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Institutionalized Trust

Jul 24, 2010 • Economic History, Economic Thinkers, Macroeconomic Measurement, Thinking Economically • 169 Views    No Comments

The production path of a pair of Levi’s stonewashed 501 jeans could have started in a Mississippi Delta cotton farm, continued with a North Carolina fabric weaver, and included the Dominican Republic and Haiti for cutting, sewing, and finishing. Then, the jeans would have returned to the U.S. to one of countless retail outlets, to a consumer, and maybe even to a recycled life afterwards in some other country.

Commenting on these “production paths” economist Tim Harford  says they ultimately lead to economic growth but only if the path is preserved by trust. The trust he refers to is primarily an institutionalized trust. We “trust” that money will have a certain value. We “trust” that a contract will be enforced. We “trust” transactions that involve Visa and American Express. We “trust” that we will receive a package that we order from Amazon.

Correspondingly, in economies where corruption and bribery abound, economic development is constrained. Explaining why Haiti has made little progress rebuilding its main harbor, the Miami Herald points out that the project is “mired in cronyism, waste, scandal, and inertia. They could also have said that there was no institutional trust.   

The Economic Lesson

Secretary of the Treasury Alexander Hamilton realized that the sanctity of contracts was essential for U.S. economic development. As a result, when he had to decide who owned Revolutionary War bonds, the benevolent patriots who had sold the bonds at a discount or the ruthless speculators who bought them, he chose the speculators. Why? Government has to enforce a legal contract. A nation has to have “institutional trust.”

Contemporary economists have researched the role of trust in the market system. You might want to look at “Adam Smith’s Essentials: On Trust, Faith, and Free Markets,” and “Trust and Growth“. 

 

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