The economics of strategy

Book review: The Shortest History of Economics, by Andrew Leigh (Black Inc 2024)

The final sentence of economist and politician Andrew Leigh’s new book, The Shortest History of Economics, reads: “From education to entrepreneurship, from socialising to the share market, economics can help you live a better life.” Since I am a security specialist and not an economist, this review will begin where Leigh ends, and ask the question: can economics also help strategists live better lives?

The answer is a firm “Yes”. Here’s how.

Learning to think about the equilibrium

Strategists are apt to think about conflicts escalating until the point of decisive resolution. Economists think about the equilibrium. The formal definition of equilibrium is the point at which supply and demand are perfectly balanced, but more prosaically, economists use the term as a synonym for a “settling point”. That is to say, when two parties are competing or have clashing interests, their competition won’t necessarily escalate until one loses everything and the other wins. It is much more common for them to find a point where both are adequately satisfied.

Zero-sum thinking

Strategists are zero-sum specialists: when one country builds up its military in the name of security, others feel less secure as a result. But although economics is the study of scarcity, it is not a zero-sum discipline. Trade and innovation lifts everyone and need not produce losers.

Strategists could learn from this way of thinking. For instance, strategists worry a lot about enemies interrupting the supply of critical goods, but they tend to underestimate the ability of societies to not just cope with shortages but innovate their way around them. Leigh observes that in prehistoric times, it would take 58 hours to collect enough firewood to produce one hour of evening light. By the time electric bulbs were invented, that was down to mere minutes of effort. The need for artificial light did not produce conflict, it produced innovation.

Geography rules

Australia’s new National Defence Strategy states that “Technology has already overturned one of Australia’s long-standing advantages – geography.” That’s a substantial overstatement. Geography is a huge determinant of security – just ask South Korea, Israel, and Ukraine – and economic success.

Leigh points out that the Eurasian landmass developed more quickly than Africa or the Americas in part because, “Where Eurasia is wide, Africa and the Americas are long. This means that people could explore (and exploit) Eurasia while staying in the same climate band.” I would add that one of the key determinants of European and American economic success – and one reason Australia never became a superpower – is their vast inland river systems.

Incentives are everywhere

Economists constantly emphasise the importance of incentives in predicting, and influencing, human behaviour. Why do we strive to win a contest? Because winners get the biggest prize. Why did births peak in Australia on 1 July 2004? Because that was the day a new “baby bonus” was introduced, so families aimed to be eligible. Why are Asian countries unlikely to unite to resist China’s rise as a regional power? Because they don’t want to put at risk their stake in China’s massive economy.

Yet there is an unresolved doubt about the explanatory power of incentives in Leigh’s book, because the term can so easily lapse into tautology. Leigh acknowledges that incentives are not always financial: humans (and states) value not just wealth but also security and prestige. We also prefer to minimise effort when we can. Yet when we define incentives so broadly as to explain virtually all human behaviour, the term becomes too general to be useful.

War is an economic enterprise

Leigh states bluntly: “there were no decisive battles in World War II … The war was primarily a contest of industrial production.” Strategists will say this is an overstatement, but we are seeing evidence for it in the Ukraine war, too. Russia’s economy is ten times larger than that of Ukraine, and its superior capacity to produce munitions is being felt on the battlefield. Sheer “weight of fire” (that is, how hard you can pound the enemy with bombs, rockets, and artillery) may be the decisive factor in this war.

But note that Leigh refers to industrial production, not GDP. There is debate among strategists about whether sheer economic size matters most or that the focus should be on the ability to make things. For instance, in making a judgment about who would prevail in a war between the United States and China, which matters more: is it China’s softening GDP numbers, or the fact that over a third of all global production happens in China, capacity that could be turned to arms production?

The limits of maths

A recurring theme of this book is Leigh’s lament about the lapse of his discipline into mathematical methodology, what he calls the tendency to “move away from storytelling and toward equations”.

Economics and strategy are both young disciplines, but perhaps strategy has evolved faster in this respect. In strategic studies, game theory peaked in popularity in the 1960s. In the same period, US Defense Secretary Robert McNamara’s mathematical approach to the bombing of Vietnam was ascendant in the White House. But McNamara was discredited and although strategists still use game theory, the discipline is these days predominantly narrative-focused and humanities-focused. Leigh’s absorbing and breezy book tries to return economics to this same tradition. He writes with a playful spirit and wears his erudition lightly. It is an example for all strategists and economists to follow.