Better Courts, More High-Tech Exports

Respect for the rule of law and efficient courts are good for any economy: how true, yet trite. But what would really help a minister of justice in his budget talks with the treasury?

How about: “A country that assures the enforcement of written contracts enjoys a comparative advantage in relationship-specific industries.” Nathan Nunn, an economist at Harvard, found that the quality of a country’s contract enforcement explains more of its export pattern than its physical capital and skilled labor combined. Put simply, if you want to grow your high-tech exports, fix your courts.

His argument: The number of intermediate inputs required determines the relationship-specificity of an industry. While corn milling or petrol refinery are less, automobile or computer equipment manufacturing are more relationship-specific. The more hands you shake with business partners, the more sweat can run.

Nunn refines the system further: if you make frozen pizza for which you buy readily available flour and tomatoes, your business relationships matter less than if your computer product requires a chipset maker to engage into yearlong research to build an intermediate product exclusively made for you. As clearly, a handshake faces more of a test when you cannot easily replace your supplier. When Nunn now looks at a country’s exports by industry type, he finds that of two countries, the one with better courts sells relatively more sophisticated, relationship-specific machinery.

But is this only so because export-rich countries can afford better courts? No. Even when the fixed resources and skills that help a country manufacture goods, it's so-called factor endowment, are taken aside, judicial quality remains a reliable indicator of an economy’s export pattern. Nunn further tests his results against the thesis that the observed comparative advantage may simply stem from a country’s legal origin (common law countries have been found to be more business-friendly). Comparing only countries with similar legal systems, he again shows that, for common and civil countries alike, what ultimately matters is the diligence of the judiciary.

Why is this good to know? Nunn’s data tables will actually tell the interested reader by how much a country’s exports in a certain industry are prone to increase if judicial quality improves by a certain percentage. And that is perhaps the best argument recently put in the briefcase of the justice minister, not only before seeing the treasury secretary, but also before meeting next with judges.

Nunn tests the robustness of his results with earlier data from the Doing Business indicator for Contract Enforcement: time in absolute numbers, relative cost, and procedural complexity, at the time measured for a bounced check and an eviction scenario. In the meantime, the indicator has been rebuilt to include its very own relationship-specific component. The Doing Business Enforcing Contracts indicator today measures litigation over a custom-made product; relationship-specificity par excellence. If you want an indicator for the relative growth of a country’s high-tech industries, look right here: Doing Business Enforcing Contracts.