Trust is very important for a strong economy. People can only do business if they can trust that others will keep to their agreements. Kenneth Arrow, who won the Nobel Prize in Economics in 1972, believed that a lack of trust was a huge factor keeping developing countries poor. However, trust doesn’t just come from nowhere. Trust is built when the laws and institutions of a country make it beneficial to keep agreements and be trustworthy and punish those who are dishonest. In order to have a well-functioning economy, countries must create laws and institutions that make sure people are not afraid of being cheated out of their agreements.
WHY IS TRUST IMPORTANT?
In many business interactions, there is uncertainty. When you buy a product from someone, you don’t know as much about what you’ve bought as the person you bought it from. For example, if you buy a phone from someone, it could be in bad condition and stop working after a few weeks. If you lend someone a car, they might never come back with it. Without trust, there are two options:
These transactions do not happen, because the risk of being cheated is too high.
The people involved have to find ways of making sure they are not cheated. In the example of renting a car, the lender could make the person hiring the car leave a big deposit or install a tracker. They could also insure the car against theft, but this would be very expensive.
If you can trust other people then these problems are solved, because you know the chance of being cheated is very low.
HOW DO WE BUILD TRUST?
Trust is built because people believe it is the interests of other people to be honest. Countries with good laws and institutions have high trust because those who cheat on agreements can be punished. A fair, open legal system can allow businesses to sign contracts, knowing that if the other party breaks the contract they will get justice and compensation in court. Regulations over the standards of products people can sell allow people to be confident that what they are buying will be of high quality. A non-corrupt police force that is good at finding criminals will let people trust that their belongings won’t be stolen. If the potential consequences of dishonesty are worse than the gains, then people can trust that others won’t be dishonest.
It can be very difficult to build trust. If the government isn’t strong, then people can cheat others knowing that laws won’t be enforced. If the police force or the legal system are corrupt, people who cheat or steal might not be punished. Without confidence that those who are dishonest will face consequences, businesses will find it hard to operate and development will be slow. However, while it can be difficult to introduce good laws and institutions, governments who are successful can expect their countries to develop.