What I've been reading (vol 10.): Cronyism and inequality

Zingales, Luigi (2012) A Capitalism for the People. Recapturing the Lost Genius of American Prosperity. Basic Books, New York.

Luigi Zingales, a University of Chicago Booth School of Business professor of finance, is one of the true champions of liberal, free market ideas. In this book, similar to his previous success “Saving Capitalism from the Capitalists” (co-authored with Raghu Rajan), he delivers a powerful case in favor of markets, competition, liberty, and against big business, big governments and their clientelistic (cronyist) mutually beneficial relationship. In other words, Zingales knows the crucial and very important distinction between being pro-business and being pro-market. Confusing one with the other is a typical mistake every advocate of socialism tends to make – they tend to blame capitalism, markets, and the ideology “neoliberalism” for close ties between politicians, big businesses, and the media. Zingales correctly points out that this is hardly the case. If anything their relationship is a perfect example of cronyism – receiving government favors based on close personal relationships, not to mention things like corruption, nepotism, clientelism, conflicts of interest, bribery, and even something called institutional corruption (implementing laws that benefit partial interests of public or private enterprises, usually by handing out monopoly power). None of this has anything to do with competition. None of this has anything to do with classical liberalism, with Adam Smith, or free markets. And it is exactly competition and the classical liberal tradition that are at the forefront of Zingales' book. 

He opens the book with a personal touch. His story of how he wanted to escape what he calls a “fundamentally unfair” system in Italy, riven with nepotism, where meritocracy doesn’t exist (grades apparently don’t matter for enrollment into university), where political affiliation is the basis for promotion in any public sector job, where the only way to get rich is to be politically connected and receive government contracts, where mothers marry their daughters into power as a means of social promotion, where young people need to “carry the bag” for those on higher positions of power in order to get ahead in life (this is how the academia in Italy apparently works – you can only achieve promotion when the older professors retire or die – whichever comes first!). When he came to America in 1988 he was overwhelmed by the opportunities available to him. He had finally arrived in a country where his ability was the only limit to his dreams, not the people he knows. After all, as Zingales correctly emphasizes, Americans, whether Democrats or Republicans, “have no idea what it’s like to live in a country where there is virtually no meritocracy and competition is considered a sin.” 

Having this life-altering experience, Zingales is worried that the same forces that have occupied his native Italy for so long (and still do) are now grabbing steam in the US. He describes crony capitalism, American-style, where pro-business interests have vastly taken over pro-market and pro-competition incentives, where both businesses and the government have grown too big and too gruesome, and are now jeopardizing the very stability of the country. In other words, Zingales is overseeing the transformation of the US free market system into Italian-style crony capitalism. 

Nowhere is that more obvious than in finance. Too-big-to-fail banks being bailed out using public money; those same banks paying out huge bonuses to their executives in times of heavy losses imposed to the public (privatized profits, socialized losses); corporate lobbyists influencing legislation and regulation as they please; the list goes on. It was the scandals causing and arising from the biggest crisis since the Great Depression that led many people in the US to distrust markets and rebel. Voters lost confidence in the system they perceive to be elitist, corrupt, rigged against them, and unfair. No wonder they can easily resort to populism. And who could blame them when the self-defeating cycle has become obvious even to the layman: former politicians and former public officials, once they leave office, get fat paychecks in the private sector they once regulated. It’s a typical quid-pro-quo relationship and it’s ruining the foundations of American capitalism. 

Two political movements have arisen as a consequence: on one hand the Occupy movement opposing Wall Street’s too-big-to-fail attitude, and on the other the Tea Party, opposing taxes and big government, which arose partially as a response to the crisis. Interestingly both of these movements yielded political figures 6 years after they started. Bernie Sanders, the 'democratic socialism' hero, got attention as a clear consequence of the Occupy movement (he shares their messages and concerns), while on the other hand there is Donald Trump, a clear consequence of the Tea Party movement (also sharing their anti-immigration, protectionist, and against big government messages). 

Both of these movements are right in their own narrow way. But they fail to realize that their different enemies (big business and big government) are two sides of the same coin. Big business getting exclusive deals and monopolistic positions from the government; a government and congress riven with hypocrisy and highly prone to corruption – these are both typical signs of crony capitalism. Another thing both movements got it right is that the establishment elite has failed the system. They have allowed it to become cronyist, to become overburdened with the satisfaction of partial interests. In fact they themselves have become the key pillars of a crony system. 

So what does Zingales propose how to fight this? He calls for a seemingly paradoxical “promarket populist agenda”. He calls for a populist movement similar to the Populist Party of the late 19th century which never really achieved any major electoral victory, but it did help influence many of Theodore Roosevelt’s reforms like antitrust laws or accounting transparency. The idea is then to channel populist anger into fighting cronyism and the corrupt elites, not to destroy the foundations of American capitalism. A socialist would say these are synonyms. Far from it. Zingales cites numerous examples in this book of how cronyism is a natural enemy of the competition-based libertarian pro-market position. When businesses succeed based on their connections and political favors instead of their competitive advantages, there is simply no sign of markets. The idea of liberal capitalism vehemently opposes the concept of cronyism. Zingales goes a long way in proving how this is so.

Jones, Owen (2014) The Establishment. And how they get away with it. Penguin Books.

What can I say about this one? The first thought that comes to mind is – conspiracy theory. The book is a typical Marxist propaganda pamphlet full of personal biases of the author which he cannot seem to shake off in order to provide a balanced view; a book in which the author shows some basic misunderstanding of the patterns of economic history (which is a shame given that he majored history at Oxford); and finally a book that feels like an Ed Milliband Labour party manifesto (or even better Jeremy Corbyn’s Labour party, since Milliband was obviously too soft according to the author, whilst Blair is just another evil Thatcherite – see where I’m going with this?). It’s really a shame given that the title and the initial description of the book were so promising. I was expecting this to be a decent overview of how the British establishment has failed to prevent and eventually succumbed to cronyism, and how this is threatening the very existence of British democracy (so essentially a similar read to Zingales). But I was left entirely disappointed as the author kept making numerous false assumptions, kept writing in banter style, kept insisting that the Establishment is this all-powerful organism that shapes the foundation of our lives and forces the people to do things against their wills without even knowing it. It is unfortunate that the author cannot shake away his own very strong biases, as some of his investigations and analyses are actually quite good and accurate: the stories of big businesses feeding of government subsidies, the corruption of the media (the Leveson inquiry scandal), the financial elite, the police, and of course the politicians themselves. But all of this is wrapped around in a tin foil of banter against everything and anything conservative (it’s fine if you want to criticize conservatives, but this was not a criticism, it was honest hatred), and even free market oriented intellectuals which the author derogatorily refers to as the Establishment’s outriders.

Yet it had so much potential. According to the author the Establishment, a sparsely defined amalgamation of everything evil on this planet, depends on several things to feed itself (it’s almost like the Leviathan, although it’s quite obvious why the author refuses to use that particular term): they need support from the media and political elites (which are sometimes both the establishment themselves and sometimes they are just advocates of the current order), they rest upon ideological support from public intellectuals (right wing, mind you), the police (the extended hand of the establishment, not the law), and of course is consistent of big business that although supporting the “neoliberal” ideology wouldn’t survive without government subsidies (this one is actually a very good point, however it has nothing to do with markets – see the previous review). 

It’s fascinating how the author has complete disregard of facts and how he tries to fit every piece of information into his narrow worldview. For example, he constantly cites opinion polls (I assume filled out by Guardian readers) saying that the vast majority of the people support nationalization of public sector companies, or the re-imposition of capital controls, or the strengthening of the labour unions (so in effect, revoking all of Thatcher’s policies from the 1980s). However, given the recent electoral outcomes (2015 elections and the Brexit referendum) and the upcoming disaster for Labour under Corbyn (which, I would assume, the author would denounce and bravely and blindly argue that Corbyn will be the next PM), it’s hard to conclude that the “majority” of Britons would support Ed Milliband’s soft socialism or particularly Corbyn’s hard socialism. They haven’t done this since the 1970s and given their current sets of preferences I don’t see any reason as to why they would revert to it. But that’s the media’s fault according to Jones. The media, which vehemently supports the Establishment, carries out its important role in biasing electoral campaigns against the Establishment’s (read: the Conservative party’s) opponents. The media is therefore responsible (along with the neoliberal ideologues, mustn’t forget them) in biasing the public opinion and their vote choices against socialist policies (moving the “Overtone Window”). This conclusion is another example of a logical fallacy committed by the author: if the media and neoliberal ideologues form public opinion and their voting choices, how come certain polls allegedly show that public opinion is in favor of socialism? Shouldn’t the people then overwhelmingly support socialism come election day? Are they being brainwashed perhaps? If so, if they are being brainwashed by the neoliberal dogma, why do they lie in the polls saying they want socialism? What is going on?!

Too bad the book was written before the 2015 elections and the recent EU referendum, since I would be interested to see which line of reasoning the author would use for explaining their outcomes. Before the generals in 2015, every newspaper was talking about a split Parliament, many of which were saying Labour will be taking a close victory. Guardian columnists were even considering a Conservative-Labour coalition. In the end Conservatives won by a 6-point landslide. On the EU referendum every mainstream media supported Remain. One could actually say the Establishment supported Remain. But the author is clearly also a Remain supporter (perhaps he changed his mind recently). I wonder how all this would fit into his biased media angle. 

These are just a few examples, there are many more that are outright contradictory and sometimes even ridiculous and amusing. At one point he even says that because of Labour and Conservatives looking so alike voters have started to look elsewhere, like the Green Party! I kid you not, he says “growing support for the Greens” in addition to rising support for SNP and UKIP will make the first-past-the-post system untenable. Or how he claims that the 1970s produced the “most stable economic growth ever” along with a “staggering increase in living standards”. 

All in all, the author, just like most socialists, fails to understand the basic difference between capitalism and cronyism. To the typical champagne socialist there is no difference. Zingales, in the previous review, made an excellent point here – cronyism is the natural enemy of capitalism. It consumes it and takes on the worse form of capitalism – an interlock between vested corporate interests and the political elites undermining democratic order. A failure of democracy, so to speak. A socialist would argue that cronyism is a natural outcome of capitalism. I heavily disagree since cronyism is hardly limited to capitalist societies. In fact, cronyism tends to be highest and almost necessary in dictatorial societies, most of which are governed by socialist regimes. All in all, I wouldn’t recommend the book if you are already familiar with the standard champagne socialist bullshit. Pick another book instead. Like the next one.

Wilkinson, Richard and Pickett, Kate (2010) The Spirit Level. Why Equality is Better for Everyone? Penguin Books

Here is another left-wing piece of literature, however I find this one to be incomparably more convincing and persuasive than the previous book, despite the many issues I have with some of the arguments. Mainly it’s because the authors in most cases use real scientific studies to back their claims, and use actual data to support their main argument – that rising inequality is likely to be responsible for a whole number of negative outcomes depleting our social capital: from the rising lack of interpersonal trust, to physical and mental health problems, to violence, obesity, teenage pregnancies, and social mobility. The authors don’t prove causality (they correctly point this out) but do imply causality on several occasions, which is the biggest problem I have with the conclusions of the book.  

Both authors are epidemiologists and have done years of research in observing health outcomes in rich OECD economies, yielding a conclusion of rapidly deteriorating health levels of modern societies, linking many of these to the ills of inequality. Some of these links may be a bit farfetched (the evidence in favor of them is unconvincing at best), but some are quite fascinating and very likely to be true.

Which are the negative outcomes related to inequality then? First there is interpersonal trust, followed by a host of mental illnesses (including drug and alcohol addiction), then life expectancy, infant mortality, obesity, children’s educational performance, teenage births, homicides and violence, imprisonment rates, and finally social mobility. In a chapter-by-chapter analysis the authors present their case for each of these outcomes being somehow related to rising inequality. Their general conclusion when comparing OECD economies and US states is that more unequal countries (states) tend to have worse health and social outcomes. The evidence they provide is of a visual type – correlation graphs. Which is where the problem arises. Correlation graphs are filled with endogeneity issues – there is no way to use a series of correlation graphs to prove or disprove reverse causality or omitted variable bias. In simpler terms correlation does not imply causality, no matter how strong the links tend to be. Correlation can indicate a relationship, but that relationship needs to be proven with experimental research to make any inference of potential causality. Just placing a bunch of graphs that supports their general argument does not do the authors any favors.

However, a big part of the argument that supports the link between inequality and poor health and social outcomes comes from chapter 3 in which they cite the psychological reasons and rising anxiety tied with greater inequality. This is supposed to be the glue holding the later arguments together and tying each of them to inequality. The pure fact that we as humans tend to link our happiness not to our absolute wealth or living standards, but to our relative position in social and income hierarchies (the feelings of pride and shame), is the line of suggestible reasoning used by the authors to make their claims. I’m not saying this line of reasoning is wrong, I am only saying this part of the argument is left entirely under-researched in the book. The implication is there, but the proof is missing. 

I have paid careful attention in the argumentation where they cited actual research and where they didn’t, and the difference is obvious. For example, citing research on educational performance of children based on experiments proving how different social class affects performance are absolutely convincing in proving their argument. In this particular case they cite the experiment from World Bank economists who compared high caste and low caste 11 and 12 year old boys from India. When the groups were not aware of each other’s caste they performed almost the same in the tasks they were given (in fact the low caste group slightly outperformed the high caste one). But when they were made aware of the caste differences the performance of the low caste group significantly deteriorated. The same was found when comparing the performance of white and black students in the US when black students were told the test was a measure of ability. Or an even better one where a US schoolteacher used her students as test subjects by telling them that blue eyed people were much more intelligent than brown eyed and gave them extra reinforcements. The difference in outcomes was significant, not to mention the blue eyed kids asserting superiority, but it was all immediately reversed when she told the students she made a mistake and that it was the brown eyed kids who were actually smarter. Now the brown eyed took over. 

The authors conclude: “performance and behavior in an educational task can be profoundly affected by the way we feel we are seen and judged by others. When we expect to be viewed as inferior, our abilities seem to be diminished”. Neuroscientific research finds additional evidence in terms of hormones released when we are feeling confident and happy in oppose to those released when we feel threatened or stressed, all of which would boost or downgrade our performance. The inequalities resulting from social stratification and class struggle are obviously affecting poor performance of those at the very bottom of the social pyramid making them further entrenched at the bottom. This is indeed a big social issue. 

However in other examples, when the evidence was mixed at best, the authors tend to push the argument towards their own worldview. This is the biggest resentment I have towards the book, which is a shame since it had potential to provide a broad and unbiased argument on the topic, especially since it shies away from strong, subjective language and reasoning. One still can’t escape the fact that in some lines of reasoning it is bleak at best.

In particular in some cases the correlation between two variables, no matter how close it is, is probably not the consequence of causality between the given two variables (inequality and a corresponding social outcome), but possibly both are caused by a joint factor – something that increased both inequality and, say, led to the rise in obesity, anxiety or the lack of trust, simultaneously. We are therefore talking about a hidden factor causing both outcomes to arise, where they can further reinforce each other. I do believe that high inequality reinforces all the mentioned social problems, but I don’t think it is necessary the cause of each and every one of them. Some of them perhaps, but not all. 

Furthermore, most of the issues are actually heavily (although not exclusively) related to poverty. E.g. crime and violence, imprisonment, teenage pregnancies, some aspects of physical and mental health, educational performance (richer parents spend and invest more time with their children and are determined at helping them succeed whereas poor parents are more preoccupied with survival), etc. However the authors seem adamant in claiming that poverty alone cannot explain all of the negative social outcomes they link to inequality. They suggest that inequality brings an equal burden on to the middle classes as well as the poor. In fact more unequal societies have worse health outcomes across all income groups, not just the poor. The authors make a particularly strong case for this in chapter 13 by comparing the incidence of various diseases, life expectancy, and infant mortality in more and less unequal societies across all income groups. It does seem to show that less unequal societies are better across the board. But, and this is important, this does not prove that it is inequality that CAUSES these differences. Nor does it prove that poverty is the cause. In the same chapter (as well as in the postscript of the 2010 edition of the book) they pay closer attention to the causality issue and even though they admit that “association on its own does not prove causality and, even f there is a causal relationship, it doesn’t tell us what is cause and what is effect.” I couldn’t have said it better myself. But this doesn’t prevent them from imposing causality later in the book, particularly in the final chapter where they take their argument for granted by saying that “observational research can still produce a powerful science” and that the “relationship between inequality and poor social outcome is too strong to be attributed by chance alone”. 

The problem with thinking about correlation this way is not being able to think that both inequality and many of these negative social outcomes can perhaps be affected by a joint unknown factor that is causing both of them to increase in countries like the UK, US, or South Europe. Or perhaps they aren’t, we cannot know for sure. Or maybe all of these outcomes (inequality, poverty, poor health) are mutually reinforcing, so we have to establish what caused them to emerge. Not until we have concrete evidence (such as the research on educational outcomes related to social status) that inequality, poverty, or something else is leading to the rise of negative health and social outcomes in more unequal societies. For example, their aforementioned idea that anxiety due to our relative performance and social status makes us so sensitive to inequality which is why we react so negatively to it. Perhaps the causes of anxieties in more unequal countries are related with migration, the expansions of population and rapid urbanization of the post-WWII era where the feeling of being alone and worthless is likely to be amplified, particularly in large cities (which also, btw, reduces trust). This could reinforce all the health and social outcomes, which lowers social mobility and as an effect pushes inequality up. This is an idea out my head but it cannot be proven or disproven without concrete evidence. 

The authors' biased worldview disables them for thinking about these issues in much greater detail, which is unfortunate. At least that's the feeling you get from reading the book. It is a good read, and it does uncover some striking facts, but it fails to connect all of them in a more coherent way. It doesn’t prove what the authors think it proves: that inequality is the “common denominator” behind an array of negative health and social outcomes. It establishes very interesting food for thought, but much more research needs to be done to make this conclusion viable and correct.