Abu Dhabi, UAESunday 31 May 2020

Economics 101: The challenges of external enforcement in the GCC

The prisoner’s dilemma is a caricature of the many situations we face in our day-to-day lives where cooperation leads to a better outcome for all, but where the desire to pursue one’s own interests results in a worse outcome for all.

The prisoner’s dilemma is a caricature of the many situations we face in our day-to-day lives where cooperation leads to a better outcome for all, but where the desire to pursue one’s own interests results in a worse outcome for all. Tackling global climate change is arguably the most prominent example today.

In the case of the GCC, commercial exchange, which benefits all parties, is often undermined by selfish behaviour by buyers, such as bouncing cheques or reneging on credit agreements, and by sellers, such as delivering faulty merchandise. This is one possible explanation for why e-commerce has, until recently, been slow to catch on in the GCC.

As we saw in the previous two articles in this series, repetition can promote cooperation in prisoner’s dilemma situations by allowing people to punish non-cooperators, and by allowing people to reap the benefits of cultivating a reputation for being cooperative. Yet, as we see in the case of Opec or climate change, even that is not enough.

An alternative solution is external enforcement, loosely equivalent to English philosopher Thomas Hobbes’ Leviathan: a third party possesses the power to forcefully punish those engaging in selfish behaviour in PD situations, ensuring cooperative behaviour.

In the case of GCC commerce, that third party is usually the government, which enacts and enforces commercial laws that protect both sides of the market. For example, writing cheques that bounce can lead to your imprisonment, and, as we saw in Bahrain in mid-January when several retailers were found to be displaying prices inaccurately, commercial malpractice can lead to fines and temporary closures.

Sometimes, a prisoner’s dilemma setting falls under an external enforcer’s purview by default, without the prior approval of the people playing the prisoner’s dilemma. As an illustration, if a pirate attempts to interrupt trade in the Strait of Hormuz, the US Fifth Fleet, a de facto external enforcer, is likely to intervene without the need to refer to a prior agreement between the pirates and the targeted vessel.

Alternatively, in many of these settings, the stakeholders will voluntarily invite an external enforcer and endow them with the tools required to enforce order. For example in the GCC, generic courts can sometimes be slow to dispense justice in specialised commercial disputes, which encourages opportunistic deviations from contractual agreements.

As an antidote, contracting parties may agree to abide by the ruling of a private, independent arbitrator that is dedicated to the swift resolution of commercial disputes. One way of strengthening the court’s hand is getting both parties to post a bond at the contract’s outset, which the arbitrator can use to punish the party assessed to have violated the terms of the contract.

On the surface, external enforcers may seem like a definitive solution to prisoner’s dilemma problems, arguably superior to the intermittently successful role of repetition and reputation. However, external enforcement comes with its own drawbacks.

First, third-party enforcement requires resources: courts and arbitrators are expensive inside and outside the GCC, and the US Fifth Fleet costs millions of dollars to operate.

Second, in the case of external enforcers that need to be granted the authority to punish miscreants, attaining the requisite consensus among stakeholders can be impossible. The difficulties that the United Nations faces in holding violators of international accords accountable are well documented, and they stem from the inability of member countries to agree upon a system of enforcement. Opec’s ineffectiveness is also symptomatic of failure to forge a consensus on how to monitor production and punish quota violators.

In most cases, beyond issues relating to operating costs, the reluctance to evolve power to a third party stems from a lack of trust that the third party will behave impartially and serve the general interest. That is why supranational organisations such as the IMF and World Trade Organization function primarily as intermediaries and coordinators rather than as economic overlords.

Omar Al Ubaydli is the programme director for international and geopolitical studies at the Bahrain Center for Strategic, International and Energy Studies, and an affiliated associate professor of economics at George Mason University in the US.

We welcome economics questions from our readers via email (omar@omar.ec) or tweet (@omareconomics).

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Updated: January 28, 2017 04:00 AM

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