 Thank you very much Betty Haroon Ernest all of you and wider for this invitation When Betty just introduced me people usually when they say he was the chief economic advisor to the Indian government There's a bit of a silence after that because it's the Indian government that fell in the elections Very badly very recently. So that was the outgoing government with which I was the chief economic advisor I have to thank Finn and Tony for this invitation as well I've had the long-standing association with wider and with Helsinki and with Finn actually even before that from his Copenhagen days and we've met up in different places in the world So thank you very much for the invitation and as was rightly pointed out an Invitation in a lovely city and a country like this makes it doubly attractive to be here And I should also say from the organization that I come from the World Bank and from wider That to me in today's world. This is very important a bit of a global identity of people across different nationalities Races religions to work together is a critical factor in hope for the world and I'm glad again seeing the Range of countries from which people have come that this work is going on well and congratulations again wider for doing this There is also the Central Institute of Economic Management in Hanoi I can't say I've had long-standing experience with them today is my first sort of association with them But thank you once again for contributing to today's effort Do start with an experiment Take China Take China's political system what it is The size of the government which is very big the power of the government. It's a very powerful government Lot of China's output comes out of state-owned enterprises keep all that constant and do an experiment and say that China was an economic failure China grows every year by 1% 2% per annum poverty is very high Life expectancy is low. It's economy failed. I can assure you Economists would say that we could have predicted that putting the two together Take India now go to India in the say 70s and 80s In many ways India's actually government was rarely to be seen in many areas The market was rampant You could buy not only goods and services, but you could also buy a driving license if you were in a hurry It was the model of everything being on the market The Indian economy grew very poorly till the early 1990s If the Indian Indian economy with that kind of full market freedom Had high growth. I can again assure you economists would say that we could have told you from our textbooks That would happen Fact that economics gets this wrong alerts you to The need to broaden the subject broaden our minds and in particular to me It is important to realize that we will not get an overarching explanation of economic growth and economic development unless we broaden the canvas institutions matter social norms matter Mindsets of people what they believe in matter the legal system within which a country operates matters Now it is true that no one will succeed in bringing everything under one overarching umbrella We don't have a Newton or an Einstein. Maybe someone like that someday will do it But we have to open our boundaries a little bit and let in these outside explanations But when you go for these bringing in this broader canvas at first thought it is a somewhat daunting Exercise how do you bring all this to the table and for that I have the following two methodological Principles that you have to keep in mind one is that to understand the economy and to improve policy and I'm going to address a lot about policy matters just now it is Analysis that is important pure passion is not good enough if you just say that look I want to cure the corruption problem in the country I'm determined the determination is important and you need to be angry when you see a lot of corruption But that anger has to be coupled with analysis if you are to do good in a country And a simple example will tell you that suppose someone who does not know the medical science at all and Says that I hate People suffering from appendicitis and I have passion and determination and I'm going to take the appendix out You would not rely on this person because yes this person may get the appendix out of you But that will be the end of you in the process when that person opens you up and wrenches it out and Actually a lot of corruption controllers of that kind It's hard to have to admit that just to say that we will close down bank accounts and put an end to corruption You will bring legitimate activities to a close you need a lot of analysis before you can do this number two as soon as one talks about the importance of analysis a Fear arises that economists in that guise have so over Mathematosized their discipline are you talking of some strange arcane theory very complex explanation? The answer is no good analysis does not have to be loaded with Mathematics and things like that. It has to be clear thought There's a very beautiful simple example of the importance of simplicity of thought and at times how you can get to Better explanations more correct explanations from analysis, which is simple. I have written about it earlier But I like it so much that I'm going to repeat once again for you This is a story of Sherlock Holmes and Watson Going from one town in Britain. I don't know why they were just walking They are going to another town in Britain when in the middle of an open field While crossing they feel very tired and they said that let us pitch our tent and go off to sleep And we will again go ahead tomorrow morning. We'll walk again So they pitch a tent and both of them go off to sleep inside the tent Sherlock Holmes and Watson in the middle of the night Sherlock Holmes nudges Watson and says Watson open your eyes look and tell me what you deduce So Watson opened his eyes and looked at the stars. The sky was just full of stars He had never seen stars like that in polluted London So he said seeing so many stars. I now believe that there must be other planetary systems like ours. I deduce From the fact that there are many other planetary systems like ours. I deduce. There will be some planets like ours From the fact that there are some planets like ours in the universe. I deduce that there is life in the universe Sherlock Holmes by then was very angry and said no Watson. Someone has stolen our tent You know our love of complexity can't take us completely astray and While I'm telling you that you have to stress on analysis I am keeping that in mind that it's clarity of analysis It's not the complexity of analysis, which is important with that Let me jump straight away into a couple of specific policy challenges and I'm going to bring these from my Indian experience when I was doing the work that Betty referred to and some of the policy challenges that we faced One which has been a long-standing actually interest of mine all these I'm picking from law and institutions area because that's what I want to talk about today The first one is an area that has been of great interest to me. There are colleagues here with whom I have worked in the past which is labor laws and What they do to a country and This is one area where there are lots of mistakes that take place governments make these mistakes in the case of India There is something called the Industrial Disputes Act It's a 1947 law and it provides lots of provisions But including one provision which says that firms that employ more than hundred workers If they want to retrench workers, they have to get permission from the government the state government and Usually no politician wants to give permission for that and permission is rarely given So what that does is when you hire workers and if you're a big firm you Are aware that you will not be able to downsize it anymore What does that do a group of Indian textile producers had come to me pleading Saying that look what this law does to us Suddenly you get a new demand for goods in New York Demand for a special kind of clothing and they have the capacity to supply this for this this Entrepreneur would have to employ thousand workers to supply this but they are not sure that the fashion will last more than one or two years So after one or two years, they'll have to retrench the workers when the job is done But under the law, they can't retrench the workers. So when there is great demand for large production They have to take a decision. Do I Respond to this demand make a profit employ people or do I not just give up on that because I won't be able to retrench the workers It could go both ways. No doubt about that and we've done analysis on this that we can go both ways Gary feels I've got a paper with him on this But you have to take a fresh look at this kind of a law that it does not do damage Now it is possible to go to the other extreme and say that anything which is a free contract should be allowed I do believe that there should be a lot of space for free contracting But there are also very important reasons why certain kinds of free contracting cannot be allowed The trouble is if it was a very simple uniform rule allow all free contracts or no free contracts It would be easy But we have to stand on the slippery slope of Rules and say this is where we don't draw the line. We can go this far and no further I don't want to go into the intricacies of where in free contracting you draw the line What kind of free contracting you allow and what kinds of labor laws and regulations you write down on paper and make No mistake that those things the regulations play a very important role But the regulations have to be done in an intelligent way and I have also written earlier on The kinds of intervention that should take place in the labor market, but that's one topic. Let me put it aside second one where I got pulled in in India in a very big way was The corruption control that I mentioned earlier, you know corruption has been a huge problem in India There was one corruption scandal breaking after another in fact I do believe that the last government fell largely because people were feeling just so troubled by the large number of corruption issues Civil society in India is very active. Actually, I find that very welcome that the newspapers are active civil society is active There's a lot of protest in the streets all the time The only thing that you get wrong is not to realize that to control a thing like corruption Yes, determination anger all those things are very important. Otherwise, you won't make the first move But then you have to go into the nitty gritties of details before you read after law to control corruption There was one idea on corruption control that I put up in the on the Ministry of Finance's website I had a idea which I thought was a lovely idea I went around spoke with lots of newspapers and academic groups and then I posted this idea Absolute furor broke out with criticisms members of Parliament's writing letters to the Prime Minister saying it's an immoral suggestion I'll come to this soon what my suggestion was because I want to then build on that on how to control corruption, but One simple rule that Amartya Sen my PhD advisor had told me when I was for the first time going into public life and policy Sen said that in a country especially like India where the media is so active be very careful when you say something in Public make sure not only that every sentence conveys the right meaning But every set of consecutive words inside the sentence also conveys the right meaning Because journalists often drop words in the beginning and drop words in the end and put dots in between So I was carrying that same rule around with me, but then I realized that there's one more thing they at times do They take a consecutive set of words Drop the start and the finish and occasionally drop words in the middle as well and put in dots So I developed a more sophisticated same rule that there should be no Subsequence of words in what you say Which conveys are the wrong impression But it's a very complicated rule to follow and I must have faltered somewhere that this idea which I think still is a good idea Caused a huge furor. Let me tell you what the idea is Under India's prevention of corruption act 1988 Whenever there is a bribery incident the person who Gives the bride and the person who takes the bride if you're caught face equal punishment Five years in jails certain amount of fine for both the giver and the taker There are some nuances and differences over there. I'm not going into the detail both sides are punished equally what happens now in India is every time there is a bribery case and you look for evidence the giver and the taker collude To hide the evidence and you can understand very easily why they will do because if you're caught though The person who had to give the bride may be furious and angry you will not give it out at that point You collude together in British India there was an Example of this where we had the same problem, you know in India There used to be the practice of bride burning a dreadful practice which continued for a long time The British had a law in India that not only is bride burning wrong But witnessing bride burning is also a criminal activity and During the British period you rarely found a witness for bride burning The law made it impossible to crack that what I suggested in the case of the corruption act is for one particular kind of corruption where the bribe is being asked for something that you Legitimately have a right to so you have a right to your ration card You have a right to a driving license You've done the tests and everything if the person who's supposed to give this Stops you and says that I won't give you till you give me a bribe I called this a harassment bribe and my argument was that in the context of harassment bribes The law should be amended and those who give the bribe should be allowed to go free not guilty at all Those who take the bribe should be doubly punished and my argument was simple It's a two-period game argument if you want a game argument in the background once the bribe has been given under the new amended law that I'm suggesting the Interest of the giver and the taker are now not coincidental. They are pulling in different directions Their collusion will break down and given that their collusion will break down and the bribe taker knows that The bribe taker in the first period will be hesitant to take the bribe for those who are theorists over here This is a sub game perfect argument that I was using are saying that the law should be changed Fortunately, I have to say this has picked up a little bit it got Commented in the Economist in Lamont whole lot of places and there have been some very good Indian Industrialists who are good industrialists have argued that we should look at some of this and I have now received actually examples of these asymmetric laws from diverse countries There are examples in China. There was an article in Financial Times saying very similar to what I'm suggesting is already being used in China There are examples from Scandinavia and Nordic countries since why there is here I should tell you of asymmetric punishment and I feel that should play a role So now where does this take us? this law The bribery law is very seldom Implemented there are other examples of laws in India which are very seldom implemented But there are also some laws that get implemented extremely well the labor laws the 1947 law that I just now Told you about gets implemented a lot now a question arises Why do some laws get implemented and some laws don't get implemented? I want to look into this and it has to do with a variety of things including its Institutions, but this needs to be understood Well, if you want to draft laws properly, which will be implemented in the case of Certain laws. I'm glad that they don't get implemented But there are other laws in life Which are actually good laws and you want them to be implemented and they don't get implemented What leads to this is what I want to talk about and I want to warn you one thing Which depending on time I will or will not be able to go into maybe I will not be able to go into is Whenever you're thinking of a law which is incentive compatible It is also a very very important to keep in mind that Incentive is not just narrow self-interest as the only kind of incentive Human beings are more than what our textbooks make us out to be We have many other wishes and desires and Altruisms built into our system if you ignore all that you will get it wrong And we should spend a lot of effort trying to build up some of these social norms Which allow for a more effective society better one quick example last example and then I'll stop In India you have a huge problem of teacher absenteeism in government schools Now a lot has been written economists typically will tell you that look there should be greater punishment for a teacher who is absent and If a teacher who is present and teachers well, there should be bonuses and rewards. I agree There should be some of that you should look at that But within India where the teacher punishment laws are same all over the country There are huge differences between states of India some states where teacher absenteeism is very low Some states where teacher absenteeism is very high and the law cannot be explaining that it is something to do with the social norms of The teachers in these places and we need to work on these norms to develop a better functioning society The next world-development report of the World Bank that will come out is actually to do with social norms and human psychology Addressing some of these questions. Okay with that now let me go back to what I just now said Why are some laws? Implemented well and some laws not implemented at all if you don't mind. I'm going to The last topic I will not go into that you're seeing up there. So let me just ask the question that Why are some laws implemented and some not actually and whole lot of laws are not implemented You'll hear all the time in emerging economies. Our problem is not the law, but it is the implementation of the law They never get implemented is the problem. We've got good laws, but they don't get implemented and over here I'm looking at good laws and Let's see what happens on the implementation problem and I feel on this there is a deep flaw in the way Mainstream economics thinks of law and economics and since this is an academic gathering I want to bring that analytical thought on how we should think of law and economics to y'all Take for instance the standard view of law You can think of this as the standard becker from a crime and punishment kind of view of law Why does a law change human behavior? The standard explanation is a new law changes human behavior because it changes the costs and benefits of different activities one example suppose in a country there was no speed limit law and Suddenly a new law says if you drive above 60 kilo or 60 miles per hour, there is going to be a fine on you The standard economists Explanation is going to be this law Will work for the following reason why that Now when a driver is thinking of driving above 60 miles per hour earlier when the driver was thinking of driving above 60 miles per hour The driver did some cost-benefit analysis. I'll reach quickly if I drive so fast But there is a small risk of an accident, etc You do the cost benefit of driving fast now with the new law when you're thinking of driving fast There's something that changes in your cost-benefit analysis. And what is that? The fact that over and above these risks of accident and other things There is the probability that you'll be caught and you'll be asked to pay a fine So driving fast becomes a greater cost so that the relative benefit goes down and people may be unlikely now to drive fast This is the standard view this standard view if you think of it what it is saying is that a new law Changes the game that we human beings are playing in life That when you now drive fast the return from that is different with the new law Right, so a law changes the game that we are playing because the returns from different actions become different After the new law comes into effect But think harder again. Why should a law new law change the returns people get from certain activities After all what is a new law a new law is nothing but some ink on paper You've written down a couple of things on paper and that's it That this is what will happen. Why should the fact that some ink has been spilled on paper? Some words have been written down. Why should that change the game of life that we are playing after the law? It should be the same what in other words is being said is that the standard view of law and economics makes one mistake it treats the policeman and the enforcer of the law as a Robotic agent who will carry out the job that that person is supposed to carry out So if you treat only ordinary citizens as players and the government agents as pre-programmed to do their job Yes, your returns will change when you drive fast But you should pause and ask that government civil servants and the enforcers of the law They also have their own incentives and I can again give you examples galore very practical examples But I'm running short of time. So I'm going to hold back from simple things like rationing system The World Bank is very interested in giving certain kinds of basic subsidy to the poor in terms of health in terms of Education maybe even some subsidized basic food But how you plan to deliver this if you don't design it well The in the people who are supposed to deliver if you treat them as robotic agents who will do the job that they are supposed to do Of course it all looks very fine on paper people will be given benefits But as soon as you recognize that the enforcer of the law the person who's supposed to deliver the Cheap food to the poor the health services to the poor that person is also a player Maximizing something you will have to think of law and economics very very differently Now comes the difficult question I'll just give you a glimpse of the new view what I'm going to argue of how we should do law and economics And then I'm going to stop and We'll be happy after this if we meet in the coffee break or others to talk about it But let me now tell you the new view of law that I'm going to propose is the following if my criticism is right That after all in the end is law is writing down a couple of Paragraphs that this is what will happen if you do this Why should that change the game of law at first sight it appears that no law should make any difference to anything But the answer is yes, the law can make a difference because the law changes people's expectations and beliefs and That's all that the law does the law does not change anything hard in the game of life But it changes our expectations and beliefs of one another This is not a new view in the middle of the 19th century David Hume Wrote extensively about the power of the government in the end is a very vacuous thing a Government or a dictator is powerful only because of beliefs of people Everyone believes that person is powerful you begin to behave in a certain way Others fall into line and that person becomes powerful the law is also something very similar that that in the end It is a little few scribblings on paper But those scribblings if they change human beliefs of one another they can begin to change the human behavior and take for instance the Driving case once again. If you drive above 60 miles per hour. There is now a new law if the new law makes you believe That the policeman on the roadside is going to run after you and catch you and The policeman believes that with the new law in place if I don't run after and catch this person another sergeant will come and catch me and You need these belief structures once these belief structures in place a law can kick into being very very effective For this what you need is an old-fashioned thing which most of the economists here will know from the time of Thomas Schelling there is this notion of a focal point a Focal point is a collection of beliefs which are self-fulfilling and I want to give you so the law has to be Thought of as creating focal points in the human head and let me give you an example of two examples of focal points So I'm just introducing very quickly. Most of you will know Thomas Schelling's focal point But I'll reintroduce it very quickly with two examples Two persons are playing a game and the game is very simple each one Without consulting with the other has to choose one of these four numbers seven eighteen ninety three or hundred if They both choose the same number both players will be given thousand dollars each if they choose different numbers They will get zero so There's nothing which is innately right or wrong in this game seven eighteen ninety three hundred think in your head which number will you choose what you're trying to do is Guess as best as possible what the other person will do because if you choose the same number You will get a thousand dollars if you choose a different number. You won't get any money What will you do? There is no theoretical explanation for this But experiments have shown a vast majority of human beings choose $1,000 Sorry, what am I saying choose hundred the number hundred Somehow they feel hundred is salient and the other side will choose hundred as well. I'll give you one more example Here is a map of a village Square or a rectangular village in which there are some huts ponds and one flagpole You're being told to choose one spot in this entire space and another person is being told to choose one spot in the space If you all choose the same spot You will be given a thousand dollars each if you all choose different places. You will get nothing Most people when they are made to play this game They look at all this there are four huts three ponds lot of open space and a flagpole Where will which point will they choose? They choose the flagpole that somehow you know that the other person will also choose the flagpole There is no guarantee, but you do it where the law comes in now is that through the law You can actually create new focal points of expectations. I know if I drive fast The police will come after me and catch me because the police knows that the sergeant will come and catch me You have to create these focal points in order to have a law be more effective and focal points have been created used Deliberately there are many examples I'll give you the best example to me of a focal point being deliberately being created in a game in a real-life game Nowadays you get it in every airport, but I saw it for the first time in Heathrow years ago You know at times you are have decided with a friend to meet up at the airport So you're both coming on different flights and you say that let's meet up at 12 o'clock at in Heathrow airport In case you've forgotten to say where we will meet up and think go back to earlier times where you can't text message Immediately you've had it in a big airport like Heathrow. Where will the other person look for you? the Pretty, I don't know who does it does these kinds of things in Heathrow, but the airport authority Did something very clever in the middle of Heathrow Airport? There was a sign put up which just said meeting point Nothing else you tell people nothing just put up a sign saying meeting point and you've created a focal point You've deliberately created a focal point that when you are in Heathrow and you have to meet someone and you see a Meeting point big sign you know that the other person will choose that place and go and stand over there and You meet up in this manner now if you are using Betty another five minutes. Would I be allowed? Okay You know there I've written at length on this and I'm condensing a lot of material if you are now trying to craft a law With this focal point view of law in mind that the law does not change the game It changes people's beliefs of what one another expects then there are a couple of things you have to do in drafting the law You have to be careful about number one you cannot have laws which have Contradictory provisions if you have then that can't be a focal point at all It can't sustain that belief cannot be sustained and it becomes a completely useless piece of law another thing that you have to be careful you cannot have More too many focal points if you try to create laws where you are trying to make people Coincide in their behavior in different places that may become completely useless. I'll give you another example of that Heathrow just let's concentrate on terminal four of Heathrow. It's a very large terminal So terminal four so suppose that the airport authority someone got Tried to get clever and said, you know just one meeting point sign is not good enough So big the airport is let's put it up in three four places Meeting point meeting point meeting point so people can meet and these points Can you see that it'll become an utterly useless thing because you won't know which one The other person will be going to because in the end it's nothing but psychology as soon as you try to create different focal points you have people moving over from Having different conjectures and they may not be able to coincide on different kinds of behavior And here comes one very important interface with social norms in most traditional societies newly emerging economies a lot of them implementation of socially desirable behavior takes place through social norms the law does not play a rule There are just social norms. You're supposed to do something the chief in your village will like it if you do And if you don't the others will get angry and the chief will get angry So these are just social norms that are there when you try to replace a social norm with a Law even if the law is correctly done creating a new focal point Trouble is in this society. There is already a focal point that exists which is the social norm and When with a law you try to change that social norm That law may function very poorly and in fact the social norm could break down And the new law does not become effective because there are two focal points now people are confused very good example from India's history on usually laws lending activities in India in the olden days there was no law about giving money to the money lender and Sorry the money lender giving you money and you pay back the money lender the way it would function is just through norms You're supposed to do that the village chief will get upset But there is no state machinery that enforces that after the British Came to India they looked at this system which was not working very well people very often ran away without paying at times The money lender would harass you unnecessary So the British brought in a formal set of usually laws these are the laws that you have to follow to Have a system of lending better There is a paper Which shows that after this very good law was brought on paper to the country India's Lending activity actually deteriorated The new law was a good law in place But some people still lived by the old social norm some people lived by the new law that had come into place and The credit market actually is broke down after this very sophisticated law was brought into place So what you have to do whenever you're bringing in a new law You have to be aware of the fact that there may already be some social norms Which is allowing people to function and craft a law in a way by the way I think you may have to reconcile to the fact that once you've brought in a new law for some time There will be turbulence because people's norms will adjust to the new law and then it's going to settle in into a better place So I've gone on more than what I was planning to do I had a couple of examples, but I will not go into that example Let me just tell you I didn't get enough time to speak on this new view of law And how it can be used in actually crafting which I think is very important because of the refrain that we hear all the time The law in India the law in Vietnam the law in China is very good But these good laws are never implemented and I think that is because of a very fundamental mistake in the way Law has been conceived of we have to change that and it has implications for how this is done What I did not manage to talk about enough is also the interface with social norms that takes place and I'm not saying this in a hand-waving kind of way that social norms are important Human beings are programmed in certain ways certain kinds of behavior You just don't indulge in because it's built into your head We typically don't pick one another's pocket take wallets out of one another's pockets Not because of cost-benefit analysis that if I pick someone else's pocket the police will come and I'll be fine How many of you would in a crowded place be doing cost-benefit analysis about whether to take away someone else's wallet or not? I believe or like to believe no one It's simply that we are programmed to behave in certain ways and people have social norms Which become a part of their head and a lot of good policies become possible as certain social norms get set in society and This is a touchy topic difficult topic because there is of course always the risk of paternalism that comes with this But not recognizing the fact that human beings have social norms does not mean that that goes away the next world development report is a huge long report on the interface between social norms human psychology and Economic behavior and development. I'm sorry. I've jumped over a big canvas rather rapidly, but I'll stop with that Thank you very much You