Luigi Zingales: Crony Capitalism and the Crisis of the West

…Seven out of the 10 richest counties in the U.S. are in the suburbs of Washington, D.C., which produces little except rules and regulations. Even worse, the slow growth and decreased social mobility of the last decade have damaged the free market’s reputation as a creator of prosperity. The hundreds of millions of dollars awarded for disastrous economic performance—from Robert Rubin’s salary as chairman of almost-bankrupt Citigroup to government loans for the actually bankrupt solar company Solyndra—have in turn weakened public belief in the system’s fairness.

For the U.S., the moment to act is now, before the cancer of crony capitalism metastasizes. …It is not too late for the United States, but the clock is ticking. We have already begun to look like Italy. If we don’t do something to stop that soon, we will end up like Greece.

Chicago Booth School Prof. Zingales is one of my favorite finance economists. On the crony capitalism topic Luigi has first hand knowledge – he is effectively a refugee of the corrupt Italian system. The good professor is the author of the just -released book A Capitalism for the People [Kindle edition a mere $14.99]. So please don’t miss his WSJ op-ed. A sample should motivate you:

Cronyism has a long history in Italy, where historically the Catholic Church enjoyed tremendous influence. Popes and other members of the hierarchy wielded—and often abused—enormous power, including that of placing their children and friends in positions of influence, regardless of merit. A truly competitive market has no place for favoritism, but when one company or institution dominates a market, such practices become inevitable.

In Italy today, even emergency-room doctors gain promotions on the basis of political affiliation. Instead of being told to study, young people are urged to “carry the bag” for powerful people in the hope of winning favors. Mothers push their daughters into the arms of the rich and powerful, seeing it as the only avenue of social promotion. The nation’s talent-selection process is broken: One routinely finds highly intelligent people employed in menial jobs while mediocre people often hold distinguished positions.

Once an incompetent appointee finds himself in a powerful position, he tends to hire only subordinates of equal or lower quality, since more talented people pose a threat to him. After a few years, a firm’s human capital will become so eroded that it won’t be able to compete without some form of protection. The more protection it can gain from government, the greater the scope of the cronyism, which in turn makes protection even more necessary. Crony capitalism creates a vicious circle.

Read the whole thing. Note that I came to Luigi’s op-ed via a very worthwhile post on Crony Capitalism by the Grumpy Economist, aka John Cochrane. John offers other examples of this disease, including this one:

(…) Related [to the Zingales op-ed], the University of Chicago Magazine had a very nice article by Dario Maestripieri explaining just how Italian academia works. Another tidbit:

The year I applied to the biology doctorate program at the University of Rome, there were eight open slots, and the eight winners had already been agreed upon. I wasn’t one of them. A couple of weeks before the concorso, however, the National Research Council offered funding to support two additional fellowships. The baroni did not have time to negotiate these positions, so two outsiders with good résumés and exam scores—a friend and I—were admitted. We squeezed in through a crack in the system. Yet despite the fact that we were straight-A students and had published scientific articles, we couldn’t find a professor willing to serve as our adviser.

The truth was that by filling a slot with an outsider without raccomandazioni or appropriate pedigree, the advisers might lose an opportunity to admit a family member or the child of the prime minister the following year. Admitting two outsiders had been a big mistake—someone would have to pay the price. Eventually, after some arm-twisting, my friend and I found an adviser. Three years later, however, after I finished my PhD, it was made abundantly clear that someone who had entered academia through a crack in the system could not expect to go very far. After doors were shut in my face one too many times, I moved to the United States.

Short version, translated to Chicagoan: “We don’t want nobody nobody sent.”

(…) It just looks like mysterious “low productivity.” Keynesians see low output and employment and ask for more stimulus. That’s not the problem.

A lot of Luigi’s work has been to try to seriously study and measure crony capitalism, which is the only way to address it. (At some point soon I’ll review his book).

Second thought. It is a wonder that US academic institutions, for all their many faults, are so much better than most around the world, and that the best faculty and students gravitate to the US. US universities are still by and large a pretty severe meritocracy. Now you know why Dario isn’t teaching in Rome. And why so much of Italy’s great economics talent like Luigi is also working here.

Last August, Paul Romer offered a Charter Cities type solution to Greek crony corruption challenge in “Cutting the corruption tax“.

For many, corruption and political cronyism are seen as an inevitable part of Greek politics. This column argues that the same could have been said in the 1970s about Hong Kong, now a beacon of low corruption. Hong Kong managed this turnaround by appointing a non-elected governor accountable to the UK government. Greece could achieve the same by calling on the EU and start counting the benefits.