Good Capitalism, Bad Capitalism, and the Economics of Growth and Prosperity

William J. Baumol, Robert E. Litan and Carl J. Schramm
New Haven: Yale University Press
A Review by Susan Froetschel

True innovation is a rare bird, so rare that during any century only a handful of people come up with processes or devices that revolutionize the way people go about their daily lives. And then that invention - electricity or car, telephone or internet - becomes so useful, so logical, that it quickly loses the sense of magic.

Prosperity comes from nurturing innovation and distributing its derivative products quickly. “Good Capitalism, Bad Capitalism, and the Economics of Growth and Prosperity” focuses on which forms of capitalism best encourage innovation - and how to maintain those systems.

For the authors - William J. Baumol, Robert E. Litan and Carl J. Schramm - it’s a given that capitalism is a good. But capitalism comes in more than one variety, and countries tend to rely on systems that mix the forms. From the start, the authors make a case that economies flourish with a special combination of two forms: innovative entrepreneurship, encouraging individuals to invent and start small businesses, and a major-company system that can produce the best of those ideas on a big scale. The capitalistic systems that rely on heavy state controls (Malaysia and Singapore) or oligarchy (Mexico and other Latin American economies) produce less prosperity.

The book does not dwell on capitalism, but rather the institutions, mechanisms and policies that promote an entrepreneurial spirit. The authors admit that forms of capitalism lacking in innovation lead to inequality and backlash.

Before moving into their argument, the authors quickly chide the anti-growth movement, especially those who worry about disappearing resources, overpopulation or the decline of happiness in the wealthiest nations. The authors point to historical predictions of dire shortages and how technology and productivity have belied those concerns. But the arguments are not completely convincing for the average worrier, considering that resources like water are already in short supply for so many in today’s world, sometimes even in the most entrepreneurial of emerging economies. Growth, shrinkage of resources and human stress also come in an array of forms, some more worrying than others.

Rich with historical and contemporary examples from many countries, the book is highly readable for non-economists. The style is crisp, and the authors give the US center stage as the nation most adept at combining the entrepreneur and big-company forms and delivering a sustained period of prosperity for many within its borders and beyond. Despite the seamless stream of examples and recommendations, one distraction comes with a string of unnecessary references to future or past chapters. The well-organized book doesn’t need constant reminders that some economic points are connected.

Capitalistic systems tend to combine characteristics from the categories, and the authors caution that tending the entrepreneurial side requires vigilance to prevent the complacency, the resistance to letting some products go obsolete and the many special interests that come with comfort and economic success.

Understandably, the economists do not go into specifics about how to motivate innovation among individuals. Perhaps that’s where a society’s or an individual consumer’s values come into play: Money spent on empty calories, competing drugs that promote sleep and attention, hypnotic video games, clothes that go out of style before the season ends, mortgages just beyond a family’s means all contribute to an economy’s gross domestic product - but offer few incentives for innovation or long-term value. A community can invest in a sports stadium or a photonics lab, a casino or a school.

Most analysts that ponder the challenges of globalization blithely recommend education for instigating economic success. But the “Good Capitalism, Bad Capitalism” authors promise no silver bullet for securing growth and prosperity. In their understated way, they argue that education is necessary, but not a sufficient condition for producing innovation.

They lament that the days of a Thomas Edison not completing high school or a Steven Jobs and Steven Wozniak building a device as revolutionary as a personal computer are probably gone. “Looking ahead, it seems farfetched to believe that future commercially applicable advances in biotechnology, nanotechnology, or information technology will be made by high school-trained, garage-based inventors,” they write. “To the contrary, innovations in these sectors, along with others, are likely to be developed either in university settings or by individuals with advanced university training.”

Let’s hope Bauman, Litan and Schramm are wrong. One cannot ever underestimate the power of simplicity or the problem-solving skills of the human brain.

But signs on the education front are not good, especially in the US: Statewide science-fair organizers admit that many winners go on to pursue degrees in law and medicine, not basic research; inventors file increasing numbers of mundane, repetitive patents; and the education system does not instill a love for learning math and science among all students, not just those who aspire to research careers. Greed and search for security trump the passion for risk and invention.

The authors’ recommendations - all on the order of capitalism - could rescue the education system, including performance-based pay for teachers and allowing schools to compete. They propose creation of a mentor system - modeled after the Fulbright or even the reverse brain drain underway with American Indian researchers returning to their homeland - to encourage student partnerships with university or company researchers in other nations. They warn that mindlessly creating more engineers, more than the market can bear, creates gluts that only foment resentment. They urge that university presidents take drastic, even experimental steps to quickly move university research to the market: from developing standardized licensing agreements and maximizing volume rather than profits to ending the monopoly of the technology-transfer office and allowing faculty to choose their own agents.

Such changes do not come easy for those who profit from the old ways. Societies can anticipate the challenges and break from the status quo - or they can wait for economic crisis. Even as the authors offer clarity about the complexities of economics and the forms of capitalism, they admit that one data set can produce many contradictory conclusions.

But “Good Capitalism, Bad Capitalism” presents a singular and solid case for the power of entrepreneurship and any incentives that lead to the goal. Innovation spreads hope and prosperity, diminishing the fiercest inequality that can accompany capitalism. And in the pursuit of innovation, those who want to design the best systems of capitalism do not attempt to shut opportunity off for others - because that means shutting opportunity down for one’s self. Policymakers, from developing nations or developed ones, who are serious about spreading opportunity should keep this book close at hand.

Capitalism is not a simple monolithic system and comes in more than one form: entrepreneurial, big firms, state-directed and oligarchic.
© 2007 Yale Center for the Study of Globalization