Rethinking Governance in the Modern Economy

When the sun sets over the Korean peninsula, the vast gap between the wealth of its two nations becomes visible from above. Satellite images show a firework of economic activity in the prosperous south, indicated by intensely illuminated cities like Seoul, Gwangju and Busan. North Korea, meanwhile, lies mostly dark and dormant under the night sky – its one bright spot, the capital Pyongyang, a notable outlier.

The striking image became the key visual of the 2025 Lindau Nobel Meeting in Economic Sciences because it illustrates how dramatically different two countries can evolve depending on their forms of government, their institutions and economic frameworks.

How Institutions Shape the Fate of Nations

The contrast between North Korea – a dictatorship – and democratic South Korea also underscores the findings of three economists who shared the 2024 Sveriges Riksbank Prize in Economics: Daron Acemoglu, Simon H. Johnson (both MIT Sloan School of Management) and James A. Robinson (University of Chicago).

In a seminal paper (PDF), published in 2001, they demonstrated the close relationship between political institutions and economic develeopment. While the initial work focused on Europe’s colonisation of the globe, the Laureates’ research helps to explain why today, “the richest 20 percent of the countries on the globe are about 30 times richer than the poorest 20 percent”, as Torsten Persson, Professor of Economics at Stockholm University, noted during the closing panel discussion of the Meeting, which was traditionally held on the island of Mainau in Lake Constance. Persson moderated the conversation between Simon H. Johnson (MIT Sloan School of Management), Guido W. Imbens (Stanford University), Paul M. Romer (Boston College), and Hugo Reichardt (Centre de Recerca en Economia Internacional).

For North and South Korea, the odds were roughly equal at the end of World War⁠ ⁠II when the nation was divided into the Communist north and the democratic Republic of Korea, south of the 38^th parallel. At that time, “North Korea and South Korea were roughly the same prosperity”, Simon Johnson observed. If anything, the North was in a better position to pull ahead, given that it was more industrialized, while South Korea “didn’t start out with good institutions”, Johnson added. “It was actually rather a corrupt country in the 1950s, and a lot of people said they had the wrong culture for growth.”

Yet, the country did prosper and today ranks among the world’s leading economies, with a nominal GDP of 1.9 trillion USD in 2024. Johnson ascribes this to the South Korea’s willingness to change, going through decades of reforms, which resulted in “robust, strong democratic institutions that favour private property and are, in our classification, relatively inclusive” – meaning they give investors and entrepreneurs the confidence that they will benefit from participating in the economy. Autocracies, by contrast, tend to rely on structures that benefit the ruler and local elites at the expense of the wider population.

Johnson and his colleagues defined the institutions in such societies as “extractive” rather than inclusive. As their work shows, “institutions that were created to exploit the masses are bad for long-run growth”, the Nobel Foundation explains, “while ones that establish fundamental economic freedoms and the rule of law are good for it.”

The Long Shadow of History

The fate of former Slaves in the United States highlights the consequences of institutional decisions – and shows how they reverberate through history, sometimes for centuries.

Inspired by the research of Simon Johnson and his colleagues, Hugo Reichardt and Lukas Althoff (Stanford University) studied the long-run effects of slavery by analyzing census data of African-American families in the U.S. from 1850 to 1940, including neighborhood-level statistics up to 2023. Their study showed a significant difference in economic status between families whose ancestors were enslaved during the Civil War and those who were free.

“What we found was that these two populations still, even up to today, have very different socio-economic outcomes”, Reichardt noted in the panel discussion. The descendants of slaves tend to have significantly lower income, education and wealth than Black families whose ancestors were free before the Civil War. “The differences are really big”, Reichardt stressed. “It’s about 25 percent of the overall black/white income gap in the United States today.”

In their search for an explanation, the economists honed in on a variety of state and local laws in the Southern United States that enforced racial segregation from the late 19th to early 20th centuries. Known as Jim Crow laws, they were “extremely discriminatory in all dimensions of life”, Reichardt pointed out. This meant that former slaves in Southern states did not have equal access to education and economic opportunities. About half of African-Americans lived in the North, largely free from discrimination, the other half in the South. “We find that this geographic distribution essentially accounts for the entire difference between the two populations”, Reichardt said.

Ideas Worth Spreading

Jim Crow laws were a reflection of societal norms, of course – an expression of the unwillingness of White voters in the Southern United States to accept former slaves as equals. Such factors play an important role in the long-term economic success of nations, as Simon Johnson made clear. “I do still think it’s about institutions”, he said, “but I’m also absolutely delighted to concede the important role of culture”, as well as “ideas on how you organize the economy, ideas on how you protect entrepreneurs, ideas on what the king can and cannot do.”

The freedom to experiment, invent, and spread new ideas is essential to growth in the knowledge economy, as Paul Romer has shown in his pioneering “endogenous growth theory”, which won him the Nobel Prize in Economics in 2018, along with William Nordhaus. The crucial difference between ideas and physical goods lies in the “very strong scale effects” that benefit everyone involved, Romer explained. “The value of a new idea is actually proportional to the number of people who can use it.” Physical objects, in contrast, create “scarcity and diminishing returns” the more people are involved.

In theory, this offers enormous potential for economic growth – but the practical value of any idea “will depend on your ability to share it”, Romer made clear. “Your ability to share it depends on institutions, social arrangements that determine: who can you interact with, who can you trust? So these institutions mediate and determine the effective scale on which we can operate.”

“A Catastrophic Mistake”

For much of his career, Romer had been a proponent of allowing companies to operate freely, unencumbered by burdensome regulations. In Lindau, he admitted to having second thoughts in this regard. “I think I made a really serious error for most of my career by endorsing the idea that it would be good to have firms driving innovation”, Romer told the audience of his lecture “Digital Authenticity and the Future of Truth.”

In the post-Reagan, post-Thatcher world, the prevailing opinion among free-market proponents became that “we don’t believe in big government anymore”, Romer said. As an adherent of the Chicago School of Economics, “I was on board with the idea that we can have a private sector do all this innovation”, he added. “I now think this has been a catastrophic mistake.”

The network effects that allow ideas to scale had also enabled companies like Google and Facebook to dominate entire sectors of the digital economy, Romer observed. “It’s allowed a few individuals – you can count them on one hand – to become fantastically powerful and wealthy.” By happening to be the first, they managed to “capture some monopoly profits and use those profits to take over other markets, but also to influence political outcomes in the economy”, the economist argued.

Romer returned to this point in the panel discussion when he asserted that “this idea that the market will just do things, like do technology, it’s just wrong as a general proposition. We’ve got to figure out how to craft governments and craft organisations, like universities and open source [projects], to get the kind of technologies we want, and distribute them adequately.”

Shareholders: The Forgotten Influencers

These sentiments carried echos of a presentation by Sir Oliver Hart, who teaches at Harvard University and champions the idea of turning shareholders into “citizen investors” to align company goals better with the interests of society. “We usually take the view that preventing the bad things is the job of government”, he said. “Unfortunately, I think it is basically wrong.”

Whether it’s oil companies lobbying against climate action, soft-drink makers “misinforming the public about the risk of sugar consumption” or meat-processing plants disregarding animal rights – all too often corporations succeed in blocking or undermining legislation that would benefit the common good but could harm their quarterly results, Sir Oliver believes. “These companies defend their actions by claiming to act in our interest”, he noted. “But do they?”

It’s certainly possible that many shareholders expect CEOs to maximize profits – but wouldn’t it be better to find out? Shouldn’t the people who indirectly own many of the world’s largest companies have a say in the actions these companies take?

“Sure, we want to be rich – but we care about other things too”, Sir Oliver said. “We’re all somewhat altruistic.” Many who worry about the environment and global warming want to protect their children and grandchildren; and even those who are mostly focused on their own good probably have an interest in preventing the polar ice caps from melting. “To put it very simply”, Sir Oliver quipped, “it’s nice to have a large dividend, but it’s not so great if you’re consuming it underwater.”

The challenge, of course, lies in putting the theoretical concept into practice. How could shareholders be directly involved in corporate leadership decisions when ownership is often scattered across millions of private investors who put their money into index funds or pension funds, for example? In these cases, intermediaries like Vanguard or Black Rock engage with companies on behalf of the shareholders. “These intermediaries never ask us about our preferences, about the kind of trade-offs we are willing to make”, Sir Oliver pointed out. “But they could, and they should.”

Meet the Citizen’s Assembly

A good way to do this is through the concept of a citizens’ assembly, he suggested, pointing to his recent paper “How To Implement Shareholder Democracy” (PDF), co-authored by Luigi Zingales (University of Chicago) and Hélène Landemore (Yale).

The basic principle of citizens’ assemblies dates back to ancient Greece and is now seeing a renaissance in politics as a way to increase voter engagement and strengthen democracy. “Think of large juries aimed to capture the full diversity of a population and ideally offer an accurate demographic mini portrait of it”, Sir Oliver explained. This gives people a voice, and a chance to influence decisions, without turning every vote into a public referendum. “We propose applying this idea to the investor context”, Sir Oliver said. Assembly members would be chosen at random among shareholders, they would meet both online and in person, and they would get compensated for time and expenses. Participation would be voluntary, and members would be tasked, first and foremost, with making recommendations regarding moral decisions that corporations are facing.

“It’s important to note that investors’ assemblies will not be asked to calculate the optimal hedging strategy against interest rate risk”, Sir Oliver stressed. “Instead, they will be asked if they are willing to accept a lower financial return” to treat animals in a more humane way, for example. This means the assembly members would not have to be experts themselves. Instead they would reach out to experts for advice.

“The final trade-off is a moral decision”, Sir Oliver emphasized. “Who is making that decision right now? Company boards and asset managers. But these people were never picked for their moral aptitude.” The best judges in such matters would be the owners, he argued. “Nobody is better able to make that trade-off than us, the shareholders – who also suffer the economic consequences of the decisions.”

Artificial Intelligence: The Next Frontier

As this discussion plays out the world faces a new, highly disruptive technology – Artificial Intelligence – that will force institutions to decide how it should be regulated, and companies whether to prioritize short-term profits or long-term social welfare.

“The anxiety that a lot of people feel about AI is that it will be very good for the most talented people, but it might actually leave others behind”, Paul Romer observed. While the current generation of AI systems might be limited in possibilities, he said, there was a clear need to invest in education and upskilling. “We need to be thinking now about how do we bring more people along. I think code is going to be like math. You could be an economist without knowing math 200 years ago, but you can’t now.”

To Simon Johnson, the crucial question was about who’s envisioning the technology, and who’s imagining what will be done with it. “If you take this technology and shape it to purposes that make sense in your society and your community, we will get a very different world than if we rely just on a few people sitting in their high castles in California”, he said, adding that an essential goal should be: “Make the technology empowering rather than de-skilling.”

At this point, however, many corporations seem to see AI as a welcome tool to cut costs by automating repetitive tasks of white-collar workers. “Four or five years ago, having entry-level coding experience was a guarantee for a good job in Silicon Valley”, Guido Imbens pointed out. “Now there’s early evidence that the market for people with those skills has changed dramatically, and that there’s very little demand for those people, given the use of [Microsoft] Copilot and similar AI agents.” This is in line with a recent Stanford University study showing “substantial declines in employment for early-career workers in occupations most exposed to AI, such as software development and customer support.”

In addition, the rapid pace of change makes it hard for institutions to keep up, Imbens noted. “We see that, with AI, governments are struggling a lot at trying to figure out how to regulate these things”, he said. On the other hand, this does open up many opportunities for economists to explore the impact of the disruptive technology. “Studying institutions, and thinking hard about which institutions are effective in the modern world”, Imbens suggested, “is going to be a very interesting thing to look at in the next couple of years.”