Financial Times - Complementarity of economics and technology

Ben Bernanke, chairman of the Federal Reserve Board spoke recently of the complementary relationship that "economics" and technology have – here "economics" meaning "not only economic ideas but also economic policies and, indeed, the entire economic system".

"It is important to understand", says Professor Bernanke, "that even the very best ideas in science or engineering do not automatically translate into broader economic prosperity…When the economics is right, scientific and technological advances promote economic development, which in turn, in a virtuous circle, may provide resources and incentives that help to foster more innovation".

The Fed chairman made these remarks at last month's commencement exercises of the Massachusetts Institute of Technology (MIT). Since commencement addresses are not conceived as contributions to knowledge, we may safely assume that he conceived his address to be inspirational.

However, before going on, it is well to attempt to digest why he thought that chewing over a fact as seemingly obvious as the link between technology and economic growth would prove inspirational.

His own words make clear that he chose to speak on "the essential complementarity of technology and economics in modern economies" at least partly to remind the graduates of the continued "productive tradition of collaboration at MIT between economics and the engineering and scientific disciplines for which the institute is so well-known".

It is this "placement of economics in a milieu where quantitative reasoning and the scientific method are the coin of the realm," he says, that contributed to MIT becoming the home for 12 Nobel Prizes for research in economics.

As Professor Bernanke points out, mathematically rigorous approach to economics at MIT began in 1940 with the defection of Paul Samuelson from Harvard to MIT: Samuelson's book, Foundations of Economic Analysis – "now universally recognised by economists as inaugurating the modern mathematical approach to economics - was not well received by the old guard at the Harvard Economics Department".

In addition to its research value, the mathematical approach to economics has also a practical value. MIT "has trained many economists who have played leading roles in government and in the private sector, including the current heads of four central banks: those of Chile, Israel, Italy, and, I might add, the United States", says Professor Bernanke, who graduated with a PhD in economics in 1979 from MIT.

Thus, the success of MIT economics is spotlighted as something from which to draw inspiration to become technically proficient in the formal tools of mathematical economics, for those who aspire to play a leading role in economic research, government, or financial industry.

Harvard men like John Galbraith, who shunned scientific method and technical proficiency, were content to write polemics on the need for charity and philanthropy.

In our own country, where economics has always been a handmaiden of politics, wizardry and witchcraft have proven more alluring than econometrics. And as long as we have foreign aid and remittances to buttress our economy against complete collapse, we have been more or less content to suffer the evil effects of having our economic and monetary policies rough-hewed by political expediency and accounting wizardry.

Nevertheless, much of the world is rapidly adjusting to a more scientific way of understanding and doing things, and the central theme of Bernanke's address is the role of the economic system in translating ideas in science and technology into broader economic prosperity.

"A negative example", he says, "is the former Soviet Union, which certainly did not lack for scientific and engineering talent but which had an economic system that was poorly suited for translating scientific advances into economic progress".

The gap between productivity levels of the United States and Europe also speaks to the differences in economic systems.

"The pickup in US productivity growth in the mid-1990s was importantly related to advances in information and communication technologies"; but about the same time the European productivity levels began to fall behind the US.

He reminds his audience, "Productivity is perhaps the single most important determinant of average living standards – a country in which the average worker can produce a lot is usually also a place in which the average person can consume a lot".

However, "for example, taking full advantage of new information and communication technologies may require extensive reorganisation of work practices… [But] regulations that raise the costs of hiring and firing workers and that reduce employers' ability to change work assignments…may make such changes more difficult to achieve".

In that manner, he highlights the obvious characteristics that render an economy capable of taking full advantage of new technologies. To sum them up crudely: flexible labour and product markets; high degree of competition; "quantitative approaches to pricing complex financial instruments… and to measuring and managing risk"; the exclusion of "a regulatory environment that protects large incumbent firms".

By his account, modernity can grow only in the healthy soil of capitalism. This reminds us that our institutionalised habits have grown in stagnant and putrid soil of collectivism and statism; and the task of replacing that soil confronts us with an intractable moral problem.

Striking a characteristically American note, the address concludes:
"I hope you will not be afraid to be unconventional, to do something nobody else has thought of before… And remember that it is OK to fail - really… If you remain nimble in searching out new and unexpected opportunities, it will not only benefit you, but it will also benefit the economy and our society, as long experience has shown that dynamism and creativity are the seeds of innovation and of progress.