Economics is my vocation but I do realise that sometimes economists get excited about coming to an old truth in a new, analytically rigorous way, leaving normal people wondering why it took us so long to figure that one out. So it is now with strategic industrial policy. This is one of the effects of the great financial crash on the realm of ideas. The notion that everything can be safely left to the market has been recognised as little more than a justification for deregulation that left the coast clear for rent-seeking activities. Economists have certainly not ditched their insistence on the centrality of markets as a mechanism for efficient allocation; rather, it’s the old ‘markets versus state’ dichotomy that is crumbling.

In the new approach, the intertwined roles of state and market are rooted in endogenous growth theory. Increasing returns and the importance of spillovers give the state a role in co-ordinating private sector activity. In yesterday’s post, I noted that Steven Johnson emphasises the state’s role in innovation in his book [amazon_link id=”0141033401″ target=”_blank” ]Where Good Ideas Come From[/amazon_link]. There are many examples of public funding delivering massive innovative returns, when combined with private sector investment. The University of Sussex economist Mariana Mazzucato has a Demos pamphlet on this theme, The Entrepreneurial State, well worth a read.

But of course to non-economists, not to mention many industrial economists, this would have seemed obvious even in the absence of modern growth theory. Michael Best’s terrific 2001 book, [amazon_link id=”0198297459″ target=”_blank” ]The New Competitive Advantage[/amazon_link], is one example – it takes a comparative look at US industry versus other nations including Japan. Another is an intriguing 1997 book, [amazon_link id=”0674962036″ target=”_blank” ]Worlds of Production[/amazon_link], by Michael Storper and Robert Salais, which has a very ‘non-Anglo Saxon’ perspective. I can only say that we have dived through a wormhole into a completely new intellectual universe. Well, many of us.

[amazon_image id=”0674962036″ link=”true” target=”_blank” size=”medium” ]Worlds of Production: The Action Frameworks of the Economy[/amazon_image]

After a Grand Day Out at MediaCity in Salford, being introduced to the Queen as she arrived to open BBC North officially, I travelled home reading Steven Johnson’s [amazon_link id=”0141033401″ target=”_blank” ]Where Good Ideas Come From[/amazon_link]. I mean no disrespect to a terrific science writer when I say it’s the perfect book for a train or plane journey. The comment is about the felicity of his writing style, the interesting but not overly-demanding material, and the ideal length.

The Queen has a Grand Day Out

The book organises a history of the origin of some important ideas according to the way they came about, with an underlying thesis that there is a false myth of an individual having a Eureka! moment; in fact most important innovations have come about through the work of a group or network of people bringing together different ideas, and for the sake of the ideas not because of the pressures of the market. Johnson argues that the ‘fourth quadrant’ of networked and non-market discovery has always been the source of most good ideas, and increasingly so over time.

I would agree with much of his argument along the way – the importance of an open mind and a maverick nature, the fruitfulness of work across disciplinary boundaries, the importance of a diversity of experience and unexpected collisions of ideas. Johnson sees markets as the driving force for patent and copyright protection, inhibiting the spread of innovation. However, the economics of patenting emphasise a balance between modest time-limited monopolies and the diffusion of innovations, while today’s reality of excessively long protections that last many years after originators’ deaths and create patent thickets are the result of monopoly power in those industries. I think that because of this misinterpretation he greatly underestimates the role of competition in markets alongside collective, and publicly-funded scientific discovery. Competition is the process through which new ideas are implemented. Many fall by the wayside if there is no commercial incentive or opportunity (because of monopoly power) to put them into practice.

That caveat aside, I enjoyed the tales of innovation well told, and also the practical advice about how to cultivate slow hunches and new ideas – write things down, use software (Johnson is a huge fan of DevonThink). Oh yes, keep an open mind and explore the boundaries of what you know.

[amazon_image id=”0141033401″ link=”true” target=”_blank” size=”medium” ]Where Good Ideas Come From: The Seven Patterns of Innovation[/amazon_image]

As a busy week draws towards its close, I’m on a train from London to Manchester, which prompted me to remember a friend’s recent recommendation of the Portico Library and Gallery. I’ve never been but it is obviously a jewel. There is a history of the library for those interested: [amazon_link id=”185936070X” target=”_blank” ]The Portico Library: A History[/amazon_link]

And it’s another reminder that – as I highlighted in my recent JRF Foundation/University of York Lecture – the later 19th century was an incredible era of institution-building. We’re still living off that legacy rather than investing in our own.

[amazon_image id=”185936070X” link=”true” target=”_blank” size=”medium” ]The Portico Library: A History[/amazon_image]

I mean big in the sense of what geographic scope does an economy cover. This question is prompted by Acemoglu and Robinson’s [amazon_link id=”1846684293″ target=”_blank” ]Why Nations Fail[/amazon_link]. Their thesis in a nutshell (as far as I’ve got with the book) is that economies that develop successfully need to have inclusive economic institutions combined with a centralized polity in order to enforce the law. Presumably economies of scale and scope apply as well. But I haven’t yet found their answer to the question, centralized over what territory? Italian and German unification were presumably helpful to the industrial development of those economies from the late 19th century. But turning to Paul Seabright’s [amazon_link id=”0691146462″ target=”_blank” ]The Company of Strangers[/amazon_link], he argues that the viable size of the state/economy has risen over time. Jane Jacobs argued in [amazon_link id=”0394729110″ target=”_blank” ]Cities and the Wealth of Nations[/amazon_link] that the large city in its hinterland is the natural economic unit. My instinct is that the UK economy is too centralized around London, certainly more so than comparable countries – see William Nordhaus’s economic geography globe. But the analysis of the optimal size for the economy – I’ve not found that yet.

[amazon_image id=”0691146462″ link=”true” target=”_blank” size=”medium” ]The Company of Strangers: A Natural History of Economic Life (Revised Edition)[/amazon_image]

“You can’t do with the state, but you can’t do without it.”

So Douglass North sums up his conclusion from a Nobel-winning career researching the role of institutions in economic growth – in [amazon_link id=”0262025620″ target=”_blank” ]Lives of the Laureates [/amazon_link](4th edition, 2004) edited by William Breit and Barry Hirsch. He rejects the pure public choice approach, which sees the state as “a leviathan to be contained, … little more than a giant theft machine.” Equally, North’s own work revealed many historical examples of states, and state ideologies, which were productively inefficient (and worse) over long periods of time.

As North ruefully points out, the question is at least as old as [amazon_link id=”0192805924″ target=”_blank” ]The Federalist Papers[/amazon_link]. He ends his essay here by saying the institutional approach he pursued over his career needs to be joined with new discoveries from cognitive science about why people form the beliefs they hold. I’m sure that will prove fruitful – we are in one of those periods when economics will do a lot of useful absorbing of knowledge from the biological sciences, from ecological modelling to psychology and neuroscience. But, reading the Acemoglu and Robinson book, [amazon_link id=”1846684293″ target=”_blank” ]Why Nations Fail[/amazon_link], institutional economics itself is at an exciting stage.

[amazon_image id=”0262025620″ link=”true” target=”_blank” size=”medium” ]Lives of the Laureates: Eighteen Nobel Economists[/amazon_image]

[amazon_image id=”0451528816″ link=”true” target=”_blank” size=”medium” ]The Federalist Papers (Signet Classics)[/amazon_image]