Nobel signals

Nobel signals

2018 economics prize highlights critical roles of technology and pollution in growth.

The Nobel prize for economics in 2018 was awarded to Paul Romer and William Nordhaus for their work in two separate areas: economic growth and environmental economics respectively. But there is a common thread in their work. Productive activity often has spillovers, meaning that it can impact an unrelated party. In economic jargon it’s termed an externality. Romer and Nordhaus both studied the impact of externalities and came up with profound insights and economic models. Among recent economics Nobels, it’s hard to think of one more topical and relevant to India.

Economic growth has often been associated with large environmental damage in the form of pollution and environmental degradation. This is unsustainable for a variety of reasons, including social friction triggered by people protesting the costs they are forced to incur on account of externalities. Romer’s work highlighted the power of ideas in achieving growth while limiting environmental cost. These ideas are given life by improved technology. To illustrate, India’s high growth phase has been accompanied by lower energy use per unit GDP because of access to better technology. The key policy question here is, what is the best way to unlock a society’s wellspring of creativity?

The issue was highlighted in the latest report of the UN’s Intergovernmental Panel on Climate Change (IPCC), released this Monday. Its contents are alarming for India as agriculture may be significantly impacted even by a 1.5°C increase in average global temperature. Tackling it requires meeting two challenges. One, to get global coordination as this externality is not limited to national boundaries. Two, gauging the extent of trade-off between economic activity and environmental goals. Nordhaus is an advocate of carbon taxes, which means the emitter should incur the social cost.

If there is a lesson for India’s policy making in their work, it is that sustainable prosperity is possible only when we massively enhance the quality of human capital and policy making. It’s schools and universities which determine a country’s long-run economic trajectory. They are incubators of ideas which can be the most important positive externality. Moreover, policy making must evaluate tradeoffs more holistically. For example, ethanol blended petrol may save a bit of foreign exchange. But what will it do to food production or our fast depleting water tables? Assessing externalities is therefore at the heart of successful policy.