The market may not teach people to trust, but it certainly makes it easier for people to do so

Ricardo Hausmann, a Venezuelan developmental economist and Harvard professor, has a provocative post, The Tacit-Knowledge Economy.

He starts by laying out a reasonably well known and documented phenomenon that is not widely discussed but very intriguing.

Almost all rich countries are rich because they exploit technological progress. They have moved the bulk of their labor force out of agriculture and into cities, where knowhow can be shared more easily. Their families have fewer children and educate them more intensively, thereby facilitating further technological progress.

Poor countries need to go through a similar change in order to become rich: reduce farm employment, become more urban, have fewer children, and keep those children that they have in school longer. If they do, the doors to prosperity will open. And isn’t that already happening.

Let us compare, for example, Brazil in 2010 with the United Kingdom in 1960. Brazil in 2010 was 84.3% urban; its fertility rate was 1.8 births per woman; its labor force had an average of 7.2 years of schooling; and its university graduates accounted for 5.2% of potential workers. These are better social indicators than the United Kingdom had in 1960. At that time, the UK was 78.4% urban; its fertility rate was 2.7; its labor force had six years of schooling on average, and its university graduates accounted for less than 2% of potential workers.

Brazil is not a unique case: Colombia, Tunisia, Turkey, and Indonesia in 2010 compare favorably to Japan, France, the Netherlands, and Italy, respectively, in 1960. Not only did these countries achieve better social indicators in these dimensions; they also could benefit from the technological innovations of the past half-century: computers, cellphones, the Internet, Teflon, and so on. This should allow higher productivity than was feasible in 1960.

So today’s emerging-market economies should be richer than today’s advanced economies were back then, right?

Wrong – and by a substantial margin. Per capita GDP at constant prices was 140% higher in Britain in 1960 than in Brazil in 2010. It was 80% higher in Japan back then than in Colombia today, 42% higher in old France than in current Tunisia, 250% higher in the old Netherlands than in current Turkey, and 470% higher in old Italy than in current Indonesia.

There is actually a lot to discuss and dispute in the premises but let's let that stand for the moment. What is Hausmann's explanation?

The key to this puzzle is tacit knowledge. To make stuff, you need to know how to make it, and this knowledge is, to a large extent, latent – not available in books, but stored in the brains of those who need to use it.

Getting it there is really tough. Tacit knowledge is acquired mostly through learning by doing. That is how we train musicians, barbers, doctors, and scientists. Consider how long it takes an adult to learn to speak a language or a musician to master the violin.

Moreover, tacit knowledge is vast and growing, so that only a miniscule fraction of it fits in anybody’s head. But most products require much more knowledge than fits in anybody’s head, so that making them requires teams of people with different pieces of knowledge, not unlike a symphonic orchestra.

He concludes,

The bottom line is that urbanization, schooling, and Internet access are woefully insufficient to transmit effectively the tacit knowledge required to be productive. That is why today’s emerging markets are so much less productive than rich countries were in 1960, even though the latter were less urban, had higher birth rates and less formal schooling, and used much older technologies.

The policy implications are clear. Knowhow resides in brains, and emerging and developing countries should focus on attracting them, instead of erecting barriers to skilled immigration. They should tap into their diasporas, attract foreign direct investment in new areas, and acquire foreign firms if possible. Knowledge moves when people do.

An interesting proposition and one that likely has some merit though it is only skimpily argued and supported in the brief post.

What is this tacit knowledge of which Hausmann speaks? I understand the general idea but I don't see a rigorous definition in either his post or in the links. It sounds an awful lot like culture and/or E.D. Hirsch' concept of Cultural Literacy, both of which I think are meritorious arguments.

However it is defined, I think there are probably several aspects of tacit knowledge which are causative of economic productivity but which are not discussed by Hausmann. For example, one aspect of tacit knowledge might be a recognition of the distinction between the possible and the magical. By this I mean that there is great value in knowing that something is real and feasible versus believing something is possible. Thomas Kuhn discussed this with different terminology in The Structure of Scientific Revolutions. He spoke of paradigm shifts when the embedded view of something changes dramatically and quickly. Whether we are speaking of cultural habits, geographical exploration, or scientific discoveries, it is common for there to be a long period of stasis, but once something is demonstrated as real, there is a sudden flood.

The Portuguese spent a century poking around the South Atlantic trying to find a way to the East Indies and the spice trade. The exploration was perilous, intermittent and proceeded in fits and starts. Once Vasco da Gama rounded the Cape of Good Hope, all of sudden there was a flood of ships making a beeline eastwards. Knowing that there was actually a feasible route changed the dynamic and numbers dramatically.

I think tacitly "knowing" what is really feasible, whether any particular individual understands the mechanics, is one of the great privileges of more modern economies.

I happen to be reading The Wisdom of Crowds by James Surowiecki at the moment, Chapter 3. It is a well established fact that countries with strong cultures of intra-group trust tend to have much stronger, more durable and longer sustained economic productivity than do other cultures. His Chapter 3 is a particularly good discussion of the development and benefit of trust in advanced economies in that trust permits a much more productive approach towards problems of both coordination and cooperation.

In any case, what the researchers found was that in every single society there was significant deviation from the purely rational strategy. But the deviations were not all in the same direction, so there were significant differences between the cultures. What was remarkable about the study, though, was this: the higher the degree to which a culture was integrated with the market, the greater the level of prosociality. People from more market-oriented societies made higher offers in the dictator game and the ultimatum game, cooperated in the public-goods game, and exhibited strong reciprocity when they had the chance. The market may not teach people to trust, but it certainly makes it easier for people to do so.

So the question becomes, if there is merit to this trail of cognitive bread crumbs towards productivity, do ideologies or world views that foster divisiveness and distrust, in turn hamper the productivity of the adherents of that ideology?

I am guessing likely so.