Stephen Haber speaks on the effects of capital markets and political competition on economic growth and development in the United States, Brazil and Mexico.

Maiah Jaskoski, Department of Political Science

Prof. Stephen Haber spoke at CLAS on February 10, 2003 as part of the Bay Area Latin American Forum. Prof. Haber teaches Political Science and History at Stanford University and is Senior Fellow of Stanford’s Center for International Development. In addition, he is the Peter and Helen Bing Senior Fellow of the Hoover Institution and Director of the Social Science History Institute. In his talk, Haber explored how democratic institutions affect the banking and securities sectors. He pointed out that the mechanisms connecting these political and economic institutions are often underspecified in the recent literature on growth and development.

Haber identified three political institutions—a strong federalist system, suffrage and the balance of powers—as critical for development, using the United States in the 19th-century as a model for how these democratic institutions lead to a flourishing banking industry. He then analyzed Mexico and Brazil during the same time period, drawing connections between these institutions (or the lack thereof) and the character of the countries’ banks and securities markets. Haber chose to examine banks and securities markets, as they constitute important economic institutions conducive to growth: “There is no modern economy that exists without banks and securities markets. You have…to have mechanisms to connect people who have sources of wealth to the people who can use it for productive investment.”

The U.S. has historically combined expansive suffrage, the balance of powers and a strong federalist system. Haber attributes the highly competitive nature of the U.S. banking system during the 19th century to these democratic institutions. Competition within the banking sector occurred both among states and between states and the national government. The ratification of the Constitution gave the national government new financial powers, including the sole authority to print currency and enact tariffs. The states responded to this encroachment on their traditional privileges by chartering banks, which resulted in competition between state banks and the national bank throughout much of the 19th century.

When states began issuing bank charters, there was a short period of segmented monopolies; states granted bank owners monopolies in major cities in return for a significant percentage of the bank’s stock. This arrangement did not last. States began competing for population and business by reducing the requirements for bank charter acquisition. These two dimensions of competition—between states and the national government and among states—resulted in a rapid increase in the number of banks, most of which were state banks.

In stark contrast to the United States, 19th-century Mexico did not have institutions conducive to political competition. Rather, Mexico was characterized by unfair voting practices and a weak federalist system. The national government also siphoned taxes from the states, further weakening the states’ political power. Whereas the U.S.’s highly competitive, decentralized banking sector sprang from competition among states, in Mexico the centralized political system supported few banks and few lenders, all of whom operated in segmented monopolies.

By the early 1880’s, the Mexican government was in great need of financing, due to its high subsidization of railroads. The national government centralized banking, gaining exclusive control over the issuance of bank charters. Although the federal government granted the charters, the states still determined to whom the charter would be issued. Under this system, either the governor or the governor’s relatives tended to control the banks. During the rule of Porfirio Díaz the federal government essentially replaced independent state governors with federal nominees, many of whom were not even from the states they represented. Thus, unlike the U.S., Mexico did not experience competition between state and federal governments, and the system of segmented monopolies persisted.

The economic trajectory of Brazil marked a middle ground between the United States and Mexico. In contrast to the United States, a high level of competition did not develop between banks. In the 19th century segmented monopolies were replaced by a single “super-bank” in the 1850s. The subsequent opening of bank chartering and a banking crash in the early 20th century resulted in a highly constrained banking system. However, the government did not constrain securities markets, which proved to support significant growth. Rules brokered between states and the central government led to more relaxed governance of the securities market. Another factor favoring the development of strong securities markets during this period was the existence and enforcement of a number of laws that protected creditor and shareholder rights. In short, in Brazil, institutions and not the personal networks that characterized the Mexican banking industry, enforced property rights.

Haber used the example of economic growth in cotton textiles to illustrate how political institutions and the banking and securities markets worked together to influence development. Haber chose to investigate this industry because it was not very capital-intensive, and thus did not present high barriers to investors with modest financial backing. In Mexico, the textile industry was concentrated in the hands of the few elites whose connections to banking interests gave them access to loans. Because the large operations created under this system were inefficient, the industry experienced only modest growth. In contrast, Brazil experienced much greater sustained growth because smaller, more competitive operations were able to finance investments by issuing stocks and bonds. This evidence supports Haber’s thesis that political institutions, specifically democratic institutions, matter for attaining growth. Haber also stressed the importance of adopting historical perspectives in social science research; while praising researchers’ employment of large-n regression analysis and formal modeling, he espoused complementing such methodologies with efforts to ground theory in what we know of country histories.

Professor Haber’s most recent book, The Politics of Property Rights: Political Instability, Credible Commitments, and Economic Growth in Mexico, 1876-1929 (co-authored with Armando Razo and Noel Maurer) will be released from Cambridge University Press in May 2003.

 

Professor Haber argued that the intense political competition in the United States between the states and the federal government over control of financial institutions greatly accelerated the development and freedom of those institutions, in turn fostering investment and economic growth. Brazil used a different financial institution, the stock market, to the same effect, while Mexico, burdened with close alliances between financial and political elites, has never had a period where banking services have greatly contributed to growth.