Charter Cities and The New Frontier

July 6th, 2010

Stanford professor and entrepreneur Paul Romer has a fascinating idea for how to turn developing nations into developed nations: charter cities. His model for these cities is British-controlled Hong Kong. The host developing nation will lease land to a developed country which will govern it, providing stable, business-friendly rules.

Sebastian Mallaby has a fantastic piece in the Atlantic on Romer’s idea and his push for it. In the introduction, Mallaby describes Lübeck, a Germanic town built by Henry the Lion into a prosperous city in the 12th century:

The stultifying feudal hierarchy was cast aside; an autonomous council of local burgesses would govern Lübeck. Onerous taxes and trade restrictions were ruled out; merchants who settled in Lübeck would be exempt from duties and customs throughout Henry the Lion’s lands, which stretched south as far as Bavaria. The residents of Lübeck were promised fair treatment before the law and an independent mint that would shelter them from confiscatory inflation. With this bill of rights in place, Henry dispatched messengers to Russia, Denmark, Norway, and Sweden. Merchants who liked the sound of his charter were invited to migrate to Lübeck.

This is an apt description of what Romer hopes to build. This concept assumes that the main limitation on growth in developing nations isn’t natural resources or human capital, but capricious, inconsistent and controlling governing. Businesses cannot develop because the government suffocates them, or fits of business-friendly rules are quickly scrapped when political winds change.

That’s precisely right and his idea is intriguing. It raises a whole host of issues which Mallaby nicely discusses and I may write about them, but this makes something else clear: it isn’t the rules that is the important part. It’s the environment they create.

Simple, limited and consistent regulation allows for a clean slate. There’s no mental and physical overhead dedicated toward understanding arcane and complicated rules, and arbitrary political dealings, to do business and create things—you just do it. That’s what America was when Europeans began emigrating to the continent—a land where there were no priests, lords or kings to please, nor limiting vestiges of your reputation. It was a dangerous place to live, but America promised a new life with unlimited opportunity. There were no artificial constraints.

The east coast soon developed, with the rules and controls that come along with it. But the west always beckoned, that same feeling of unlimited opportunity.

It’s that spirit that is important for development. It struck me while reading this that it isn’t just the developing world that needs this feeling. We need it again as well.

In 1900, government spending accounted for 20 percent of total GDP; in 2010, it is almost 45 percent. Our income tax law is mind-numbingly complex. Government has assumed responsibility for not only controlling the economy’s general tone, but specific industries, like the housing market, and guaranteeing the safety of certain companies that are too important to the nation to fail. The government not only has its finger on the economy’s pulse, but around its heart and neck. Washington, D.C. is the new arbiter of economic success.

James Madison’s great genius in construction the Constitution was not just in its separation of powers, but reserving wide power for the states. By allowing the states to function freely (within the context of the federal government’s reserved powers), states could choose their own political and economic path. By allowing states to manage themselves how they choose, they could experiment without affecting the entire nation.

That’s no longer true and hasn’t been for decades. As the federal government becomes the dominant body in society, it makes what was once flexible and agile—the many states—into something slow and rigid. The federal government cannot experiment because failure would affect the entire nation. But worse, this process has shifted societal responsibility from the local and private spheres into the national and public spheres. Poverty is no longer our individual responsibility, for us to work with friends in our communities to alleviate, but a national one. Depending on oil for powering our economy isn’t something for individuals to solve by forming new ventures that succeed based on economic viability, but a problem for Congress to solve by choosing what alternative form of energy, and existing companies, will succeed. Nothing is my problem anymore. It’s the government’s.

That’s eliminating personal responsibility. When the government is responsible for everything, there’s no dynamism, no motivation to create something for ourselves.

We need a new frontier.