On the Nature of Peace Economics

Peace Economics, Peace Science andPublic Policy

Volume 16, Issue 2 2010 Article 2

ON THE DEFINITION AND DOMAIN OF PEACE ECONOMICS,PAPERS IN HONOR OF WALTER ISARD

On the Nature of Peace Economics

Raul Caruso∗

∗Universita Cattolica del Sacro Cuore, Istituto di Politica Economica, [email protected]

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On the Nature of Peace Economics∗

Raul Caruso

Abstract

The purpose of this paper is to contribute to the definition of “peace economics.” The core ofpeace economics has to be found in the distribution between productive and unproductive activi-ties. In particular, such a distribution is shaped by the structure of the economy and the distinctionbetween contested and uncontested activities. The positive “side” of peace economics emphasizesthe study of conflict, which is interpreted as a strategic destructive interaction between rationalagents. The normative “side” of peace economics is the study of economic policies intended tominimize the unproductive components within economies, thereby also reducing the risk of out-break of actual conflicts. In this respect, peace economics can also contribute to the study ofestablishment of endogenous institutions, leading to a permanent peaceful development of soci-eties.

KEYWORDS: peace economics, productive and unproductive activities, conflict, contested anduncontested sectors; Butter, Guns and Ice-Cream

∗This paper benefited enormously from comments and suggestions by Joanna Tyrowicz and SyedMansoob Murshed.



This paper is dedicated to Walter Isard. I owe him the greatest debt for his encouragement, intellectual stimulation and

enduring support. 1. Introduction

The purpose of this paper is to contribute to the definition of ‘peace economics’. The point of departure of my approach is the comprehensive definition of peace economics proposed by Walter Isard in 1994. He shed light on fundamental aspects of peace economics by pointing out that peace economics […] is generally concerned with: (1) resolution, management or reduction of conflict in the economic sphere; (2) the use of economic measures and policy to cope with and control conflicts whether economic or not; and (3) the impact of conflict on the economic behavior and welfare of firms, consumers organizations, government and society. Central to the field are: analyses of conflicts among nations, regions and other communities of the world; measures to control (deescalate) arms races and achieve reduction in military expenditures and weaponry; and programs and policies to utilize resources thus released for more constructive purposes […]. Put briefly, the main object of peace economics is the study of conflict and conflict resolution in different forms. Yet, Peace economics is not limited only to the study of interstate conflicts but it also embraces the recognition that conflicts take shape between different actors. Eventually, Isard also underlined the methodology of peace economics, […] It embodies game-theoretic, strategic, and other reaction-interaction analyses among parties, wherein hostility and friendliness, and cooperation and defection are involved. Behaving units are taken to engage in appropriative (e.g. military ventures) as well as productive activities, with war often viewed as a rational, purposeful choice of decision makers […]1. That is, rational choice theory does constitute the set of tools to analyze causes and consequences of strategic destructive interactions.

In brief, definition provided by Isard (1994) is very broad and encompasses the main components of peace economics. The aim of this short paper is that of contributing to the definition of peace economics by highlighting some additional aspects. In particular, it is emphasized that the key to understanding the very meaning of peace economics is to be found in the classical distinction between productive and unproductive activities, and in the causes and consequences of their distribution.

The paper is structured as follows: in the first paragraph some first conceptual roots of peace economics are underlined. In the following section, a

1 Isard (1994), p. 11

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Caruso: On the Nature of Peace Economics



discussion about the general equilibrium modeling of conflict is presented. In particular, potential further extensions of research are discussed. Eventually the normative nature of peace economics is highlighted. In the last section, the contents of the paper are summarized and conclusions are drawn.

2. The Roots of Peace Economics: Productive and Unproductive Activities The key to understanding the very meaning of peace economics is to be found, in the classical distinction in economics between productive and unproductive activities. That is, in fact, in any society there are some resources allocated to productive activities, such as the production of useful goods, and others which are allocated to unproductive activities, such as the efforts devoted to the seizure of goods produced by others. Needless to say, the productive activities are beneficial for societies, whilst the latter -unproductive and even destructive - are detrimental to welfare and development. Put differently, economic outcomes may be explained by the relative weight of unproductive and productive activities within any economic system. In this respect, Bhagwati (1982) and Baumol (1990) discussed the existence and implications of unproductive non-market interactions shaped by coercion and violence. The relative size of productive and unproductive activities has a remarkable impact on (1) the long-run economic prosperity of societies and (2) the production of rules of action within and between societies. This is crucial when considering that productive and unproductive behaviors are not mutually exclusive. They co-exist and in some cases overlap.

First, the economic prosperity of societies depends upon the relative distribution between productive and unproductive activities. Whenever, productive activities dominate the unproductive ones, a society is able to sustain its economic development in the very long run. For instance, Mehlum et al. (2003) produce a dynamic model to analyse the growth of countries which are characterized by the existence of predatory sectors. It is shown how societies plagued by predation are likely to fall into predation/poverty trap. Some countries are predicted to fall in a ‘predators’ club’ with a low long run income level whereas other countries can be predicted to fall within a ‘producers’club’ which exhibits a higher long-run income level. This prediction clearly contrasts the classical hypothesis of convergence between poorer and richer countries.

Secondly, as noted in Vahabi (2010), the existence of conflict is also rule-producing. That is, the set of rules governing societies descend from the mechanisms implemented in order to manage the unproductive activity of conflict. Put differently, managing conflicts shapes the very fabric of societies, namely the set of rules governing behavior of individuals, groups and organizations. This is crucial whenever That is, this is in line with the recent emphasis economists place on the study of institutions. In this vein, recent studies by Dixit (2004), Acemoglu and Robinson (2006), Greif (2006) and North, Wallis

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and Weingast (2009) contributed in different ways to the study of institutions through a theoretical reasoning which took into account the existence of conflict and violent appropriative activities from the start.

In sum, the core of peace economics has to be found first in the study of the interplay between productive and unproductive activities within societies. This is useful to understand both the long-run determinants of economic prosperity and the shaping and stability of institutions governing economic and societal life. In addition, it also contributes to understand the economic causes and pre-conditions which make actual violent conflicts possible.

3. The Positive Analysis of Conflict The reasoning of the previous paragraph suggests that the first pillar of peace economics is the positive study of conflict in order to evaluate the consequent allocation of resources between productive and unproductive activities. The cornerstone of contemporary conflict modeling is the seminal work of Hirshleifer (1988/1991a/1991b/2000). Hirshleifer proposed a novel analytical theory of conflict in the form of a general equilibrium model that could be applied to a wide variety of conflicts. The basic model integrates the incentives and possibilities of appropriation with the production possibilities of rational agents. Thus, rational agents at a given point in time, are endowed with some positive resources endowments and some technological capabilities for both productive (named ‘butter’) and unproductive activities (denoted by ‘guns’). Then, the rational opponents struggle over the distribution of a joint output, so that they also make a choice in the allocation of the available positive endowment of resources between butter and guns. To do that, they apply the traditional machinery of non-cooperative game theory. The resulting social state is then shaped by the existence of conflict and is Pareto-inferior to a social state with no conflict. The Hirshleifer model opened the way to a wide strand of literature which has been continuously expanding over the years2. Most Hirshleifer-style models focus on elements which modify the outcome of conflict itself so determining a shift in relative weight between appropriation and production.

There are some common results: (i) conflict is a redistributive activity. Thus, the poorer parties are able to improve their position relative to the opponents. In particular, whenever the warring parties are largely asymmetric in

2 See among others, Grossman (1991), Skaperdas (1992), Grossman and Kim (1995), Skaperdas and Syropoulos (1996), Neary (1997), Noh (1999), Genicot and Skaperdas (1992), Baker (2003), Bös and Kolmar (2003), Garfinkel (2004), Dixit (2004), Alesina and Spolaore (2005), Maxwell and Reuveny (2005), Caruso (2006/2007/2010), Hausken (2004/2006), Munster (2007), Garfinkel, Skaperdas and Syropoulos (2008), Munster and Staal (2011), De Luca and Sekeris (2011). See also the survey by Garfinkel and Skaperdas (2007).

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terms of their resource endowments, the poorer party will devote all its entire endowment to guns. This is what Hirshleifer defined the ‘paradox of power’3. (ii) Asymmetry in technology of fighting does matter. That is, the relative advantage of one conflict technology over another must be negligible to produce cooperation between parties. Specifically, given a comparative advantage in guns, allocation of the combined pot of resources is distorted in favor of guns. Shifts in military technology determine instability in the economic incentives that may emerge in the presence of peaceful agreements. In other words, the more advanced the military technology, the fewer are the disincentives to initiate a conflict. (iii) Productive technology does lower the incentive of parties to fight. Moreover, the higher the productive interdependence between parties, the lower will be the incentive to fight.

In what follows, I highlight some issues of economic analysis of conflict which, I think, are crucial in the study of peace economics: namely a) integration of conflict within the market structure; b) cognitive aspects in conflict; c) modeling a dual economy in the presence of conflict. 3.1 Integration of conflict within the market structure

As noted above, contemporary Hirshleifer-style economic models of conflict integrate the incentives and possibilities of appropriation with the production possibilities of rational agents. However, most available models do not take explicitly into consideration other elements that shape the structure of the market where conflicting agents interact. Put differently, exchange possibilities are not fully integrated in the models. For example, in many contributions, prices of goods and preferences of consumers are not explicitly modeled. This may constitute a severe limitation. In reality, market and conflict interactions co-exist and influence each other. Anderton, Anderton and Carter (1999) model a one-time interaction between two agents as a sequential predator/prey game with the potential for Ricardian trade. The common interpretation of the gains of trade is modified in order to include the detrimental effect of predatory activities. Since exchange and appropriation are intertwined, pure conflict and pure trade constitute only special cases of these new integrated models. The model shows how conflict can be overcome by gains from trade, but at a cost of modifying exchange itself. Anderson and Marcouiller (2002) integrate a trade model with conflict to explain the relationship between insecurity and the patterns of trade. They show how the distribution of labor between productive and predatory activities, determine the proportion of goods subject to seizure thereby translating

3 Notably, this has been proved to hold only under certain parameters in Durham, Hirshleifer and Smith (1991).

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into a price-markup equivalent to a hidden tax on trade. Eventually, import demand is negatively affected.

However, the works cited represent only notable exceptions. That is, in spite of its remarkable significance, much remains to be done with regard to the impact of both intra-state and inter-state conflicts on the very structure of the market and the consequent impact on demand, prices and the allocation of resources.

3.2 Cognitive aspects in modeling conflict Crucial to understanding human interactions is the study of how agents handle the information available. In particular, classical game theory developed to predict how economic agents behave in strategic interactions, is based upon the idea that players: (i) think strategically, namely they form beliefs based upon the analysis of what others do; (ii) choose the best response possible given their own set of beliefs; (iii) adjust their beliefs consistently. Recent advancements in game theory and experimental economics have pointed out severe limitations to the postulate of perfect rationality. This may be significantly relevant to both actual and potential conflicts. Isard and Smith (1982) and Isard (1988) emphasized this aspect by looking in particular at learning processes within conflict interactions.

Hence, a crucial path to enriching the contemporary way of modeling conflict is to consider how agents adapt their beliefs to this kind of environment and interaction. Adaption of beliefs of agents can be integrated into the economic theorizing about conflict along two main lines: (i) modeling identity; (ii) modeling information acquisition and processing.

First, identity shapes beliefs of individuals. This may help, in many cases, to understand the emergence of destructive activities. This had been pioneered in Boulding (1956). In this vein, Sen (2008) recently discussed how emergence of violence cannot be related only to economic factors but must also to be interpreted in the light of some components of identity such as nationality, culture and religion. In the realm of formal economics, Akerlof and Kranton (2000) pioneered the study of identity in economic interactions by augmenting the utility functions of individuals with identity-based actions. Along this line, Murshed (2008) models the impact of identity in conflicts with a particular focus on two forms of low intensity violence: civilizational or cultural conflict and sectarian violence. However, in spite of its relevance, this is a line of inquiry which is still underdeveloped.

A second line of inquiry on cognitive aspects is related to information acquisition and its impact on agents’ beliefs, namely on how agents adapt their beliefs in the presence of new information. As noted in Arrow (1995a) this can constitute a serious obstacle to conflict resolution. In fact, in a dynamic

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framework, the way agents modify their beliefs is crucial. Traditionally many game theoretic models have relied upon some simplifying assumptions that agents are Bayesian, acquiring and using information optimally. However, if we assume that agents involved in conflicts do not update their beliefs according to Bayesian script, we have to find novel solutions to produce reliable predictions about agents’ behavior. A candidate theory to be integrated in peace economics models is the theory of cognitive dissonance as expounded in Festinger (1957) and eventually applied to economics by Akerlof and Dickens (1982) pointing out that economic analysis which takes into account cognitive dissonance gives different results from the standard analysis. The basic idea surrounding this theory is that people are uncomfortable with dissonant cognitions. Feasible reactions to dissonance are (a) changing one or more beliefs; (b) acquiring new information to increase the existing consonance; (c) reducing the importance of dissonant cognitions. The latter point in particular is likely to make agents’ beliefs persistent over time. This is crucial in conflicts either actual or potential. If someone is sure to have ‘God on his side’, he can search for information confirming that he is firmly committed to the defeat of an unfaithful enemy. On the other side, if someone is completely sure that the ‘War on Terror’ is devoted to eradicate terrorism and promote democracy, he is likely to lower the relevance of the dissonant record of the Abu Ghraib tortures within the set of his beliefs. However, on the other hand, dissonance created by the acquisition of new information could have induced a change in beliefs. Therefore, in the cases quoted above, someone could have modified his belief to no longer justify either the self-proclaimed leader who promotes violence based upon religious beliefs or the ‘commander in chief.’ Albeit simple, these examples make clear the remarkable importance of beliefs and their updating when modeling conflict.

3.3 Modeling a dual economy in the presence of conflict A third issue is related to the very structure of economy and its impact on conflict. It has been stated above that the key to understand conflict and peace economics is the relative distribution between productive and unproductive activities. The implicit assumption of most general equilibrium theoretical models of conflict is that all productive activities are subject to appropriation. Hence, the trade-off appears to be simple: produce or predate. Consequently as guns increase, butter must decrease. There is no alternative allocation for available resources. However, in reality, parties involved in a conflict have some income and wealth secure from appropriation. Hence, there must be a relationship between the choice of resources that are to be allocated to conflict and the choice of resources to be allocated to secure production.

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To simplify the reasoning, we can consider an economy characterized by two sectors. In the first sector, call it the uncontested sector, each party holds secure property rights over the production of some goods. This security of property may stem from institutional guarantees, or could be the effect of geographic or technological barriers to would-be predators. Such secure production can assure the holder of a predictable income stream and level of consumption. In the second sector, call it the contested sector, agents struggle in order to appropriate the greatest possible fraction of a contestable output. With a contested/uncontested distinction in mind, it is possible to state that there are at least three possible allocations of resources, here termed (i) guns, (ii) butter, and (iii) ice-cream. Butter and guns denote the classical trade-off between production and appropriation. Ice-cream denotes all the productive activities which are not under threat of appropriation. In other words, it denotes all the business activities which are not directly affected by the existence of conflict. In such a case the opportunity cost of conflicts would be related not only to the ‘contested production’ but also to the production of goods which are not subject to appropriation (see Caruso, 2009a and 2010 for an analytical treatment). In this dual economy, welfare and national income depend upon butter, guns and ice-cream. Moreover, all else equal, a society with a higher proportion of resources devoted to ice-cream could be considered preferred. Whenever a higher proportion of resources will be allocated to the uncontested sector, fewer resources will be allocated to the contested sector.

Simple fitting examples could be drawn from many developing African countries which experience the sadly famous ‘resource curse’, in which poor countries ‘blessed’ with an over-abundance of natural resources are more likely to descend into internal violent conflict. In many territories, the government and various warlords or rebel groups compete over the appropriation of rents flourishing from exports of natural resources. This often leads to violent conflict, followed by social unrest and civil war. A few examples on the African continent include diamonds in Sierra Leone and Angola; timber and diamonds in Liberia; gold, copper and diamonds in the Democratic Republic of Congo; and oil in Chad and Nigeria, to name only a few. Such sectors are clearly contested, in our terminology. Instead, agriculture and small manufacturing presumably constitute a large portion of an uncontested economic activity taking place in safe territories. Resources invested in such sectors can also be included within the class of ice-cream. Everything else equal, the higher is fraction of resources invested in ice-cream, the higher is likely to be the potential income in the uncontested sectors. In fact, whenever the returns emerging in the ice-cream sector are sufficiently high, a higher level of resources will be allocated to this uncontested production. In a nutshell, in war-torn and post conflict societies, investments in the production of

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ice-cream can raise the opportunity cost of conflict so inducing a positive economic growth.

In brief, this line of theoretical extension is intended to design a novel type of dual economy where the duality depends upon enforcements of property rights, namely an economy made of different sectors distinguished by different levels of appropriation, conflict and property rights enforcement. Eventually, the process of economic development can be studied as an increase in the uncontested sector relative to that in contested sectors. 4. Normative Character of Peace Economics Peace economics is also a normative science. That is, the positive economic analysis of conflicts is only a component of a broader effort of peace economists to propose proper policies to cope with actual and potential conflicts. Echoing Boulding (1978), «[…] One could perfectly well suppose a discipline of polemology as a positive science studying conflict in all its aspects, which had no normative implications. Peace research, however, has always been normative, in the sense that it has been practiced by people who are deeply conscious of the pathologies of conflict and who want to make it as cheap and productive as possible[...]»4. The normative character of peace economics is also confirmed in Isard (1994) and Arrow (1995b).

In particular, in the light of the insights drawn from theory of conflicts, economic policies can be designed specifically in order to cope with and control unproductive conflicts within societies and between groups, organizations and states. This would be intended to uncover the factors which lead to a sustainable and peaceful economic development in the long run. In this respect, economic policies designed to mitigate the intensity of conflicts within societies are to be considered in the domain of Peace Economics. More recently, Coloumb, Hartley and Intriligator (2008) also emphasized that peace ought to be a research issue per se for economists. In particular, the authors state «[…]denouncing war and its economic consequences is not enough. In most economic research, peace remains a result or a pre-condition for economic efficiency. It does not attain the status of a full economic issue. This situation cannot be considered as satisfactory for two main reasons. First, history demonstrates that, in particular, having a market economy is a necessary condition for peace, but is not sufficient.[…] Second, peace cannot be considered only as a result or an exogenous factor. It is very unsatisfactory to define it as the absence of conflicts or war: this is how defence policy can be defined, not peace. This latter requires an active policy, for it is far

4 Boulding (1978), p. 343.

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from certain that peace will always emerge from given economic conditions. If we truly want peace, then we cannot escape from investing in it! […]5».

Therefore, the necessary question of peace economists ought to be: is it possible to design economic policies capable of mitigating the risk of violent actual conflicts? Which economic policies are able to favor the establishment of an economy where productive activities dominate over unproductive activities? In brief, economic policies in the eyes of a peace economist, must be targeted to address the causes and consequences of appropriative activities of conflict. In particular, with the contested/uncontested dichotomy in mind, among economic policies crucial to the field of peace economics the following can be broadly considered (i) policies to reduce unproductive spending as military expenditures; (ii) policies to reduce the reliance of economies on contested sectors; (iii) fiscal policies to favor the allocation of resources to uncontested production in productive sectors. 5. Conclusions The purpose of this paper was to contribute to the definition of ‘peace economics’. The main novelty I would claim for this short essay is that the core of peace economics has to be found in the distribution between productive and unproductive activities. In particular, such a distribution is shaped by the structure of the economy and the distinction between contested and uncontested activities. It had been also highlighted that, apart from positive economic analysis of conflict, the purpose of peace economics is also that of informing economic policy with analysis and instruments to prevent destructive actual conflicts.

After all, lessons from history have a lot to teach current economic policymakers about the role of economic policy in conflict prevention and pacification. Take for example the post war periods in Europe. After World War I, it is widely acknowledged, that the post-war economic prescriptions of Versailles Treaty contributed to provide the basis of Hitler’s electoral success, thereby paving the way to the World War II. In addition, in the interwar period, the economic policies of European states were highly characterized by rearmament. The unproductive burden of ‘guns’ crowded out productive sectors, thus making the road to war irreversible. Instead, the Marshall Plan in Europe after the World War II proved to be much more successful. In fact, at that time, European countries were encouraged to shift from unproductive ‘guns’ to productive ‘ice-cream’. At the same time, the management of ‘butter,’ or contested resources such coal and steel, was regulated under the umbrella of the European Community of Carbon and Steel founded in 1950 in order to promote reconciliation between

5 Coulomb, Hartley and Intriligator (2008), p. 383

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France and Germany. That is, the set of economic policies of the Marshall Plan were explicitly intended to target the potential causes of hatred and grievance between European countries. This is a remarkable example of an economic policy whose object was a sustainable peace.

Finally, this paper tried to outline some important aspects of peace economics. The positive ‘side’ of Peace economics emphasizes the study of conflict which is interpreted as a strategic destructive interaction between rational agents. The normative ‘side’ of peace economics is the study of economic policies intended to minimize the unproductive components within economies, thereby also reducing the risk of outbreak of actual conflicts. In this respect peace economics can also contribute to the study of the establishment of endogenous institutions leading to the permanent peaceful development of societies. References

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Documents

On the Nature of Peace Economics