Last month Marginal Revolution blogger Tyler Cowen described Joe Studwell's How Asia Works: Success and Failure in the World's Most Dynamic Region as 'perhaps my favourite economics book of the year'.

I decided to see for myself what the fuss was about, and I must say I have rarely had my economic preconceptions so thoroughly tested. This book challenges a lot of free market notions I had taken for granted, and as this interview progresses, I will try to tease out some of those ideas with Studwell. For now, here's my opening scene-setter question and Joe Studwell's answer.

SR: How Asia Works is a bold assault on what we might call the neo-liberal consensus about what makes economies grow. You argue that protectionism and industry policy are actually important policy tools for countries at an early stage of development, and that Asian governments have adopted this model with varying degrees of success.

 

This is an almost heretical thought in the Western economic debate, and I suspect a lot of readers of this site would dismiss it out of hand. So what are some of the key facets of Asia’s economic development you would point to that prove your case?

JS: The distinction I make is between the 'economics of learning' and 'the economics of efficiency'. Poor countries lack technological capacity and have low quality human capital. This is why they need to target investible funds at a learning process and such a learning process requires nurturing and protection as well as competition.

It was ever thus. Anyone who disagrees is simply historically ignorant. The history of British, American, German, and indeed Australian development is the history of government policies that nurtured globally competitive firms, whether those policies were Britain's Navigation Acts, the average 40% tariff applied in the US in the 19th century, German export subsidies of the late 19th and early 20th centuries, or Australia's own long history of tariff protection and industry subsidy.

Those 'infant industry' policies allow learning to take place and produce more competitive firms, especially when subsidy is predicated on exports, or what I call 'export discipline', as has very much been the case in the fastest growth stories in Japan, ROK, Taiwan and now China. The capacity to export into the global market tells governments of development countries if they are getting an acceptable return on their subsidies to domestic firms.

However, the economics of learning only get you so far. There comes a point when an economy is close to the global technological frontier and it is much harder, if not impossible, to run cost-effective industrial policy. It is then necessary to enter the world of Adam Smith or (to put things in Australian terms) Colin Clark. It is no surprise that Smith produced his ideas in the late 18th century, when Britain was close to global technological dominance but the British consumer was getting screwed every day by oligopolies and monopolies set up in the infant industry era. Britain needed to be more efficient, more focused on short-run profit, more fair to the consumer. And that was what gradually happened in the 19th century.

Colin Clark made similar points in Australia in the early 1960s and was fortunate that Labor Party politicians were receptive to his arguments about the need for deregulation so that Australia could continue to progress on its development path (I was going to say to the promised land of Kath and Kim, but I'll leave that out).

Anyhow, the basic point is that it is a stages game, and there are different solutions for different stages of development. This, of course, is horribly problematic for modern economics because everything is supposed to fit in the same spreadsheet — there are no stages. And behind this problem is the other one that so many contemporary economists are really just (drug-less) hippies, whose every statement begins with 'Imagine!': 'Imagine that there are large numbers of participants in every transaction, imagine that information is perfectly dispersed...Dude, you'd get a perfect price function. Pass the dooby!'

So I have a number of issues with the economics profession as it is presently constructed. But economics offers us powerful analytical tools and there are also some very smart, historically literate economists. In the book I quote Charles Kindleberger's question about whether there really can be only one kind of economics. My answer, as stated above, is that, at a minimum, there is an economics of development and an economics of efficiency and what we really need to understand is where and how they meet in the middle. (But please don't ask for the answer to this question because I don't know and it is the subject of my next book.)