The exception that is India

One of the central questions that interests political scientists, economists, legal theoreticians and public policy-makers is the exact manner in which existing 8220;institutions8221; 8212; things like rules, customs, and traditions, both formal and informal 8212; affect growth and development.

One of the central questions that interests political scientists, economists, legal theoreticians and public policy-makers is the exact manner in which existing 8220;institutions8221; 8212; things like rules, customs, and traditions, both formal and informal 8212; affect growth and development. This is necessary because without knowing this, reforming those institutions that may be holding back development is pretty difficult.

One link in particular between institutions and growth has received lots of attention. That8217;s the link between 8220;legal quality8221; 8212; a proxy for investor protections, enforceable contracts, property rights 8212; and growth. Areas with higher legal quality will have more investors, a bigger financial sector and thus higher growth.

People have tried to look at numbers to prove or disprove a link: but it8217;s technically difficult to directly work out what the data means. So researchers now 8212;following landmark papers from LaPorta, Lopez, Shleifer and Vishny, known universally as LLSV 8212; look at 8220;legal origins8221; instead. The idea is that if a country8217;s codes have Anglo-American or 8220;common law8221; roots, they protect investors better than if they follow any of the other European legal traditions. Show that legal origins matter, then you8217;ve shown 8220;quality of laws8221; matters. And, indeed, in several big studies, LLSV proved that legal origins were on average among the biggest determinants of investment and growth.

India, as a common law country, should do really well, then. But it doesn8217;t: the Indian financial sector 8212; stock markets aside 8212; is stunted. Why is that, and is there something that law-and-finance enthusiasts and policymakers can learn from? A working paper by two legal scholars 8212; John Armour of Oxford and Priya Lele of Cambridge 8212; has a few answers. The paper, extracted alongside, shows that when we deconstruct the common-law-to-finance argument, it8217;s easy to see where India8217;s unique characteristics break the connection. The massive backlog of cases, for example, as also public interest litigation, mean that courts don8217;t quite work the same way here. What they show is that completely new institutions, not our legal heritage, can help us. Something to keep in mind as pressure to reform finance builds.