

“Income growth seems to increase economic literacy, even though income level does not.”

Y our country is falling apart. Unemployment and inflation are sky high. World war is on the horizon, and there are riots in the streets. But never fear: An election is coming up! The incumbent will be thrown out for his failed policies. And the challengers will surely have the bright new ideas the country needs to turn itself around.

Or will they? Perhaps amidst all this the confusion, the people will hand the reins of power over to irresponsible demagogues, and conditions will go from bad to worse. This worry is hardly far-fetched. When do the “crazies” start to get a serious political hearing? Only after a country is already going down the drain.

If we look around the world, there is a lot of circumstantial evidence that bad performance is not self-correcting. One of the most important facts about economic growth is that, on average, poor countries do not catch up to rich countries. The main reason seems to be that poor countries consistently have bad policies. Many of these countries are democracies. But they almost never elect a candidate on the theme “We need to copy the policies of more successful countries like Hong Kong and Singapore, and turn our backs on our failed national political tradition.”

Thus, the least pleasant places in the world to live normally have three features in common: First, low economic growth; second, policies that discourage growth; and third, resistance to the idea that other policies would be better. I have a theory to explain this curious combination. Imagine that the three variables I just named—growth, policy, and ideas—capture the essence of a country’s economic/political situation. Then suppose that three “laws of motion” govern this system. The first two are almost true by definition:

1. Good ideas cause good policies. 2. Good policies cause good growth.

The third law is much less intuitive:

3. Good growth causes good ideas.

The third law only dawned on me when I was studying the public’s beliefs about economics, and noticed that income growth seems to increase economic literacy, even though income level does not. In other words, poor people whose income is rising—like recent immigrants—have more than the average amount of economic sense; rich people whose income is falling—like the Kennedy family—have less.

This bare-bones model has a surprising implication: There is more than one outcome with staying power. The good news is that you can have favorable results across the board. Good ideas lead to good policy, good policy leads to good growth, and good growth reinforces good ideas. The bad news is that you can also get mired in the opposite outcome. A society can get stuck in an “idea trap,” where bad ideas lead to bad policy, bad policy leads to bad growth, and bad growth cements bad ideas.

Once you fall into this trap, all it often takes is common sense to get out. But when people are desperate, common sense gets even less common than usual. The recent flu vaccine shortage is a fine example. Common sense says that to alleviate a shortage of the vaccine, you should make it more lucrative to supply. But the reaction of much of the public is, instead, to lash out at greedy suppliers for failing to do their job.

The connection between growth and ideas is not so much logical as psychological. It is not logical for people to embrace counter-productive ideas just because conditions are getting worse, but they seem to do it anyway. Perhaps the best explanation is that the public relies on a military metaphor: You should avoid aggressive government intervention in good times, but during a crisis, you need to teach your enemies a lesson, not waste time soul-searching about how you provoked them. During hyperinflations, for example, people are more likely to lash out at scapegoats—speculators and black marketeers—than to blame runaway monetary policy. As Jeffrey Sachs observes:

If you prefer first-person testimony, few people know more about embracing bad ideas than the famous Communist apostate Whittaker Chambers. Why did he become a Communist? Why did anyone?

Chambers does not bother to explain why he thought that Communism was an effective means of solving either problem. Few Communists did. But the worse the world looked, the more certain they became that the solution to war was to repeat the Russian Revolution over the entire globe, and the cure for economic crisis was to expropriate all the entrepreneurs and collectivize agriculture. In other words: Teach the malefactors of great wealth a lesson they will never forget. Most contemporaries did not become Communists, of course, but all over the world, deteriorating conditions seemed to inflame bad ideas, leading to bad policies, leading to still worse conditions.

If both good and bad combinations of growth, policy, and ideas are stable, why does anything ever change? The answer, in my model, is luck. An economy in the idea trap usually stays in the idea trap. But once in a while, it wins a little lottery. Maybe the president of the country happens to read Bastiat during his last term, and decides to try a more free-market approach. This increases growth, which in turn improves the climate of public opinion. And maybe—just maybe—public opinion changes enough to elect another president who embraces his predecessor’s reforms.

A common counter-example to my story is the collapse of Communism. Surely this shows that people inevitably wise up? Not really. The history of Communism is a powerful example of the idea trap at work. After all, Communism did not end in the 20’s and 30’s, when millions of Soviet citizens died of starvation. Fear of Stalin’s reprisals cannot explain why Communism’s international popularity peaked during this bleak era. Whatever happened, fellow travelers eagerly blamed set-backs on the remnants of capitalism, and their rationalizations did not fall on deaf ears.

In the heyday of socialism, lots of economists looked on the bright side: “any gradual movement towards a centrally-planned economy offers opportunities for unfavorable developments to be experienced which may act as brakes.” But Joseph Schumpeter was not convinced:

Ludwig von Mises said the same:

In hindsight, it is tempting to dismiss Schumpeter and Mises as alarmists. But not so fast. First, their story worked well for decades. Failed socialist policies were rarely abandoned, and often inspired more radical steps. Disappointment with the Soviet Union inspired radical Maoist policies like the Great Leap Forward and the Cultural Revolution. Second, when glasnost and perestroika hit the Soviet bloc, the standard of living in Communist countries had never been better. It was low by Western standards, but vastly better than in the hungry days of Stalin. There is no reason why the Soviet Empire could not have endured to this day. Its leadership simply lost faith.

The standard view is that they lost faith because their policies did not work. But if that were true, the Soviet Union would have ended seventy years earlier. The normal reaction to failure was to repeat it on a grander scale. My account, in contrast, is that the long-suffering Soviet people finally had some good luck named Mikhail Gorbachev.

A slogan often attributed to Lenin is “The worse, the better.” Only if society is on the verge of collapse can a communist revolution succeed. But this attitude surfaces at the other end of the ideological spectrum too. Murray Rothbard is the most colorful example:

If I am right about the idea trap, then advocates of free-market reforms should always root for good times and marginal improvements. A free-market in health care is unlikely to emerge after the U.S. public experiences the drawbacks of full socialization. Modern Zimbabwe is not fertile ground for a libertarian experiment. Depression and disarray benefit the Lenins of the world. That is when the public is most receptive to nonsense, to scapegoating sneaky foreigners and greedy corporations. The voice of reason, in contrast, gets its most sympathetic hearing when things are running smoothly, so the public is calm enough to think rationally about how to improve on the status quo, and maybe even appreciate how much their favorite scapegoats do for them.