The Challenge Dividend

Capitalism May Prevent Cold War 2

The nation of Russia seems to be feeling a surge in pride after its walk over the former Soviet republic of Georgia.  But the party seems to have left the country with a bit of an economic hangover.  Actually, you might call a 43% drop in the country's stock market is a lot more damage than a hangover.

According to Bloomberg.com, foreign investors have pulled $35 billion out of the country.  Russian President Dmitri Medvedev has ordered the government to do "everything necessary" to reassure foreign investors.  Sorry, Dmitri, but even a nation sitting on so many naturally resources still rests on global exchange and cooperation for economic success.

The only thing Russia can do to improve its economic stability is to bring military stability to its part of the world.  Whatever George Bush says, the real power rests with investors in today's society.  Russia's economy is still relatively small and volatile, and while it may have a powerful military - it is not strong enough to ignore investors' wrath.

While some fear we are heading into a second Cold War - and I believe the McCain/Palin ticket seems eager for this as a way to scare voters into sticking with a Republican ticket - the reality is that our economic co-dependencies will increasingly prevent dangerous military actions.  The challenge of this powerful, global flow of capital, and the present example of the economic results of Russia's action, will lead to fewer flare-ups, greater stability, and a chance for everyone to make more money together.

Free Market Attitudes May Impact GDP

You can't beat alumni magazines for giving you a taste of information and articles that the popular business press doesn't have space for.  This weekend I read an interesting study in my NYU/Stern magazine, called "Comparative Capitalism" by Augustin Landier, David Thesmar, and Mathias Thoenig. 

Their study presents an analysis of various developed nations' citizen attitudes on some of the key tenants of capitalism and free markets.  Key insights of the study focused on how historic government structures seem to be correlated to today's opinion on free markets.  For example:

"French legal origin was strongly related to competition aversion, and British common law was related to a strong preference for owner control.  These findings suggest that long-run institutional determinants rooted in the history and culture of a country dominate more recent developments in the organization of its economy."

There are several interesting implications of this analysis.  It helps us understand why some countries' governments and citizens react differently to a move to global free markets.  Cultural beliefs are difficult to modify, even after hundreds of years.

But the article failed to make an analysis of historic GDP trends.  I decided to compare the country rankings for these two questions, alongside the ranking of GDP growth over the past ten years.  The results are in the Excel chart above.

Unfortunately, I've lost my statistics brain and number crunching software to be able to gauge the significance and correlation here.  However some general trends come out.  The nations that embrace pro-market attitudes tend to fall higher on the GDP ranking (U.S. Canada, Australia).  Meanwhile, those that look down on competition tend to be looking at lower GDP increases (Japan, Germany, Denmark).  There are a few surprises and inconsistencies as well.  For example, France is last on a combined attitude ranking, but fares mid-level in GDP growth; while Switzerland is high on competitive attitudes but low on GDP.

If I was a business professor, I would spend a good deal of time digging further on this link between competitive attitudes and GDP.  It could be a rich area of study.  But for this blogger, Dad and full-time business guy, I'll just stop now and claim enough of a link to declare yet more empirical evidence of The Challenge Dividend.

Switzerland: My Kind of Neighbor

A few days ago I wrote a post about the competition to cut taxes that is happening within U.S. states.  At the end of the post, I included a small link to similar competition among Cantons in Switzerland.  What I missed was a developing controversy in which Switzerland itself is now faced with angry demands to increase taxes by the European Union and its member countries.  While the cantons of Switzerland compete with each other to lure businesses and individuals, they are all winning against the broader EU surrounding it.

There are few interesting Challenge Dividend lessons here:

First, this helps prove once again that heated competitive challenge can create a bigger pie for all to share.  I great example I wrote about last year is the restaurant market in Sonoma.  In this little town, some of the best chefs and restaurateurs in the world come to this little town in California to fight tooth and nail for tourists' dollars.  As they compete, they lure more people and the food and service excels.

In Switzerland, the cantons compete head-to-head vigorously, but as they do, they all draw more people and companies from throughout Europe.  And the tougher this competition gets, the more attractive they are to these outsiders.  It is a classic non-zero-sum game.

This brings us to the second lesson: centralized organizations need an outside challenger to keep them sharp.  The European Union was formed to help its member nations compete better in a global marketplace.  They agreed to eliminate trade barriers, adopt common business regulations and currency, and share investments in technology, for example.  These measures have helped the members drive efficiency and competitiveness. 

However their union also decreased their ability to reap a Challenge Dividend.  The member countries are bound by restrictions on what they can do to improve their economies.  And overall, the EU is lagging behind the U.S. and Asia in GDP growth. 

But Switzerland represents a pocket of challenge right within their midst.  As covered by the BBC recently (thanks Cato), EU politicians claim that Switzerland is a bad neighbor because it is luring businesses and citizens with low taxes.  Today, they mainly claim unfairness.  But the Swiss impact might grow to a point where the EU is forced to improve its government efficiency and reduce taxes in turn.  (Probably the only thing stopping Switzerland is its small, mountainous land mass - a tough challenge to overcome!)

For me, the larger takeaway is that any central organization is at risk of losing its Challenge Dividend.  While it is often competitively smart to centralize, such organizations should either closely limit the rules it imposes and/or build "pockets of challenge" that live outside and compete with the larger body. 

In Sonoma, for example, it is smart for the city government to establish kitchen cleanliness guidelines; but not to establish rules on which kinds of items should be allowed on the menu!

5 Reasons I'm OK with Iranian Nukes

For several months and years, the West's preoccupation with nuclear ambitions in developing nations, especially the Middle East, has been front page news.  Tensions with North Korea are ongoing, the attack on Iraq was in part driven by fears of a nuclear program, Iran is rattling its potential nuclear sword, and now Egypt is talking about a "peaceful" nuclear energy project.  Many now worry: "Are we heading into World War III?"

No.  We are very, very far away from the threat of nuclear attack and not even close to the amount of tension during the Cold War.  In fact, I believe there are Five Reasons that We Should Stop Worrying About Iranian (and other) Nuclear Programs:

1. Been There, Not Done That. I am only 34 years old, but I remember the Cold War clearly.  When we grew up, the fear was of thousands of missiles raining down on every city and suburb in America.  The world would literally end for all life.  Meanwhile, the risks then seemed as high or higher than now.  In the USSR, we faced: (1) a large, organized power that really was invading other countries (e.g. Afghanistan); (2) a radical belief system that felt our way of life was destined for overthrow (communism); and (3) a government that supplied resources and placed nuclear missiles throughout unstable third-world regimes (e.g. Cuba).  But we survived with zero launches because the threat of mutual destruction ("deterrence") works.

2. We Should Leave Them Alone Anyway.  Countries do not sign up for the extreme financial and political costs of a nuclear program because they want to attack others or support their egos.  Nuclear weapons are fundamentally a defensive weapon, and when your neighbor has one your ability to defend decreases sharply.  China developed a bomb because Russia had one, India because of China, and Pakistan because of India.  The U.S. invasion of Iraq (no nukes) versus negotiation with North Korea (has nukes) is a clear sign to nations like Iran.  At the end of the day, we should leave nations like Iraq, Iran and North Korea alone.  Seeding democracy is a doubtful cause for attack, and if Iran or North Korea is not actively fighting others then we should leave them to their lunacy.

3. It Will Take a Long Time.  It is not easy to develop a nuclear bomb and can take decades to do so even if the oil money is flowing freely and helpful scientists are imported from Russia.  Over time, the interest in nukes may wane, oil prices might fall, or other forms of payoffs from rich nations can delay final development indefinitely. 

4. Deterrence Works, Even on Nut Jobs.  No one with money and power wants to die - period.  The kids blowing themselves up at security checks in Iraq or Israel are the poor and powerless who are looking for a cause to join and ticket to fame.  Kim Jong-il is having too much fun enjoying the fruits of leadership to risk life and limb by launching a foolish attack.  Any leader with nuclear weapons knows that his use of the bomb would unleash a hurricane of much more effective missiles from the United States.  Again, they are looking for defense of their power and possessions rather than truly sponsoring a holy war.

5. We Are Ignoring Bigger Threats.  At the end of the day, the focus on highly exotic nuclear weapons takes our focus away from threats that are closer to reality.  The attacks on 9/11 employed the technology of box cutters.  Liquid-based explosives have been around since the 49ers were mining gold instead of playing football.  Terrorists succeed by, well, building up fear or terror that any one of us really might die.  They would rather us fear an "attack in our supermarket" than a massive, single bomb smuggled into a city.  We would be better off protecting ourselves through good, old fashioned spying on suspected organizations and individuals, rather than planning stealth attacks against Iranian reactors.

Conclusion: I am not in favor of actively allowing radical nations to develop nuclear arms, and I think the world should be highly engaged in dissuading new programs and much as possible, including moderate threats and  payoffs.  However any attack on a country because they may be starting a program will only cost us enormous lives and expense - and further stir the hatred and fear of U.S. attack that causes governments to pursue nukes in the first place.