John Kay - The monumental folly of rent-seeking

The monumental folly of rent-seeking

Like most visitors to northern India, I visited the Taj Mahal. Unlike most visitors, I asked economic questions. Reports of his tax policies suggest that Shah Jahan may have appropriated as much as 40 per cent of what we now call gross domestic product to support a lifestyle of exceptional ostentation and self-indulgence. He was overthrown by his son, who was exasperated by his father’s penchant for monumental building, anxious to maximise his own share of the loot and concerned by the scale of the levies on the population. But it was all too late. The Mogul empire was in irretrievable decline.

The activities of Shah Jahan epitomise rent-seeking – the accumulation of a fortune not by creating wealth through serving customers better but by the appropriation of such wealth after it has already been created by other people. Both are routes to personal enrichment and the tension between them has been a dominant theme of economic history. Whenever the balance shifts too far in favour of appropriation over creation, we see entrepreneurial talent diverted to unproductive activity, an accelerating cycle in which political power and economic power reinforce each other – until others become envious of the proceeds of appropriation, and the resentment of the oppressed undermines the legitimacy of the regime. Political and economic instability are an inevitable consequence.

In modern India, rent-seeking takes the form of endemic corruption and the crony capitalism that describes too-close relationships between big business and the state. Western economies are afflicted with their own versions of crony capitalism. Instinctive corporatism is characteristic of many European states. The US demonstrates an unhealthy affinity between politicians and leaders of finance and business, facilitated by lobbyists and lubricated with campaign finance.

Barack Obama as US president and Vince Cable as UK business secretary are perceived as unfriendly to business because they have resisted these linkages. But this is to confuse being friendly to business leaders with being supportive of the success of business. If information technology is the big driver of current economic progress, it is also the sector least affected by this growth of corporatism. Successive waves of innovative entry have marginalised established products and corporations and destroyed established market positions.

But in other industries, such as media, pharmaceuticals and defence, mutually enhancing political influence and economic clout allow incumbent companies to maintain their business models and resist disruptive change.

The primary locus of modern rent-seeking is the overblown financial sector, where burgeoning trade in existing assets has overwhelmed the creation of new wealth, attracting scarce talent from elsewhere and creating instability. One needs only a little imagination to see parallels with the court of Shah Jahan.

The fall of the Berlin Wall was the symbol of the most important economic development of our lifetimes, opening the way to the creation of market economies not just in the former communist states but in countries such as India with great unrealised economic potential.

Yet many misunderstood the lesson of the failure of centrally directed economic systems. Market economies succeed when they advance through disciplined pluralism – the process that gives maximum scope for experiment and innovation, while ensuring that when experiments and innovations fail they are terminated, and that when occasionally they succeed they are imitated. That is the origin of the advances in the IT sector.

The success of market economies is not achieved by policies that encourage people to be greedy and imposing as few restrictions as possible on what the greediest of them do. That was the world of Shah Jahan and it produced very little in the way of economic advance.

It did, however, produce the most beautiful building in the world. Perhaps there is a lesson for modern moguls. But the lesson Shah Jahan’s court reveals to the modern policy maker, in India and in the west, is far more important. The excesses of rent-seeking meant the Mogul empire was in effect ended within two generations. The ensuing sacking of Delhi left a political vacuum only filled by the British Raj.

 

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