The Wealth of Nations, Wolf on Jacobs, Krugman on Warsh

By Polly Cleveland

Martin Wolf of the Financial Times, calls Jane Jacobs, who died last week, “a self-educated intellectual of astonishing originality.” He devotes most of his article, “National wealth on city life’s coat tails” http://news.ft.com/cms/s/352033dc-da02-11da-b7de-0000779e2340.html to a review of one of his and my favorite books, Jacob’s 1984 Cities and the Wealth of Nations — which he sees as a direct challenge to Adam Smith’s Wealth of Nations.

Jacobs, like Smith, rarely lets theory trump observation. And what a different world she observes from that of conventional economics! Economic growth happens, not at the national level, but in cities. “According to Jacobs, cities grow through explosive import-replacement. These new products then become their exports, which finance more imports. The expansion that derives from city import-replacement generates five sources of growth: enlarged markets for imports; increased numbers and kinds of jobs; increased transplants of city work into non-urban locations; new uses for technology, particularly to increase rural production and productivity; and growth of city-owned capital for investment in the city and elsewhere.”

Cities have largely stumped economic model-builders: what to do with economies of scale in infrastructure, economies of cooperation and communication, positive externalities of ideas and energy? Which brings me to David Warsh’s new book, Knowledge and the Wealth of Nations, reviewed by Paul Krugman in the Sunday New York Times: “The Pin Factory Mystery,” www.nytimes.com/2006/05/07/books/review/07krugman.html.

As Krugman relates, Warsh addresses a contradiction in Adam Smith: In the first pages of the Wealth of Nations, Smith celebrates the pin factory, where division of labor and economies of scale allow ten workers to make thousands of times more pins a day than they could working separately. Smith goes on to celebrate the market, which allows the same division of labor and economies of scale to proceed on a grand scale, engaging thousands of enterprises in the production of a single good.

The contradiction? It takes many competitors to make markets function. Yet if firms face increasing returns to scale, they will consolidate into monopolies. So to maintain a theory of competitive markets, model-builders have felt forced to assume that firms face diminishing returns to scale–banishing the pin factory to “an ‘underground river’ in economic thought.”

In Warsh’s account, recent developments in growth theory have resolved the contradiction. Krugman writes, “Economists had finally found ways to talk about the Pin Factory with the rigor needed to make it respectable. One after another, fields from industrial organization to international trade to economic development and urban economics were transformed.”

I am only slightly familiar with this literature. However, I long ago resolved the contradiction, at least to my own satisfaction, in models for my dissertation: I assumed that diseconomies of scale in supervision ultimately overpower technological economies of scale, setting limits on firm size. I look forward to Warsh’s book.

Technorati Tags: ,

Jane Jacobs and John Kenneth Galbraith

Last week was a grim one for my apartment’s non-fiction shelves—the two authors whose complete works, each volume thumb-worn, graced them, died: on Tuesday, Jane Jacobs, at 87, and on Sunday, John Kenneth Galbraith, at 97.

Jacobs, in contrast to the urban planners of the 1950s—in contrast to her nemesis Robert Moses—championed an intensely human model for living among others. Not for her the civil engineer’s dream of soaring superhighway ramps—her Death and Life of Great American Cities finds beauty instead in thriving neighborhoods with living streets, familiar faces, local businesses. Places in which to work, play, live, and dream. Cities and the Wealth of Nations applies the same humane vision to the problems of national economies in the 1970s and early 1980s, arguing that businesses in isolation from human life—think both suburban office parks and special economic zones—don’t live up to their potential. They may produce, but they don’t innovate well and they certainly don’t contribute much to the places they happen to be located. And Jacobs strengthens her criticism by offering an alternative model of economic development based on careful observation of existing vibrant economies. Jacobs’ works are essential reading for everyone who struggles against corporate globalization and its disregard for its effects on the human scale.

As, too, are John Kenneth Galbraith’s works. Galbraith applied a similar humanity to economics, though on a larger scale than Jacobs. His best-known book, The Affluent Society, displayed his concern for the ill effects of inequality, especially in times and places of great overall wealth. It was a concern that he held throughout his career, and one that his son, James K. Galbraith, continues to study. But Galbraith’s concept of inequality went further than inequality of wealth or income—he was also concerned with inequality of power. The New Industrial State explores the structures that allow corporations to concentrate power without accountability, and both that book and Economics and the Public Purpose offer Galbraith’s solution to the problem—maintaining a countervailing power in the form of unions, other citizens’ organizations, and good government.

Both Jacobs and Galbraith refuted the neoliberal vision of sovereign economies and worked against the policies it entails. The proponents of that vision and those policies tout them as increasing human freedom, but theirs is a very narrow vision of freedom. Neoliberal policies do promote grand enterprise. But when the world operates at heroic scale, only heroes can operate in the world. Jacobs and Galbraith both devoted their lives to bringing the context of our lives back down to a human scale. Canadian critic Robert Fulford wrote, “Jacobs came down firmly on the side of spontaneous inventiveness of individuals, as against abstract plans imposed by governments and corporations.” Galbraith had more faith in government, as the chosen representative of the people, but the spirit of his work was much the same. The world is poorer for both their absences.

Technorati Tags: ,