Dani Rodrik: usually worth a read

And no exception here

 

CAMBRIDGE Capitalism is in the throes of its most severe crisis in many decades. A combination of deep recession, global economic dislocations, and effective nationalization of large swathes of the financial sector in the worlds advanced economies has deeply unsettled the balance between markets and states. Where the new balance will be struck is anybodys guess.

Those who predict capitalisms demise have to contend with one important historical fact: capitalism has an almost unlimited capacity to reinvent itself. Indeed, its malleability is the reason it has overcome periodic crises over the centuries and outlived critics from Karl Marx on. The real question is not whether capitalism can survive it can but whether world leaders will demonstrate the leadership needed to take it to its next phase as we emerge from our current predicament.      

Capitalism has no equal when it comes to unleashing the collective economic energies of human societies. That is why all prosperous societies are capitalistic in the broad sense of the term: they are organized around private property and allow markets to play a large role in allocating resources and determining economic rewards. The catch is that neither property rights nor markets can function on their own. They require other social institutions to support them. 

So property rights rely on courts and legal enforcement, and markets depend on regulators to rein in abuse and fix market failures. At the political level, capitalism requires compensation and transfer mechanisms to render its outcomes acceptable. As the current crisis has demonstrated yet again, capitalism needs stabilizing arrangements such as a lender of last resort and counter-cyclical fiscal policy. In other words, capitalism is not self-creating, self-sustaining, self-regulating, or self-stabilizing.      

The history of capitalism has been a process of learning and re-learning these lessons.  Adam Smiths idealized market society required little more than a night-watchman state. All that governments needed to do to ensure the division of labor was to enforce property rights, keep the peace, and collect a few taxes to pay for a limited range of public goods.

Through the early part of the twentieth century, capitalism was governed by a narrow vision of the public institutions needed to uphold it. In practice, the states reach often went beyond this conception (as, say, in the case of Bismarcks introduction of old-age pensions in Germany in 1889). But governments continued to see their economic roles in restricted terms.

This began to change as societies became more democratic and labor unions and other groups mobilized against capitalisms perceived abuses. Anti-trust policies were spearheaded in the Unites States. The usefulness of activist monetary and fiscal policies became widely accepted in the aftermath of the Great Depression. 

The share of public spending in national income rose rapidly in todays industrialized countries, from below 10% on average at the end of the nineteenth century to more than 20% just before World War II. And, in the wake of WWII, most countries erected elaborate social-welfare states in which the public sector expanded to more than 40% of national income on average. 

This mixed-economy model was the crowning achievement of the twentieth century. The new balance that it established between state and market set the stage for an unprecedented period of social cohesion, stability, and prosperity in the advanced economies that lasted until the mid-1970s. 

This model became frayed from the 1980s on, and now appears to have broken down. The reason can be expressed in one word: globalization. 

The postwar mixed economy was built for and operated at the level of nation-states, and required keeping the international economy at bay. The Bretton Woods-GATT regime entailed a shallow form of international economic integration that implied controls on international capital flows, which Keynes and his contemporaries had viewed as crucial for domestic economic management. Countries were required to undertake only limited trade liberalization, with plenty of exceptions for socially sensitive sectors (agriculture, textiles, services). This left them free to build their own versions of national capitalism, as long as they obeyed a few simple international rules.

The current crisis shows how far we have come from that model. Financial globalization, in particular, played havoc with the old rules. When Chinese-style capitalism met American-style capitalism, with few safety valves in place, it gave rise to an explosive mix. There were no protective mechanisms to prevent a global liquidity glut from developing, and then, in combination with US regulatory failings, from producing a spectacular housing boom and crash. Nor were there any international roadblocks to prevent the crisis from spreading from its epicenter.

The lesson is not that capitalism is dead. It is that we need to reinvent it for a new century in which the forces of economic globalization are much more powerful than before. Just as Smiths minimal capitalism was transformed into Keynes mixed economy, we need to contemplate a transition from the national version of the mixed economy to its global counterpart.

This means imagining a better balance between markets and their supporting institutions at the global level . Sometimes, this will require extending institutions outward from nation states and strengthening global governance. At other times, it will mean preventing markets from expanding beyond the reach of institutions that must remain national. The right approach will differ across country groupings and among issue areas.

Designing the next capitalism will not be easy. But we do have history on our side: capitalisms saving grace is that it is almost infinitely malleable.

 

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Tel_
Tel_
12 years ago

This mixed-economy model was the crowning achievement of the twentieth century. The new balance that it established between state and market set the stage for an unprecedented period of social cohesion, stability, and prosperity in the advanced economies that lasted until the mid-1970s.

Unprecedented stability and prosperity? It will be hard to beat the Feudal System on that score, unless you want to give the 20th century special credit for recent technological advances (which would be both unfair and unwise when you consider that technology has dealt us both megafood and megadeath in the same hand).

I think the article in question is in dire need of a bit of perspective. The US government ran up the biggest deficit in human history while taking their dominant “global reserve” currency and printing it at a rate never before seen in US history at the same time a good fraction of their productive industries were moving offshore. The banking industry was busy hiding the risk while the regulators who were well paid to stop that happening were willfully asleep on the job. Of course something was going to happen.

It will balance itself, some assets will change hands and some people will get richer, others will get poorer and it will all roll forward again. Yet another generation of humans will learn not to trust the authorities telling them that everything is going great while their noses tell them otherwise (and that is a very good thing).

Jarrah
Jarrah
12 years ago

“The catch is that neither property rights nor markets can function on their own. They require other social institutions to support them.”

It’s not a catch. It’s a truism. Markets and property rights are just two of many social institutions that tend to naturally arise in human societies (in fact ‘markets’ refers to several co-existing and interdependent institutions).

“In other words, capitalism is not self-creating, self-sustaining, self-regulating, or self-stabilizing.”

Not self-creating? The historical record disagrees. I won’t say the other descriptions are wrong per se, but they are certainly up for various levels of disagreement, depending on one’s outlook and ideology.

Even if one accepts Rodrik’s characterisations of capitalist societies, there is still room for argument about how necessary the government provision of stabilising/regulating/etc services actually is, and how much can be done voluntarily.

All that said, I actually agree that a rethinking of existing institutions is warranted given the changed nature of certain markets, the extent and mobility of capital being one, as Rodrik mentions. However, I’m leery of promises to “design capitalism” – we should be humble about our capacity to manage chaotic systems, given our scorecard for that kind of game.

Tel_
Tel_
12 years ago

Even if one accepts Rodriks characterisations of capitalist societies, there is still room for argument about how necessary the government provision of stabilising/regulating/etc services actually is, and how much can be done voluntarily.

… and yet more room to argue whether government regulation services actually work effectively at all.

When you look at the immense effort that has gone into controlling the heroin and cocaine trade and the complete ineffectiveness of this effort, you have to understand that people will trade with each other one way or another.

NPOV
NPOV
12 years ago

I’m not sure you can compare the drug market with, say, financial markets: drugs are something that relatively large numbers of people strongly desire and often justifiably feel they should be able to purchase as private citizens, have no viable alternatives, and of course are highly addictive, often causing much otherwise rational behaviour to go out the window. Hence, the fact that efforts to prevent millions from being able to access drugs have failed is hardly surprising at all. On the other hand, the number of people who are able and desire to take dangerous financial risks with the potential for fall-out that affects large sections of the economy is relatively tiny, and I’m willing to bet a reasonable percentage of them know perfectly they probably shouldn’t be doing what they’re doing, but are prepared to risk it purely because the potential rewards are high, and with insufficient or ineffectual policing, the likelihood of being caught is sufficiently low (if indeed, there is any “getting caught” – many of the most dangerous financial risks taken in the last decade have been perfecty legal, and much of the point about CDOs etc. is that they were layer over layer of mystery, so it was very difficult to pinpoint who had been responsible for the most obviously unjustifiable decisions). Further, there are many alternative ways of achieving significant financial rewards, so I think there’s good reason to suppose that if governments were to crack down on the sorts of transactions that Buffet labelled “financial WMDs” there’s good reason to suppose we’d see a lot less of them, especially because corporations are usually less willing to break the law than private citizens.

It makes just as much sense to compare potential laws against CDOs etc. as laws against, say, smoking in non-residential indoor areas, which is an example of government regulation clearly achieving exactly what it set out to do (and sure, you can find the odd unexpected consequence, like the rise in the use of outdoor heaters contributing to CO2 levels etc. etc., but very few peope would claim the policy has been a failure – my wife and several of her best friends are smokers, and all agree it’s made pubs/clubs/restaurants etc. much more pleasant places to be in).

Rafe Champion
12 years ago

Rodrik’s claims can be contested. For example the lender of last resort was a major cause of the problem. Transfers for equity can easily be arranged without recourse to the government if people ers are prepared to organise themselves to do it. And so on.

Given the damage that misguided state intervention has caused at the national level it is wishful thinking to expect that any kind of global state will improve the situation, as long as the same leaders are in charge, with the same ideas.

Heavy family committments preclude detailed comments.

NPOV
NPOV
12 years ago

Rafe, regardless of what the likely consequences would be if the government refused to be a lender of last resort, I’m curious how you see such a situation as a form of state intervention – the government isn’t exactly forcing people borrow money from it.