In the early 1960s, my father studied economics under Abhijit Banerjee’s father in Presidency College, Kolkata. He tells me that Dipak Banerjee was an outstanding professor, and that the Presidency economics department was a class apart. The younger Banerjee himself went to Presidency a decade-and-a-half later, and then to JNU, another institution with a stellar record. There is much celebration in both these places this week, and rightly so – but I would argue that the next step Banerjee took, going to Harvard for his PhD, was the necessary step that set him on the path to greatness.
It is a trivial fact that many of our finest thinkers need to go abroad to reach their full potential. Why is this so? One answer, interestingly, comes from Banerjee’s fellow Nobelist, Michael Kremer. ‘The O-Ring Theory of Economic Development’, Kremer’s seminal 1993 paper, is packed with insights on economic development, inequality, the market for talent – and the phenomenon of brain drain.
The paper gets its title from the 10-dollar O-ring that caused the failure of the US$ 3.2 billion Challenger Mission in 1986. When a complex task depends on many components to work together, the failure of any one can lead to failure. But the paper is about far more than that folksy cliché about a chain being only as strong as its weakest link.
Kremer looks at the interplay between talent, productivity and wages. Imagine a task that requires ten people to fulfill certain functions. Let us say that each of them functions at a high overall skill level of .99 (where 1 is perfect.) The overall level of the task can then be quantified at 9.04. If they all perform at .95, though, the overall level drops to 5.99. If they perform at .9, it drops to 3.49. If the task requires 1000 people instead of ten, the differences are far higher. (This illustration is from a lucid video on the subject by Marginal Revolution University.)
The upshot, in Kremer’s words, is that “small differences in worker skill create large differences in productivity and wages.” This is true especially when you cannot substitute quantity for quality – two mediocre novelists working together cannot produce better work than one excellent one. This is also true of complex tasks, with more links in the chain, where the demand for quality is higher.
What are the implications of this? One, talent tends to congregate in clusters. Two, capital chases quality, and thus gravitates to the clusters of talent. Three, the rewards for talent are outsize. Go back to my earlier illustration, and it will be clear why a worker with a skill level of .99, just slightly ahead of the .95 guy, could get many times the salary.
The O-Ring Theory explains why elite universities like Harvard draw the best students, and why industry pays a premium for students from there. But talented students like the young Banerjee of the 1980s don’t go West only because they will eventually get paid more. They also learn more and enhance their own skills, mingling with better peers than they would otherwise have had. I bet Banerjee, Kremer and Esther Duflo, geniuses all, would attest to how much they made each other better.
What are the lessons this has for Indian policy makers? I can think of at least three. One, make it easy for private players to invest in education. We cannot replicate an education ecosystem like that of the US overnight, and we certainly cannot design it in a top-down way. Remove the restrictions that exist for educational entrepreneurs – things can only get better. In my view, Ashoka University is already producing fine work in the social sciences. Enable a hundred Ashokas to flourish.
Two, in a broader sense of our whole economy, since capital already has incentives to be elsewhere (where the skill is), create other incentives to draw it here. This is why ease of doing business, the rule of law and clear tax laws are so important.
Three, minimise trade restrictions. The O-Ring Theory explains the inequalities that exist between countries. One way of lessening the impact of that is through free trade, with positive-sum transactions that leave both sides better off. This is why, as Kremer says in his paper, “trade restrictions cause large welfare losses.”
Kremer’s paper has many more insights and implications than the ones I mentioned here, and you should read it yourself. While many columns have been written this week on the Nobelist trio’s work on randomised control trials, I would also urge you to check out Banerjee’s early theoretical work, some of which is beautiful for its clarity and elegance. His papers on herd behaviour and the propagation of rumours explain a lot about our modern times — but that is a subject for a whole different column.