I am sure this is true.
In the end, what LLSV has done is provide a giant statistical brief in support of the ideas of John Locke, James Madison, and Adam Smith, and they've updated those ideas for a world that's as interested in economic success as in liberty.
Laws (and wealth) of nations
A controversial theory blames countries' lagging economies on Napoleon
By Nicholas Thompson | Boston Globe
WHY DO SOME countries prosper while others falter? It's one of the world's trillion-dollar questions.
Consider the case of Malaysia and Indonesia. They are adjacent Southeast Asian countries with similar natural resources (and similar vulnerability to natural disasters), and populations that speak similar languages and adhere to similar forms of Islam. But even before the recent tsunami devastated parts of Indonesia, Malaysia's economy has been prospering while Indonesia's has been floundering. Malaysia's stock market is far more vibrant than its neighbor's, and its average resident is three times richer.
Economists might explain the divergence by pointing to the countries' different responses to the Asian financial crisis of the mid-1990s. Sociologists might find a cultural explanation in Malaysia's powerful community of Chinese immigrants. Historians might point to Indonesia's bloody struggle for independence.
But another fascinating, and hotly contested, explanation lies in the origins of the countries' legal systems. Malaysia was a British colony and its legal system is based on the common law -- the set of rules, norms, and procedures that has guided the legal system of England and the former British Empire (including the United States) for about nine centuries. Indonesia, on the other hand, was a Dutch colony and its legal system derives from French civil law, a set of statutes and principals written under Napoleon in the early 19th century.
According to research published by a group of economists beginning in 1998, countries with a British common law tradition succeed far more frequently in creating effective financial markets. The theory has jolted the legal academy and turned the authors -- Rafael La Porta of Dartmouth's Tuck School of Business, Florencio Lopez-de-Silanes of the Yale School of Management, Andrei Shleifer of Harvard's economics department, and Robert Vishny of the University of Chicago's business school -- into the world's most cited academics on business and economics topics over the past decade.
It has also had reverberations far beyond the ivory tower, as developing nations consult heavily with the scholars, collectively known in their field by the acronym LLSV. In early December, Brazil overhauled its bankruptcy laws in part because of the scholars' recommendations. Even France, the cradle of civil law, has begun funding research into what it can learn from their theory.
"The theory has a very intuitive and easy-to-implement policy prescription," said Simeon Djankov, an economist at the World Bank who has worked with the four economists and incorporated their ideas into the bank's prestigious "Doing Business" publications.
The evidence supporting LLSV's theory is hardly absolute, and scholars have attacked nearly every aspect of it. Still, if true, the theory provides more than just a new way of looking at legal history. It also gives lagging developing nations insight into how they might catch up.
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Harvard's Andrei Shleifer, who organized the group, is the best known of the four. A Russian immigrant who claims to have learned English by watching "Charlie's Angels," he earned tenure at Harvard before turning 30 and won the 1999 John Bates Clark medal as the most accomplished economist under 40. More recently, he has gained notoriety over an ongoing federal investigation into accusations that he unlawfully invested in the same Russian markets he was helping to design in the mid-1990s, while funded by a US government grant.
When LLSV came together in the mid-'90s, Shleifer said in a recent interview, the group knew "nothing, literally" about legal history. But the scholars -- three of whom grew up in countries whose economies had collapsed in large part due to corruption -- shared an instinct that the nature of laws, particularly those relating to the regulation of markets, could explain important national differences.
To begin, the team created a database including every country in the world with a stock market and classified each country's legal origins. The group then ran mathematical tests to determine correlations between legal origin and other variables like measures of corruption and indices of shareholder rights. In their first major paper, "Law and Finance," they concluded that high investor and creditor protection or low corruption connect to common law origin, while measures that represent low protection and high corruption connect to civil law origin.
Their analysis didn't show that common law itself necessarily makes people richer, but it did represent a crucial link in a chain of logic: When shareholders have more rights, people are more likely to invest in markets, because they have more protections against dishonest executives. When creditors have more rights, they are more likely to lend money, which spurs markets to grow. And when countries are free from corruption, investors put more money into them.
The LLSV scholars weren't the first to recognize that shareholder and creditor rights spur economic growth, or that corruption stunts it. But they were the first to connect these conditions to a country's legal system and to do so using cold, hard numbers.
The paper set off a firestorm, and the group soon started receiving "a lot of hate mail," according to La Porta. Some critics questioned the underlying math or broad scope of the argument, while others raised eyebrows at the decidedly pro-market framework. ("We use the term `good' in this paper to stand for good-for-capitalist-development," wrote LLSV in a later paper.)
"The first time that I saw LLSV's work I had two thoughts. The first was, Why didn't I think of this? It's such a simple, brilliant thing to do," says Mark West, a professor of law at the University of Michigan. "The second thought was: This is just way too simple. . .."
In 2002, West published a widely read satirical paper measuring the impact of legal origin not on economic development but on success in international soccer matches, in which civil law countries tend to come out on top. "Perhaps teams from countries with systems based on the French model (such as 1998 champion France and 2002 champion Brazil) perform well due to the remaining vestiges of the Napoleonic Code," he wrote. "Or maybe -- just maybe -- some other forces are at work."
More seriously, West charges LLSV with using grossly oversimplified categories. He points to Japan, which LLSV codes simply as a German civil law country. But the foundation of Japan's legal code comes from China. Some of it did come from Germany during the late 19th century, but still other sections came from elsewhere, including Illinois state law (thanks to American law professors involved in Japan's postwar reconstruction).
"You can't code an entire legal system with all of its societal baggage into one entry on a spreadsheet," said West. "That's just wrong."
. . .
In their subsequent work, the LLSV scholars used the same techniques to expand their findings (a recent paper showed that common law countries have more efficient labor market regulations) and to focus on just why a country's legal system is so powerful a factor in determining its economic development.
The most compelling theory LLSV has developed has to do with the power both systems afford their judiciaries. For historical reasons, common law judges are, on balance, significantly more powerful than their counterparts in civil law countries. Since judges tend to be a country's most reliable check on the other parts of its government, common law countries grant less power to their executives. And in developing nations, corruption is generally perpetuated from the top. In a 2003 paper, the LLSV scholars demonstrated mathematically that common law countries give judges more independence, which in turn correlates with the sound economic policies they had examined in their previous work.
Yet for all its mathematical sophistication, LLSV's research has not gone unchallenged by their fellow number-crunchers. According to Luigi Zingales of the University of Chicago, the economic differences among countries may not come from something intrinsic to common law or civil law, but rather from some other correlated factor. Common law countries, for example, tend to speak English, tend to be Protestant, and tend not to have been decimated by World War II. The English, furthermore, may have done a better job than the French of finding economically viable locations to set up colonies.
"What LLSV has done is a very clever re-labeling of things," said Zingales. "We all know that the Anglo-American countries are different. You can call it the English language, the English tradition, and you can code in all sorts of ways."
The LLSV scholars counter that their regression models try to take all of these variables into account, showing for example that civil law origin has much more of an impact on markets than religion does. They also note that at least they've found something that can be reformed. Legal origin may not explain everything, but changing laws is much easier than converting a country from Catholicism to Protestantism.
In the end, what LLSV has done is provide a giant statistical brief in support of the ideas of John Locke, James Madison, and Adam Smith, and they've updated those ideas for a world that's as interested in economic success as in liberty. Creating a judicial branch that can check the executive and the legislature doesn't just protect individual rights and prevent political persecution. It also improves your stock market and can transform your future. At least, that's the theory.
Still, skeptics abound. "If you fly into the Cote d'Ivoire, where the new government is just holding on by its fingertips, is the first thing out of your mouth going to be, `Junk your legal system and adopt the British's'?" said Roger Noll, an economics professor at Stanford. "Not even close."
But plenty of countries are seeking LLSV's advice, and the World Bank is using countries' success at implementing the reforms recommended by LLSV in determining whether grants and loans should be expanded in developing nations.
Says Lopez-de-Silanes, "When you show the data to a minister of finance, they first say, `This cannot be possible.' Then, `This seems pretty powerful.' Then, `What can I do?"'
Nicholas Thompson is a senior editor at Legal Affairs, where a longer version of this essay appeared in the Jan./Feb. issue.
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