Kaushik Basu: “Words Don’t Feed the Poor”

Among economists who can explain economics to anyone even remotely interested in the subject, Prof Kaushik Basu is in a league of his own. Many years ago as a graduate student at Berkeley, I had had the privilege of hosting him for dinner together with Profs deJanvry and Sadoulet. I occasionally re-read his columns to learn how to write. Here I present an extended excerpt from a 1997 India Today column of his. {Click on image for source.}

Here’s Kaushik Basu:

One often hears people claiming to be pro-market or anti-market. Such declarations are about as meaningful as a physicist’s claim to be pro-gravity or anti-gravity. “Market forces” in economics refer to a set of laws of aggregate behaviour. No matter what one’s ideology happens to be, these laws cannot be ignored.

The CPI(M) was right in making poverty removal and empowerment of the poor its primary objectives but wrong in thinking that the state could ignore individual incentives and suppress the laws of the market. What it ended up doing was to drive capital out of West Bengal. With this, the demand for labour fell and the ultimate loser was the working class. Seeing China’s pragmatism, which has resulted in sharp increases in real wages, the CPI(M) leadership is now trying to reverse its economic policy; but it has lost precious time.

Thorstein Veblen, who studied the rich with the zeal which anthropologists reserve for tribals, reached the conclusion that the rich are mean, vulgar and ostentatious. There are exceptions, but as a ballpark description this is quite accurate. Time and again, I have seen evidence of this and especially remember one occasion when, after giving a lecture to a certain chamber of commerce, I had to spend the evening socialising with the chamber’s president. I regretted not having had Bertrand Russell’s foresight. When he was asked to write for an American newspaper, Russell agreed on condition that he would not have to hobnob with the newspaper’s millionaire owner, William Randolph Hearst.

Especially in a nation as poor as ours, the consumerism and profligacy of the wealthy are jarring. But we must realise that in trying to curtail a rich person’s wealth we may hurt the conditions of the poor. When we stop the production of a luxury item, not only does this hurt the rich but also the poor worker who produces it. To divert money from the rich to the poor it is not enough to be well-meaning. It is not surprising that despite so much progressive rhetoric the poor remain so deprived in India.

One class of well-meaning people who could do with a lesson or two in economics are our judges. Given the widespread corruption and criminalisation in Indian politics, the increasing activism of our judiciary is welcome. I consider the judiciary (along with the press) among the most valued institutions of modern India and therefore worthy of special responsibility.

An important principle of economics, which the judiciary has repeatedly ignored — and journalists also frequently misunderstand — is the sanctity of the contract. To get the most out of the market, we need institutions which enforce voluntary contracts between individuals.

There are exceptions to this principle. We must make sure that the contract does not adversely affect uninvolved outsiders. Civil society also places limits on the range of allowable contracts. It will not, for example, tolerate giving away Draupadi as part of a contract. But subject to such limits, the feasibility of credible contracts is the backbone of a modern economy.

In the United States, graduate education is very expensive. Yet, lots of people acquire it. They manage this only because it is easy to get long-maturity loans. Banks give long-maturity loans only because they know the borrower is contractually bound to repay the loan.

If the judiciary were inefficient and took very long to book a defaulter or if it were “kind” and permitted borrowers to get away without repayment on a variety of grounds — such as that they are less well-off than the lender or that, in retrospect, the initial terms seem too harsh — then banks would either not lend or charge a very high interest rate to cover against default risks. In the end, it is ordinary citizens who would suffer.

One reason why the Indian worker is so much poorer than his east Asian counterpart is that our law and the judiciary make it so difficult for workers and employers to sign credible contracts which have a severance clause. Both parties know when the time comes to enforce such a contract, there are a variety of ways to renege. This inability to sign contracts has kept the demand for labour (and therefore wages) low in India.

True, statute laws cannot be changed in a hurry. However, to the extent that a lot of law in India is judge-made, our activist judges can help not only with the maintenance of law and order but also contribute to the progress of the Indian economy.

We ignore the fundamental lessons of economics — that incentives matter and markets work — to our own peril. Indian policymakers were either ignorant of economics or just ignored the lessons. The result of that is evident all around us.

Author: Atanu Dey

Economist. View all posts by Atanu Dey