If you’d been born 1,500 years ago in southern Europe, you’d have been convinced that the Roman empire would last forever. It had, after all, been around for 1,000 years. And yet, following a period of economic and military decline, it fell apart. By 476 CE it was gone. To the people living under the mighty empire, these events must have been unthinkable. Just as they must have been for those living through the collapse of the Pharaoh’s rule or Christendom or the Ancien Régime.
We are just as deluded that our model of living in ‘countries’ is inevitable and eternal. Yes, there are dictatorships and democracies, but the whole world is made up of nation-states. This means a blend of ‘nation’ (people with common attributes and characteristics) and ‘state’ (an organised political system with sovereignty over a defined space, with borders agreed by other nation-states). Try to imagine a world without countries – you can’t. Our sense of who we are, our loyalties, our rights and obligations, are bound up in them.
Which is all rather odd, since they’re not really that old. Until the mid-19th century, most of the world was a sprawl of empires, unclaimed land, city-states and principalities, which travellers crossed without checks or passports. As industrialisation made societies more complex, large centralised bureaucracies grew up to manage them. Those governments best able to unify their regions, store records, and coordinate action (especially war) grew more powerful vis-à-vis their neighbours. Revolutions – especially in the United States (1776) and France (1789) – helped to create the idea of a commonly defined ‘national interest’, while improved communications unified language, culture and identity. Imperialistic expansion spread the nation-state model worldwide, and by the middle of the 20th century it was the only game in town. There are now 193 nation-states ruling the world.
But the nation-state with its borders, centralised governments, common people and sovereign authority is increasingly out of step with the world. And as Karl Marx observed, if you change the dominant mode of production that underpins a society, the social and political structure will change too.
The case against the nation-state is hardly new. Twenty years ago, many were prophesising its imminent demise. Globalisation, said the futurists, was chipping away at nation-states’ power to enforce change. Businesses, finance and people could up sticks and leave. The exciting, new internet seemed to herald a borderless, free, identity-less future. And climate change, internet governance and international crime all seemed beyond the nation-state’s abilities. It seemed too small to handle international challenges; and too lumbering to tinker with local problems. Voters were quick to spot all this and stopped bothering to vote, making matters worse. In 1995, two books both titled The End of the Nation State – one by the former French diplomat Jean-Marie Guéhenno, the other by the Japanese organisational theorist Kenichi Ohmae – prophesised that power would head up to multinational bodies such as the European Union or the United Nations, or down to regions and cities.
Reports of its death were greatly exaggerated, and the end-of-the-nation-state theory itself died at the turn of the millennium. But now it’s back, and this time it might be right.
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There were only tens of millions of people online in 1995 when the nation-state was last declared dead. In 2015, that number had grown to around 3 billion; by 2020, it will be more than 4 billion. (And more than 20 billion internet-connected devices.) Digital technology doesn’t really like the nation-state. John Perry Barlow’s ‘Declaration of the Independence of Cyberspace’ (1996) sums it up well: the internet is a technology built on libertarian principles. Censorship-free, decentralised and borderless. And now ubiquitous.
This is an enormous pain for the nation-state in all sorts of ways. It’s now possible for the British National Health Service to be targeted by ransomware launched in North Korea, and there are few ways to stop it or bring perpetrators to justice. App technology such as Uber and Deliveroo has helped to produce a sudden surge in the gig economy, which is reckoned to cost the government £3.5 billion a year by 2020-1. There are already millions of people using bitcoin and blockchain technologies, explicitly designed to wrestle control of the money supply from central banks and governments, and their number will continue to grow. It’s also infusing us with new values, ones that are not always national in nature: a growing number of people see themselves as ‘global’ citizens.
If a nation cannot defend its border, it ceases to exist in any meaningful way
That’s not even the worst of it. On 17 September 2016, the then presidential candidate Donald Trump tweeted: ‘A nation without borders is not a nation at all. We WILL Make America Safe Again!’ The outcry obscured the fact that Trump was right (in the first half, anyway). Borders determine who’s in and who’s out, who’s a citizen and who’s not, who puts in and who takes from the common pot. If a nation cannot defend its border, it ceases to exist in any meaningful way, both as a going concern and as the agreed-upon myth that it is.
Trump’s tweet was set against the German chancellor Angela Merkel’s offer, one year earlier, of asylum for Syrians. The subsequent movement of people across Europe – EU member states received 1.2 million first-time asylum applications in 2015 – sparked a political and humanitarian crisis, the ramifications of which are still unfolding. It certainly contributed to the United Kingdom’s decision to leave the EU. But 1.2 million people is a trickle compared to what’s coming. Exact numbers are hard to come by, and notoriously broad, but according to some estimates as many as 200 million people could be climate-change refugees by the middle of the century. If the EU struggles to control its borders when 1.2 million people move, what would happen if 200 million do? The lesson of history – real, long-lens human history – is that people move, and when they do, it’s hard to stop.
This is the crux of the problem: nation-states rely on control. If they can’t control information, crime, businesses, borders or the money supply, then they will cease to deliver what citizens demand of them. In the end, nation-states are nothing but agreed-upon myths: we give up certain freedoms in order to secure others. But if that transaction no longer works, and we stop agreeing on the myth, it ceases to have power over us.
So what might replace it?
The city-state increasingly looks like the best contender. These are cities with the same independent sovereign authority as nations, places such as Monaco or Singapore. The city-state has recently been feted by Forbes magazine (‘A New Era For The City-State?’ 2010), Quartz (‘Nations Are No Longer Driving Globalisation – Cities Are’, 2013), The Boston Globe (‘The City-State Returns’, 2015) and the Gates Foundation-funded How We Get to Next (‘The Rebirth of the City-State’, 2016).
The trends that are pinching the nation-state are helping the city-state. In a highly connected, quasi-borderless world, cities are centres of commerce, growth, innovation, technology and finance. According to Bruce Katz, Centennial Scholar at the Brookings Institution in Washington, DC, and co-author (with Jeremy Nowak) of the forthcoming book The New Localism: How Cities CanThrive in the Age of Populism, the hub-like quality of large cities is especially valuable in the modern economy: ‘Innovation happens because of collaboration, and that needs proximity. You need a dense eco-system, and so hyper-connectivity is reinforcing concentration.’ Cities also have demographic weight on their side: for the first time in history, in 2014 the majority of humans live in cities.
‘Power in the 21st century belongs to the problem-solvers. National governments debate and dither. Cities act, cities do’
This is giving cities more political muscle than ever, which they are increasingly keen to flex. On the issue of climate change, for example – something at which nation-states have failed abysmally – cities are pushing ahead. Since 2006, the C40 initiative has brought together more than 60 cities to promote partnerships and technology to reduce carbon emissions, often going significantly beyond international agreements. In the US, where the federal government appears to have given up on climate change, leadership has fallen to cities.
This shift in power is visible in the way that the mayors of major cities are political heavyweights in their own right: think of Bill de Blasio in New York, Sadiq Khan in London, Virginia Raggi in Rome, Ada Colau in Barcelona. Cities as diverse as Indianapolis and Copenhagen are experimenting with ways of using their own physical, economic and social assets to self-finance city-level investment.
According to Katz, the world is moving beyond a nation-state world. ‘We’re entering a period where cities have new kinds of power. They have enormous chances to leverage their economic and financial advantages to augment their position and effect change,’ he told me. I’m used to thinking about power in binary terms: you either have it or you don’t. But according to Katz, we need to re-think because there is something in between, where cities are not fully independent of their nation-states, but not supplicant to them either: ‘Cities are not subordinate to nation-states, they are powerful networks of institutions and actors that co-produce the economy. Power in the 21st century belongs to the problem-solvers. National governments debate and mostly dither. Cities act, cities do. Power increasingly comes from the cities up, not handed down from the nation-state.’
For a very long time, power was always found at the city-level. For thousands of years, urban settlements with self-government and city walls provided protection, services in exchange for tithes and taxes, and a set of rules by which to live and trade.
The Hanseatic cities for example – with their own armies and laws – pooled their economic weight to improve their bargaining power with other nations in the early 19th century, and became an economic powerhouse in the Baltic trade route. These cities – which included Bremen and Hamburg – realised they shared much in common, and that their mutual interests might be best served by working together. As today’s centres of urban global capitalism, major cities are more similar to each other than the provinces of their own nation-states. They are all hubs of finance, tech innovation, culture, and characterised by high levels of diversity and inward migration. While the UK voted to leave the EU 52/48, London voted to remain 60/40. (Following this vote, there was a short-lived movement for London to declare independence from the rest of the UK.) London, as is often remarked by visitors, is nothing like the rest of the country. The same can certainly be said of the US east- and west-coast behemoths.
Fleeting around from one city to the next, as I sometimes do, feels more Hanseatic League than League of Nations: a system of powerful, trading, networked cities. And the Hanseatic League itself was hardly an oddity. Before that there was Venice of course, and that was merely the most well-known of many independent city-states dotted across what is now Italy in the 10th to 16th centuries, including Florence, Bologna and Turin. But even this is ‘recent’ in the lifetime of the ancient city-state, which reaches back to Jerusalem, before that Athens, before that Babylon, and all the way back to Ur. Only a few formal city-states still exist today (Monaco, Singapore and the Vatican are the completely sovereign city-states; others, such as Hong Kong, act like one but do not have full sovereignty). It is in fact a historical anomaly that so few of us live in city-states.
Clearly, nation-states won’t go down tamely. Carving out a new form of sovereign authority from an existing one is extremely difficult, and is generally frowned upon by the UN. There’s a more prosaic reason too. In 2015, 2.1 million residents of Venice in Italy (89 per cent of those who voted) voted for independence in a non-binding referendum. Residents were annoyed that the city pays $20 billion more in tax than it gets back. But Italy will certainly not let Venice and its $20 billion tax go easily.
This is why some of the more exciting endeavours are about creating new cities entirely. Paul Romer, the chief economist at the World Bank, has long been an advocate of creating more chartered cities, essentially city-scale administrative zones that operate, to some extent, independently. Cities are the right size, he argues. Large enough to try something new, but not too big that all your eggs are in one basket. ‘A rule to create new rules,’ Romer said in a TED talk on the subject in 2009. A chartered city, built on uninhabited land would allow experimentation with new rules and systems to attract investment and people. His particular idea is for nations to work together, like China and the UK over Hong Kong. (Special Economic Zones, which have been around for several years, are similar: essentially geographic areas that are physically secure, and operate different economic laws to the host country, usually to encourage foreign direct investment.)
But even this is not easy, since it would require other countries leasing land, which wouldn’t even be full autonomy. There are some models, though, that don’t even need that.
Out on the swampy Croatian-Serbian border lies the 7 square kilometres of Gornja Siga. Although currently under Croatian control, this small patch of land is technically unclaimed since Croatia and Serbia both believe it belongs to the other. Due to its unusual legal status – terra nullius – this is where Vít Jedlicka, a 32-year-old libertarian from the Czech Republic, is at work trying to create a libertarian city-sized paradise of freedom, trade and prosperity called ‘Liberland’.
Liberland, which is uninhabited but has more than 100,000 online citizens ready to move if Croatia stops blocking inward access, already has the trappings of a city-state. A currency, a constitution, a president and even a football team. Everything has been designed to maximise individual liberty. For a start, anyone can join and leave as they wish. It would be the first state in the world where nothing would be compulsory, where you can do whatever the hell you like, as long as it doesn’t physically harm someone else. ‘It’s a tax heaven, not a tax haven,’ Jedlicka told me recently when I interviewed him for my book Radicals Chasing Utopia (2017). Schools, hospitals, pensions, roads, sewage works, rubbish collection and the rest will be provided by the market, if people decide that’s what they want and stump up the money.
Like most libertarians, Jedlicka loves modern digital technology, seeing it as extremely helpful to the libertarian cause, weakening the nation-states and helping new models such as his. It might seem like a pipe-dream – no other country has recognised this patch of swampland – were it not for the fact that several influential Silicon Valley-type investors share Jedlicka’s libertarian outlook, and are donating to his cause. ‘A completely novel situation,’ wrote the esteemed Chicago Journal of International Law in a detailed examination of Liberland in July 2016, suggesting it had ‘a shot’ at statehood.
In a world of seasteads, if you don’t like your system of government, simply sail off to another one you do like
The problem for Liberland is that the Croatian police could roll in any time they want, which is precisely what they did when I tried to reach the land while writing my book. This is why, as the American libertarian activist Patri Friedman told me recently when we met in Silicon Valley, the next new cities won’t be built on land at all. They will be floating in international waters, beyond the reach of the nation-state and its armies.
In 2008, Patri founded the Seasteading Institute, armed with half a million dollars donated by Peter Thiel, the libertarian billionaire who co-founded PayPal, and a plan to build island cities at sea in an experiment with how to live. ‘[Seasteading] is the market for countries,’ he told me. ‘You can only get so far patching and hacking the old system.’ And in a flourish worthy of his grandfather Milton, he told me that: ‘When you don’t have a start-up sector, existing countries suck … they give you crappy services and no change. You need a start-up sector to threaten them.’ In a world of seasteads, if you don’t like your system of government, it’s simply a matter of sailing off to another one you do like. Just as easy as switching series on Netflix, ordering an Uber, or meeting someone new on Tinder.
Patri thinks every seastead will be different and this will create a market in different types of systems of living that will force everyone to improve performance. Especially if the nation-state starts to crumble. (‘We don’t care if sea levels rise,’ he told me.)
Once again, technology is key: Patri is taking the Silicon Valley mindset and applying it to the nation-state. There are all these things you could now do that didn’t exist when our current system of government was invented, he told me. Constant online direct-democracy voting, building smart-cities, using crypto-currencies. And yet we still use a 19th-century model.
Google ‘Seastead’ and you’ll find fantastical designs of floating metropolises, fantasy worlds designed on laptops. It’s a pipe-dream. Even the Seasteading Institute’s modest target of 150 seasteaders by 2015 was missed.
And yet. This year, Patri together with his institute’s communications director Joe Quirk released an exhaustive book on seasteading, and signed a memorandum of understanding with French Polynesia to create the first semi-autonomous seazone in shallow waters off their coast for the first prototype city at sea. Patri told me that they’re starting to build very soon, and within a couple of years expect to have a few hundred people living on this floating metropolis just off the coast of Tahiti. I asked him if that was a realistic prospect. Of course! he replied. Look at the property prices in San Francisco. If you could live in a completely new country for less, lots of people would. He told me that he has a waiting list ‘of thousands’, and plenty of backers – mostly technology entrepreneurs – who see it as an investment opportunity. ‘These are people who look at a broken system and say: “What if we designed something better?”’
Nation-states are unlikely to collapse overnight. There are no barbarians at the gate. Even Rome did not collapse in a day. But it evolved during a time of industrialisation, centralised ‘command and control’ bureaucracies and national loyalty. Modern technology tends in the opposite direction: it’s distributed, decentralised and uncontrollable. If our political arrangements are a mirror of the modes of production and assumptions of the time, the future doesn’t look rosy for this 19th-century relic. It looks far brighter for the modern, connected, agile city, whether that’s on land, on borders, or out in the ocean. And anyway: doesn’t it pay to have some experiments going on, just in case?
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is director of the Centre for the Analysis of Social Media at the think-tank Demos in London, and has written numerous pamphlets and reports on internet cultures and online privacy. His latest book is Radicals Chasing Utopia (2017).
Junior Faculty Winner. Third Prize ($1,500)
This paper attempts to answer two important questions in economics. First, what virtues are important for promoting economic progress? Second, what is the source of these virtues? To answer these questions, I rely on recent studies suggesting that the virtues of trust, tolerance and respect, individual determination, and obedience are important for understanding how civil society supports prosperity. Specifically, trust, respect, and individual motivation, encourage and support economic freedom, whereas obedience can hinder economic advancement. I also explore competing explanations for the determinants of virtues including religion, the role of government, and the act of economic exchange for civilizing society. My analysis finds support for the latter source.
Keywords: virtues, institutions, development, trust, social capital, culture
The link between economic institutions, such as well-defined and secure property rights and the rule of law, and economic development is well documented in the literature (Montesquieu 1748; Smith 1776; Demsetz 1967; Hayek 1960; Bauer 2000, North 1990, 2005; Keefer and Knack 1997; Rodrik, Subramanian, and Trebbi 2004; Acemoglu and Johnson 2005). North (1990, 2005) argues that institutions provide the rules of the game that structure political, economic, and social interaction. These constraints provide the incentives and information to facilitate production and exchange, investment, technological innovation, and entrepreneurship that is necessary for economic development. The empirical research supports this positive causal relationship between the institutions supporting economic freedom and prosperity (Gwartney, Lawson, and Holcombe 1999; Acemoglu, Johnson, and Robinson 2001, 2002; Cole 2003). Rodrik, Subramanian, and Trebbi (2004) summarize this robust finding as Institutions Rule.
More recently, economists are pinpointing specific institutions that are important for economic development. An outgrowth of this research is to separate institutions into their formal (government provided and enforced) and their informal (privately provided and enforced) components. An emerging result supports the importance of informal constraints in promoting economic development through its effectiveness in defining and enforcing rules that promote secure property rights, exchange, and the observance of contracts (Anderson and Hill 1979; Benson 1989a, 1989b; Greif 1993; Greif, Milgrom, and Weingast 1994; Nenova and Hartford 2004; Acemoglu and Johnson 2005; Leeson 2007a, 2007b; Tabellini 2007; Williamson 2009). These constraints stem from social norms, culture, customs, and traditions. Thus, a societys virtues are at the core of any institutional arrangement and the subsequent incentive and information structure that is formed to guide social and economic behavior.
This paper attempts to understand more specifically the influence that virtues exhibit on economic development. My conjecture is that virtues promote social cooperation by reducing transaction costs and the costs of monitoring, generating commonalities and focal points, and creating broad rules to guide behavior leading to more economic exchange and production, higher investment, and more entrepreneurship. These interactions form the core or institutional glue necessary for the economic institutions supporting a free and prosperous society to be effective. My approach is twofold. I focus on addressing two important questions. First, which virtues promote economic freedom and development? Secondly, can we identify determinants of these specific virtues? To answer these questions, I rely on analysis provided in the economics literature including theoretical, conceptual, and empirical studies. My analysis is a natural extension of the institutional literature and centers on understanding how virtues help to form the necessary constraints that promote economic freedom and development.
Instead of focusing on more traditional virtues such as justice, prudence, and love (see McCloskey 2006) my analysis centers on virtues that are identified in the literature as more relevant for supporting economic exchange and production, entrepreneurial activities, and the provision of public goods. The first three; trust, respect, and individual motivation, are expected to encourage and support market activity and exchange favoring economic development. The fourth virtue, obedience, can create an environment where individuals are less likely to engage in innovative, entrepreneurial activities hindering economic advancement.
Section 2 provides an overview of each virtue in detail explaining how these virtues affect and promote economic exchange and production and thus providing the foundation for freedom. Section 3 explores the second question and attempts to explain possible sources of values, beliefs, and culture. This section addresses several possible explanations in the current literature with particular emphasis on two main sources. Formal institutions and government behavior could determine and affect a societys virtues. One argument is that in the absence of a virtuous society government may be necessary to fill in the void. A second explanation is that government may be the source of the absence. I explore each in detail, finding support for the second argument. In addition, I investigate an alternative hypothesis where engaging in market activity, i.e. trade, may enhance and nurture our virtues. Section 4 concludes with the implications of the analysis.
2. The Four Virtues
Economists since Adam Smith (1759) have studied how attitudes, beliefs, culture, norms, and morality affect economic prosperity. We have a general understanding that virtues are important for supporting social cooperation but pinpointing which ones matter and how they matter has been more elusive. My conjecture is that virtues are important because they promote economic freedom and the supporting institutions that in turn promote economic development. This section attempts to specify which virtues are identified as serving this role.
Currently, the most general attempt to provide an analysis on which virtues are important is found by the recent work on culture and development (Barro and McCleary 2003; Licht, Goldschmidt and Schwartz 2004; Pejovich 2004; Francois, Patrick and Jan Zabojnik 2005; Jones 2006; Tabellini 2007, 2008; Shirley 2008). This work focuses on how different cultural characteristics determine the performance of a society by framing the perceptions of individuals regarding opportunities and alternatives (North 2005). Guiso et al. (2006: 23) defines culture as . . . those customary beliefs and values that ethnic, religious, and social groups transmit fairly unchanged from generation to generation. Starting from this general definition, the literature has focused on several specific indicators, including values, beliefs, trust and respect for others, which are relevant to social and economic interaction.
Drawing from several bodies of literature, I identify four main virtues as being the most important for forming the core of any societys institutional structure that guide economic activities. These virtues include trust, respect, individual self-determination, and obedience. Trust, respect, and individual self-determination encourage social and economic exchange as well as production and entrepreneurship. Obedience negatively impacts economic development by hindering risk taking entrepreneurial activities. Building from this work, trust, respect, individual self-determination, and obedience are four important virtues to be assessed. I provide supporting theoretical and empirical evidence below.
The virtue of trust and its function in a market economy is highlighted by Smith (1759). Smith argues that trust is one of the most important virtues needed to sustain a vibrant exchange economy. Trust and reciprocity are a significant foundation for the roots of any market exchange. Through the process of joint exchange, trade relationships emerge. The process of trade can continue because of the trust relationship established. This relationship promotes increased interaction leading to a further extent of the market. Thus, the Smithian gains from trade are born. Smith also argues that as an economy continues to develop it markets, trustworthiness will become even more important to sustain and promote economic exchange.
Klein (2000) defines trust as a confidence that an individual who makes an agreement will follow through with the terms of the promise. Therefore, all economic activities that require some future involvement will need an element of trust. In fact, it can be argued that every commercial transaction involves some level of trust. Individuals with higher trust societies spend less time diverting resources to protect themselves to avoid being exploited and more time engaging in productive activities. In other words, trust reduces the transactions costs of engaging in market exchange leading to increased market production and more efficient outcomes (Dixit 2004). A lack of trust between individuals creates additional barriers to economic interaction resulting in individuals trading among small networks rather than expanding into anonymous market participation. This discourages innovation, entrepreneurship, and investments in both human and physical capital.
The literature on social capital also highlights the important role that trust can play in encouraging social cooperation. Specifically, the level of trust raises or lowers the productivity of a societys institutions (Coleman 1988; Putnam 1993; and Fukuyama 1996). According to Coleman (1988), social capital is a key productive ingredient for the achievement of certain goals that otherwise would not be attainable. Jacobs (1961) argues that informal networks present in thriving cities depend on a level of trust and reciprocity between traders, shop owners, and the consumers. It is these networks that ultimately create and sustain a successful city. Trust is also needed in situations where interactions are infrequent. This includes settings like local governments provision of public goods, university administration, government bureaucracies, or any large scale organization (La Porta, Lopez-de-Silanes, Shleifer, Vishny 1997).
In higher trust societies, individuals do not need to rely as much on formal institutions to enforce contracts and agreements. This becomes especially important in countries without access to formal legal enforcement mechanisms. By reducing the cost of monitoring and lowering transactions costs, trust can encourage secure property rights (Williamson and Kerekes 2009). Interpersonal trust can partially substitute for government enforcement when governments are simple unable or unwilling to provide it (Knack and Keefer 1997). In addition to possibly substituting for government, social capital may also improve the performance of government by providing additional checks on government self-interest (Putnam 1993).
The role of trust in the empirical literature has become increasingly more important in explaining difference in cross country performance (Knack and Keefer 1997; Woolcock 1998; Francois and Zabojnik 2005; Chan 2007). The existence and evolution of social networks and trust is largely a determinant in a countrys growth rate and their standard of living. Also, trust is shown to promote secure property rights, increase investment, and entrepreneurship. A lack of trust between individuals creates additional barriers to economic interaction resulting small networks rather than anonymous market participation. When individuals do not expand market activity, we do not realize Smiths gains from specialization under the division of labor. In summary, the literature suggests that trust promotes social cooperation and encourages more exchange relationships which translates into higher levels of economic development and growth.
2.3. Individual Self-Determination
Our second virtue captures how individuals make choices regarding their efforts toward succeeding in life. If a person is highly self-motivated then fewer rules are required to persuade that person to better their economic welfare. However, the more lazy a person becomes, it may be necessary to require a different set of rules to motivate that person. This implies that self-determination cannot be assessed without understanding the context behind the choices (section 3 discusses this in more detail below). According to Smith, every individual possess the propensity to truck, barter, and exchange. This natural propensity will determine the extent of economic production and exchange. However, how hard individuals choose to best apply their efforts depends on the return from engaging in certain activities. If it is more profitable to seek opportunities in the marketplace, then individuals will do so promoting economic advancement. Conversely, if individuals view success as a result of external events, they are more likely to have a passive, resigned and lazy attitude towards economic activity. Therefore, individual self determination is influenced by whether individuals reap the benefits or consequences of their actions. This in large part will depend on the institutional environment in which the individual exists.
Individual determination depends on the perception of how actual effort translates into actual success. Individual drive depends on the level of self control individuals believe they have over their life choices. An extension of this argument is that individual choice depends on how much control you feel you have over your life. When individuals think that they have control over their life, they will be more likely to find ways that improve their welfare. The more likely an individual views economic success as being determined ones own will, the more likely these individuals will engage in productive, future oriented activities. These activities include things like hard work, investment in human capital, and undertaking entrepreneurial actions. However, if individuals view the likelihood of succeeding as a product of luck or political connections, they will tend to not engage in productive economic and social activities. Instead, they may choose to channel their activities toward unproductive activities such as rent seeking. This attitude towards economic activity will surely impact economic development in a country (Banfield 1958).
A direct application of this argument can be found in Baumol (1990). He hypothesizes that individuals channel their effort in different directions depending on the type of existing legal, economic, and political institutions. This institutional environment determines the relative payoff to investing in either market, wealth-creating activities or investing entrepreneurial energies into wealth redistribution through unproductive political and legal activities. The incentives provided by the prevailing institutions will determine how individuals pursue entrepreneurship and whether these activities will support high rates of economic growth.
The third virtue, defined as tolerance and respect, distinguishes between generalized versus limited morality. According to Platteau (2000), in hierarchical societies, honesty and norms promoting good conduct are often confined to small networks such as family members or tribal members. It is morally acceptable to engage in highly opportunistic and dishonest behavior outside of the group. Banfield (1958) discovered that in a rural Italian village the principle of good versus evil applied to members within the family only. Principles regarding moral behavior do not apply to outside members. Other societies may develop abstract rules to guide social interactions in a generalized sense in order to promote morality among anonymous members of society. These two distinct types of morality have economic consequences or benefits including the provision of public goods in a local community and the monitoring of political representatives (Banfied 1958; Putnam 1993).
The notion of respect is connected to the concept of trust discussed above. In societies with relatively high levels of social capital, individuals will be more trusting of others who are outside their direct kin and friendship networks. Abstract rules facilitating cooperation among friends and strangers may emerge, increasing the extent of social networks and the market. In contrast, in societies with lower levels of social capital, and hence lower levels of respect, the extent of the market will be limited to close kin and friendship networks. Rules which facilitate the extent of social networks and markets will fail to emerge.
A relevant implication of generalized versus limited morality is that more respectful societies will find it easier to enforce contracts and secure property rights without relying on formal legal enforcement. Thus, individuals will find it more profitable to engage in widespread market exchange and production even when government legal institutions are lacking. Also, more respect can lead to individuals being less likely to free ride off other members within their community. This can help to provide many key public goods such as participation in political activities (Putnam 2000), the provision of roads (Klein 2000), and the monitoring political representatives (Banfield 1958). If individuals lack respect for other members of their community, highly opportunistic behavior will be likely, property rights will be insecure, and public good provision will be inadequate leading to lower levels of economic development.
The fourth and final virtue captures the importance of obedience in a society. This attitude distinguishes between primarily promoting the individual or whether promoting the collective is more significant. Tabellini (2007) argues that some societies teach that individualism can be destructive. This translates into either the state or the parental unit suppressing individual instincts in children. The economic psychology literature indicates that parents play a key role in influencing their childrens locus of control and perception of autonomy which directly influences their likelihood of being entrepreneurial as they grow older (see Harper 2003: 5455). Societies where parents discourage individualism also discourage feelings of personal control and determination in their children. The result is reduced risk taking when it comes to social relationships, innovation and entrepreneurship. This has adverse effects on social and economic development.
A similar argument can be found in Hofstede (2001), where he defines one of five dimensions of culture as individualism versus collectivism. This aspect of culture defines the relationship between the individual and the collectivity that exists within a society. In some societies, individualism is promoted and seen as beneficial whereas in other groups focusing on the individual is seen as selfish and alienating. More traditional societies with a strong hierarchal religious following are more likely to promote the collective over the individual. This relationship not only matters for the way that groups live together, but also affects peoples attitudes, the functioning of institutions, and the structure of social and economic interactions. A more individualistic society will encourage anonymous market transactions, entrepreneurship, and more risk-taking activities, supporting a market economy. However, societies that promote the whole over the individual may suppress social and economic interactions that would be beneficial to the advancement of the group. Empirically, Hofstede verifies that countries with a higher individualism score outperform countries with a higher collectivism score.
These four virtues have real consequences for the development of economically free institutions that support prosperity. The first three virtues; trust, individual determination, and respect all promote and encourage activities such as widespread trade, investment in human and physical capital, and innovation, which support economic development. Our fourth virtue, obedience, or collectivism, hinders the individual from expanding beyond the group and prevents beneficial transactions. These relationships are verified by Tabellini (2007). Utilizing data from the World Values Surveys to identify a corresponding question for each component discussed above, he combines all four traits into one index for each country. Tabellini finds that this index displays a strong positive and significant relationship on economic development. In cross country comparison, a higher index (high levels trust, respect, and determination and low levels of obedience) leads to higher levels of income. His analysis concludes that formally arranged institutions may not be the most important factor for growth because of the role played by these attributes. This supports the argument that the virtues of trust, respect, and individual self determination (and a lack of obedience) are important in providing the foundation for a market economy.
3. Promoting a Virtuous Society
The above section presented four core virtues that are important for creating economic institutions. The next logical step is to ask what promotes and determines these virtues. Recent attempts are made to try and understand what influences culture, values, trust, and social capital. This section summarizes these studies, focusing on two particular themes in the literature. First, what role does the government serve in directing our virtues? Secondly, I focus on how markets affect our virtues with particular emphasis on the role of trade.
Our virtues may not be truly exogenous. Putnam (1993) argues that trust is formed from an extended period of building relationships from commercial and civic activities. These associations are influenced by the type of structures imposed on society. For example, he states that the Catholic Church imposes a hierarchical structure that discourages trust formation. This can be generally applied to all four of our virtues where a hierarchical religion may discourage trust, respect, and individual determination, while promoting obedience. La Porta, Lopez-de-Silanes, Shleifer, and Vishny (1997) empirically find that trust is lower in countries with dominant hierarchical religions. This argument is similar to Webers (1905) thesis. According to Weber, Calvinism (Protestantism) induced individuals to engage in hard work, market exchange, and wealth creation providing the foundation to capitalism. Empirically, his thesis is supported by Grier (1997) who confirms the positive effect of Protestantism on economic performance.
Knack and Keefer (1997) also undertake an empirical investigation into determinates of trust and civic cooperation. They test the effects of group memberships, polarization and inequality, formal institutions, income levels, and education rates. Their results find a positive and significant effect on trust from both income levels and educational attainment. Putnams group membership does not display a significant effect on the level of trust, whereas income inequality does contribute to lower levels of trust and norms. As ethnic homogeneity increases, so does the level of trust within a country. The formal measure of institutions, Polity IVs Constraints on the Executive is positively and significantly impacting trust. This result suggests that formal institutional rules preventing arbitrary acts from the government is an important influence on a societys morals, norms, and virtues. This last finding highlights an important area that needs further exploration: how does the government influence our virtues?
3.1. The Role of Government
The relationship between formal institutions and virtues is complex, with each influencing one another, suggesting that virtues may not be completely exogenous. This sub-section attempts to understand this relationship in more detail.
In the absence of a virtuous society, it may be necessary for government to take a more active role in creating and sustaining rules and regulations to support economic growth. The operation of a market economy depends on the ability for individuals to develop relationships built on trust. In order for people to enter into contracts and engage in exchange, some element of trust must be present. However, when these virtues are not present, government may find it beneficial to establish more rules to govern our lives.
While this argument may seem plausible on the surface, a deeper analysis suggests that governments are often a source of extortion and interference rather than a productive unit providing necessary rules to promote increased market interactions. Governments do not always make decisions based on public interest, but often choose polices more in line with politicians interests and that of special interest groups. When governments behave in such predatory behavior, individuals living under those rules may begin to alter their views, culture, and values. As such, the informal rules guiding social and economic interactions may begin to break down. For example, governments may have written formal political constraints, such as a constitutional rule preventing public expropriation of private property. However, if officials fail to actually abide by these institutional rules, different informal beliefs and customs, such as lower levels of trust among individuals, may start being adopted.
As a consequence, societies may become more corrupt due to government actions and regulations. For example, Garrett and Sobel (2003) illustrate how political favoritism and pressures play a significant role in government natural disaster relief efforts and financial support. In a follow-up study, Leeson and Sobel (2008) contribute part of U.S. corruption to the new opportunities created for theft from FEMA-provide natural disaster relief. This argument is a similar result emerging from the literature examining the effects of foreign aid on the government quality. Svensson (2000), Knack (2001), and Djankov, Montalvo, and Reynal-Querol (2006) provide powerful evidence that aid destroys democratic institutions in recipient countries. According to this argument, foreign aid shifts the incentives away from productive behavior to unproductive activities such as rent-seeking, political corruption, bribery, and political fighting. The result is a deterioration of democratic and economic institutions including a societys norms, values, and culture that guide everyday interactions.
Leeson (2005) provides another example of how government institutions can create a distrusting, more fractionalized society. He explains how the imposition of formal institutions not in line with informal norms and values in pre-colonial Africa resulted in a fractionalized continent. Colonial institutions created noise in pre-established signaling devices, inhibiting widespread cooperation and eliminating any economic and cultural benefits from widespread exchange. By stifling trade between diverse groups, formal, colonial institutions caused groups to have a lower tolerance for other tribes, lowering the amount of trust and respect between groups, and contributing to Africas poor economic growth.
Meadowcroft and Pennington (2007) provide an explanation as to how governments may do more harm than good when trying to supply virtues. The development of bridging social capital requires a level of generalized trust between parties. This code of conduct will be built from a common set of morals, generating a higher level tolerance and respect for other individuals who may be very different from oneself. This emerges as a result of many social and economic interactions where individuals find it in their self-interest to figure out ways to cooperate with each other. If government attempts to step in and provide and enforce a common set of goals, this more than likely will lead to conflict and social disintegration as government typically does not have the right incentives or the necessary information to supply generalized rules. Instead of providing and enforcing abstract rules that apply to everyone, governments typically fall prey to political interests where rules targeted at specific groups and specific ends are more likely to materialize.
For example, McChesney (1990) highlights what can happen when government uses its powers to regulate specific groups. From 1887 to 1934 the U.S. government chose to allocate Indian rights to reservation land based on a large complex system that defined land inefficiently in order to maximize bureaucrats budgets. The beneficiary from both the process of privatization and the end of privatization was not the Indians; it was government politicians. The result of taking informal land rights and creating a formal land structure did not enhance social welfare but political welfare. The implications of such policies will more than likely have lasting effects on Indian attitudes and belief systems complicating future transactions.
In summary, the governments attempt to provide social capital, morality, and virtues will more than likely lead to the destruction of a virtuous society instead of the creation of one. Even if a societys virtues are not at its optimal level, the state having the correct incentives and adequate information to fill in this gap is highly unlikely. The governments ability to culturally plan will fail on the same grounds as economic planning. A governments productive role in enhancing society is based on providing fundamental institutions and limiting regulations and interventions in a market economy allowing civil society to evolve on its own.
3.2. The Role of Free Trade
The crossroads of trade are the meeting place of ideas, the attrition ground of rival customs and beliefs; diversities beget conflict, comparison, thought; superstitions cancel one another, and reason begins.
Will Durant, The Life of Greece
Instead of emphasizing how governments can culturally plan and build our social capital, in this section, I argue that we should focus on another avenue for positively enhancing our virtues. This avenue is one of participation in production, exchange, and trade relationships. While some critics argue that it is actually the market that erodes our morals (for example see Plant 1999), this section focuses on how engaging in market transactions increases our tolerance for others, builds trust and respect, and enhances other virtuous attributes. In addition to the gains associated with economic exchange, the exchange of ideas has the impact of shaping values, perceptions, and beliefs of those participating in these interactions. These changes in values subsequently impact the evolution of social and economic interactions. In other words, a market economy not only provides economic benefits but it actually creates a more civilized society.
Hayek argues that one of the most important components to civil society is participation in markets. The exchange order, or the catallaxy, means to bring a stranger into friendship. Through the process of exchanging, individuals learn how to communicate, cooperate, and trust one another. As the economy moves from small group interaction to one built on anonymous market participation, a society also transitions from uncivilized to a civilized society. Bauer explicitly makes this argument where the process from a subsistence economy into an exchange economy creates not only wealth enhancing opportunities but also a transformation of traditions, norms, and values.
Whereas Putnam views the market as undermining civil society, Hume and Smith state that commerce will be a civilizing force contributing to social cooperation. Market interactions are based on general rules that reward productive, cooperating individuals and punish those who engage in predatory behavior. Our interactions in the marketplace teach us habits and values, such as hard work and honesty. Trade not only provides economic benefits through specialization and the division of labor, but it also provides us with cultural benefits. Trade leads to new opportunities for interaction and increases the market for ideas, beliefs and values. Through market participation, individuals gain exposure to knowledge, innovation, and alternative ways of life. This allows for cultural and institutional competition, experimentation, and evolution.
McCloskey (2006) contends that markets and exchange nourish and cultivate individual character, virtues, and ethics for the better. Most critiques of capitalism attack it on a moral basis arguing that markets alienate us from one another and destroys the communal spirit. McCloskey argues the exact opposite. Specifically, the values created from an exchange economy not only serve as a vehicle for material progress but also as a medium for human flourishing. She explicitly argues that participation in capitalist bourgeois virtues has civilized the world (26). She notes that markets are frequently an occasion for virtue, an expression of solidarity across gender, social class and ethnicity (4). In short, capitalism is good for the soul.
In terms of the social capital literature (Meadowcroft and Pennington 2007), global expansion of markets has allowed communities that have little in common to become connected by trade, thus leading to the development of a more inclusive bridging social capital. In addition, a market based economy can support both bonding and bridging capital further reducing transactions costs. People involved in such trading relationships must obey a set of moral rules even though they may have little in else in common.
Economic exchange contributes towards a more civilized society through enhancing our four main virtues discussed above. For example, trade provides individuals with new alternatives and opportunities. Therefore it is a way of increasing self-autonomy and locus of control, decreasing the level of obedience while increasing individual self-determination. The market increases the choice set facing individuals, giving them increased control over their lives and empowering individuals. A related benefit of economic exchange interactions is that integration reduces transaction and information costs. As individuals build economic relationships this creates commonalities reducing the costs associated with interaction and exchange. These reduced transaction costs lead to increased interaction, fostering trust and respect, contributing to the growth of social networks and the extent of the market. In addition, as trade networks evolve, abstract rules and expectations governing interaction and cooperation emerge. These general rules may begin to displace the insider-outsider mentality fostering a more generalized morality and increasing the level of respect.
Cowen (2002) captures the essence of this view when he notes that individuals engaged in exchange . . . expect those transactions to make them better off, to enrich their cultural lives, and to increase their menu of choices (12). His claim is not that values are never eroded due to economic exchange, but rather that the process of creative destruction serves to have the overall effect of enhancing our attitudes, cultures, and virtues. Stated differently, economic exchange and development have real effects on a countrys culture, and on net those effects are beneficial. According to Cowen, economic exchange has both negative and positive spillovers on the non-economic aspects of a society, including values due to the exposure to new ideas, values, and beliefs. However, overall, he still views trade as a mechanism contributing to cultural enrichment.
In summary, in addition to increases in material wealth, access to markets and economic exchange provides individuals with the potential to foster and influence other aspects of society. As individual participate in anonymous market transactions and engage in exchange, they build relationships which in turn expose individuals to new knowledge, ideas, values, cultures, and virtues. These include trust, respect, hard work, and honesty. As a result, transactions costs are reduced, commonalities are created, and social cooperation is encouraged and sustained.
4. Concluding Remarks
The Institutions Rule literature provides a framework for understanding how the rules of the game matter significantly for promoting economic development. In this paper, I present an argument where virtues play an important role in structuring and forming any institutional arrangement. A societys ideas, beliefs, morals, and culture structure everyday social and economic interactions. These interactions cultivate general rules promoting social cooperation by reducing transactions costs, generating commonalities and focal points leading to more economic exchange and production, higher investment, and more entrepreneurship. Therefore, virtues provide the foundation for economic freedom and development.
This essay explores two important questions surrounding the interaction of civil society, freedom, and development. In particular, I attempt to specify particular virtues which are important for economic exchange and prosperity as well as explore potential sources of these virtues. Instead of focusing on more traditional virtues such as justice and love, my analysis centers on virtues that are more relevant for supporting economic exchange and production. Trust, respect, and individual motivation encourage and support market activity and exchange favoring economic development, whereas obedience or collectivism leads to individuals not engaging in innovative, entrepreneurial activities.
These virtues do not emerge in a black box. A societys morals are context dependent indicating that individuals attitudes and beliefs will respond to the institutional environment that they operate in. Particularly, individuals respond to formal rules and government behavior. My analysis indicates that governments attempt to provide social capital, morality, and virtues will more than likely lead to the destruction of a virtuous society instead of the creation of one. A governments productive role in enhancing society is based on providing fundamental institutions and limiting regulations and interventions in a market economy allowing civil society to evolve on its own.
Virtuous behavior will spontaneously arise because individuals will find it is their self-interest to discover ways of cooperating with one another. In a commercial society where individuals are engaging in economic exchange, the exchange of ideas, knowledge and values will also result. During this process, relationships based on abstract rules, higher trust and respect, and a greater sense of self will emerge. In other words, a market economy not only provides economic benefits but it actually creates a more civilized society. The invisible hand of competitive markets not only guides economic exchange leading to the improvement of goods and services; it also provides the incentives for cultural exchange and improvement promoting a more virtuous and free society.
 See Boettke, Coyne, and Leeson (2008).
 I recognize that these are not the only important virtues for a society; however, they are the most heavily discussed throughout the economics literature.
 Banfield (1958) contrasts a rural village in Southern Italy with rural communities in the U.S. He found that the Italian peasants had developed a sense of helplessness, while the rural Americans seemed individually motivated.
 This virtue highlights the feedback process between individual attitude and beliefs and government provided institutions. This relationship will be further discussed in section 3.
 Baumols theory is empirically supported by Sobel (2008).
 This is achieved by summing trust, control, and respect, and subtracting the obedience score This comprehensive measure is converted to a relative scale ranging from 0 to 10, with 10 representing the country with the strongest culture conducive to economic development and 0 representing the country with the weakest culture that encourage economic progress. Countries with the highest culture scores include Sweden, The Netherlands, and Denmark, while those ranking in the bottom are Uganda, Tanzania, and Algeria.
 Williamson and Kerekes (2009) find that Tabellinis culture measure is one of the most significant factors in explaining the security of private property across countries.
 Similar work on civil institutions supports the positive and significant relationship between economic freedom and development (see Knack and Keefer 1995, for example).
 Hierarchical religions included Catholicism, Eastern Orthodox, and Muslim.
 Ricketts (2000) attributes the decline of reputational mechanisms and ethos in the financial sector to an increase in government regulation. As government has taken over regulation of lending practices, lending institutions do not have the incentive to compete on character and reputation leading to a decline in corporate responsibility.
 Openness to trade has impacted culture for centuries. In his detailed history of trade, Bernstein (2008) traces the non-economic influences of trade to ancient Mesopotamia.
 To illuminate this point, consider the markets that developed in Antwerp and Amsterdam in the late 17th and early 18th centuries. While there were thriving markets in economic goods such as herring, salts, spices and wool, there was also a flourishing exchange of published materials containing ideas regarding free and critical thought, as well alternative religious views (Bernstein 2008).
 Empirically, this relationship is explored by Coyne and Williamson (2009). This study supports the conclusion that trade openness is a determinant of culture beneficial for economic development.
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|Claudia Williamson, Ph.D., is Assistant Professor in the Department of Economics at Appalachian State University and a Postdoctoral Fellow at the Development Research Institute (DRI) of New York University. She won third prize in the junior faculty division of the 2009 Sir John M. Templeton Fellowships Essay Contest.|