Weak institutions and bad rules are some of the most significant obstacles to economic growth in developing countries. Paul Romer, an economist known for his work on economic growth, has a plan to change that and recently resigned his tenured teaching position at Stanford to devote his full energies to the challenge.
“Moving from bad rules to better ones may be much harder than most economists have allowed.”
The project has already attracted quite a bit of attention from both economists and the media. William Easterly, the development economist, told Newsweek, “There’s a thin line between revolutionary and crazy. Paul Romer has been adept at walking that line throughout his career, staying just out of the crazy part. He’s still tiptoeing along that line with this new idea.” Romer agreed to answer some of our questions about his crazy and/or revolutionary plan below:
You recently gave up your tenured teaching position at Stanford to launch an ambitious development initiative. Can you tell us about your new charter cities project?
Yes, instead of being a professor, I’m now a senior fellow there, which means exactly what it says: I’m officially an old guy.
The key to the project is a charter city, which starts out as a city-sized piece of uninhabited territory and a charter or constitution specifying the rules that will apply there. If the charter specifies good rules (or in our professional jargon, good institutions) millions of people will come together to build a new city.
What makes you confident that land and a good charter are all it takes?
A well-run city lets millions of people come together and enjoy the benefit they can get from working together and trading with each other. The benefits per person increase with the total number of people; this is why big cities are more productive than small cities or villages. Of course, none of this is new. Adam Smith was referring to the power of exchange and the importance of increasing returns when he wrote that, “the division of labor is limited by the extent of the market.”
There are many signs of the value created by all the exchange that takes place in a city. We see it in productivity and wage data. We also see it in the increase in the value of the land. Millions of people are willing to pay high rents just to live and work around millions of other people who are also paying high rents. Why? To get the benefits that come from exchange and interaction with so many others.
In the developing world, most people don’t yet live in big well-run cities. Given the chance to move to one, hundreds of millions of people would go there to get a job, get an education for their children, and live in a place that is clean, safe, and healthy. Other people will make a profit by hiring them or supplying them with infrastructure and other services. If the rules let this happen, everyone can be better off. It doesn’t take any charity to build well-run cities.
What kinds of rules would have to be specified in a charter for a new city?
Rules about public sanitation are a simple and familiar example. Without them, a city can’t be a healthy place to live; but these rules don’t just happen. The rules for a city are different from the ones for a village, but as a village slowly gets bigger, a city may be stuck with the rules of the village.
In a village, it might be O.K. to rule that anyone can urinate anyplace they want. In a modern city, it is better to have a rule saying that people have to urinate into toilets connected to the sewer system. According to a recent news report, the city government in Paris is having trouble enforcing this rule. They have special police units that give tickets to men who urinate against walls. So when we speak of rules, we must understand both rules on paper and an effective system of enforcement.
In many cities in poor countries, health is bad because governments don’t enforce basic rules about sanitation. The crime rate is appallingly high because the government doesn’t enforce rules that prohibit theft and violence. Traffic fatalities and congestion are both high because they don’t have good traffic rules or if they do, they don’t enforce them. The fact that people still flock to cities with such bad rules tells us something about how big the other benefits from living in a city must be. But given the choice, they would surely rather go to a city with good rules instead of one with bad rules.
You have argued that new cities can speed up growth in the developing world. Aren’t the cities that the world needs springing up naturally? Why do we need the construct of a charter city to encourage faster or better urbanization?
Economists tend to assume that societies will naturally adopt good rules. If that were true, societies would put in place the rules needed to get the gains from a city and well-run cities would indeed spring up.
The evidence suggests to the contrary that many societies are stuck with bad rules. Moving from bad rules to better ones may be much harder than most economists have allowed. The construct of a charter city is a suggestion about how we can change the dynamics of rules. It is a way to speed up the rate of improvement in the rules.
There is an analogy that may be helpful here. Large corporations operate according to an internal set of rules that we sometimes call a corporate culture. A natural question to ask is what mechanisms lead to improvement in the rule-sets that prevail in all the corporations in an industry. If you think of an industry like computing, it is immediately evident that much of the change comes from the entry of new organizations. They have new rule-sets that attract resources away from the existing ones.
IBM had good internal rules for working with big corporations and data centers, but they didn’t work as well for working with small businesses and individual consumers. If IBM had been the only company allowed to be in the computer business, it would have taken a very long time to get where we are now, with networked computers in our pockets. The entry of new organizations like Digital, Intel, and Apple that operated under very different internal sets of rules sped up change in the industry.
Charter cities are a way to bring the power of entry and choice to the dynamics of the rules for cities.
Let’s move on to logistics. Who might grant the charter for one of these cities and see that it will be enforced?
Different charters could specify different arrangements. This means that we could try many new types of innovative structures.
If a national government has sufficient credibility, it could start a charter city within its own territory and administer it from the national capital. This is, in effect, what some countries have done when they have created special economic zones with rules that are different from the ones that prevail in the rest of the country. You could imagine that a country like India might try something like this to speed up urbanization by cutting through many local rules that get in the way of urban development.
In poorer countries that don’t have the same kind of credibility with international investors, a more interesting but controversial possibility is that two or more countries might sign a treaty specifying the charter for a new city and allocate between them responsibilities for administering different parts of the treaty.
Let me give you a specific example. Right now, the United States and Cuba have a treaty that gives the United States administrative control in perpetuity over a piece of sovereign Cuban territory, Guantanamo Bay. I’ve suggested that Canada and Cuba sign a new treaty in which Canada would take over administration of this area, bring Canadian rule of law there, and let a city grow up that could bring to Cuba some of the advantages that Hong Kong brought to China.
Why will governments, particularly the entrenched, corrupt governments found in many countries, be willing to cede control of these zones?
First let me push back on an assumption that many people make and that seems to be implicit in your question. This assumption is that “bad guys” are why so many people are stuck living under bad rules. If you were a good guy and were the mayor of New York, would you be able to build enough consensus to implement congestion pricing for traffic, at least within our lifetimes? Or would you be strong enough to be able to coerce the people who don’t want it to go along?
Narratives about good guys and bad guys are always entertaining, but there is a deeper reason why people get stuck under bad rules. For those of us who live in the United States, it is easier to understand in a context like New York that is more familiar. It is quite possible that its existing political system will never allow an improvement like congestion pricing, and yet many people would happily move to a new city that had sensible pricing and smoothly flowing traffic at all hours of the day. Systems of rules are “sticky”; they are difficult for any leader or group to change.
With this in mind, suppose you were the president of Cuba. Suppose you wanted to do for Cuba what Deng Xiaoping did for China: engineer the transition from communism to rapid market-led growth. To do this, you might want to create a special zone where some of your citizens could opt-in to the market system without forcing others to make this change. You might be able to do this with a charter city that you control out of the president’s office.
Now suppose you also want to make a binding commitment to rule-of-law protections for the foreign investors and potential residents from foreign countries you’d like to attract to this city. Investors from the rest of the world could finance the infrastructure for a new city in exchange for fee income from users. Entrepreneurs and managers from the rest of the world might come and run the businesses that would hire millions of people. Many of these highly educated and experienced people might be émigrés who left when the island turned to communism. These investors and these potential residents will come only if you can promise them the protections afforded by the rule of law.
By yourself, with the Cuban institutions that you control, there is simply no way for you to make a credible binding commitment to the rule of law. You could simply change your mind later. More importantly, your successor, whomever that may be, might want to back out of any promises you make.
The only way for you and your contemporaries to make a binding, long-term commitment is to sign a treaty with a country like Canada and to use it as a third-party guarantor. In effect, what a treaty lets you do is leverage the existing credibility of Canadian institutions and bring in the rule of law.
But what if some future government in Cuba wants to violate the terms of the treaty and take the city over once it is built?
This is why the example of Guantanamo Bay is so revealing. In practice, countries around the world, even countries that can’t get along, still respect treaties. Cuba respects the treaty with the United States, even as they complain bitterly about it. Another good example is Hong Kong. The British clearly did not want to live up to the terms of the treaty they signed, which returned control of important parts of Hong Kong to China after 99 years. China didn’t want to wait that long to get Hong Kong back. But in the end, for 99 years, they stuck to the terms of the treaty they signed.
Of course, in relations between countries there is always the possibility of an act of war that violates a treaty, but few nations are willing to cross such an explicit “bright red line.” Think back to how easy it was to mobilize a military reaction to Iraq’s invasion of Kuwait. The armed nations of the world don’t respond well to unilateral acts of war.
It all sounds great as a theoretical exercise, but honestly, don’t your colleagues tell you that something like this will never happen?
They do say this, which is actually kind of ironic when you line it up with the other things they say.
They recognize that the construct of a charter city is something that could make everyone better off. They admit that there is no technological or economic constraint that keeps us from building many of these. Then they say that for political reasons, it will never happen. They tell me that you can’t change politics; you can’t overcome nationalism; there is no way for countries to work together to extend the reach of good rules.
Then these same economists suggest that we should just stick to business as usual. We should offer conventional economic advice and assume that political systems will naturally follow our advice when we point to something that could make everyone better off. But of course, they have already revealed that they don’t believe this.
What’s going on here is a kind of self-censoring. Economists seem to think that we should propose things that are acceptable and that political systems will pursue, but that we should avoid proposing or even discussing things that are controversial or politically incorrect.
I think we’d do our jobs better if we just said what’s true without trying to be amateur politicians.
For example, back in the 1950’s and 1960’s, lots of development economists didn’t talk about the benefits of direct foreign investment and spoke instead of self-sufficiency because they thought that this was what the political actors in most poor countries wanted to hear. Now, of course, almost all developing nations are encouraging inward DFI. When we self-censored back then, we just slowed down movement toward global flows of technology via foreign investment. It happened despite what development economists said, not because of what they said.
Think about the truly important changes in political systems. Back in the middle ages, suppose that someone described a legal system that enforced rules and contracts that everyone had to obey, even the country’s leaders. What would informed opinion of the day have been? “Great idea, but it will never happen.” No question it was hard to pull off, but it did happen.
People always think that the unfamiliar is impossible. Many times, all that holds us back is a failure of imagination.