violating some rule.
Inefficiency arising from poor incentives within the organization is compounded by the fact that the government is a monopoly and has little fear of running out of resources so long as the taxpayer can be squeezed. The combination of poor incentives and little competition typically results in poor outcomes when governments undertake activities that should belong to the private domain. For instance, Argentina’s telephone system under state ownership in the 1980s was notorious for its inefficiency—the waiting period for a phone line was more than six years, and some businesses employed staff who sole job was to hold a telephone handset for hours on end until they heard a dial tone. 13
History does offer some examples of strong state-owned-enterprise-led growth. Under Stalin, the Soviet Union grew rapidly while the rest of the world was mired in the Great Depression. Indeed, much as Japan was the role model for East Asian economies like South Korea, the Soviet Union, with its state-led growth, was the role model for leaders like Jawaharlal Nehru and Mao Zedong. 14 Unfortunately, the imitators did not realize that the incentive for bureaucrats to perform in the Soviet Union at that time might have come initially from revolutionary and patriotic fervor, fortified with a dose of terror: if failure to complete a project on time is met with accusations of sabotage and a firing squad, bureaucrats can become surprisingly energetic. However, such incentives cannot be maintained over sustained periods of time: fervor turns to cynicism, and terror eventually turns on itself.
Moreover, even if the incentives within government-owned firms can be maintained, the relationships between the firms become far more complicated over time, as poor economies finish catching up on the essential. Growth eventually requires not only more steel but also much more detailed information—which grade of steel is needed, how much, when, and where. The Nobel Laureate Friedrich von Hayek recognized that this information is diffused in society: it is possessed by the various consumers and distributors of steel products around the country. It could be aggregated in the planning ministry if everyone is asked to file reports, but a lot of tacit information would be lost on the way as the respondents’ feel for a market was converted into a hard number. Furthermore, the reported numbers would be distorted by each one’s incentives—with consumers wanting to shade demand numbers up so as to encourage production and producers wanting lower numbers so as to ease the pressure on them.
Hayek’s fundamental contribution was to recognize that market prices can play a role in aggregating information in a way that is not biased by organizational disabilities or biases. The market prices of various grades of steel, for instance, are established every day—sometimes on
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