Aurora Borealis
5 September 2017 Financial Analysts Journal Book Review

Why Information Grows: The Evolution of Order, from Atoms to Economies (a review)

  1. Robert N. Farago, ASIP
Looking at the role of information in driving economic growth, the author reinterprets the drivers of growth as matter, energy, know-how, knowledge, and information. He thinks about economies as complex systems and considers the role of trust in determining economic success. He also considers physical capital as providing access to the knowledge and know-how that is embodied in the nervous system of other people. He concludes that information powers economic complexity, which is highly predictive of long-term economic success.

What drives economic growth? The current discussions about whether we have entered a period of secular stagnation—whether a second machine age will bring rapid progress or mass unemployment—make this question topical. Conventional economics identifies five factors as explaining growth: physical capital, human capital, social capital, land, and labor. In Why Information Grows: The Evolution of Order, from Atoms to Economies, César Hidalgo reinterprets the drivers of growth as matter, energy, know-how, knowledge, and information and uses this framework to identify how economic complexity can determine future success.

An associate professor of media arts and sciences at the Massachusetts Institute of Technology, Hidalgo leads the Macro Connections group at the MIT Media Lab. He started his academic life as a statistical physicist, developing an expertise in networks and complex systems that he has applied in the field of economics (and beyond). In 2011, he co-authored (with Ricardo Hausmann, Sebastián Bustos, Michele Coscia, Sarah Chung, Juan Jimenez, Alexander Simoes, and Muhammed A. Yıldırım) The Atlas of Economic Complexity (MIT Press), an authoritative and visually stunning work that provided a novel analysis of export performance around the world and examined the link between the complexity of an economy and its future success. Why Information Grows was initially planned as an accompanying narrative but developed into a more complex work in its own right.

In his new book, Hidalgo draws on a variety of fields—from science to philosophy to business studies—to help explain why information is not only the driver of economies but is also essential to life itself. Indeed, he explains that “the ability of matter to compute is a pre-condition for life to emerge.” Through this lens, an acorn is a computer that contains both the genetic information to turn itself into an oak tree and the knowledge and know-how to make it happen.

What allows us humans to develop more complex solutions to problems is our ability to form social structures that increase our ability to process information. There is a limit to the knowledge and know-how a single individual can process in practice—what Hidalgo labels a “personbyte”—but by working together, our ability to process information grows.

Hidalgo also identifies a “firmbyte,” the point at which a firm is better off collaborating with another firm than developing everything in-house. When the Ford Motor Company’s River Rouge plant was completed in 1927, it covered 16 million square feet and employed around 100,000 people. With Ford at the height of its success, this huge complex seemed to offer the vision of the future. In reality, however, the more adaptable General Motors soon took the industry lead.

Nor could Ford simply replicate its success abroad. An attempt to establish a rubber plantation on a piece of land the size of Connecticut in Brazil’s Amazon jungle failed. It proved impossible to “transfer the know-how that was embodied in the networks of people living in the Michigan peninsula to the banks of the Tapajos River.”

Why Information Grows succeeds by providing unexpected and rewarding angles on a variety of issues. The apple that we eat existed first in the world and then in our heads, whereas the Apple that we use to make phone calls existed first in someone’s head and then in real life; it is the crystallization of our imagination. Products “provide us with access to the knowledge and know-how that is embodied in the nervous system of other people.”

The book concludes with a section that has direct relevance to investors. Hidalgo analyzes export data to draw conclusions about economic complexity. His database provides a more powerful tool than typical industry-level analysis: It draws on 50 years of history across multiple countries and covers up to 1,000 products versus the tens of industries that are usually considered. This breadth of data allows him to identify highly complex products that are produced in only a few countries—in value investors’ parlance, industries with a moat. Interestingly, Japan tops the global complexity table, perhaps challenging the theory that its economy has gone “ex-growth.”

Hidalgo also provides fuel for China bulls. He finds that the electronics industry in Shenzhen exists there not only for the relatively cheap labor but also because it has become a well-oiled machine for producing mobile phones and more.

But the book also provides ammunition for China bears. Trust is an important ingredient in economic success. In low-trust societies, businesses put more than the usual faith in family or state links. Hidalgo attributes the failure of the French computer industry to a culture that looks to the state for guidance and support. Perhaps reliance on the state will matter more for China as its economy shifts away from manufacturing and toward services.

The most directly relevant conclusion for economic forecasters is that countries with low levels of GDP relative to their level of economic complexity tend to outpace those with high levels of GDP relative to their economic complexity. This is good news for China and India but bad news for commodity producers. The establishment of sovereign wealth funds may have lessened the prospects for Dutch disease (in which commodity booms lead to overvalued currencies that, in turn, cause a hollowing out of local industries), but most sovereign wealth funds invest in traditional investment portfolios rather than target advancements in complexity. Although Singapore could be seen as an example of a government that targeted higher-value-added industries and succeeded, it is hard to think of another country where this approach would be likely to work.

There are three limitations to Why Information Grows. First, Hidalgo is a good writer but cannot compete with the tour de force that is Hidalgo the presenter. This deficiency can be remedied by watching the RSA webcast of Hidalgo discussing the book. Why Information Grows also lacks the visual impact of much of his work. A key ingredient in Hidalgo’s success is his ability to not only provide unexpected answers to economic questions but also present analyses of big datasets in clear and illuminating ways. In particular, readers should explore the website of The Atlas of Economic Complexity.

Finally, although the ideas in this book are not hard to follow, they can be hard to relate to our existing ways of thinking about economics. This observation should not be taken as a criticism. Why Information Grows does contain direct lessons for investors, but its real value lies simply in providing an original perspective. The book challenges readers to look at information and its role in economic activity from a very different angle than they are accustomed to.


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