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Capitalism is highly effective at finding and implementing solutions but it inevitably involves trial and error that is rarely efficient.

The New Deal in the American Political Imagination

A critical element of understanding capitalism as an evolutionary, problem-solving system is the idea that it is not how hard we try to solve a problem that is critical, but rather, as the University of Michigan theorist Scott Page has shown, it is the diversity of ideas and approaches that matters most in problem-solving effectiveness. Giving wealthy people like him tax breaks will not suddenly encourage them to have more ideas.

If workers have no money, businesses have no customers. Successful capitalist policies recognize and animate this circle-of-life feedback loop by balancing different elements in the economy to create a virtuous cycle of growth and shared prosperity. People who effectively solve large problems for a large number of other people can be massively rewarded.

It is this freedom and the incentives for every citizen to solve problems that explains why capitalist countries are rich and why authoritarian and communist countries are generally poor. In such countries the problem-solving creativity of people is either circumscribed, prohibited, or quite often directed at solving problems for the regime. The extraordinary difference between the poverty of communist North Korea and the prosperity of capitalist South Korea is a demonstration of this.

Likewise a teacher who finds a better way to teach algebra is also solving an important problem for society. So also is the diligent government worker who finds a way to deliver better services at lower cost to the public. But the public sector sometimes struggles to create a culture and incentives that allow space for the experimentation, risk-taking, and failure that are essential to effective problem solving.

Bureaucracies and political forces can stifle or distort evolutionary exploration. That said, there are numerous problems that only government can solve, ranging from the provision of public goods such as roads and other infrastructure, to dealing with externalities such as reducing pollution, enforcing property rights, providing security, and addressing social injustices. Realistically, the public sector is going to play a big role in many parts of the economy as well as in many aspects of society.

So governments need to be problem solvers, too. It is imperative that we bring the evolutionary processes of problem solving inside the walls of government and build public institutions that have incentives to innovate and space to experiment. The view that prosperity is solutions, and growth is the rate at which we create them, also makes more obvious the crucial importance of investments by governments in technology, innovation, and education.

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In most cases, it will be businesses and entrepreneurs who bring these solutions to citizens. But it will be the education of the workforce and the scientific, technical, and social innovations available to society that will empower these businesses. Rather, these investments are necessary to create growth and prosperity. But the mere fact that communism and authoritarianism fail does not mean that unfettered capitalism succeeds.

What “Capitalism” Is and How It Affects People

Traditional economic theory puts perfect markets on a pedestal, and any deviation makes someone worse off, reducing the welfare of society. This is the age-old problem of political economy. How does an economic system resolve conflicts and distribute benefits? Overwhelming evidence from the fields of social psychology and behavioral economics shows us that people are not very good at managing these trade-offs, resolving conflicts, or recognizing interdependencies on their own.

We overoptimistically believe that house prices will keep rising and that we can refinance when our low teaser rate expires. Understanding prosperity and growth in this new way allows us to make important distinctions between different kinds of economic activity. And if that high-frequency trading also makes the global economy more fragile, then that implies something even more damning about this activity. And who has the moral right to decide? In the traditional framework, it was simple—people vote with their pocketbooks, and if an activity is valued by the market, it must be good.

But when an activity solves a problem for some but creates a problem for others—or even the same person later on, or for future generations—who should decide what is good economic activity versus bad, and how?

The usual answer has been that government regulators get to decide. But like markets, regulators create problems as well as solve them. So we also need mechanisms to regulate the regulators. Democracy is the best mechanism humans have come up with for navigating the trade-offs and weaknesses inherent in problem-solving capitalism. Democracies allow the inevitable conflicts of capitalism to be resolved in a way that maximizes fairness and legitimacy, and broadly reflects the views of society. Although regulation in economies is necessary, the costs to society in terms of restricting the freedom to innovate, invent, and compete can sometimes be high, as conservatives correctly point out.

But it also needs to be recognized that sometimes new economic activity actually creates more problems than it solves and needs to be limited.

At other times, new economic activity merely threatens the old order and should be encouraged. Finding the balance between these competing demands is difficult.

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Democratic governments are the only institution with the legitimacy and accountability to make such trade-offs, and that is why the corrosion of our democratic institutions by growing crony capitalism is so threatening to our long-term prosperity. It also means that those who truly care about capitalism should be more concerned about the quality and effectiveness of regulation rather than simply its quantity. But responsibility for finding the right balance rests not just with governments, but with citizens, too.

Viewing prosperity as solutions to problems helps enable citizens to use common moral sense to more clearly discern which kinds of economic activity actually make their community better off versus activity that merely enriches some of its members. Just as the neoliberal orthodoxy of the late twentieth century led to important shifts in popular culture and beliefs, we believe that new views of economics and a new definition of prosperity have the potential to change our culture, too.

Today our culture celebrates money and wealth as the benchmarks of success. Imagine if instead we celebrated innovative solutions to human problems. There are places where such an imperative prevails—for example, the MIT Media Lab, where highly talented people from around the world work tirelessly to solve the most challenging problems they can find, such as using robotics to help disabled people, or using information technology to increase civic engagement, or designing more sustainable cities. They might not necessarily make big money doing it, but they have defined their status in terms of solving big, hairy problems to help people and society.

In contrast, miles south of MIT on Wall Street, an equally talented group of people measures status based on the size of their paychecks. Many of these people may do great things for society too—including help the MIT geeks commercialize their inventions—but the culture and values are noticeably different. Traditional economic orthodoxy makes the people at MIT seem irrational and the Wall Street people seem rational. Our definition of wealth and prosperity reverses this.

Solving problems that benefit people is the goal, not making money. Making money might be a necessary condition for solving many problems—businesses need profits to endure and grow. But saying profits are the goal confuses means and ends. Treating profits as the goal is like saying that the purpose of life is to eat—our bodies need food, but it is a means to other ends, not the goal itself. There are enormous moral implications that grow out of redefining prosperity.

We have neither the space, nor frankly, the ability to deal with all those questions here. But we do believe that the obvious moral implications of judging economic activity by the social value of the problem it solves, rather than the money it earns for particular individuals, may lead to cultural and behavioral shifts exceeding the influence of any regulation. In any complex society, initial advantages and disadvantages abound—where you are born, who your parents are, what education you had, what opportunities and barriers you face, and so on. Capitalist societies have real Horatio Alger stories.

But at the same time, the dynamics and path dependency of capitalism can reinforce starting advantages and disadvantages. Traditional economics looks at inequality through a monetary lens—for example, what share of total income the top 1 percent have. But we can also look at it as a question of access to solutions to human problems. What percentage of the population has access to good housing, transport, health care, entertainment, and so on?

How does the quality of that access differ between the rich and the poor? Matt Ridley in his book The Rational Optimist makes the strong argument that viewed from this perspective, things have become both significantly better and significantly more equal—particularly when seen against the long sweep of history.

The gap in nutrition between a lord and a serf in the Middle Ages was immense. This narrowing of the gap in material prosperity has happened not just in America but in developing countries as well, as more than a billion Chinese and Indian citizens are entering the global middle class and gaining access to important solutions like indoor plumbing, mobile phones, and motorized transportation. Inequality as an outcome may actually look less severe than it does from traditional money-based measures. But if we consider inequality not just as an outcome but as an input into a capitalist system, things look more problematic—in particular, if it is limiting access to opportunities.

As discussed, effective capitalism depends on a population of competitive, diverse problem solvers. If society is not making adequate investments in that population and providing equality of access to opportunities, the circle-of-life feedback loop of growing prosperity is broken.

Unlike any other country in the survey, the United States had more people in both the very top and very bottom rankings for many categories. Likewise, most countries saw higher skill levels in younger versus older survey respondents. In contrast, the younger generation in the United States performed roughly the same as older Americans. Concentrating money in the hands of fewer and fewer people has further deleterious effects. It allows the richest people to bid up the price of the things in society that define the good life, such as housing, education, and health care.

And concentrating money and wealth also slows down the feedback loop between consumers and businesses, limiting the dynamics of innovation, problem solving, growth, and prosperity.