Open and Closed: Is the US Economy a Good Model for New Zealand?

Listener 25 April, 1998.

Keywords: Globalisation & Trade; Growth & Innovation; History of Ideas, Methodology & Philosophy;

Numerous readers have asked me to reply to Debasis Bandyopadnyay’s review of my In Stormy Seas: the Post-War New Zealand Economy (7 March 1998). I do not think that quite appropriate, especially since dealing with the review’s errors and misunderstandings would be tedious to the reader. But he raised one issue so central to the economic debate, that it is useful to address it here. The review argued I was unaware of some of the current fashionable theories of the supply-side of economic growth. It did not say that I gave a quite different account of the growth process, based on the external demand side.

The difference arises from whether one treats the growth process as occurring in a “closed” or “open” economy. A closed economy is one which has no significant external sector, and where international trade and capital flows do not have a crucial role in the economy’s performance. The world is a closed economy, and the US economy is almost one (being so large that there are strong feedbacks as its external sector impacts on the rest of the world). New Zealand is an open economy. Not only is its external sector important, but it has little influence anywhere else.

So American economists study the growth process in closed economies. In any case the theory is easier. Elsewhere we have to deal with the more difficult open economy case. In addition to the influences that affect a closed economy, a small open multi-sectoral economy such as New Zealand is continually impacted by external shocks. The book likens it to a ship in stormy seas, battered by the wind and the waves.

It is said the external shocks of open growth are transitory. However, as the book shows, this transition can be a very long period – over a couple of decades, five times longer than the reviewer has been in New Zealand. As Keynes remarked “economists set themselves too easy a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat”.

Because of the wide range of audiences I was writing for, I chose not to emphasize the various theoretical contributions to the book. But they are there, and evident to the careful economics reader. For instance, some of my analysis of how an open economy responds to terms of trade shocks uses work for which US economists Mankiw and Romer are noted. I mention them because the reviewer, overlooking the underlying theoretical model, accused me of ignoring their work.

This reflects a problem deep within the New Zealand economic academy. Many of its members are trained in the US, and are only conversant with the analysis of a closed economy. They seem unable to adapt to an open economy, an attitude they pass on to their New Zealand students. Released into the real world of policy advice, the students apply the closed economy models to New Zealand.

The uncritical pro-American stance of the US trained can be astonishing. Bandyopadnyay accused me of not using the University of Pennsylvania “Pen World tables” as a database. He did not say I used the official OECD database, which would be normal for anyone who was not bedazzled with the US. (The Pen World tables rely on the OECD database and vice versa, so the reviewer’s point is invalid anyway.)

It is foolish to try to force the New Zealand economy into the same mould as the US one, in a strange belief that the US is a generic model of the ideal economy. That does not mean we should ignore US economics. But a reviewer mentioning only some modern US economists, misses the central point that New Zealand is open to the world.


On Footnotes

If “scholarship is plagiarism redeemed by footnotes”, Anthony Grafton’s much acclaimed recently published The Footnote: A Curious History is a major work of intellectual history. (One reviewer showed off with half his text as footnotes.) In contrast a colleague who moved from the academy to the bureaucracy complained he was no longer allowed to use notes and citations. But while they may seem pedantic, they provide a disciplining effect, which might perhaps reduce some of the policy mistakes.

Earlier versions of In Stormy Seas had both footnotes and endnotes, the former for the general reader, the latter for the specialist. But as the size of the text was halved, they were combined and pruned into endnotes. Bandyopadnyay’s complaint that I cited the omitted material in un-refereed publications is odd, since they are the worksheets for specialists to lok at. (However much of the material had been previously presented in a variety of learned publications.)

Alas the footnote is dying, being replaced by the endnote, as a consequence of modern typesetting practices. The page becomes drearier. Harold Wilson, British economist and former prime minister, said that he opened Karl Marx’s Das Kapital at a page where the footnote was larger than the text, and promptly closed it again, never to read the work. The course of British history may have rested on that footnote.