293. A Nobel Prize winning view on wealth inequality

0:00Donald Trump put his name on the Kennedy Center. So it's the Kennedy, Trump and Kennedy Center or vice versa. And a court just ruled that he had to take his name down. So they took it down as far as everyone can see, but they put a big tarpaulin over it so you can't see that it's been taken down. Historically in the U.S. there have been some big confrontations over power. The system had become too slanted in favor of oligarchs, people who got their money from business and put that into politics and made themselves into leading political figures. So I would worry globally, Robert, about these U.S.

0:29giants becoming so powerful and outrunning everyone except maybe the Chinese. Have we ever seen anything quite so powerful, quite so global and so adept at taking value from other places? I don't think we have. I think we're in a new era now.

0:43Steph McGovern:Do you think then wealth taxes, for example, are a good idea? Like how do we redistribute wealth more fairly? So I think wealth taxes will be part of it, Steph. So the fact of the matter is that if you're sufficiently rich, you don't pay much tax. Support for this episode comes from Octopus Energy and the founder and CEO Greg Jackson is with us now. So, Greg, talk to me about Kraken. What is it and why is it spinning off from Octopus Energy? When we built Octopus, we also built a software platform like an operating system like iOS or Android on your phone to enable energy companies, utilities, starting with Octopus, but frankly, anyone in the world, to be much more efficient, to use vast amounts of data, to be able to become more innovative and to serve their customers better.

1:35That piece of software is Kraken. We've used it not only for Octopus, but companies in the UK like EDF

1:41Steph McGovern:and Eon have used it to improve their business too. But you know what? It turns out over time, companies realized that they were licensing from a competitor. And so we've had to spin it off so it can reach its full potential. Yeah, makes sense, Craig. Thank you. Right, we're going to go to the episode. This episode is brought to you by Google Chrome. You think you know a browser, but Gemini and Chrome, that's new. It can help you with practically anything on the web, like restoring a vintage motorcycle from a 50-page restoration block, or finally break down that long article you've had open for weeks.

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3:03Robert Colvile:Hello and welcome to The Rest is Money with me, Robert Paston.

3:06Steph McGovern:And me, Steph McGovern. Now, what we want to talk about today is why, when ideas and money and people can flow freely around the world, are we not all rich? Well, with us today, we've got the guy who got a Nobel Prize in economics for answering that question. And when it comes to economists, CVs don't get much better than Simon Johnson's. He's a professor of entrepreneurship at MIT. He's a former chief economist at the International Monetary Fund. He's currently advising the UK government on AI. And on top of all of that, he is from Sheffield. He's a northerner. And so Simon is someone who you and I, Robert, have followed his work for many years.

3:50Steph McGovern:So we were kind of desperate to get him on to chat about it all.

3:53Robert Colvile:Yeah, well, obviously, I love it when you make common calls with another northerner, even though traditionally there's not been that much love lost between Middlesbrough and Sheffield. But anyway, I guess any alliance against a terrible Londoner like me is to be welcome for you. Listen, he is going to answer, we hope, one of the big questions we constantly talk about, why some countries perform better than others. And this is one of two gripping conversations that we're having.

4:19Steph McGovern:So here's our interview with Simon Johnson. Simon, it's an absolute treat to have you on the podcast. We've got loads to ask you about. The thing I'd like to start with is your fascinating research, which led to you being a recipient of the Nobel Prize in Economics in 2024. and this work around looking at how the formation of institutions in history impacted the prosperity of the countries, all depending on whether these institutions were essentially any good or not, and then kind of what that means about where we are now. I mean, it's totally fascinating. So can you just, first of all, give us a flavour of the research you did and what you found from it?

5:02First of all, Steph, that's a great summary of the research right there. Yes. So a lot of people had become interested in institutions in the 1990s, including because of what had happened in the former communist world, for example. Issues of corruption, issues of governance and so on were absolutely the forefront. And we thought it would be good to look into history and go back and see where did these institutions come from. And we spotted something very interesting in colonial history. So obviously, Europeans didn't take over all of the world, but they almost did. And they did quite different things in different places.

5:38In fact, the British, not to pick on anyone, but the British generate a lot of the data here. They did remarkably different things in terms of the rules of the game they set up, for example, in North America versus West Africa. And the main reason, Steph, was in North America, the Europeans, after some difficult early years, figured, oh, this would be a good place to bring more Europeans. But we can only get Europeans to come here if we offer them rules of the game that are at least as fair as in the UK and other parts of Europe, maybe a bit better, actually, for ordinary people. West Africa, they did actually try to bring Europeans early on.

6:10It was a complete disaster because the disease environment in West Africa was, and actually is, highly unfavorable to people who were born in Europe. A lot of malaria, a lot of yellow fever. So the Europeans gave up on trying to settle there themselves and unfortunately, obviously built a pretty substantial empire at the heart of which was extraction of gold, extraction of other minerals and of course the slave trade. Now, when you're running the slave trade, you want to have decent enough protection for your own merchants and you could do that with some guns in a fort and you don't really care about local institutions.

6:41In fact, you may favor the local institutions that are what we call extractive of local people. So there we have, within the British Empire, and the same, almost essentially the same people making these decisions, very different outcomes for initial institutions based on what the preferences and the strategy was for colonization. And we then argued and established, hopefully beyond a reasonable doubt, that a lot of those early institutions set up 200, 400 years ago have persisted through the modern time. They're not exactly the same. Obviously, things change over centuries. But there's a lot of the way these countries are run today that you can trace back to those early colonial arrangements.

7:22And that has a huge impact, a first order impact on productivity, on income per capita, and on everything else you care about and how economies operate today.

7:30Robert Colvile:And so if you are West African, and this is an appallingly difficult question to answer because it requires all sorts of counterfactuals, but is it just straightforwardly the case that our kind of colonialism was just catastrophically bad for them? Yes, I think that's probably a fair way to put it, Robert. I don't think it's actually that complicated. There is at least one place, Botswana, that we've studied where the Europeans had very little impact because, well, they couldn't be bothered to go there. They didn't think there was anything valuable. Botswana is better off. Botswana is obviously in Southern Africa, not West Africa.

8:07Botswana is better off than other countries around them and countries that have similar endowments of minerals and diamonds in the case of Botswana and so on. So yes, I think there is a bit of an edge or a presumption, a reasonable view that Africa would have done better, much of Africa would have done better if the Europeans had never got their hands on it. Actually, of course, they didn't initially own and control Africa, but they influenced it through the slave trade, which was even more pernicious.

8:31Steph McGovern:So just to understand this then, Simon, so what you're saying is there's an element of chance to this in that in North America, when the Europeans turned up there, the climate, the environment was rich for them to want to stay there because, you know, as you say, there wasn't the same danger as there was going to West Africa, where there was high disease and therefore high fatalities. So is it as simple as that's the reason why the institutions were built better in North America than they were in West Africa, because of health reasons, because of the element of danger? Yeah, I think that's a big part of the story, Steph.

9:13But remember, it's the health of the Europeans. So the Europeans didn't care about local health conditions for locals. And in Africa, where malaria was endemic, a lot of people had got natural immunity or acquired immunity from having malaria when they were young. There was a high death rate for children, but there was a high death rate for children in Europe as well. The question was when adult Europeans showed up, if you took a thousand adult Europeans to North America, let's say in 1700, about 15 of them would die in the first year or two, 15 per year of local diseases. And that's actually about the same as in Europe.

9:50If you took the same thousand Europeans to West Africa in 1700 or 1800, about 500 of them would die in the first year, another 250 in the second year. And quite soon, you'd be down to very few people. In fact, there were multiple efforts to settle, take Europeans to West Africa that collapsed completely. And if you look at the record of expeditions where they tried quite carefully to explore the rivers in West Africa, they would come back and they would take 48 people and come back with two. So it was appallingly high death rates for the time for the Europeans. Those were not the local death rates, Steph.

10:23So yes, it was the, if you like, the luck or the unluck of when Europeans showed up before modern medicine, what were the health conditions for adult Europeans.

10:31Steph McGovern:And just to add to that then, So that meant that impacted how committed they were to a place and therefore how much they wanted to set up institutions that would help govern the rules for them being there as well. So because it was more dangerous, they just wanted to get in and out and extract the wealth from it rather than settling there and having more of a commitment to the place. Well, let's be careful. They did have a commitment, but the commitment was on a different basis. So think about West Indies, for example. The saying in the 1700s was, you know, you've got to get in and out, make your money in seven years, because it wasn't as unhealthy as West Africa, but it was pretty unhealthy for Europeans.

11:09So they were committed to slave plantations, right? It was primarily sugar, where the big money was, a place like Barbados, for example. The strategy was not to bring more Europeans. The strategy was either to exploit locals in West Africa or bring slaves over, which, of course, was the strategy in the West Indies. And the slaves died at very high rates, but the Europeans were not bothered by that, obviously. They didn't care. So it's very much about commitment to which strategy. Which strategy did the Europeans choose to pursue for their own self-interest?

11:40Robert Colvile:I mean, I think, you know, obviously there are sort of there's one qualification I would assume you would make. And there's also actually a sort of question that's begged here, which I want to talk to you about. I mean, one is obviously if you are an indigenous American, a Native American or an indigenous Australian, you're probably not going to think that colonialism did you any great favours. even if Australia and America today are much more prosperous than much of West Africa. I suppose the question I had is, democracy seems to me to be a possible shorthand, but a rather misleading shorthand in the sense that, I mean, if I look at a country like Singapore, which has seen extraordinary rises in shared prosperity, How important is democracy when it comes to the kind of prosperity that we want to see within our nations?

12:40Well, you actually made two points there, but let me take them separately because they're both important. The first is on the caveat. Yes, you're absolutely right that indigenous people were not treated well in North America, Australia or other places. They were pushed aside. They also suffered from the diseases the Europeans brought. I think everybody's heard about the impact of smallpox, for example. And there are many tragedies that happened with long lasting impacts, including on the lives of people descended from indigenous Americans, Native Americans today. But in addition to that, Robert, I would want to emphasize that slavery in the United States is a very strong counter to the idea that somehow the U.S.

13:22got only good institutions and was only fair for everybody and so on and so forth. It was for the Europeans who were, you know, almost entirely white Europeans. That was the setup. That was who they were trying to bring over. And of course, many of them would come with no money. The Irish who came after the potato famine, the Italians who came later in the 19th century, but they were eventually able to establish themselves with more or less equal rights with other white people who'd arrived earlier. For slaves and former slaves, it has been a lot more difficult for reasons you understand. And of course, what's interesting and important and terrible is that even after the end of slavery, a lot of the mechanisms of oppression for black people in many American states, including the Deep South, persisted.

14:06So this is a big part of our point, which is there is long lasting effects of early institutions, including oppression of local people when you arrive, but also the slaves that you brought. And it's a big fight to get out of that. And that leads me to the second question, which is what's the role of democracy? Now, I was actually in Hong Kong recently, Robert, as you can imagine, the same question comes up in Hong Kong, talking about China. And I think, and of course, Hong Kong's history grabs everyone's attention along with Singapore, because these are places that are not primarily European. And the strategy was not to bring so many Europeans there, but it was to build up a merchant class and it was to build up a hub of prosperity.

14:41And that prosperity was actually shared with local people and local merchants rose up. But the key point about British governance, which was not perfect in Hong Kong, and the governance now is, do you have the rule of law? Equal treatment before the law, equal enough. Do you have corruption under control? What people regard as being fair and legitimate governance. I don't think Hong Kong or Singapore will be regarded as democracy in a Western sense. But, and I do think Singapore is quite an extraordinary place, very unusual, and other attempts to do this, to build something like that, have not been quite so successful.

15:12from the long-term historical record, Robert, most authoritarian regimes, I mean, you can have good authoritarian rulers, you can have authoritarian rulers who are very generous, they're very fair to people and so on, but either they get old or they get cranky or the next one is not quite so inspired or they start fighting among themselves. So actually this liberal Western democracy model, which I understand is, you know, gets plenty of, has attracted plenty of complaints over the years and is not everybody's favorite at the moment, but it's actually got real strong, lasting power to deliver what you care about, which is the rule of law and opportunities for entrepreneurs, enough competition, protection for property rights and so on.

15:47So as long as your democracy can continue to deliver prosperity, which is a key part about, I think, our modern issues, I think democracy is the winner. But there's a lot of variation, different types of democracy. The French version and the British versions are different. Can you become prosperous without democracy? Yeah, I think to some extent you can if you fix the economic institutions and if you can can keep those stable and favouring prosperity. But that's hard if it's not in a proper democratic framework.

16:14Steph McGovern:So on that point about fixing the economic institutions, you talked about the persistence and this inequality, this continued inequality driven by this lack of change. Is that because these bad institutions, which are extractive, are benefiting the rich and powerful in those countries and therefore they don't want them to change? Or is it just because it's really difficult to change them because they've been around so long? Well, a bit of both, I'd say, Steph. So let me talk about a West Indian island, but I won't name it because I don't want to anybody in particular get upset. So on this island, there was a lot of slavery, there were sugar plantations, and there were rich people as a result.

16:54And then when the country ended slavery, a lot of the distribution of wealth remained. And when it became independent, of course, that fed through into the political system. So the economic power that arises from money and wealth is part of the persistence mechanism, Steph. Now, of course, there are accommodations, including with people who get elected. And it's not the same situation in this island today as it was in 1950, let alone 1850. But the fact is that the same families, actually, if you can trace it back, the same families are substantially in control of the island and making the big decisions on the island, as was the case during slavery.

17:37Steph McGovern:Simon, there's loads we want to talk to you about, what this means for us, what we can take away from all of this. But let's go to a quick break.

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