Contemporary economists the world over are trained in textbooks that are overwhelmingly American in thought and methods.
The conclusions of standard textbooks are straightforward; the market must be free in order to achieve resource allocation efficiency, the political economy must be anchored in privatization, liberalization, globalization and the smaller the government the better.
And it’s almost a cardinal sin for any advocacy for state planning, state owned enterprises, industrial policy, regional development, export development, and foreign direct investment (FDI) development programming, etc.
And if these state interventions are not eliminated and free market institutions installed or restored, the economies involved will run the risk of collapsing under the weight of state intervention and inefficiency. If China has not collapsed yet then it is collapsing soon – just ask Gordon Chang! (He made the prediction in 2001 and has since been changing his expected timing of the coming collapse of China!)
These are the same advice that orthodox economists have doled out to countries in Africa, Latin America and China for that matter. Absence of adherence to these policy prescriptions, the economies involved are predicted to be leading to underdevelopment, or even if by chance economic development does take hold, the end results would still be the same: rampant corruption, inequality of income distribution, environmental degradation, and unhealthy economic speculations and bubbles of all sorts especially in real estates.
By this line of argument, it appears that liberal political economy is the cause that determines economic prosperity. In other words, if Western, or to be more precise, American style political economy is made to prevail then economic development will take off. But there is no evidence for that. In fact, the reverse is more likely. All present day developed countries have gone through periods of corruption, primitive socio-economic inequality, environmental degradation, unproductive speculations, protectionism and/or colonizing others in the case of European powers, on their path to sustainable economic development. Evidence for this latter hypothesis has been convincingly presented in two books by two distinguished economists; Brad DeLong of UC Berkeley in Concrete Economics and Ha-Joon Chang of the University of Cambridge in 23 Things They Don’t Tell You about Capitalism.
China is a classic case in point. The country is a one-party state and obviously not a liberal democracy, the government is heavily involved in the economy, state owned enterprises (SOE) account for about 30% to 40% of the country’s GDP and 20% of total employment, party cells are embedded in SOE’s and many institutions, and Marxism is still being promoted at least nominally. All these, from a Western liberal perspective, point to a scenario of the worst of all worlds as far as economic development is concerned.
But is it true?
Take the case of the Philippines, it was a colony of the US and has taken much heavier doses of liberal economic policy remedies longer than China, the same goes for many Latin American countries. And Ukraine and Russia both pursued liberalization of their economies way more thoroughly than China. But what happened to these economies compared to China is beyond dispute! In fact, the two most populous countries on earth – China and India – unlike others, have leveraged state economic planning for their mixed economies for economic growth with significant achievements. In the case of India, state owned enterprises account for 45% of the manufacturing sector, followed by services (35%), energy (12%), and mining (8%).
I started this paper by questioning the conclusions of standard economics textbooks on economic development. But my argument in this essay is not to promote state owned enterprises either. I simply use the cases of China, India and others to highlight my main argument that economic development policy must be based on real life economics and not on ideological beliefs; be it left or right. Here’s what I think economic policy should be based on.
First of all, market does not dictate resource allocations but company management does. Corporations when faced with challenges and opportunities make their choices of what to avoid and what to pursue. This is the essence of the Nobel Laureate Ronald Coase’s well known “The Nature of the Firm” argument that if market is so efficient why you would need companies.
Economic theory concerns itself with modelling the relationship between inputs and outputs but has nothing to say about how inputs get grinded into outputs.This explains why the public sector has been the driving force in China’s early economic reforms. Because after a long period of absence from private enterprise operations (from 1949 to early 1980’s), the public sector was the only place where management talents could be found. Deng Xiaoping’s gradualism in market and ownership reforms colloquially termed “touching the stones to cross the river” in Chinese was the right call for China.
Secondly, “market” does not exist in a vacuum. Contrary to conventional wisdom, “market” is more a public good than a private good. An above-ground market exists because of government acting as the enforcer of rules and regulations. Similarly, an underground market exists because one or a group of gangsters acting as enforcers of underground rules and regulations.
Last but not least, market and government are not mutually exclusive and they affect and influence each other. Market does not come into being naturally. Market is created. The existence of market depends on political stability, societal trust and the availability and refinement of social and physical infrastructures. This latter point has been particularly documented in Mariana Mazzucato’s research that reveals that “every technology that makes the iPhone so ‘smart’ was government funded: the Internet, GPS, its touch-screen display and the voice-activated Siri.”
Academic economists enjoy the beauty of economic theories the same way that mathematicians enjoy the beauty of mathematics, or philosophers enjoy the beauty of logical arguments in their quest for “truth”. These are worthwhile pursuits because they are beautiful in and of themselves.
But we should not get carried away by extending too far economic theories into economic practice.