The Poverty of Transfers: On P. T. Bauer and Capital Fundamentalism

P. T. Bauer (1915–2002) is a Hungarian that his countrymen should remember and honour. One day, he will be celebrated as a great economist of the 20th century and a gallant figure who opposed the consensus.

His father was a bookie in Budapest. One day “one of his clients suggested to him that his industrious son might benefit from a British university education, possibly Cambridge”. Young Peter had “no contacts” in that country and he “simply turned up” in Cambridge in March 1934 where he “presented himself at half a dozen colleges”. His journey as an economist began when he entered Caius College. He had little English and “found it very difficult to follow the lectures or even ordinary conversation”. He “never read a book on economics or economic history before coming to Cambridge” (The Caian 1985:33). Yet he was a brilliant man and a brilliant scholar and became Professor at the London School of Economics in the 1960s. Indeed, he was a genuine example of upward social mobility. Perhaps for this reason, he had little patience for the view that England was “a class society” and claimed that “in an open and mobile society” distinctions and class differences “do not restrict talent nor inhibit economic progress” (Bauer 1978a:10).

His life-long friend and associate Basil Yamey pointed out that it was “largely by accident that Bauer’s interest turned” to economics (Yamey 1987:21). After working in “a London firm prominent in the Malayan rubber industry”, he “used a research fellowship to study that industry, and at the same time was commissioned by the British Colonial Office to prepare a report on rubber smallholdings” in Malaysia (Yamey 1987:22). This research project resulted in his book The Rubber Industry (1948).

While economists’ interest in economic growth and “development” dates back to Adam Smith (who was indeed interested in the Nature and Causes of the Wealth of Nations), “the term ‘economic development’ was rarely used before the 1940s” (Meier 1984:6). A few years later the young Bauer was again summoned by the Colonial Office to study trading activities in West Africa with special reference to monopolistic tendencies. The result was a study of unusual length and scope for an empirical work of this kind: West African Trade (Bauer 1954). This work shows Bauer’s many talents. It is profoundly empirical: it showers the reader with facts. It is argumentatively sharp: Bauer refutes one economic fallacy after the other. It is learned and fully conversant with the history of economic thought. Bauer was a most perceptive reader of Adam Smith, in a time when Smithian scholarship was not as popular as it is today. Smith’s understanding of men as “trading animals” pervades Bauer’s thinking.

After the publication of West African Trade, Bauer found himself at the centre of a battle surging around the concept of “economic development”. While undoubtedly a pioneer of these investigations, Bauer has long been considered a “fringe” thinker. This has clearly to do with his politics. To paraphrase Deirdre McCloskey, Bauer thought economic growth required that people be allowed to have a go, to be free to follow their intuitions and needs rather than being “nudged” in the direction of this or that particular productive effort by government masters. For this reason, Bauer opposed the intuitive notion that increasing investment is the best way to raise future output, “capital fundamentalism”, and therefore criticised the idea that transfers could create economic growth.

CAPITAL FUNDAMENTALISM AND HUBRIS

As McCloskey pointed out, “it is not a good business plan” to steal from poor people (McCloskey 2010:156). “Stealing from poor people” cannot explain economic growth, whether one steals from the poor living in his own nation or from people living in other nations.

This was the gist of the so-called “primitive accumulation”, which played a powerful role in Karl Marx’s thought. This idea travelled well beyond the boundaries of Marxism. As Alexander Gerschenkron put it, the vignette of primitive accumulation demands us to believe in “an accumulation of capital continuing over long historical periods – over several centuries – until one day the tocsin of the Industrial Revolution was to summon it to the battlefields of factory construction” (Gerschenkron 1957:33).

Indeed, some version of this view had its triumph in development policy. Particularly after decolonisation, significant amounts of foreign aid were transferred to poorer countries. The declared object was growing their stock of capital.

Now, it would be difficult to argue against the view that higher capital investment would make workers more productive, and in turn higher productivity would make them more prosperous, if the capital were invested intelligently. This commonsensical view tends to assume that capital is employed in profitable endeavours, typically presupposing those features of a free market that make for a sensible allocation of resources (though by no means impermeable to mistakes). But those who preached for foreign aid fuelling investment in developing countries were not betting on a free market allocating them. They tended to believe that smart economic planners, either local or miles away, were the best fit to make these allocative choices.

The importance of local knowledge was often downplayed in benevolently planning for the world’s poor. In a beautiful TED (Technology, Entertainment, Design) Talk, “enterprise facilitator” Ernesto Sirolli reminded us of the well-meaning short- sightedness dominant among foreign aid professionals. At age 21, Sirolli “worked for an Italian NGO, and every single project that we set up in Africa failed”:

Our first project … was a project where we Italians decided to teach Zambian people how to grow food. So we arrived there with Italian seeds in southern Zambia in this absolutely magnificent valley going down to the Zambezi River, and we taught the local people how to grow Italian tomatoes and zucchini and ... of course the local people had absolutely no interest in doing that, so we paid them to come and work, and sometimes they would show up. (Laughter.) And we were amazed that the local people, in such a fertile valley, would not have any agriculture… And of course, everything in Africa grew beautifully. We had these magnificent tomatoes. In Italy, a tomato would grow to this size. In Zambia, to this size. And we could not believe, and we were telling the Zambians, “Look how easy agriculture is”. When the tomatoes were nice and ripe and red, overnight, some 200 hippos came out from the river and they ate everything.

And we said to the Zambians, “My God, the hippos!”

And the Zambians said, “Yes, that’s why we have no agriculture here.” (Laughter.)

“Why didn’t you tell us?” “You never asked.” (Sirolli 2012)

Significant influxes of foreign money did not come typically with a greater appreciation of the wisdom of the locals or with a stronger appreciation for the role of culture. When modern economics was developing the Keynesian toolbox to its utmost, social scientists were quite confident in the results they could achieve.

This confidence built on the understanding that the alternative was doom and gloom. Underdevelopment, it was maintained, stimulates “circular and cumulative processes” that consolidate economic backwardness and make it impossible to break out of the so-called “vicious cycle of poverty” (Bauer 1965). For Bauer, the vicious circle of poverty could not really be a circle, because rich countries did exist and all of them “started poor, with low incomes per head and low levels of accumulated capital, that is with the economic features which now define underdeveloped countries” (Bauer 1971:165). Yet countries “have advanced, usually without appreciable outside capital and invariably without external grants which would have been impossible according to the thesis of the vicious circle of poverty and stagnation”.

But this was a minority’s view. Indeed Ragnar Nurkse, a pioneer of development economics, framed the issues with poverty as Problems of Capital Formation in Underdeveloped Countries (Nurkse 1953). For Nurkse, the challenge for poorer countries could be reduced to the question of achieving a sufficient rate of capital accumulation. Maurice Dobb claimed that “we shall not go far wrong if we rear capital accumulation … as the crux of the process of economic development” (Dobb 1951:7).

As Bauer himself remarked, “[i]nsistence on the vicious circle of poverty and on the stagnation of the underdeveloped world has promoted the flow of foreign aid, which is a major object of policy for many people” (Bauer 1965:48). It makes sense if you assume that the lack of capital is so severe that local populations would never bridge the gap, either by thrift or by saving and investing the profits of their trade. On the other hand, the success of such an accumulation depends crucially on employing capital just where it is needed: pouring money can hardly produce happy, entrepreneurial endeavour.

The “consensus approach” that Bauer battled against was best summarised by the slogan: Aid, NOT Trade. Herein lies the idea that fostering development through trade, an approach that was reminiscent of the great lessons of that very Smithian economics that Bauer favoured, is only a hypocritical cover-up of economic exploitation on the part of the rich.

This approach was, Bauer noted, heavily indebted to Marxist-Leninist views. So did Karl Brunner, who underlined how “the Leninist extension of the Marxian vision, with its stress on imperialism and the political ‘avant-garde’, has found a particular echo in the Third World” (Brunner 1978:7). “Whatever the exact process of their intellectual derivation, these views are widely and frequently expounded by well-known writers not regarded as Marxist or Leninist” (Bauer 1971:173). Such a legacy is still strong these days. As Victoria Curzon-Price noted in 2002, “[a]lthough Marxism as a normative, prescriptive policy has failed … the positive Marxist assertion that the possession of wealth is the result of exploitation still holds great sway. It is doubtless the most durable of all the fallacies that Lord Bauer spent his long and distinguished career exposing” (Curzon-Price 2002: 82– 83). Bauer traced such influence back to the following four key concepts:

First, that the underdeveloped world is not only desperately poor but stagnant or even retrogressing; this notion is the current version of the doctrine of the ever-increasing misery of the proletariat.

Second, that the exploitation of undeveloped by developed countries is a major cause of this poverty …

Third, that political independence is meaningless without economic independence; this is an extension of the suggestion that political freedom and representative government are meaningless under capitalism.

Fourth, that comprehensive development planning is indispensable for economic advance … and especially for the industrialisation required for material progress (Bauer 1971:165).

The first two are obviously related to the idea of the primitive accumulation of capital. Bauer opposed with particularly strong emphasis the idea that “contact with advanced economies is damaging to underdeveloped countries” (Bauer 1957: 65). The view has an obvious Marxist background. In Marxist jargon, “[t]he most important source of primitive accumulation, other than the exploitation of the peasantry, lay overseas in the exploitation of pre-capitalist societies. The process took a number of forms, principally trade, plunder and slavery” (Ure 1975:29, emphasis added). In this scheme, the supposedly “unequal” exchange of values on the international market between highly productive “First World” countries and far less productive “Third World” countries is a mechanism of wealth transfer from the poor to the rich. It is consistent with that basic intuition which lies at the roots of Marxism: that inequalities signal exploitation.

These views, as P. T. Bauer knew well, had momentous influence. They shaped generations of development experts, with Bauer alone on the other side. The post-World War II consensus, which considered “external trade … at best ineffective for the economic advantage of less developed countries (LDCs), and more often … damaging”, subscribed instead to the belief that “the advance of LDCs depends on ample supplies of capital to provide for infrastructure, for the rapid growth of manufacturing industry, and for the modernisation of their economies” (Bauer 1986: 1). It built on an understanding that “external factors” were “generally responsible for the poverty of LDCs, an example of the ancient and widely entertained fallacy that economic activity is a zero-sum game, that the incomes of individuals, especially of the relatively prosperous, are somehow extracted from others, rather than representing a return for services performed. This notion … long antedates Marxism, but its influence has been reinforced by Marxist ideology in which property incomes imply exploitation and service industries are regarded as unproductive” (Bauer 1975:299). Today we find it perhaps stronger on the right side of the political spectrum, with so- called “populist” parties flirting with economic nationalism and dreaming of self-subsistence in a globalised world.

THE POVERTY OF TRANSFERS

Bauer began his career with “boots on the ground” investigations in Malaysia and West Africa. But in both cases “even before setting foot in South-East Asia and West Africa I knew that their economies had advanced rapidly (even though they were colonies!). It required no instruction in development economics to know that before 1885 there was not a single rubber tree in Malaya nor a single cocoa tree in British West Africa. By the 1930s rubber, cocoa and other export crops were being produced on millions of acres, the bulk of them cultivated by non- Europeans” (Bauer 1986:2).

Different than his colleagues who wanted to parachute economic development with foreign money, or Sirolli’s do-gooders, Bauer did not simply assume that developing countries needed guidance and direction. He found in Malaysia and West Africa economies that, though “backward” as seen from the vantage point of European economists, were in fact dynamic. “A developed infrastructure was not a precondition for the emergence of the major cash crops of South-East Asia and West Africa”, he wrote, recognising that the historical experience he came to know “was not the result of conscription of people or the forced mobilisation of their resources” (Bauer 1986:4).

Culture and institutions are different in different countries, they may foster or hinder development, and yet we can more or less assume that generally people will work to improve their lot. This is something we can learn by reading Bauer (or another great contemporary Smithian, Ronald Coase, for that matter). A good social scientist should try to understand how they are doing so, before prescribing cure to alleged ills.

For Bauer, would-be central planners tended to practice “economics without prices and costs”: they focused on grand narratives of top-down economic development, neglecting the nuts and bolts of real economic life. His opposition to foreign aid pretending to foster capital accumulation in less-developed countries was built upon a rich understanding of the interconnection of different phenomena.

Bauer noted that in the literature on planning “economic advance is usually defined without reference to general living standards but primarily in terms of industrial development … The advocates of large-scale industrialisation, and especially of massive development of heavy industries, hardly ever refer to prices, incomes, cost, demand or standard of living” (Bauer 1971:172).

It is not that large government-to-government transfers – that is, foreign aid – produce no beneficiaries. Indeed, foreign aid may enrich specific sub-groups of a population, and perhaps it could even trigger developments and growth in a particular field. The mistake is to equate some particular development (i.e., industrialisation) with growth of the entire economy, meaning rising standards of living. “Of course, state planning can augment the resources available to particular sectors of the economy, by expanding these at the expense of other activities. But this has nothing to do with the expansion of the economy as a whole. This is obscured in the ubiquitous practice of identifying the output or progress of one sector with that of the economy as a whole; this practice is followed by economists and officials who neglect costs” (Bauer 1977:149).

Capital fundamentalism, or infrastructure fundamentalism, may obscure more relevant facts. “If all conditions for development other than capital are present, capital will soon be generated locally, or will be available to the government or to private businesses on commercial terms from abroad, the capital to be serviced out of higher tax revenues or from the profits of enterprise. If, however, the conditions for development are not present, then aid – which in these circumstances will be the only source of external capital – will be necessarily unproductive and therefore ineffective” (Bauer 1971:97).

Neither can we assume that “more capital” is per se a panacea. As he pointed out in West African Trade, “the comparative lack of local technical and administrative skill aggravates the effects of the scarcity of equipment; it is not lack of capital alone which retards development” (Bauer 1954:13). In other words, without the necessary human capital we can hardly assume machineries (or roads) to increase productivity per se. And how can we know, ex ante, whether those skills and a certain capital will or will not match?

This is something well known to anybody who ever visited the South of Italy. In the aftermath of the Second World War, aid from the North financed investments (mostly by northern businesses) in ostensibly productive facilities, some of which were quickly abandoned as this river of transfers drained. Such factories located in regions with little industrial history and unskilled employees were named “cathedrals in the desert”: temples waiting for a faithful people, who were very unlikely to show up.

Fiscal offsets of economic disparities eventually did not end them: this is Italy’s lesson. Today GDP per capita in the Northwest of the country is twice as high as in the South. But likewise, in 1951, GDP per capita in the South was roughly half the GDP per capita in the North. Paradoxically, according to some Italian historians, GDP per capita in the North was not much higher than GDP per capita in the South in 1861: that is, when the country was unified. Yet ever since the gap between the North and the South has widened. And yet Italy is as much a “political union” as it could be. Before the 1860s, the country had long been politically fragmented, to the point that Austrian statesman Prince Metternich was pretty sure that Italy was merely “a geographical expression”.

Dreams of making of Italy a customs union were floating around well before unification, but never materialised.

The Piedmontese, who unified the country, instead went the French way, establishing a strong central power and leaving no autonomy to local authorities, in spite of their long history of autonomy. Conquering the whole of Italy was an expensive business, and the fledgling monarchy was happy to mutualise debt. Still, managing the country was apparently an even more expensive business: government debt was 32.3 per cent of GDP in 1862, 57.7 per cent in 1866, 78.3 per cent in 1870. Part of this debt was due to public investments aimed to modernise the country, such as railways, that concentrated in the North.

It was after the First World War that the gap widened significantly: all Southern regions started recording levels of GDP per capita consistently lower than the Italian average. After the Second World War, a newly democratised Italy bound itself to address this problem – and chose the way of substantial government investment in the South. We had “foreign aid in one country”.

The so-called Cassa del Mezzogiorno, a government fund, was established with the purpose of updating the South’s infrastructure, thus paving the way for economic development, but it soon became a device to channel public spending in industrial projects in the South for which demand was at least dubious. Subsidies yielded what were known in Italy as “cathedrals in the desert”: modern facilities which were built to make the most of government subsidies, and functioning insofar as subsidies allowed them to go on.

The expenditures for extraordinary interventions led by Cassa del Mezzogiorno reached between 1951 and 1998, almost 380,000 billion Italian lire, a third of which were direct subsidies to private investment. The industrial legacy has proven tenuous.

The persistent gap in GDP per capita signals that government redistribution may have worked well for other purposes, like growing political consensus, but did not bring about the economic convergence of the North and the South.

Indeed, Italy is a microcosm of aid failure as sketched by Bauer. In this sense, his lesson can be further generalised: development cannot be forced by transferring resources, within or beyond the boundaries of the nation-state.

A BATTLE OF IDEAS

For Bauer the foremost sin of foreign aid is that it cannot avoid being politicised: “the granting of foreign aid necessarily draws the donor country into the internal politics of the recipient country” (Bauer 1961:120). In particular, such meddling with grantee-countries grew the anti-market sentiment in those countries, because “what the Third World learns from the West, or about it or about present and past economic relations between the West and Third World countries, comes from or is filtered through opponents of the market” (Bauer 1978b:172). The “devaluation by intellectuals of voluntary exchange” (McCloskey 1987:250) cannot help economic growth.

We can say that Bauer pointed to a “vicious circle of anti-capitalism”. Lack of prosperity in less developed countries is interpreted as the sum of damages inflicted by Western action (trade) or inaction (lack of aid). This sense of guilt of Westerners creates the political demand for foreign aid, which transfers money “from the poor [taxpayers] of the rich countries to the rich of the poor countries”, that is to ruling elites. Donor-countries may bet on the importance of fostering capital formation, but they tend to ignore the circumstances of grantee-countries. Foreign aid thus does not drag the poor out of poverty, and thereby the circle starts anew.

For this reason, Bauer vehemently opposed egalitarianism, even when practised by the Catholic Church (Bauer 1984). For this reason, he opposed the corruption of language by the means of dangerous metaphors. For example “nation- building”, which implies considering people “lifeless bricks, to be moved by some master builder”, or the use of the expression “Third World”: “Without foreign aid initiated and organised by the West, there would be no Third World or South.”

Besides being a sharp critic of his contemporaries, Bauer advanced his own theory of economic development – though in a rather scattered way, not in a systematic fashion. As Jim Dorn argued, Bauer sees “the essence of development” as “the expansion of individual choices” (Dorn 2002:357):

I regard the extension of the range of choice, that is, an increase in the range of effective alternatives open to people, as the principal objective and criterion of economic development; and I judge a measure principally by its probable effects on the range of alternatives open to individuals (Bauer 1957:113).

In this context, what truly is key for Bauer is voluntary exchange. As we hinted before, his view of economic growth is essentially Smithian: “the division of labour is limited by the extent of the market”, the more division of labour the better, the more extended the market the better. Very aptly his last book was titled, after one of its collected essays, From Subsistence to Exchange, because these are the two poles of development in Bauer’s view. “Advance from subsistence production involves trading activities” (Bauer 2000:8) and the growth of such activities produces, little by little, more knowledge and better coordination, thereby making possible increasing production.

Such a process, such a transition, is fostered by trading at all levels. Bauer appreciated, as few did, that the poor are great traders. If we need to summarise his thought in a few words, the best way to do it would be to point out that he did not believe the poor were stupid. He thought we needed to understand the specificities of local circumstances before proposing all-encompassing public policies. He thought culture played a great role in development (and anti-market prejudice could stifle it), but he did not think that the “South of the world” was populated by irrational economic agents, in desperate need of our enlightened guidance. That was his view, whether he wrote about development, migrations or so-called “over-population”. He never practised paternalism, that eternal habit of the intellectuals.

This may explain Bauer’s persistent unpopularity. “Through the 1950s and 1960s Peter Bauer’s writings frequently aroused anger, if not apoplexy, but little reasoned criticism. He was ignored, dismissed, but not answered” (Desai 1982: 291). His ideas were never popular within the economic profession (Vásquez 2007:208–209) and, though they were vindicated as times went by, they were very rarely recognised as path-breaking.

An exception is Nobel Laureate Angus Deaton, who, with great candour and intellectual honesty, acknowledged Bauer was right (on foreign aid and on population) in his The Great Escape: Health, Wealth, and the Origins of Inequality (2011). Bauer, Deaton writes, was the first to show that “the hydraulic approach to aid is wrong, and fixing poverty is nothing like fixing a broken car” (Deaton 2011:273).

It was not and it is not. Bauer’s lesson should be better known. The temptation to “solve” problems by transferring money from Peter to Paul is always strong. These days, for example, most eurosceptics and euroenthusiasts alike are proposing something similar for the European Union, which is apparently doomed to resemble a bigger Italy, with the North subsidising the South. Is that really going to help? Reading Bauer may help us to answer this question, and many others.
 
 

References:

 

Bauer, P. T. (1948) The Rubber Industry: A Study in Competition and Monopoly. London: Longmans, Green & Co.

– (1954) West African Trade: A Study of Competition, Oligopoly and Monopoly in a Changing Economy. Cambridge: Cambridge University Press.

– (1957) Economic Analysis and Policy in Underdeveloped Countries. Cambridge: Cambridge University Press.

– (1961) Indian Economic Policy and Development. London: Allen & Unwin.

– (1965) “The Vicious Circle of Poverty and the Widening Gap”, now in Bauer (1971): 31–67.

– (1971) Dissent on Development. Cambridge, MA: Harvard University Press.

– (1975) “Politicization of Knowledge: Development economics”. Schweizerische Zeitschrift für Volkswirtschaft und Statistik, III: 297–316.

– (1977) “Reflections on Western Technology and ‘Third World’ Development”. Minerva, 15(2): 144–154.

– (1978a) Class on the Brain. The Cost of a British Obsession. London: Centre for Policy Studies.

– (1978b) “Hostility to the Market in Less-Developed Countries”, in Brunner (1978): 169–189.

– (1984) “Ecclesiastical Economics: Envy Legitimized”, in Bauer 2000: 94–108.

– (1986) Reality and Rhetoric: Studies in the Economics of Development. Cambridge, MA: Harvard University Press.

– (2000) From Subsistence to Exchange and Other Essays. Princeton, CA: Princeton University Press. Brunner, K. (1978) “First World, Third World and the Survival of Free Societies”, in The First World [and] the Third World : Essays on the New International Economic Order, edited by K. Brunner.

Rochester, NY: University of Rochester Policy Center Publications: 1–28.

Curzon-Price, V. (2002) “Peter Bauer’s Contribution to the Debate on Aid to Developing Countries”, in John Blundell et al., A Tribute to Peter Bauer. London: Institute of Economic Affairs: 78–83.

Deaton, A. (2011) The Great Escape: Health, Wealth, and the Origins of Inequality. Princeton, CA: Princeton University Press.

Desai, M. (1982) “Homilies of a Victorian Sage: A Review Article on Peter Bauer”. Third World Quarterly 4(2): 291–297.

Dobb, M. (1951) Some Aspects of Economic Development. Delhi: Delhi School of Economics.

Dorn, J. A. (2002) “Economic Development and Freedom: The Legacy of Peter Bauer”. Cato Journal 22(2): 355–371.

Gerschenkron, Alexander (1957) “Reflections on the Concept of ‘Prerequisites’ of Modern Industrialization”. L’industria 2. Reprinted in Gerschenkron, Economic Backwardness in Historical Perspective: A Book of Essays. Cambridge: Harvard University Press, 1962: 31–51.

McCloskey, D. (1987) “The Rhetoric of Economic Development”. Cato Journal 7(1): 249–254.

– (2010) Bourgeois Dignity: Why Economics Can’t Explain the Modern World. Chicago: University of Chicago Press.

Meier, G. (1984) “The Formative Period”. Gerald M. Meier & Dudley Seers (eds), Pioneers in Development. Vol. 1. New York, NY: Oxford University Press, 3–22.

Nurkse, R. (1953) Problems of Capital Formation in Underdeveloped Countries. Oxford: Oxford University Press.

E. Sirolli (2012) “Want to help someone? Shut up and listen!”, https://www.ted.com/talks/ernesto_ sirolli_want_to_help_someone_shut_up_and_listen/transcript.

The Caian. (1985) “Interview with Lord Bauer”. The Caian: The Annual Record of Gonville & Caius College, Cambridge, 1 October 1984 to 30 September 1985.

Vásquez, I. (2007) “Peter Bauer: Blazing the Trail of Development”. Econ Journal Watch 4(2): 197–212.

Ure, J. (1975) “Marxist Economics: Primitive Accumulation”. International Socialism 84: 29–32.

Yamey, B. S. (1987) “Peter Bauer: Economist and Scholar”. Cato Journal 7(1): 1–28.