2. Economic Growth: Inside the Black Box
2.1 Introduction
The New Zealand economy is a complex system, with various components of that system interconnected with each other and with the rest of the world. Productivity growth within this system takes place through transformation of what is produced and how it is produced and marketed. This process of transformation is driven by business entrepreneurs operating principally within companies. In turn, the entrepreneurs are influenced in what they do and how they do it by the natural and institutional environment in which they operate. The following sections examine each of these issues.
2.2 Productivity, Innovation and Economic development
Productivity growth is driven by innovation: that is, the discovery, creation and commercialisation of new and improved products (goods or services) that consumers value, the development of productive new markets for existing products, and the discovery and implementation of new and more effective ways of organising production, distribution and marketing.
The following pages expand on this contention. It has two key components.
First, innovation is the creation of something new – it involves doing something that has not been done before. This innovation may be new to the world, new to the country or new to the business. Innovation leads to the creation of new or upgraded goods and services, business models, methods of production6, methods of distribution and markets. The upshot is that after an innovation is introduced, the economic structure is different in some way. Importantly, the knowledge base is also different – what the world knows after the innovation is different from and greater than what it knew before.
The second critical component of innovation is that the new thing created is valued by consumers in some way. Either it provides them with something new or different that they are prepared to pay for, or it provides them with something they already value more effectively or at lower cost.
2.3 Radical Uncertainty
The process of innovation takes place in a radically uncertain environment. Since innovation means doing something that has never been done before, there is an element of genuine uncertainty in all innovative activity. This is about Knightian uncertainty, not risk. The outcome of any attempt to create new value, like the future itself, is unknown and unknowable (Frederic Sautet in Procter, Carlaw, Easton, Grimes, Mare and Sautet 2008).
2.4 Innovation under Uncertainty: The Role of the Entrepreneur
Entrepreneurs and businesses7 are central to innovation. They seek to understand and anticipate (and in some cases create) market demands, and to develop new and better ways of meeting them. They operate in a radically uncertain environment. Entrepreneurs grope forward into this radically uncertain environment in a purposeful, profit-seeking manner (Lipsey, Carlaw and Bekar 2005, page 30)8.
There is a large literature exploring what motivates entrepreneurs. It appears that humans innovate both because it yields intrinsic satisfaction and because it leads to material rewards. Evolutionary psychology suggests that there may be an evolutionary basis to both of these motivations. Potential profits therefore provide a key motivation and guiding light9. Importantly for New Zealand, the payoff to entrepreneurship also includes social approval. The culture of a society – who people look up to and what they respect affects what entrepreneurs strive for and therefore where they allocate their entrepreneurial effort (Baumol 1990).
In this context, the distinction between risk and uncertainty is critical. Objective optimisation is impossible, since we have no well-founded probability distribution over which to optimise and in fact do not even know all the feasible eventualities to optimise over. Different individuals, faced with exactly the same information set, may legitimately have quite different probability distributions about the likely consequences of any proposed action, and so reach quite different judgements on the best way forward. There is no way of determining until the future unfolds whether either view or any other view is correct. In contrast, in almost all neoclassical models, "…two individuals, faced with the same endowments and tastes, faced with the same choice between two alternative courses of action and possessing the same set of relevant information, are predicted to make the same maximising choice" (ibid).
While this means there is no objective way of predicting the future10, the entrepreneur can (and must) form a view of the future, because experience shows that the future is likely to be in important respects similar to the past. So entrepreneurship involves a selective mapping of the past into the future (Loasby 2004, page 4).
2.5 Profits as the Engine of Growth
Because profits result from creating better or cheaper products that consumers value, the search for profits ensures that entrepreneurs and businesses seek out innovations that are socially beneficial11. Even if an entrepreneur is not primarily motivated by profit, the generation of profits is necessary to generate the resources necessary to allow the entrepreneur's business to expand. In other words, profits also provide the engine for growth, by providing the funding that can be used for expansion of the businesses that are best at meeting consumer needs, and by starving those that are poor at doing so.
If the entrepreneur innovates successfully, they create value in the form of increased profits, wages or consumer benefits. These benefits arise because the product is produced more cheaply or because consumers are prepared to pay more for the new product than they were paying for the product that was previously produced with the same inputs. In other words, there has been an increase in the value of real output per hour worked – that is, an increase in productivity12.
2.6 Innovation Builds on Innovation, Leading to Economic Growth
As is noted above, innovation creates new knowledge. This new knowledge provides a foundation for yet more innovation.
Typically, products are introduced in a relatively crude form and are used in relatively crude ways. Over time through a combination of experiment, intelligent design and accident, how the product is used, made, distributed and marketed evolves to become increasingly sophisticated over time.
Hwang provides circumstantial evidence for this evolutionary process by showing that the unit value of a new-to-country export product starts off low but increases to the world frontier over time (Hwang 2006).
Using case studies, Lipseyet al 2005 (page 99) provide evidence for this evolutionary process in the discovery and implementation of general purpose product and process technologies (GPTs). GPTs are technologies that start off with one use, but end up with many uses across many sectors. While the authors focus on GPTs, it is likely that their findings apply to a greater or lesser extent to all other types of innovations.
The development of GPTs follows a tree-like structure (ibid, page 379) with the GPT spawning successive products which themselves follow a similar development path. The productivity of the technology, how widely it is used and the new investments that it spawns all typically follow a logistic curve, starting slowly and then building less slowly before eventually tailing off.
For example, electricity was originally studied because natural philosophers wanted to understand its nature13. With the invention of the voltaic cell in 1800, it became useful in a limited range of applications, the most important of which was the telegraph. In 1867, following a mix of discoveries and invention, the dynamo was introduced. After some experimentation between the use of direct current and alternating current, experience led to the displacement of direct current by alternating current for distributed generation because the latter was easier to transmit over distances. The use of electricity spread to street lighting and street cars. Eventually, electric motors came to replace steam engines in factories. This freed factories from relying on one central source of power, and allowed experimentation both in the layout and size of factories. Later still, motorised household appliances and computers were invented. The computer and computer chip were put to a myriad of uses including aeroplane controls, alarm clocks and the internet14.
As is noted above, a successful innovation creates a one-off increase in value. Some of the value accrues to the entrepreneur who created the innovation. Further benefits accrue to workers who produce the product (in the form of higher wages) and to the people who consume the product (in the form of more useful products or cheaper prices). And other benefits accrue to people who make use of the resulting new knowledge to create other innovations.
The more direct benefits of innovation arise because consumers are prepared to pay more for a new product than for a product that was previously produced with the same inputs. In other words, there has been an increase in the value of real output per hour worked - that is, an increase in productivity. For the same reason, the innovation's further dispersion and refinement, and the development of successful new products which make use of it, lead to further one-off increases in productivity and so income per capita.
A series of one-off profitable innovations therefore leads to a series of one-off increases in per capita incomes – i.e., leads to economic growth.
Thus economic growth results primarily from a succession of one-off innovations which are gradually refined and diffused over time.
Each innovation in turn improves the capabilities available to the economy, in terms of both knowledge and skills, and so provides the foundation for yet more innovation and growth.
The key point about innovation is that there need not be diminishing returns to capital investment in new technologies. A new innovation opens up a new way to use capital and labour. Provided the investment in successive innovations just recovers its cost of development, growth in output per capita can continue indefinitely (Lipsey et al 2005, Appendix to Chapter 4).
This is in contrast to continued capital investment in existing technologies with no further innovation, where continued per capita investment leads to diminishing marginal returns until new investment becomes unprofitable. As a result, with no further innovation, per capita investment and per capita income growth eventually stops.
Innovation is therefore the foundation of, and essential to, ongoing economic growth.
2.7 Different Countries Specialise in Different Things
The above discussion highlights the fact that economic growth is path dependent - what you produce today adds to the foundation of knowledge and other capabilities that you will build on to produce new things tomorrow. This path dependence can be seen in the different development paths of different economies.
The standard Ricardian theory of Comparative Advantage suggests that a country will specialise in production of those goods where it has a comparative advantage. In conventional Heckscher-Ohlin trade theory, a country has a comparative advantage where it has an abundance of a particular factor of production. Thus, for example, countries with an abundance of labour will tend to specialise in goods which require relatively more labour input to produce.
Closer examination reveals a picture that is richer and more interesting than this. As suggested by the theory of comparative advantage, countries will tend to specialise in areas indicated by their resource endowments. However, they will also tend to produce products that are different from other countries with similar natural resource endowments. For example, Pakistan and Bangladesh, two countries that at face value have similar resource endowments, produce distinctively different products. Pakistan produces bed-sheets but few hats whereas Bangladesh does the opposite (Hausmann and Rodrik 2003, page 21).
The reason that otherwise similar countries produce different products is the path dependence discussed above. This in turn reflects differences in capabilities available to entrepreneurs within the different countries.
In order to invent and produce a new product or process, an entrepreneur must acquire or create the capabilities needed to produce it. This is no easy task, as even the simplest products in a modern economy require a myriad of different capabilities to produce. Hausmann and Rodrik 2006 (pages 9-10)15 illustrate the multiple capabilities required for production of new products by using the example of a relatively simple transaction – the sale and purchase of a house. They readily identify fifteen-odd separate but interrelated institutions that are needed for that transaction to happen. These include, for example, real estate agents, registries to record sales and charges over the property, and laws to enforce the contracts entered into. Given the coordination problems involved, these inter-related institutions are unlikely to develop other than in an evolutionary manner. Each will appear in a rudimentary form and evolve into more sophisticated forms in response to the evolution of the other capabilities.
The result is that (absent government support) it appears to be almost impossible for economies to produce products that require capabilities that are anything more than modestly different from their current capabilities.
An important and unsurprising corollary of this analysis is that rich countries produce different types of products from poor countries and they produce products in different ways that poor countries cannot easily imitate. That is the reason that the poor countries are not rich. Economic development is the (difficult) process of transforming the production structure from producing like a poor country towards producing like a rich country. The difficulty arises in part because of the complex interdependent nature of the capabilities required to produce rich country goods like a rich country (Hausmann, Hwang and Rodrik 2006).
In addition, because producing new products is difficult, poor countries that are already exporting goods that are typically produced by a rich country (so called "high income-content" products) tend to grow faster in future than countries that have relatively low income-content exports. China is one example of the former (Hausmann et al 2006).
2.8 Innovation in Product Space
We can get a clearer idea of how path dependent evolutionary development occurs in practice by drawing a picture of "product space". This picture maps how "close" each product is to all other products. Closeness is measured by an outcome measure – one product is "close to" another product if a country that produces one also tends to produce the other. It likely therefore reflects differences in capabilities, resource endowments and associated inputs to production (e.g., New Zealand has developed an expertise in stainless steel manufactures because they are used in the dairy industry).
Using this measure of closeness, Hildago et al find that any new product that a country exports tends to be "close to" products it already exports (Hildago, Klinger, Barabasi and Hausmann 2007). Thus for example over the period 1975 to 2000, Malaysia turned a foothold in the part of product space associated with electronics into a cluster of significant activity "close to" the original foothold (Hausmann and Rodrik 2006, page 17).
In addition, product space is not uniform. Countries with exports in parts of product space that are "close to" a relatively large number of other high value products therefore have an easier job in shifting into these other high-value products. Some countries, like China, India, Turkey, Poland and the Czech Republic, are in a very propitious part of product space, while other countries with the same income level are much less so (Hausmann and Klinger 2006).
2.9 Other Forms of Innovation
We do not have the quantitative data of this sort for other forms of innovation. However, by analogy, it seems likely that the product space analysis that is recorded above is just the "tip of the iceberg", and that similar forms of innovation-driven evolutionary economic change take place along a wide range of other dimensions. For example, the above analysis is conducted at the SITC (Standard International Trade Classification) four digit level of aggregation. If we disaggregated further, we would expect to see a similar sort of evolutionary development. Likewise, if we could apply the same sort of analysis to business inputs, to non-traded goods, to services, to business models, to marketing and distribution methods, to organisational design and to business processes, we would expect to see economic development supported by existing capabilities and leading to new related but different capabilities. These in turn would continue to provide the basis for yet further innovation and transformation of the economy.
This hypothesis gets support from Lipseyet al 2005 (page 203 ff). They describe the development of a range of goods, services and organisational GPTs in a way that is consistent with an evolutionary process of development.
Thus comparative advantage and absolute advantage arises from the complex and very specific mix of capabilities – skills, knowledge, institutions and networks – that are available in an economy, as well as resources and factor endowments. In contrast to traditional Ricardian comparative advantage, most of these advantages are generated by the economy, rather than being due to its initial resource endowments. That is, they are man-made, not natural.
2.10 Application to New Zealand
There are three major lessons from this analysis for New Zealand.
First, the highly differentiated nature of products and capabilities means that areas of comparative advantage will be highly differentiated. This means that even a tiny country like New Zealand can realistically aspire to retaining and developing a sustainable comparative advantage in a few areas.
Second, where a country has a comparative advantage, it is likely that it has a myriad of interrelated, difficult to replicate, world class capabilities and resources16. It is also likely that the country will develop new world class capabilities in products adjacent to its current comparative advantage. These new capabilities will be difficult to replicate for a country that does not have an existing similar comparative advantage.
Third, because of this tendency, and because of the impact of clusters of activity on productivity (Cortright 2006), these niches are likely to be part of clusters of activity that are closely related both geographically and in terms of technologies or other capabilities.
In New Zealand's case, these lessons put a particular focus on the primary industries and the food and other manufacturing and service industries built off them. Importantly, given the capability-driven path-dependence outlined above, it also puts a focus on the related and supporting industries.
The importance of upgrading both within and from New Zealand's natural resource based industries is evident from some other rich countries that share in a general way New Zealand's characteristics, such as Finland, Sweden, Norway, Denmark, Iceland, the Netherlands, Canada, and Australia. Without exception, these countries are continuing to develop by leveraging their natural resource bases. Even in Sweden, Finland and the Netherlands, which have developed significant high tech sectors, these sectors have supplemented the low and medium tech specialisations, but have not replaced them. And the high tech specialisations they have created have often grown out of their natural resource based industries. Nokia, for example, started out as a forestry company. Likewise, many of Finland's most important companies are in related industries such as forestry processing machinery and equipment, marine engines, and so on.
All the above countries have grown mainly by the persistent upgrading of low tech and resource-based industries. One of the basic mechanisms in this has been the sustained development of both upstream and downstream linkages from the resource-based industries, leading to major cluster development. The heart of this upgrading and the spawning of related industries is knowledge based. Low tech sectors develop by drawing heavily on science and other knowledge created outside the industry and through innovation within it.
Like other small primary exporting countries, New Zealand is relatively rich in the resources needed to produce agricultural, pastoral, forest and seafood based produce. This undoubtedly was an important reason New Zealand initially developed a comparative advantage in food and fibre products. The history of the development of these industries in New Zealand appears to be well described by an upgrading of inputsto production identical in kind to the development of GPTs and product space as outlined above. New Zealand's pastoral industries have grown on the back of the application of science to inputs to these industries. In addition, there are instances (such as Trutest, Gallaghers and NDA engineering) where new specialisations have grown out of related industries supporting the primary sector.
The lesson for New Zealand is that our food and fibre primary and manufacturing industries together with their related and supporting industries are and (with ongoing effort) will continue to be an ongoing foundation for development in New Zealand. The capabilities that New Zealand has developed in all parts of the value chain provide a foundation which New Zealand can use to build knowledge, skills and infrastructure and so future competitiveness (Smith 2006).
We have not yet been able to formalise the product space analysis for New Zealand. However, a perusal of the product space maps for New Zealand (Hildago et al 2007) suggests that many of our primary industries are in a relatively sparse, low-value, part of the product space. This suggests that developing new areas of comparative advantage from them will not be easy.
It will therefore be important to make the most of the specialisations that we already have begun to develop. This includes those that have grown out of the natural resource based industries, such as those discussed above. It also includes others where historical development has given us a nascent cluster of businesses with current comparative advantage – for example, health care products (e.g., Fisher and Paykel Healthcare), electronics (e.g., Tait Electronics), and boat-building.
On the other hand, for a country that specialises in exports of primary products, New Zealand exports relatively high income-content products. The income-content of New Zealand's exports is consistent with its income per capita (Hausmann et al 2006). So on this measure we seem to have done relatively well to date and have normal growth prospects.
2.11 The Nature of Capabilities
The previous discussion highlights the importance of country-specific capabilities to productivity growth. There is a huge literature that attempts to identify more specifically the nature of these capabilities. These capabilities, and the relationship between them, are summarised in MED's productivity model, attached as Annex 3. I will give a brief overview of the literature here. For a fuller discussion, see for example Temple 1999, Easterly 2001, Helpman 2004, and Weil 2005.
As the housing market example given above implies, the capabilities needed in a modern market economy are myriad, highly-differentiated, interconnected and co-evolving.
In broad terms, there are two types of capabilities – capabilities that relate to individual economic agents, and capabilities that relate to the economy as a system. Underpinning them all are institutions - the "rules of the game", consisting of organisations, the formal legal rules, the informal social norms and their enforcement characteristics that govern individual behaviour and structure social interactions (institutional frameworks). Institutions are fundamental to making growth possible (Acemoglu, Johnson and Robinson 2002, discussed in Helpman 2004, chapter 7). 17
Individual economic agents can be people, businesses, governments, government agencies and other organisations such as universities and NGOs. Capabilities that relate to individual economic agents are either embodied in them or owned by them. For people, for example, one key embodied capability is human capital – skills, intelligence, codifiable and tacit knowledge, and emotional intelligence. Owned capabilities include things like land and other forms of capital, resources etc that agents have at their disposal.
Importantly, many of the capabilities are systemic – they influence how easily agents can relate to each other, how easily they can learn about other parts of the system, and how easily they can discover and access the capabilities they need.
A key way that individual agents relate is through the market. Because of its importance, this is discussed separately below.
Other systemic capabilities include social capital (which influences how easy it is for individuals to connect through the market and in other ways) and culture (which can influence how entrepreneurial people are).
Interconnections between economic agents have been studied from a variety of perspectives. Examining agents and the inter-connections between them from the perspective of cities (Crawford 2006) and clusters of economic activity (Cortright 2006), show that both boost economic activity in a variety of ways. They allow better matching, greater specialisation and increased knowledge spillovers.
The national innovation system approach (OECD 2007) examines the role of economic agents and the interconnections between them from the perspective of innovation. This shows that interconnections are critical to innovation because innovation is not a linear or individualistic process. It arises from the ongoing interplay of actors within the economy (and the wider world) and is systemic in nature (Smith 2006). It is driven by entrepreneurs operating in the market and is supported by strong links between businesses and markets, other businesses, universities and the science base. As a result, for example, businesses that collaborate with other businesses tend to be more innovative (Department of Industry Tourism and Resources 2006).
This and other literature emphasises the importance and difficulty of transmission of knowledge between economic agents. Facilitating knowledge transfer is therefore a key challenge for policy.
For New Zealand, a key influence on interconnections, the knowledge flows that they facilitate, and hence innovation performance is geography. The next section explores this.
2.12 The Influence of Geography
New Zealand's geography makes it an outlier compared to other small developed countries. New Zealand is a small country far distant from world centres of innovation and markets. It is also sparsely populated.
All these characteristics impact on innovation. Sparse population means that markets are relatively thin, limiting specialisation, limiting knowledge spillovers within the national innovation system and making it difficult to get the good matching of supply and demand that results from thick labour and product markets. This emphasises the need to coordinate the components of the innovation system to maximise linkages, and to make best use of those areas of agglomeration that we do have - notably, Auckland (McCann 2003).
Distance also matters. Work by the OECD (OECD 2008) suggests that up to 10 percentage points of New Zealand's productivity gap with the rest of the world can be accounted for by size and distance. There are a number of reasons for this.
First, by far the majority of world innovation takes place offshore. We can therefore only expect New Zealand to lead the world in innovation in a few areas, e.g. parts of the food and fibre industries, and some niche manufacturing and services. Thus economic growth is mainly about absorbing innovation from overseas, rather than creating new-to-world innovation. To understand and absorb relevant knowledge, businesses need expertise in the corresponding areas (Helpman 2004, chapter 5). Universities and research organisations also benefit from linkages and collaboration with other research institutions, both here and overseas (North 2005 page 84-85). But knowledge flows fall off with distance. New Zealand is particularly challenged in this regard, because it is both small and distant from world markets.
Thus distance from market makes it difficult for us to learn about innovation from offshore. It also makes it harder for business to learn about and react to overseas market demands.
Trade also falls with distance. (See for example Battersby 2003). New Zealand has a very low trade/GDP ratio for its size (Ministry of Economic Development, The Treasury and Statistics New Zealand 2007). Because much innovation is embodied in goods and services, a low level of trade makes it more difficult to import embodied technology. In turn, this reduces flows of knowledge about new technological developments.
Thus, international linkages (via interpersonal connections, via imports and exports, and via inward and outward direct investment) are critical for allowing information to flow on new innovations, new technologies, new business models, new processes and market demand conditions. Given New Zealand's natural geographic disadvantages, the economy has to do better in other areas to compensate.
2.13 Coordinating Entrepreneurial Effort: the Role of the Market
The economy is a complicated system, in which the actions of each player impact directly or indirectly on many other players. Within this system, potential profits18 guide entrepreneurs towards innovations that consumers and other producers value. In innovating, entrepreneurs use the market, along with more informal networks, to access and combine the multiple capabilities that are necessary to produce each new product.
By motivating entrepreneurs to develop and market products that consumers value, the market resolves the enormously complicated problem of simultaneously working out what consumers value and what producers should produce to meet those consumer wants, in a way that tends to:
- direct resources towards particularly valued uses;
- reward entrepreneurs for their success in innovation;
- compensate each producer for the effort and other resources they need to expend in production; and
- provide consumers with what they want.
"The market system will [tend to] integrate the innumerable pieces of information [currently] scattered amongst individuals and will achieve a degree of social integration that would resemble what could have been attained by a single mind that possesses all knowledge" (Sautet 2000). At the same time, it will generate new information that leads to different behaviours in future.
The effectiveness of the market in coordinating this myriad of transactions is remarkable. However, it is not something that can be taken for granted. In a modern economy, it is neither natural nor perfect. Markets may and historically did start to develop through private action. However, in their modern form they evolve within a framework created by governments.
MacMillan points out that "The 'hand' that guides the market… is a human invention with human imperfections. It does not necessarily work well…. It works through institutions, procedures, rules, and customs". McMillan draws the analogy between an unregulated market and a game of football without a referee or rules. "An absolutely free market is like … a free-for-all brawl. A real market is like American football, an ordered brawl" (McMillan 2002 page 8,12). The analogy is an apt one. Players in a modern football game compete within the limits of the laws of the game, and some try to compete outside the rules. Sometimes they succeed, and sometimes they are caught and punished.
Baumol 1990 examines the historical record of entrepreneurship in promoting economic growth. He demonstrates that all societies have entrepreneurs, but that the contribution of a society's entrepreneurial activities to economic growth varies largely because of their allocation between productive activities such as innovation and largely unproductive activities such as rent seeking or organised crime. This allocation is heavily influenced by the relative payoffs society offers such activities. These payoffs may include prestige as well as material payoffs. Thus for example, the Romans invented the steam engine, but because the incentives did not favour its commercialisation, it did not lead to productivity gains. In New Zealand it appears that small investors see investment in real estate as less risky, more bankable, and more rewarding than alternative investments that may contribute more to future economic growth.
Similarly, North 2005 suggests that markets must be structured to provide incentives for the players to compete at those margins, and those margins alone, that induce growing productivity growth. The market is underpinned by institutions – organisations, formal rules, informal norms and their enforcement characteristics. A country's ability to undertake economic development depends largely on society's ability to create institutions that are productive, fair, stable and broadly accepted – and, importantly, flexible enough to be changed in response to economic and political feedback. "The growth of knowledge is dependent on complementary institutions which will facilitate and encourage such growth, and there is nothing automatic about such development". "The institutional structure is a human made creation whose functioning is neither automatic nor natural. Moreover the structures must be continually altered with changes in the basic parameters of technology, information and human capital….The best recipe … is the maintenance of institutions that permit trial and error experiments to occur".
North goes on to suggest that ongoing government intervention is therefore required to make markets work more or less effectively. This needs to extend beyond "efficient" property rights and the rule of law. "…Factor markets [must] be structured … to get players to compete via price or quality (rather than by killing each other or engaging in other anti-social activities)." Importantly, they also need to evolve over time. "This problem is complex, because successful adaptation to changing conditions entails altering economic institutions, which frequently involves the enactment through the polity of new rules" (North 2005, pages 84- 85, 99, 162-163, 122-124).
Thus, the simplistic dialogue about whether the government should intervene or not, or whether it should deregulate, misses the point. It must intervene, and it must continue to adjust its interventions in the light of evolving market conditions. As a consequence, a typical market economy has a complex web of government provided products (such as education and long time horizon research) and other interventions (such as criminal law and consumer protection law) designed to support effective economic and social interaction.
This does not mean that the government substitutes for the role of the market in allocating goods and services or in setting prices. The market has proved the most effective means of coordinating entrepreneurial effort and creating innovation. However, it does mean that there is a role for the government in influencing the context within which markets work.
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