Charter Cities and Institutional Resilience

Strong institutions are necessary to weather negative economic shocks and support long-run growth.

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Effective institutions are a key factor in spurring long-run economic growth, which in turn has been responsible for lifting millions of the world’s poor out of poverty in recent decades.

As economic growth works its compounding magic over long time horizons, unforeseen crises and natural disasters are bound to occur over such extensive periods. Therefore, a key feature of effective institutions is resilience: the ability of institutions to cope with and bounce back from crisis or disaster without systemic collapse. Institutional resilience is all the more pertinent today, as the coronavirus continues its exponential spread around the world leaving economic maelstroms in its wake.

Indeed, economists Stephen Broadberry and John Joseph Wallis have posited that the ability of countries to avoid or reduce negative growth episodes (shrinking) rather than their ability to achieve sustained positive rates of growth (growing), is a more significant determinant of contemporary levels of economic development. Broadberry and Wallis conclude that institutions are the ultimate factor underlying a nation's ability to reduce bouts of shrinking, and by doing so usher in modern economic growth.

Elinor Ostrom, the late Nobel Prize in Economics winner, provides useful answers about what leads to institutional resilience. Specifically, her work suggests four main aspects of resilient systems: (i) absorptive capacity, (ii) speed of recovery, (iii) avoiding over-optimization, and (iv) creative destruction. The first two aspects contribute to the robustness of the system, and the latter two aspects contribute to the system’s adaptability over time. A resilient system is one that is both robust and adaptable. Charter cities can help bolster institutional resilience by playing a part in each of these four aspects.

First, absorptive capacity refers to the system’s ability to endure a significant shock without hugely detrimental consequences. Charter cities increase absorptive capacity because they provide a jurisdiction (or several) in which different institutions prevail than in the rest of the host country. Such institutional diversity means that shocks will not simultaneously impact the entire system in the same way. All of a given country’s eggs are not in the same institutional basket.

A tragic example of absorptive capacity occurred in early 2010. On January 12th Haiti was hit by a 7.0-magnitude earthquake. Large parts of the country were all but destroyed, including the capital city of Port-au-Prince, and over 100,000 people died (some estimates put the number at over 300,000). A little over a month later, on February 27th, an 8.8-magnitude earthquake (over 500 times more powerful than the Haitian quake) hit Chile. The Chilean death toll was in the hundreds. While some proximate causes include the sturdiness of infrastructure and up-to-date building codes, a key contribution of Ostrom and her co-authors was to examine the institutional factors underlying these proximate causes and how they augment or inhibit a system's resilience. As Ostrom notes, "[r]eliance on any single set of decision rules exposes all to the risk of total institutional failure." In contrast, if a country has a multiplicity of institutional arrangements, "when small systems fail, there are larger systems to call upon — and vice versa."  Charter cities offer a different set of decision rules than the rest of the host country, and this institutional diversity increases the absorptive capacity of the whole system.

Second, even given the same initial level of disaster or crisis, some systems recover more speedily than others — quicker recoveries increase a system’s robustness. For example, different towns and counties hit by Hurricane Katrina in 2005 had significantly different rates of recovery. A series of studies summarized by Emily Chamlee-Wright in her 2013 book The Cultural and Political Economy of Recovery assert that the varying rates of recovery observed across locales are largely explained by pre-existing institutional structures (especially informal institutional arrangements). Charter cities would likely recover more quickly from adverse shocks as they are more market-like systems where information about which residents need what has a shorter chain of command through which to travel.

Third, over-optimization is a concept Ostrom and her co-authors borrowed from mathematicians Carlson and Doyle, who called this problem “highly-optimized tolerance” (or HOT). Over-optimization refers to a situation in which a system optimizes to deal with a prior shock and by doing so opens up new vulnerabilities to unforeseen, unknown, and unplanned for future shocks. As my former CCI colleague Tamara Winter wrote, “successful new cities won’t just solve the relevant strategic/coordination/incentive problems of today, but will anticipate those of tomorrow too, and plan accordingly.” To that end, the government of Singapore established an independent agency solely dedicated to planning for different future potentialities, aptly called the Center for Strategic Futures (CSF). As Winter notes, “crucially for CSF, developing a future-oriented framework doesn’t mean strenuous planning for a specific future. Rather, it means planning without taking the material or technological conditions of the present world for granted.” It’s unsurprising then that Singapore, a proto-charter city, mounted one of the quickest, most comprehensive, and successful responses to the unforeseen COVID-19 pandemic. Charter cities would be similarly future-oriented to avoid the over-optimization problem.

Fourth, creative destruction is a term coined by economist Joseph Schumpeter to refer to a perpetual process in which old modes of production and methods are discarded as novel, more efficient methods take their place. Ostrom argued that institutional pluralism or diversity is inherently more entrepreneurial in Schumpeter’s ‘creatively destructive’ sense because these pluralistic systems “encourage experimentation and learning from diverse policies adopted at multiple scales.” Similarly, charter cities encourage institutional experimentation both within and across host countries, where different charter cities can innovate, adapt, and learn from each other.

On the whole, charter cities can foster a world of greater institutional resilience as Ostrom conceived of it: a world that more quickly bounces back from adverse shocks or, better yet, adeptly avoids such shocks in the first place through constant experimentation and innovation. And, as Broadberry and Wallis illustrate, the ability of institutions to cope with negative shocks underlies long-run economic performance. Ultimately, as the turbulent present attests, more resilience around the globe would be a welcome development.