Chapter 1
Economic System in an Era of Change
ECONOMIC SYSTEM IN A NEW ERA
Although the roots of the rapid changes now under way reach back to the 1980s and earlier, the 1990s ushered in a new world order. The dramatic and astonishing events 1990 and 1991 – the ending of the cold war, German reunification, the fall of the communist government is Eastern Europe, and the failed coup attempt in the Soviet Union – caught most observes off guard. For the analyst of different economic systems, traditional models and approaches must be questioned, they may not be appropriate for tracking change deeper and more rapid than could have been imagined just 10 years ago.
How these major issues are resolved will determine the shape of the next century and the way in which different economic systems contribute to the resolution of critical economic problems.
1. Will the Soviet Union and its former Eastern Europe satellites succeed in transforming themselves into viable economies based on market allocation and non-state ownership? Will the economic decline of this region be reserved and the peoples involved gain access to a standard of living consistent with the resource base?
2. Will the Soviet Union and Eastern Europe become full- fledged members of the world economic community, opening up new product and technology markets for themselves and for their Western partners.
3. Will the Chinese embark on renewed economic and political reforms to rejuvenate their economy after the setbacks to reform that occurred in the late 1980s?
4. Will western Europe and North America continue to move toward unification of world markets at the expense of national sovereignty? How will the industrialized west accommodate the desire of Eastern Europe to become part of this unification process?
5. Will the developing economies of Latin America, Asia, and Africa begin to make economic progress relative to the more industrialized countries of the world so that prosperity will cease to be limited to a small fraction of the world’s population?
6. To what degree and in what ways will the new political and economic arrangements generate economic progress in the face of critical constraints such as energy requirements and the need to curtail environment decay?
THE COMMUNIST WORLD
The year 1985 marked the starting point for serious change in the communist bloc. In this year newly selected general secretary of the Soviet Communist party, president Mikhail Gorbachev, announced his intention to initiate “radical” reform of the Soviet political structure, society, and economy. Up until this point, the Soviet Union had been the most important example of a centrally planned socialist economic system that was experiencing serious problems in economic performance but had limited interest in economic reform. After all, Gorbachev was an apparatchik- a person who rose through the party ranks and therefore could be expected to cling to past goals and methods.
The immediate international consequences of liberalization in the Soviet Union were far-reaching. The lack of Soviet sympathy for conservative communist regimes in Eastern Europe became apparent. Soviet tanks would no longer be used to prop up unpopular dictatorship. Caught in the pincers of liberal reform in the Soviet Union and attraction of consumer affluence in Western Europe, former communist regimes granted access through their territories, East German citizen fled to West Germany, threatening to depopulate the former German Democratic Republic. The Berlin Wall was opened in November of 1989 and subsequently dismantled.
The overthrow of the East German communist regime was followed by a series of mostly bloodless revolutions in Eastern and central Europe. Free popular elections held in 1990 sustained the mandate of Havel and his Civic reform party. In Bulgaria, the communist leader Todor Zhivkov was replaced in November of 1989. Finally, in the spring and summer of 1990, elections left a majority of communist in the Bulgarian parliament but resulted in the naming of a new president, Zhelyu Zhelev, a non-communist. In the fall of 1989, agreement was reached on the creation of a multiparty system and on free elections to be held in 1990. In the spring of 1990, after elections were held, The United Democratic Front (a party in opposition to the reconstituted former Communist party) won, and Jozef Antall became prime minister. In September of 1989, General Jaruzelski announced that he would step down, a move that led to the election of Lech Walesa, who replaced Tadeusz Mazowiecki as the polish leader.
In the early 1980s, the aging Chinese communist leadership seemed determined to open the country to the West and to reform the Chinese planned economic system. The reintroduction of private incentives in agriculture and the initial influx of foreign investment boosted economic growth and brought about substantial improvements in living standards. However, liberalization quickly spilled over into political and social life.
The Chinese retreat to conservatism was in stark contrast to development in the Soviet Union and Eastern Europe. Although the process of effecting economic reform in the Soviet Union has proved difficult, in Eastern Europe there was general acceptance of the long-term goals of reform: establishment of a market economy, multi-party elections, and free speech. In China there was instead a marked retrenchment in favor of traditional communist ideals: a slowing of economic reform and a return to dogmatic one-party rule.
INDUSTRIALIZED WEST
The conservative economic policies that characterized the industrialized West spread into Latin America, Africa, and Asia in the 1980s. In Latin America, programs were initiated to reestablished private enterprise, and experiments with planned socialism were largely aborted. In Asia, the remarkable rise of the “Four Tigers” (Singapore, South Korea, Taiwan, and Hong Kong) demonstrated that formerly poor Asian countries could industrialize rapidly and compete in world manufacturing markets by employing laissez-faire economic policies.
The 1980s saw a strong expansion of economic internationalism in the industrialized West. The West European governments agreed to a united European economy that is to become effective in 1992. The United States and Canada agreed to established a barrier-free North America market. This decisive move toward economic integration has raised the issue of multinationalism versus national sovereignty – a divisive issue that must be resolved in the 1990s.
THE THIRD WORLD
The fields of comparative economic systems and economic development traditionally share some common ground, although the former overlaps the latter only when both low levels of economic development and differences between system are encountered in the same case, as presently.
One of the most striking features of the world economy of the 1990s is that prospective remains limited to a small proportion of the world’s population. More that three-quarters of the world’s population continues to live in poverty. The average citizen of Asia, Africa, and Latin America remains largely untouched by the industrial-technological revolutions that have created enormous affluence in North America, Western Europe, Australia, and parts Asia. The twentieth century offers only a few examples of countries that have made the transition from relative poverty to relative affluence: Japan in the 1950s and, in the 1980s, Hong Kong, Singapore, South Korea, and Taiwan.
The challenge of the 1990s is to create – through aid, technical assistance, and enlightened government policy – condition that will enable more countries to make the transition from relative poverty to relative affluence.
THE CHOICE OF ECONOMICS SYSTEMS
In the 1930s, the contrast between the depression-ridden West and the efforts of the Soviet Union at superindustrialization cast real doubt on the superiority of capitalism. At this time, the weaknesses of the capitalist system were all too evident, whereas the fundamental flaws of the Soviet economic system were hidden behind a veil of official secrecy and claims of extraordinary successes. The immediate postwar period of the 1950s saw the remarkable economic successes of West Germany and Japan, but the stagnant economic performance of the capitalist system. In contrast, a confident Soviet Union launched the first manned space vehicle and declared its intention to “bury” the West.
The contrast between the economic growth and consumer affluence of the West and the secular stagnation consumer poverty of the East set into motion the “radical” reform process that installed non-communist regimes in much of Eastern Europe. News publications in both East and West declared the final victory of capitalism over socialism and proclaimed Marxist-Leninist though and historical dead end. Although these proclamations of victory may be premature, the failure of communism to deliver on its long-term promises has forced formerly communist regimes to explore alternatives both political (democratization) and economic (privatization).
PROBLEMS OF TRANSITION
Agreement on the long-term goals of the transition does not spell agreement on the appropriate strategy. Systemic change will also unfold in other important arenas. Hungary, a country with a relatively long history of economic reform, has embarked on serious reform through the abolition of planning, the introduction of macroeconomic stabilization for the transition period, and the beginning of privatization. A similar pattern is unfolding in Czechoslovakia, a country with only limited experience in reform.
Finally, we must not forget that the problems of transition affect the West as well as the East. The West stands to be a major beneficiary of a successful transition. The removal of ideological differences should speed the elimination of political differences. Inclusion of the economies of the East in the world economic community should spur world economic growth. The opening up of the Soviet economy will make the rich natural resources of the Soviet Union available to world technology and markets
Chapter 2
Definition and classification
ECONOMIC SYSTEM DEFINITION
Countries have institutional arrangements termed economic systems, which are used to allocate resources to achieve economic objectives. To the extent to which outcomes differ as economic system differ, we must isolate the economic system from its setting in any particular country and from other variables that may influence outcomes. Further, we must measure the system’s impact, so that observed differences in outcomes can be related to differences in systems.
Traditional and Modern Approaches to Definition
People seem to know what an economic system is, but there is little agreement about how to describe one in objective terms. The traditional approach devoted little attention to problems of definition and measurement, dealing instead with a number of stylized economic systems- fascism, socialism, capitalism, feudalism. Either the “isms” are not defined at all, or they are defined in terms of one or two key characteristics.
The modern approach defines economic systems in terms of a about series of characteristic – property ownership, processing and utilization of information, decision-making processes, and behavior rules. The modern approach rejects the notion that an economic system is either “capitalist” or “socialist.” Instead, the economic system is determined by a number of characteristic. And these characteristic can be blended, so there is a large variety of possible economic systems, depending on how the characteristic are mixed.
There are two drawbacks to the modern approach. The first is that developing consensus on definitions or descriptions of the characteristics of economic systems is extremely difficult. The second drawback is that people have been brought up to on to “isms”. After all, the contemporary world has been divided into economic and political blocs known as capitalist, socialist, and communist systems. What ultimately interest people is how well capitalist and socialist economic system solve that problem of resource allocation.
A Compromise Solution
Definition is essential for measurement and comparison. We compromise by dealing with three stylized economic system- capitalism, market socialism, and centrally planned socialism. Each system is defined within the multidimensional framework of the modern approach. We shall not deal with slave, feudal, and traditional societies or with theoretical variants such as utopian socialism.
Definition or the Economic System
Definition an economic system is a set of mechanism and institutions for decision making and for the implementation of decisions concerning production, income, and consumption within a given geographic area.
The economic system consists of mechanism, organizational arrangements, and rules for making and executing decisions about the allocation of scarce resources. An economic system can vary in any of its dimensions, particularly in its structure, its operation, and its adaptability to change through time.
Economic system are multidimensional, a feature that can be conveniently formalized in the following manner:
ES= f(A1, A2,….., An) (2.1)
As equation 2.1 indicates, an economic system (ES) is defined by its attributes (A) or characteristic, where there are n such attributes. An economic system cannot be defined fully in terms of a single characteristic such as property ownership, rather, the fully set of characteristics must be known before ES is specified. We shall focus on four general (and often overlapping) attributes (n= 4) that are critical in differentiating economic systems:
1. Organization of decision-making arrangements
2. Mechanism for the provision of information and for coordination: market and plan
3. Property rights: control and income
4. Mechanism for setting goals and for inducing people to act: incentives
These four characteristic have been chosen because we expect economic system to differ within them. They have also been chosen because they affect economic outcomes.
FOUR CHARACTERISTICS OF ECONOMIC SYSTEMS
We shall now examine each of the four characteristics and explain why economic outcomes differ with respect to them. Initially, the characteristic appear to have little in common with ordinary characterizations of economic systems as capitalist or socialist.
The Organization of Decision-Making Arrangements
Organizations typically exhibit a hierarchy in which some individuals issue commands or orders to others members of the organization, who must comply with the orders. An economic system is the most complex organization of social sciences. Economic systems must make decisions concerning the allocation of resources. One way to describe an economic system is in terms of the level at which resource-allocation decisions are made. Economic systems are decentralized if decisions are made primarily at low levels in the organization, they are centralized if decisions are made primarily at upper levels.
Two factors determine at what level resource-allocation decisions are made the manner in which authority is distributed within the hierarchy and the manner in which the hierarchy utilizes information.
In a perfectly centralized economy, the authority to make decisions rests in a single central command, which issues orders to lower units in the organization. The perfectly decentralized case would be a structure where all decision making authority rests with the lowest subunits, independent of superior authorities. Economic systems are characteristic as centralized or decentralized on the basis of where the authority to make levels in the hierarchy.
The level of decision making also depends on the handling of information. According to Leonid Hurwicz, perfect centralization of information means that a single decision maker possesses all information about all participants, they actions, and their environment. In this context, decentralization implies that such a decision maker possesses less than complete information.
The removal of the intermediate organization seems to concentrate decision-making authority at the center. But elimination of the intermediate organization might cause authority to devolve to the subunits. Formal organizational changes do not necessarily affect the distribution of authority and the utilization of information. And organization charts may not describe the de facto organization of an economic system.
Market and Plan
The market and the plan are two major mechanisms for providing information and for coordinating decisions in economic systems. It is common to identify centralization with plan and decentralization with market, but there is no simple relationship between the level of decision making and the use of market or plan as a coordinating mechanism. In market economies, it is possible to combine considerable concentration of decision-making authority and information in a few large corporations with substantial state involvement, and yet to have no system of planning as such. To identify an economy as planned does not necessarily reveal the prevalent coordinating mechanism or, for that matter, the degree of centralization in decision making. Both depend on the type of planning mechanism.
The many ways in which the term planning is used contribute to the confusion over market and planning as coordinating mechanism. A planned economy is one wherein subunits are coordinated by specific instructions or directives formulated by a superior agency and disseminated through a plan document. The basic point, however, is that in a planned economy, economic activity as guided by instructions or directives devised by higher units and subsequently transmitted to lower units.
Indicative planning is a second form of national economic planning. Here the market serves as the principal instrument for resources allocation, but a plan is prepared to guide decision making. In the case of a market economy, the market – through the forces of supply and demand – provides signals that trigger organizations to make decisions on resource utilization. The market thereby coordinates the activities of decisions-making units.
The ultimate decision makers are different in planned and market economies. In a market economy, the consumer can “vote” in the marketplace and exercise consumer sovereignty. In a planned economy, on the other hand, decisions are made by the planners, and hence planners’ preferences prevail.
In a planned economy, planners must base their instructions to production units on some social preference function. For political reasons or to promote incentives, however, planners may well have to take into account consumers’ preferences.
Property Rights: Control and Income
Ownership rights may be divided into three broad types. First is the disposition of object in question – the transfer of ownership rights to others, as in the setting of a privately owned automobile. Second, ownership may include the right to utilization, whereby the owner can use the object in question in a manner deemed appropriate. Third, ownership may imply the right to use the products and/or services generated by the object in question.
Ownership rights may be temporary or permanent, and they may well rest with different individual at any time. The individual who rents an automobile has the right to be utilization of that automobile, but not to its disposition. The owners of a private firm have a claim over the profits of the firm, even though the operation may be significantly circumscribed by government rules and regulations.
There are three forms of property ownership – private, public, and collective (cooperative). Under private ownership, each of the three ownership rights belongs to individuals, whereas under public ownership, these rights belong to the state. As the owners seek to maximize their lifetime incomes, capital will be disbursed as so to yield be highest rate return commensurate with the risk involved. If capital is owned by the state, the rules of capital allocation may be different. The distribution of income will differ according to state or private ownership: property income will accrue to private owners in the one case, to state in the order. Finally, because the allocation of capital ultimately determines the direction of economic activity, the ownership of capital will determine whether allocation is done by private individuals or by the state.
Incentives
An incentive mechanism should induce participants at lower levels to fullfil the directives of participants at higher levels. As Montias notes, an effective mechanism must fulfill three conditions. First, the person who is to receive the reward must be able to influence the outcomes for which the reward will be given. Second, the superior (principal) must be able to check on the subordinate (agent) to see whether tasks have been executed properly. Third, the potential reward must matter to the agent.
In a hierarchy in which superior issue binding directives to their subordinates, incentives would not be necessary if the principal had perfect information. In complex organizations, however, principals typically lack such perfect information. The subordinate knows much more about local circumstances than the superior, and the superior cannot issue perfectly detailed instructions to the subordinate. The principal needs to devise an incentive system is flawed, the agent will not act in the interest of the superior.
The superior can devise and use either material or moral incentives to motivate the subordinate. Material incentives have typically been dominant in modern economic system, yet some system have attempted to emphasize moral reward. Material incentives promote desirable behavior by giving the recipient a greater claim over material goods. Moral incentives reward desirable behavior by appealing to the recipient’s social stature within the community. Moral incentives do not give recipients greater command over material goods.
Comparing Economic System:
A mode of Classification
They result in a three-fold classification of economic system: capitalism, market socialism, and planned socialism.
· Capitalism is characterized by private ownership of the factors of production. Decision making is decentralized and rests with the owners of the factors of production. Their decision making is coordinated by the market mechanism, which provides the necessary information. Material incentives are used to motivate participants.
· Market socialism is characterized by public ownership of the factors of production. Decision making is decentralized and is coordinate by the market mechanism. Both material and moral incentives are used to motivate participants.
· Planned socialism is characterized by public ownership of the factors of production. Decision making is centralized and is coordinate by a central plan, which issues binding directives to the system’s participants. Both material and moral incentives are used to motivate perticipants.
Chapter 3
Evaluation of Economic Outcomes
METHODS OF COMPAARISON:
MODELS VERSUS REALITY
The field of comparative economic systems tends to be structured on two levels: models and reality. Models, though highly abstract, are useful. They it possible to compare the theoretical differences among systems, they supply a common terminology, and they provide a “norn” against which actual performance can be judged. But even though theories or models may provide useful predictions about outcomes, which can then be compared with actual results, most observers are more interested in finding out how well a particular system performs in the real world.
THE FORCES INFLUENCING ECONOMIC OUTCOMES
Real-world economies do not fit the neat theoretical molds of the pure models. Instead, the real world is populated by mixed economies, which combine elements of market and plan, public and private ownership, and material and moral incentives.
The measurement of how closely a particular economy conforms to the theoretical ideal is a complex and, in most cases, insoluble problem. Moreover, is empirical applications it is very difficult, if not impossible, to provide a quantitative measure of the economic system.
Another fundamental aspect of the measurement issue must be raised. These are termed environmental factors and denoted as ENV. Finally, economic outcomes depend on the policies that the policy makers in economic systems choose to follow, which we denote as POL. In national form, we have
O= f(ES, ENV, POL)
Where
O = denote economic outcomes
ES = denotes the economic system
ENV = denotes environmental factors
POL = denotes policies pursued by the economic system
A factor may be appropriately classified as policy if it could be significantly changed without changing the underlying economic system. It must be classified as a direct attribute of the economic system if it cannot conceivably be altered without an alteration of the economic system. Such an approach provides us with some conception of how policy influences and system influences might differ.
Policies tend to be closely intertwined with the economic system. They are nonetheless important to the evaluation of economic systems. The standard of living is often used as performance indicators.
To understand the impact of the economic system on economic outcomes, one must understand the impacts of all other significant environmental and policy factors. The comparative economist must determine the impact both of economic system and of other factor on economic outcomes.
THE EVALUATION OF OUTCOMES:
THE SUCCESS CRITEIA PROBLEM
First, to evaluate the outcomes of differing economic system, we must select a set of performance criteria. Because people typically do not agree on the appropriate criteria, the selection tends to be subjective.
Second, even if agreement could be reached on a list of criteria for evaluating outcomes. In such instances, one must somehow add the disparate results together by assigning weights for aggregation.
It is logical to think that the economic system should have as its objective the achievement of a maximal value of the economic outcome (O), subject to the constraint imposed by the economic system (ES), policies (POL) and environmental factors (ENV), which include technology and resources constraints. In national form, the objective is to
Maximize: O
Subject to (ES, ENV, POL)
From this, it would seem that evaluating the performance of economic system would be (theoretically at least) a rather simple matter. After adjusting for differences in environment and policy, one would have only to determine which system achieved the highest economic outcome. If there were agreement on the measurement of outcomes, if would work this way. Instead, the economic outcome (O) as a function of a series of performance indicators:
where
oj = desirable (or undesirable if negative) economic outcomes
aj = the relative important of the various outcomes
Just the individuals assign different weight (aj) to different economic goals, so one would expect economic system to assign different weight to those goals. Moreover, the evaluation of these goals changes over time. One need only note the changing priority of economic goals in the United States or the fact that capitalist societies attach different weight to the items on a rather similar list of economic goals or subjectives.
THE DETERMINATION OF SYSTEM PRIORITIES
The determination of national priorities differ from system to system. In societies where political power is largely centralized, the prevailing political authority exercises decisive control over the formation of national goals.
In democratic capitalist societies, establishing priorities is more complicated. This complexity is reflected in the various arrangements through which individuals can express preferences by voting. The vote may indicate a preference among political candidates with differing positions on major national issues, or it may be a “vote” cast in the marketplace indicating what goods and services are desired. However, pressure groups such as trade unions, manufacturers’ associations, and professional associations can and do exert substantial influence. Even though majority voting prevails, legislation that advances minority interest may be passed.
The nature of the tradeoffs is not always clearly defined. First, we cannot asses the performance of economic system without some insight into the nature of the tradeoff among alternatives that has been made. Second, when one goal must in some degree be sacrificed to achieve another, we should not criticize a system for not achieving a goal that it has, in effect, decided not to pursue.
PERFORMANCE CRITERIA
We shall use the following criteria to evaluate economic outcomes:
1. Economic growth
2. Efficiency
3. Income distribution
4. Stability (cyclical stability, inflation, unemployment)
5. Development objectives
6. Viability of the economic system
In utilizing these six performance criteria, we shall proceed with a three stage order of development. First, we shall examine each criterion and attempt to assess interrelationships and tradeoffs among them. Second, as we build our stylized models of capitalism and socialism, we shall generate hypotheses about how we expect each system to perform with regard to each criterion. Third, as we later look at real-world economic systems in action, we shall compare their performance in terms of these criteria.
Economic Growth
Economic growth refers to increases in the volume of output that an economy generates over time or to increases in output per capita. Changes in the volume of output per capita over time normally bring about changes in the welfare of the population in the same direction. Using this interpretation, we can compare levels of well-being of different system at any time, or over time, to evaluate the rate at which economic progress is being made.
Because economic growth is so widely employed as a performance indicator, it is useful to spell out some complications. First, severe measurement problems arise in assessing economic growth, especially when different economic system are compared. Second, it is difficult to untangle the causes of differences in economic growth. Such differences may be a consequence of the economic system, but they may also result from environmental and policy factors. Third, the uncertain link between the growth of output and increases in quality of life should be emphasized. Economic growth is enhanced by capital formation, but to expand the capital stock, saving is required.
It has been argued that capitalist systems consistently underrate the merits of future consumption and hence save to little to make adequate provision for the future. Thus we anticipate higher savings ratios in socialist systems and, accordingly, a more rapid rate of growth of the capital stock and, ceteris paribus, a higher rate of growth of output.
Efficiency
The concept efficiency refers to the effectiveness with which a system utilizes its available resources at a particular time (static efficiency) or through time (dynamic efficiency). Static and dynamic efficiency are interrelated in a complex manner, but both are multidimensional in the sense that they depend on a wide variety of factors.
Dynamic efficiency refers to the ability of an economic system to enhance its capacity to produce goods and services over time without an increase in capital and labor inputs. Like other indicators of system performance, static and dynamic efficiency are subjected to complex measurement problems. The basic approach to measuring static efficiency is to make productivity calculations, as measured by the ratio of the output of an economic system to the inputs available. Dynamic efficiency is measured by changes in this ratio over time.
Economic growth and dynamic efficiency are not the same. The output of a system may grow by increasing efficiency or by expanding the amount of, say, labor but using that labor at a constant rate of effectiveness. The former is often termed intensive growth, the latter extensive growth.
Income Distribution
In a capitalist society, personal income is determined by the human and physical capital one owns and by their prices as determined by factor market. Income differences reflect difference in effort (provision of labor services) , difference in frugality (provision or capital), inheritance of physical and human capital, luck, and so on. The market distribution of income may be modified by the tax system and the provision of social services. Under socialism, the factors of production, are with the exception of labor, publicly owned. Thus even if Marxian ideology did not dictate the labor be the only productive input, the distribution of incomes would differ under socialism and capitalism. Capital and land are both socially owned in a socialist society, hence, their remuneration belongs to the state, not directly to individuals.
Stability
Stability we mean the absence of significant fluctuations in growth rates, the maintenance of acceptable rates of unemployment, and the avoidance of excessive inflation. Economic stability is a desirable objective for two reasons. The first is that various segments of the population are damaged by instability. Individuals on fixed incomes are hurt by unanticipated inflation, the poorly trained are hurt by unemployment. Second, cyclical instability can lead to losses of potential output, making the economic system operate inside its production possibilities schedule.
The matter of stability in economic growth is of practical importance. Potential lost at any particular time is lost forever. A system that, because of cyclical instability, does not reach its potential at various times cannot be expected to achieve its potential rate growth through time. Thus the matter of cyclical instability, the length and the severity of cycles, and the forms in which they find expression are important indicators of the relative success of economic system.
Inflation, a second manifestation of instability, may appear in open form as a general rise in the price level, or it may occur in repressed form as lengthening lines for goods and services, regional and sectoral shortages, and the like. In capitalist economies, inflation typically occurs in the first form, in the planned socialist economies, it has historically manisfested itself in repressed form.
Excessive unemployment is also undesirable. It implies, along with the personal hardships of those unemployed, less than full utilization of a system’s resources. It is difficult, however, to measure causal factors and to compare unemployment rates across economic systems, because the planned socialist economies for many years did not maintain records on unemployment. Economists recognize that there are different types of unemployment, ranging from unemployment associated with the normal changing of jobs to chronic, hard-core unemployment.
These definitions, however, fail to account for the more subtle but important concept of underemployment, or the employment of individuals on a full-time basis at work in which they utilize their skills at less than their full potential.
Development Objectives
It could be argued that it is redundant to evaluate economic systems according to their success in achieving development objectives: Economic system that achieve the first four objectives also achieve development goals. It could also be maintained that the industrialized capitalist systems developed early without conscious development objectives.
The planned socialist economies would probably argue that there is a distinction between growth objectives and employment objectives, for they have viewed economic development as the growth of particular branches and particular structural changes. This view is shared by some Western economists, who also view development as a combination of economic growth and structural change.
Although there is controversy over what causes economic development, statistically the pattern that emerges from nations that have been developing, or are developing, shows a remarkable degree of consistency. The sectoral patterns of development are familiar: the product and labor force shares of industry increase while those of agricultural decline, the urban sector grows proportionally while the rural sector declines proportionally and so on.
In a planned economy, it has been argued, concentration of power in the hands of the planner facilitates rapid adjustments in the structural features of the economy. In the capitalist economy, on the other hand, those sorts of structural change take place relatively slowly in response to changing market forces.
Viability of the Economic System
The ultimate test of an economic system is its long-term viability. The basic premise of Marxian economics is that over the course of history, “superior” economic system replace “inferior” ones. In the Marxian scheme, capitalism replaces feudalism and than socialism replace capitalism. Marx depicted capitalism as an unstable system suffering from a number of insurmountable internal contradictions.
The rejection of the planned socialist system by the political leadership casts serious doubt on this economic system’s ability to deliver an economic performance strong enough to ensure its continued existence. Among the other performance criteria – economic growth, efficiency, income distribution, stability, and development objectives – the long-term viability of the economic system itself stands out as the dominant test of performance. If an economic system cannot survive, it has clearly proven itself inferior to those systems that can.
Chapter 4
Capitalism and Socialism
REFORM OF ECONOMIC SYSTEM
Economic reform in capitalist system is generally evolutionary in nature, it is gradual and is to a significant degree introduced on a decentralized basis. Economic reform in socialist system, however, has typically been revolutionary in nature, it is abrupt and is introduced by a central authority.
Economic system have experienced economic reforms that have changed their fundamental character. It past economic reforms in socialist economic system can generally be identified as “packages” of change introduced by a central authority, the reforms of capitalist systems are more difficult to characterize. When resources are allocated through markets, changes in allocation procedures are less visible that they are when a central authority makes sweeping changes by fiat. At the same time, contemporary economic history provides economic system.
Measuring the implementation of economic reform is a complex task. For one thing, economic reform is generally introduced in an effort to alter economic outcomes through changes in system characteristics. The problems of measuring the implementation of reform are not unique to any particular economic system. Most changes in capitalist economic system evoke controversy, and it is often difficult to assess the effectiveness of changes implemented in the name of reform. Moreover, reforms may fail for a variety of reasons. Let us look more closely at these issues.
First, we have already noted that isolating changes in system characteristics from changes in economic outcomes is difficult. Second, some reforms fail because they were ill-conceived or were only partially implemented. But economists frequently note that with a high degree of industrial concentration, the outcomes of privatization may be rather different from those the reformers mechanism, in fact the basic industrial structure may result in monopoly and in all the ills associated with it.
Third, as we emphasized earlier, it is often difficult in practice to isolate policy changes from system changes. Yet it is likely that the nonharmonious development and implementation of reform measures and policy changes may lead to the failure of reform.
Finally, as we examine the progress of economic reform, it will become evident that how we should assess the extent of change depends to a great extent on the nature of the reform we are observing and on whether, in fact, the changes are systemic or simply policy adjustment.
CHANGE IN CAPITALIST ECONOMIES
Many scholars have tried to create a framework useful in characterizing the nature of change in capitalist economic systems. From a contemporary perspective, however, Marxian principles may be inappropriate to the task at hand. Although a large body of literature has been generated in numerous efforts to assess the accuracy of Marx’s prediction about economic systems, scholars do not agree on how accurate his major predictions have been.
Property Rights: Private versus Public
The ownership of property is a fundamental distinguishing characteristic of different economic systems, and it is a characteristic that can be measured, albeit imperfectly. Significant changes in the shares of public and private ownership of property can fundamentally after the nature of a capitalist economic system.
Real-world capitalist systems are mixed, some having higher shares of public ownership that others. Privatization occurs when property that had previously been publicly owned is sold to privately owned becomes publicly owned, or nationalized. The shares of public and private ownership can be changed either by government spending programs that create new government-owned capital or by direct government buying or selling of existing facilities.
Decision-Making Arrangements:
Trends in Competition
Changes in the extent of competition alter the nature and operation of a capitalist economy, but they do not result in the system’s ceasing to be capitalist. A capitalist economy in which monopoly is the prevalent form may operate inefficiently and may cause consumers to pay high prices, but it is still a capitalist economy.
The degree of competitiveness in a capitalist economy is affected by antitrust laws, regulations, trade policies, and court interpretations of antitrust policy, it is extremely difficult to generalize about trends in state policy toward competition. The industrialized capitalist countries have created international arrangements for dismantling the restrictive trade barriers that were put in place during the great depression. And there is little doubt that the degree of international competition has expanded at a rapid rate throughout the postwar period.
The amount of deregulation is another visible indicator of state policy toward competition. When a potentially competitive industry is regulated by the state, the degree of competition is reduced. Deregulation has been most prominent in transportation, communications, and banking, but it remains to be seen whether other capitalist countries will deregulate to the extent of the United State and whether the deregulation experiment will continue in the United States through the 1990s.
The least visible aspect of state competition policy – and the most difficult to characterize – is antitrust policy and mechanism designed to implement these policies. Most industrialized capitalist countries allow more exemptions from antitrust laws than does the United State, which exempts primarily farming operations and labor unions.
Growing international competition and deregulation should increase the degree of competition in capitalist countries. Moreover, rapid technological progress produces a wider variety of competitive products and promotes competition.
Incentives:
Income Redistribution Under Capitalism
Capitalism uses material incentives to motivate economic behavior, and a move away from material incentives would signal a fundamental change in the capitalist economy system. If a capitalist state altered the distribution of income earned in factor markets, participants’ earning in factor market would become less decisive in determining their command over resources.
Income is redistribution via either a progressive tax or a regressive tax. In other words, in a progressive tax system, the tax’s share of income rises with income, in a regressive system, that share falls. In order to redistribute income in a substantial way away from high-income earners, the tax system must take up a large share of factor income and must be highly progressive.
The shares of income taxes and taxes on goods provide indirect information on the redistributive role of the tax system. Taxes on income tend to be progressive, whereas taxes on goods are regressive. The tax system would become more regressive as a whole when the share of taxes on good rose.
Profit sharing and worker participation a basic characteristic of capitalism is that the owner of capital are rewarded out of profits. Workers are paid wages that do not vary directly with profits. Capitalism can change its character by sharing profits with workers. Such a change would require new incentive arrangements.
Because profits fluctuate more that wage income, the owners of capital are, in effect, making a deal with workers that as long as the business remains solvent, workers will receive their contracted wages. Owners of capital, who bear risk in the form of fluctuating returns on capital, earn a return to reward them for risk taking. The worker accepts a nonfluctuating wage and, in return is prepared to follow the directions of management.
The fundamental nature of the relationship between and owner of capital can be altered by profit sharing. If reward to worker depend in part on the profits of the business, the worker becomes a partial capitalist and bears a part of the risk of fluctuating profits. If workers’ incomes depend entirely on the profits of the enterprise, then they basically become capitalist.
The advantages of a profit-sharing economy are that workers are more materially interested in the profitability of the enterprise. A profit-sharing economy has another advantage, if workers’ pay rises and falls with profits, the economy becomes more flexible. Recession cause wages to drop, and falling wages stimulate employment.
Information Mechanism: Market Versus Plan
A major characteristic of capitalist economic systems is their reliance on the market mechanism to provide information for decision makers. At the same time, there is much debate over the extent to which various failures of the market mechanism might be reduced or eliminated by state intervention in market capitalist economic system. This intervention can take a variety of forms and, for each form, can vary in intensity.
An important change in the policy sphere has been widespread acceptance of the notion that government is responsible for macroeconomic stability. Capitalist government use different tools in both fiscal and monetary spheres to pursue stabilization, but most do perceive stabilization as a critical function of the state. Most capitalist system have put in place a variety of monetary and fiscal mechanism designed to implement stabilization policies.
A rather different sort of change in capitalist system is represented by the introduction of some sort planning mechanism – and thus a reduction in reliance on the market mechanism. In this dimension, there are important differences among real-world capitalist systems, though the magnitude of these differences is often hard to measure.
CHANGE IN SOCIALIST ECONOMIES
In light of the apparently limited effectiveness of past economic reform in planned socialist economic systems, some have characterized these reform attempts as simple experimentation. There is a tendency to view contemporary socialist economic reforms as radical in character, thus distinguishing it from earlier, less meaningful reform attempts, even though most socialist economic reform is driven by poor economic performance. In any case, and however we might characterize socialist economic reforms over time, the nature of recent reform programs has sharply increased interest in such reforms from both a theoretical and a practical point of view.
Why Socialist Reform?
Many reasons have been advanced to explain the general slackening of economic performance, but the fact remains that the planned socialist economies have found the transformation from extensive to incentive growth very difficult. Economic growth and the expansion of consumer well-being must come from improved productivity, or what socialist systems have in the past described as intensification. These systems are not demand-driven, and enterprise rules generally do not stimulate growth in productivity and cost reduction. Efficiency has simply not been a hallmark of the classic Stalinist command economy.
Socialist Economic System: Reform Models
There is a further sense in which our conception of socialist economic reform has been altered by recent events. In the past, because socialist reform was generally viewed as very modest, relatively little attention was paid to the implementation process itself.
Improving the Planning Mechanism
The arguments in support of this alternative are that problems of economic performance arise largely because planning has not been perfected and that basic planning can be improved through the application of more sophisticated computer technology.
Organizational Reform
Changing the organizational arrangements of the existing plan structure represents a second reform alternative. A typical organizational reform is the introduction of intermediate organizations into the organizational hierarchy. Moreover, each ministry supervises enterprises that produce too diverse an array of products. Ministries cannot keep in touch with enterprise behavior and do not truly understand the problem peculiar to the enterprise they oversee.
Another way to implement organizational reform would be to shift the emphasis from sectoral to regional planning. An economy planned on a sectoral basis may place the interest of the branch over national interest.
Decentralization
Decentralization implies that decisions about resources allocation will be shifted downward in the economy hierarchy. Most important, in a decentralized economy, decision are not made by planners but are reached at lower levels by means of what are frequently termed economic levers – prices, costs, profits, rates of return, and the like. Decentralization of decision making in an economic system entails both the devolution of decision-making authority and responsibility and the use of different decision-making tools in the process. This type of economic reform has frequently been characterized as real reform or significant reform to distinguish it from mere organizational change. In contemporary terms, it is likely to be called radical reforms.
Reform Programs: Implementation
The process of actually implementing economic reforms has received a great deal of attention lately. First, the issue of sequencing is important. Sequencing can be characterized in different ways, though in the past, the focus has been on the sectoral ordering of economics reform. Although sequencing has traditionally been viewed as a rather broad issue of reform strategy, there is a much more pressing interpretation. If prices are to be used in the decision-making process, the mechanism for setting and changing prices must be developed.
In addition to issue related to sequencing, the speed of reform implementation is a matter of much debate. A gradualist approach envisions the slow and careful implementation of reform in successive stages, and the reformed system is expected to be in place and fully functioning only after several years. A different approach is that of “shock therapy.” Here changes in policies and mechanism are made quickly and implemented in a short period of time. The speed possible is generally viewed as inversely related to the magnitude of intensity of the adjustment anticipated.
A third critical element of reform implementation is the actual development of new system components designed to replace socialist components. Although one can usually point to the need for an infrastructure that generally did not exist under socialist arrangements, the most notable component that must be developed is the market and related price-setting mechanism.
Privatization
In almost all contemporary socialist reform programs, privatization is a major issue. The assumption underlying this initiative is the belief that private property is essential to the development of markets – a view not universally popular among socialist thinkers.
Property right in socialist system are inherently political. Moreover, changes in these rights imply important changes in the loci of economic powers and the manner in which these powers are used. In almost all cases, there are a wide variety of enterprises. Some are efficient, attractive, and easily privatized. Beyond the issue of actually implementing privatization in a technical sense, it is not always clear what sort of market will result. It is generally argued that once firms are privatized and central supply mechanism are eliminated, inter firm transaction will serve to adjust prices.
Sectoral Problem
In agriculture, for example, the issue that emerge include the privatization of land, the development of markets for driving production, and the elimination of agricultural subsidies. The problem may be general, but frequently the solutions must be specific to the sector.
Consider another critical area, that of foreign trade. In most case, the reform of foreign trade arrangements has begun with decentralizing the trade decision-making structure from a monopolistic ministry into the individual enterprises, changing the rules used to make decisions, and altering the financial arrangements for conducting trade.
THE REFORM ERA
In the past, reasonable stability of economic systems prevailed, and any reform was modest and conservative. This pattern of reform implies the reduction or elimination of planning as we know it, the introduction of market mechanism, and the expansion of foreign trade through market mechanism. The design and introduction of these market mechanism, the changes that they promote, and the population’s response represent a major challenge of the transition era.
Chapter 5
Theory of Capitalism
HOW MARKET WORK
The theory of capitalism focuses on how a market economy works. It examines the role of prices in harmonizing the wishes of consumers and producers.
Equilibrium and the “Invisible Hand”
The pioneering analysis of market capitalism is Adam Smith’s. Speaking against the mercantilist position that free trade could lead to a country’s ruin, Adam Smith argued that a highly efficient and harmonious economic system would emerge if competitive markets were left to function freely without government intervention and if government acted to protect property right.
Smith’s underlying notion was that if individuals were given free rein to pursue their own selfish interest, an “invisible hand” would cause them to behave in a socially responsible manner. Products desired by consumers would be produced in the appropriate assortments and quantities, and the most efficient means of production would be used. An equilibrium of consumers and producers would be created spontaneously in the competitive marketplace, for if the actions of consumers and producers were not in harmony, the market price would adjust to bring the two group into equilibrium.
Partial Equilibrium
It is assumed that two motivating forces drive market capitalism: the desire of producers to maximize profits and the desire of consumers to maximize their own welfare subject to the constraint of limited income. Under competitive conditions, producers will be prepared to supply larger quantities at higher prices, combining inputs to minimize costs. If the quantity demanded exceeds the quantity supplied at the prevailing price, the price automatically rises, squeezing out some demand and evoking a larger supply until all those willing to sell at the prevailing price can do so. At this point, an equilibrium price is established, the market clears, and there is no tendency to depart from the equilibrium unless it is disrupted by some exogenous change.
General Equilibrium
Partial-equilibrium analysis of competitive markets suggest that market for individual products function smoothly in isolation from the remainder of the economy. This general equilibrium means that the divergent interest of consumers and producers can be harmonized not only for single markets, but for all markets simultaneously.
Subsequent research in general-equilibrium economics has built on and elaborated the Walrasian system with similar but less general results, none denying the possibility of a general equilibrium under conditions of competitive capitalism.
Optimality of Competitive Capitalism (Pareto)
The Italian economist Vilfredo Pareto formulated a set of conditions, now called Pareto optimality. A “pareto-optimality” allocation of resources exist when “production and distribution cannot be reorganized to increase the utility of one or more individuals without decreasing the utility of others.”
Pareto optimality forms the core of modern welfare economic theory, which seeks to evaluate the desirability of various economic states. Pareto optimality does not serve as a clear guide to determining the single “best” allocation of resources. In fact, an almost infinite number of resource allocations may be compatible with pareto-optimality, some of them calling for highly unequal distributions of income.
Capitalist under conditions of monopoly and other forms of imperfect competition violates Pareto optimality. A capitalist economy that includes imperfectly competitive industries where price is greater than marginal cost will be suboptimal. A perfectly competitive economy violates Pareto optimality in the case of market failures caused by the presence of public goods and externalities production and consumption.
The Efficiency of Capitalism: Hayek and Mises
According to Hayek and Mises, the fact that market economies efficiently generate information in the form of market prices, which enable producers and consumers to plan their actions in a rational manner, is the principal advantage of capitalism and will ensure its relative superiority over planned socialism. This is their argument for the theoretical and practical superiority of market capitalism.
REASONS FOR STATE INTERVENTION
The appropriate levels of state intervention into the affairs of private enterprise is one of the most vigorously disputed issues in the theory of capitalism. The neoclassical position, descended directly from Adam smith, is that in the absence of monopoly and other forms of imperfect competition, and in the absence of external effects, the economic role of the state should be strictly limited. In particular, the state should supply only those public goods – such as national defense, public roads, a legal system, and foreign policy – that private enterprise on its own would not be able to provide in optimal proportions.
Monopoly and Imperfect Competition
The non optimality of monopoly as been emphasized by economists since, and even before, publication of the wealth of nations. Monopolist underproduce and overcharges relative to competitive producers. Monopoly causes a deadweight loss, in that the gains of the monopolist are less than the losses to consumers.
Monopoly behavior is not explained by extraordinary greed on the part of the monopolist, who is simply attempting to maximize profits. The perfectly competitive producers, as a price taker, can sell all he or she desires at the price established by the market.
Social Control of Monopoly Power
Economic theory suggest four approaches to the control of monopoly, three of which require intervention. The first is to use the state’s authority to tax and subsidize to correct the underutilization of resources by monopolistic producers.
The second form of state intervention is direct regulation of monopoly. Theoretically, state regulatory authorities could dictate that the regulated natural monopoly produce the efficient quantity of output at which P equals MC and force the monopolist to charge a regulated price equal to marginal cost.
The third approach is that recommended by Milton Friedman – to leave natural monopolies alone because regulation would be poorly managed and would encourage monopolist to be inefficient.
The final collective approach applies to cases where competitive production is also possible. Modern theory has pondered whether there are natural limitations on monopoly power.
External Effects and Collective Action
These external effects may be harmful, in which case they are called an external diseconomy, or they may be salutary, in which case they are known as an external economy. When external effects are present, the allocation of resources is not optimal, even if the economy is perfectly competitive. Producers of the external effect are not required to take the external impact of their actions into account when making decision.
Corrective Action in the Case of Externalities
In the absence of opportunities for internalization, remedies may require state action, such as taxation and subsidies to equate private and social costs. When appropriate takes and subsidies cannot be levied, one alternative is state regulation. Government regulators determine the optimal allocation of resources and administratively decree that producers supply the optimal output mix.
A third approach to the externality problem is voluntary agreements among the parties involved. The most important drawback to voluntary agreements is exactly the problem of transaction costs and other impediments to agreement, especially when the number or parties involved is large.
PROBLEM OF PUBLIC CHOICE
Public choice theory outlines a number of potential problem: first, majority voting fails to take into consideration the intensity of preferences among voters. Second, there may be a tendency toward vote trading when voters must decide on a number of public choice issues.
INCOME DISTRIBUTION
There are a number of arguments in favor of a redistribution role for the state. First, people are not indifference to the welfare of others, and their own welfare is diminished by poverty around them. Any one person’s contribution can have only a negligible effect on poverty the insignificance of any one donor creates a substantial free-rider problem, which means that it is unlikely for voluntary contributions to have a significant impact on the distribution income.
MACROECONOMIC INSTABILITY
Keynes
Keynes focused on the mainstay of classical equilibrium theory, Say’s Law. According to Say’s Law, there can be no lasting deficiency of aggregate demand because the act of producing a given value of output creates an equivalent amount income. If that income were not spent directly on consumer goods, it would be saved. The savings would end up being spent as well, for interest rates would adjust to equate ex ante savings and ex ante investment.
Keynes disputed the conclusion of the neoclassical school in the following manner. First, he argued that wages and prices are not nearly so flexible as the neoclassical economists believed. Second, he argued that aggregate saving is not significantly affected by the interest rate, rather, it is principally dependent on the level of income. According to Keynes, the investment-savings relationship would be especially troublesome because of the cyclical instability of investment expenditures, only by chance would enough investment be forthcoming to guarantee full employment.
Self-Correcting Capitalism: Monetarism and Rational Expectations
Keynesian economics advocates policy activism – the discretionary use of monetary and fiscal policy to try to prevent or ameliorate the business cycle.
The capitalist economy has a built-in-self-correcting mechanism that will restore it to full employment or to the natural rate of unemployment. If the economy is operating at an unemployment rate above the natural rate, a slowing down of the inflation rate will restore the economy to full employment. Lower prices raise aggregate supply, and aggregate employment rises until the natural rate is reached.
The monetarists argue against the use of activist policy. Because fiscal policy is decided primarily by politics rather that economics, monetary policy has been the most flexible tool of activist policy. Monetarist maintain that activist monetary policy is as likely to do harm as good.
Advocates of the rational expectations theory also argue against activist policy. They maintain that activist policy will have the desired effect on the economy only if the policy catches people off guard.
The basic message of the monetarist and rational expectations economics is that capitalism is much more stable than Keynes had thought and that activist policies are likely to harm the economy.
THE PERFORMANCE OF CAPITALIST
ECONOMIC SYSTEMS: HYPOTHESES
Efficiency
Capitalism should provide a high level of efficiency, especially in the static case. The more competitive the economy, the more efficient the economy. Imperfect competition and external effects reduce this efficiency. Another point promoting static efficiency is capitalism’s apparent ability to process and utilize information more effectively than an economic system in which the market is lacking.
Stability
Stability is the ability of an economic system to grow without undue fluctuations in the rate of growth and without excessive inflation and unemployment. Monetarist and rational expectations theorists believe that capitalist economies are inherently more stable if left to their own devices, so there is considerable disagreement on this point.
Income Distribution
The factors of production are owned predominantly by private individuals, and the relative value of these factors is determined by the market. Insofar as human and physical capital and natural ability are not likely to be evenly distributed, especially when such things can be passed from one generation to another, private ownership of the factors of production raises the likelihood of an uneven distribution of income and wealth among the members of capitalist societies.
Economic Growth
Although capitalist governments can and do affect the investment rate, the amount saved is largely a matter of individual choice, and is likely that individual choice will result in lower savings rates than a planned socialist economy. Thus if the growth of factor inputs is left to individuals, one would hypothesize a slower rate of growth of factor inputs and hence of economic growth, ceteris paribus, under capitalism.
A counterbalancing factor must be considered: the hypothesized efficiency of capitalist economies. Up to this point, capitalist theory has had relatively little to say about dynamic efficiency.
Viability of the Capitalist System
The viability of capitalism has been demonstrated by both theory and historical experience. Capitalist theory points to its inherent tendencies toward equilibrium. And historical experience shows that capitalism has survived several centuries and that there are no signs of impending collapse.
Chapter 6
Marxism-Leninism
THE ECONOMIC OF MARK
Although Marxist-Leninist thought is currently in disarray, at one time approximately one-third of the world’s population lived in nations vowing allegiance to its ideals. It appeal has been strong, particularly in poor countries.
Dialectical Materialism
Marx’s theory of capitalism is based on his materialist conception of history, which involves a belief that economic forces (called productive forces) determine how production relations, market, and most generally society itself (the superstructure) are organized. Weak productive forces result in one arrangement for producing goods and services (production relations), and strong productive forces lead to different, more advanced production arrangements. These new arrangements are not compatible with the old set of economic, cultural, and social relationship.
These qualitative changes are inevitable because societies are destined to evolve from a lower to higher order. The process of evolutionary and inevitable qualitative change through the competition of opposing forces is the foundation of Marx’s theory of dialectical materialism.
The Class Struggle and Surplus Value
Two landmarks signal the emergence of capitalism. The first is the initial accumulation of capital by the emerging capitalist class (the bourgeoisie) – a process Marx called primitive capitalist accumulation. The second indicator is the formation of a “free” labor force at the disposal of capitalist employers. Laborers are separated from control over the factors of production (land, tools, livestock) and are left with only their own labor to sell.
Marx’s labor theory of value and theory of surplus value are key explaining the long-run dynamic of capitalism. Marx’s labor theory of value states that the value of a commodity (C) equals the sum of direct labor costs (v), indirect labor costs (c), and surplus value (s), Marx’s term for profits.
C= c + v + s
Marx’s definition of fixed capital or indirect labor costs (c) and variable capital or direct labor costs (v) differ somewhat from the modern use of the terms. Fixed capital (c) refers to outlays for the services of plant, equipment, inventories, and expenditures for materials, the common features of which is that they embody past labor, which has already been exploited.
Three relationships illustrate Marx’s view of the dynamics of capitalism. The first is the rate of exploitation, s1, which is
S1 = 
The second relationship is called the organic composition of capital (q), which Marx defines as the ratio of fixed capital to total (fixed plus variable) capital:
The third relationship is the profit rate (p), which Marx defines as the ratio of surplus value to total capital:
p = s1 (1- q)
LENIN: MONOPOLY CAPITALISM AND IMPERIALISM
Lenin studied the final stage capitalism, which he called monopoly capitalism or, equivalently, imperialism.
Monopoly Capitalism
In spite of their power, monopolies will not totally eliminate competitive producers, rather a dual economy of coexisting monopolistic giants and competitive industries will emerge.
The emergence of monopoly as the dominant economic organization signals the final stage of capitalism. Lenin listed five characteristic of monopoly capitalism:
1. The concentration of production in the hands of fewer and fewer industrial giants.
2. The merger of financial and industrial capital, as the banks an financiers come to exercise greater control over the allocation of capital resources.
3. The emergence of capital (rather than commodity) exports as the major form of international exchange.
4. The division of the world into economic spheres of influence and control by monopoly capitalists.
5. The subdivision of the world into corresponding political spheres of influence by the government of mature capitalist countries.
According to Lenin, the class struggle would continue in the mature imperialistic countries. In one sense, it would be worsened by the merger of financial and industrial capitalism. Financial capitalists would come to control capital, and the ownership and management of industrial enterprise would be separated.
The Theory of Uneven Development
The theory of uneven development is the cornerstone of Lenin’s analysis of the locus of the proletarian revolution. According to Lenin, monopoly capitalism will experience uneven development both within economic branches and among capitalist countries.
These military conflicts and wars leave the imperialist powers weakened, especially the relatively backward countries. This weakness provide the working class with the opportunity to rise up against their capitalist oppressors. Because the workers in the advanced imperialist countries have already been bought off, the revolution is not likely to break out there.
REVISIONISM
Soviet Orthodoxy: The General Crisis of Capitalism
The theory of the general crisis of capitalism sought to explain how the transaction from capitalism to world socialism was to take place despite rising prosperity in the industrialized capitalist world.
The general crisis theory argued that there would be a general and gradual deterioration of the monopoly capitalist countries as a consequence of internal and external weaknesses. On a political level, the general crisis theory provided the basis for peaceful coexistence between capitalism and socialism.
Revisionist Though After Marx
The first theme was the possibility of efficient resource allocation in market socialist economy. The second theme was the possibility of changing capitalism to make proletarian revolution unnecessary.
The revisionist movement began in Germany after the death of Engels in 1895. Its aim was to revise Marx in light of ongoing experience. The revisionists were involved in the trade union movement in Europe and felt that social reform and the promotion of democracy were more reasonable social goals that the revolutionary politics of Lenin. The revisionists believed that the breakdown of capitalism was not imminent and perhaps would never come to pass.
Eduard Bernstein (1850 – 1932) was a close collague of Engels and a member of the German social democratic movement. His revision of Marxism at the turn of the century was regarded as an important event in this history of Marxism-Leninism.
Mikhail Tugan-Baranovsky (1865 – 1919), an eminent Russian economist and “Legal” (moderate) Marxist, was also prominent in the revisionist movement. According to Tugan-Baranovsky, humankind “will never achieve socialism as a gift of blind elementary economic forces.” Instead, people must work slowly and gradually in an enlightened manner for the eventual adoption of socialism without violent revolution.
Karl Kautsky (1854 – 1938), another prominent representative of social democracy in Germany, was at one time regarded as the most authoritative spokesman for orthodox Marxism. However, by the mid-1920s, Kautsky had joined the revisionist by challenging the inevitability of the breakdown of the capitalist system.
THE NEW LEFT
Agreement and Disagreements
The new left and orthodox Marxists agreed that capitalist society is disharmonious and must be transformed into a new socialist society. Capitalist society is inherently corrupt and cannot be salvaged by means of social reform.
The basic disagreement with orthodox Marxism concerned the inevitability of socialism. The new left agreed with the revisionist claim that the breakdown of capitalism was neither inevitable nor imminent. The working class in the industrialized capitalist countries had been integrated into capitalism society and could no longer be counted on to force the radical transformation of capitalist society.
New Left Criticism of Contemporary Capitalism
The new left criticism of modern capitalism accepted much of the traditional Marxist critique. The unequal distribution of economic and political power under capitalism particularly provoked new left writers. The class conflict should be viewed as a conflict over the distribution of political power.
The control of political power by monopoly capitalists has important consequences for the world economy. The prosperity of the rich countries depends on militarism and on the exploitation of poor countries. The new left theory of imperialism agreed with Lenin that the prosperity of the rich depends on exploitations of the poor in other countries and that the working class in the rich countries becomes corrupted.
Alienation and the Quality of Life
Despite its relative affluence, the working class in the advanced capitalism countries remains alienated. The root source of this alienation is that the labor market deprives workers of control over their labor services and transfers it to those who control capital and technology. Capitalist production serves as a strong instrument of social control. Most important, entry into rewarding occupations – management, the professions, banking – depends on the wealth of one’s family because of the expense of higher education and the importance of family contacts.
CAPITALISM’S CRITICS
Orthodox Marxism obviously underestimated the long-run viability of capitalism. Capitalist economic crises have not worsened. There is no evidence of a secular decline in profit rates or of a runaway increase in unemployment. Capitalism continues to experience business cycles, but their amplitudes appear to be lessening.
The revisionists, who early came to doubt the inevitability of the capitalist breakdown, were more on track. It may be relevant to ask whether capitalism spared itself from the fate predicted by Mark by reforming itself or whether Mark was just plain wrong.
The rejection of Marxism-Leninism in much of the Soviet Union and Eastern Europe has dealt a serious, perhaps fatal below. The failure of the socialist planned economy to produce growth and prosperity has necessitated a pragmatic, nonideological approach to economic policy. Finally, one could assess the radical challenges in terms of the economic organization that is proposed in place of capitalism, but one must consider whether socialism, either of the planned or the market socialist variety, can do a better job. On this point, the challengers of capitalism are remarkably silent. The new left did not provide a clear blueprint of its ideal society, it offered, instead, some general references to decentralization and reliance on moral rather than economic incentives.
CHAPTER 7
Theory of Planned Socialism
The Socialist Controversy: The Feasibility of Socialism
• The Marxist-Leninist view of socialism emphasized a strong role of the state and equal income distribution. Marx and Lenin did not deal with the more fundamental issue of how resources will be allocated during socialism.
• Resource allocation under socialism has been widely discussed over the past century and termed as the Socialist Controversy.
• The 1st consistent theoretical framework of resource allocation under socialism is by Enrico Barone:
Barone: A Theoretical Framework
– 1907 “The Ministry of Production in the Collectivist State” argue that the prices are not limited only to markets.
– Central planning board (CPB) could establish prices or “ratio of equivalence” among commodities.
– His model consists of simultaneous equations relating inputs and outputs to the ratio of equivalence. The equations could provide the appropriate relative valuations of resources required to balance ss &dd. And the relative prices can be simulated.
– The CPB computed resource allocation would be similar to that of competitive capitalism
– Practicality-not realistic (CPB to gather and solve simultaneous equations for million products)
Barone developed a theoretical framework of resource allocation under socialism but failed to develop a realistic scheme.
Chapter 8
THEORY OF MARKET SOCIALISM
- Definition
Market socialism is an ES that combines public/social ownership of capital and market allocation.
• Public ownership of non-labor factors of production
• Decentralized decision making structure (firms & hhlds)
• Decentralized information structure
• Coordination by markets
• Both material and non-material rewards
The most famous theoretical model of mkt socialism is the trial and error model proposed by the polish economist Oscar Lange
2. Theoretical Foundations—The Lange Model
• Combines public ownership and a trial & error approach to determine output and equilibrium
• State owns non-labor factors of production and consumer goods are allocated by market (state ownership and resource allocated by markets)
• A more centralized version of market socialism
• Three decision-making levels
-central planning board (CPB)
-industrial ministries
-enterprises
• CPB initially sets all prices arbitrarily
– enterprises face parametric prices just as perfectly competitive firms do
• Firms follow mkt type rules. Enterprises instructed to
– minimize costs
– produce output at which MC=P
• Result will either be a surplus or shortage
– if surplus, price adjusted downward
– if shortage, price adjusted upward
• The CBP sets the prices and would adjust prices to equilibrium until supply=demand
• Households supply labor
• The CPB allocates social dividends (rents and profits):
– to finance investment to achieve growth goals (state control over investment& the rate of econ growth)
– to achieve distributional goals (with state ownership, the rate & direction of econ activity would be determined in large by state; distribution will be more even)
• State decisions on sectoral expansion
• Control of pricing can be used to correct externalities
– Because the state manipulates prices, it will account for externalities. Decisions made at higher levels rather than lower levels will be better in terms of preventing environmental effects
• State control over savings and investment would reduce cyclical instability
• In short-run case -variable supply of labor L and fixed capital K
– The enterprise pays the government a tax (T) for the capital it is using
– Since K is fixed in the short run, T is fixed
– If we let Y = total dividend and P = the mkt price of the output, then Y= PQ - T
– The firm will max per worker dividend Y/L = (PQ-T)/L
– Max solution is: P MPL = (PQ-T)/L
• Maximum net income per worker will be achieved when the amount of labor hired is such that the value of the MP of the last worker hired is the same as the average net earnings per worker
– 
P MPL is the value of marginal product (VMP) of labor
P MPL is the value of marginal product (VMP) of labor At L1,VMPL > Y/L adding an additional unit of L will raise Y/L
– Thus, to maximize per worker dividend, the firm must employ just that quantity of labor such that the VMP of labor is equal to the per worker dividend Y/L.
• In long-run case-labor and capital are variable
– r=rental rate per unit of capital
– The firm will max Y/L = (PQ-rK)/L
– K-amount of capital; r-charge per unit of capital
– Max solution is: P MPK = r and P MPL = (PQ-rK)/L
• Where P MPK is the value of marginal product of capital
• If the VMPK is greater than r more capital should be hired to utilized until the return and the cost are equal (perfectly competitive firm)
– Firm maximizes net revenues per worker
Households maximize utility to supply labor services.
Comparison with Capitalist Firm
• Assuming profit (Î ) maximization Î = PQ - wL - T
– where w = wage
• At the profit maximizing employment of labor P MPL = w
• Value of labors’ marginal product equals wage
• The cooperative model has been analyzed by Jaroslav Vanek (defend) and Benjamin Ward (criticized). Strong support for the cooperative features comes from Vanek who argues that the participatory economy is element of social evolution
Positive Features of Cooperative Model
• Eliminates capitalist dichotomy between management and labor
– Enterprises are managed by the workers;
– Workers participate in decision making
• Greater social justice in distribution of income
– distribution according to decision of the workers involve
• Firms will be more socially responsible
– E.g. environment (pollution)
– The workers who control a participatory firm live locally, they are more likely to “internalize” the externality of pollution and trade lower monetary awards for a better environment.
Criticism of the Cooperative Model (Ward)
• theoretically rigorous , but its real world applications are limited
• cooperative monopolist, inefficiency
– If supplies big quantities of product and realize that, behaves as monopolist—hires less labor, produces less output and charges a higher price.
• misallocation of labor
– Ward argues that if two cooperatives, producing identical product, use different technologies there will be misallocation of labor that would not occur if the two firms were capitalist.
– if VMPL = w and all firms face same wage, then all firms’ VMPL will be the same
– no such mechanism to equate VMPs in market socialism
• if VMP1 > VMP2 then greater value can be produced by reallocating labor from Enterprise 2 to Enterprise 1
• motivation of managers
– When the cooperative hires professional management how to motivate to follow the rules
4. The Performance of Market Socialism: Hypotheses
a. Income Distribution
– State ownership, capital belongs to the state; worker-managed enterprises, the state must be paid a fee for use of capital, and the state would presumably divide such income among the population on a fairly equal basis.
– more nearly equally under mkt socialism than capitalism
b. Economic Growth
– Relatively high rates of growth since the earnings from capital will go back into economy, but need to consider if there is pressure on the state to put “social dividends” into current consumption and subsidy
– Not sure of high investment rates
– ?
c. Efficiency
– Individual participation in decision making, lack of monopoly, attention to externalities; therefore more efficient than capitalism
– However motivation problems
– ?
d. Stability
– Greater econ stability since the state will have greater control over the investment rate
– But if it is difficult to adjust prices to equilibrium, macroecon instabilities associated with nonequilibrium prices might be experience.
Chapter 9
The American Economy: Market Capitalism
I. Resources Allocation In the Private Sector
The role of government is more limited in the United State than it is in other countries. Government ownership has been limited even in the case of natural monopolies and transportation, which in most other countries are government-owned or operated. The United States has no apparatus for economic planning, and the market makes the overwhelming majority of resources allocation decisions.
· Business Organization
Business enterprises in the United States are devided into three categories on the basis of legal organization, include ;
The sole proprietorship is owned by one individual. A partnership is owned by two or more partners. The corporation is owned by its stockholders and has authorization to act a single person. The larger size of the corporation to raise capital. The sole proprietorship is important in agriculture, retail trade, and services; the partnership is important in finance, insurance, real estate, and services; the corporation is the dominant form in other sectors.
· The Product Market
Resources-allocation arrangements depend on the degree of the market power in different product markets.
Competitive Industries, competitive producers are price takers. They can not influence prices, so they maximize profits by expanding their output to the point where marginal cost is equal to the product price. Perfect markets, all buyers pay the same price at any time and information concerning prices is available almost instantaneously. In the real world of the U.S. economy, most competitive industries are not perfectly competitive because they sell slightly differentiated products. Most of the roles just described, however, apply in general terms. Even though a product is differentiated, producers have little to control over price. In each market, prices are established by supply and demand, and arbitrage (buying in the cheap market and reselling in the expensive market). Although these markets are not perfectly competitive, they closely approximate perfect competition.
Imperfectly Competitive Industries, competitive markets work in a fairly invisible and low-key manner. Highly concentrated, noncompetitive industries follow a wide variety of behavior patterns. The higher profit rates found in highly concentrated industries are the result of the superior efficiency of large firms.
· The Labor Market
In competitive labor markets, employers demand larger quantities of labor at low wages. The supply of labor is a positive function of the wage rate offered, and a wage rate equating the supply and demand for labor is established automatically in the marketplace. Labor market analysis focuses on the causes of deviations from the competitive model; union power, government intervention, and discrimination.
· The Capital Market
The capital market brings together suppliers and users of credit. Businesses undertake investment projects as long as the anticipated rate of return exceeds the cost of acquiring capital funds.
II. The Role of Government In the American Economy
The scope of government activity has been more limited in the United States than in most advanced capitalist countries. In fact, in American experience may suggest the minimal functions of government compatible with modern industrial capitalism. There is little role that government must provided public goods, commodities that are consumed jointly and nonpayers cannot be excluded from enjoying.
III. The Provision of Public Goods: The Case of National Defense
The activity that dominates with public goods market in the United States in national defense, which is also the best theoretical example of a public good. Know we can see how U.S. government deals with public goods. Two issue must be considered :
· Resource Allocation by the Defense Industry, the connection between the government and the large manufacturers of military hardware has been called the military-industrial complex. Three explanations of weapons procurement have been offered:
The strategic explanation is planning of defense to buy weapons on the basis rationally for avoiding foreign military threat. The bureaucratic explanation is that defense spending is the product disorganized to make up the military-industrial complex, not of any rationally calculated plan of national security. Economics provides the final explanation.
· The Market Structure of the Defense Industry. The market structure of the U.S. military-industrial complex consists of the U.S. government, as a monopsonistic buyer, purchasing from a small number of defense contractors. The government purchases a weapons system from a single supplier, who is granted a monopoly to develop the system. The major advantage is that the monopoly over new weapons systems would then reside directly with the U.S. government. The second approach does not appear to be politically feasible, because strong vested interests favor the existing system of protecting and subsidizing established defense contractors.
IV. Government and Macroeconomic Stability
Government affects economic activity in the United States principally by regulation and by antitrust policy. The amount of government ownership in the United States is less than in other industrialized capitalist countries. The impact of regulation on the prices of regulated monopplies has been limited, and potentially competitive industries have been deregulated. The Sherman Antitrust Act is the major antitrust act of the United States, and it has been subject to differing court interpretations over time. In the United States, the government’s effect on the distribution of income has been limited. Government redistribution works primarily through the unequal distribution of inkind services rather than through the tax system.
Chapter 10
Variants of Capitalism : Mature Economies
The five major variants of to make capialist model France, Great Britian, Germany, Japan, and sweden. These countries have been chosen because of certain distinguishing features aht make each country espicially interesting to comparative economic. All of these countries can be classified as market capitalist system in which the market is the primary mechanism for resources allocation, private ownership is the dominant from of property holding, and material incentives are used to motive people.
If the economies of these coutries are broadly similar, what are their distinguishing characteristic? France in a market capitalist system in which a national economic plan has been used to influence resource allocation. The france plan has been of particular interest as a from of noncoercive or indicative planning. Great Britain is an example of mature capitalism. The industrial revolution began in Great Britain in the eighteenth century, so the national as had almost 200 years of experience as an industrialized capitalist country has experiented with state ownership of basic industries, with redistribution of income through the tax system.
Germany, which describes itself as a social market economy,is of interest because of its attempts to combine market allocation with worker participation and government intervention to achieve social goals. The Swedish economy is a prominent example or what is generally termed the welfare state. Sweden is a country and an economic system that has managed to combine efficiency generated through the market mechanism with an egalitarin distribution of income and benefits more typical of socialist ideology. And than japanese economy has achieved the highest growth rate among the major industrialized capitalist countries.
France : Indicative Planning In A Market Economy
The post- World war II french economic system is viewed as a significant test of whether national economic planning and a democratic capitalist society can be effectively harmoniously combined.
France ; The Setting
Countries, as respresentatives of economic system, posses unique features such as locatio, size and cultural and historical charateristic, all of which influence the economic system.
France and Indiative The background
The French a have tended to view their economy in rather long-term perspective, emphasizing the primary importance of balance d economic growth and development. These characteristics of the French economy may heve facilitated the introduction and operation of a planning mechanism, such a step represents both practical and theoretical problem for the market economy. The basic casse for indicative planning the theoretical underpinning of the French system rests on the French system rests on the manner in which information guides the economic system in the face of uncertainty.
The Plan Mechanism
The organizational arrangements of the French planning, remained relatively unchanged from after World War II until the early 1980s at which time substantial modification were made. Because the pre 1980s arrangements are important to any assessment of the planning system. The plan based on a of alternative projected growth paths for the French economy, including major priorities, which were formulated by the planning commissariat.
Characteristics of Indicative Planning
The traditional french plan, unlikeits Soviet counterpart, doest not order firms to do things. The state has two major vehicles for influencing economic outcome: the budget and public ownership. Plan fulfillment depends on whether firms tend to follow the plan.Has french Planning Worked? The features that have made the Franch planning system attracti to many especially its apparent consistency with the values of a Western pluralistic society, would be of little value if the plan did not work. There are many reasons why it is difficult to assess the impact of the French planning system on economic performance.
- The planning system has changed in many ways.
- Closely related issues is that effectiveness of the plan mechanism over time.
- In a mixed economy like that of France.
The Frech Economy : Approaching the 1990s
The 1980s was a period of change in the French economy, and yet it would seem that planning has yet to play a major role, even under a socialist government. The initial years of the Mitterrand government witnessd a substantial increase in the role of government in the French economy. Beginning in late 1981 and early 1982, a policy of nationalization was announced.
Great Britain : Maturity, Instability, and Income Policy
- Great Britain : The Setting → Great Britain is an island economy its land area is a slighly greater than that or the state of Minnesota. Britain’s history of achievement and its rise to world power have not been matched by good economy performance in contemporary time.
Great Britain has a polulation of just over 57 million persons, roughly 75 percent of whom live in urban areas. Great Britain has limited amounts of good agricultural land, and given its relatively large population, intensive land use its essential.
- Background of the British Economy → Great Britain is an open economy, particulary vulnerable to external shifts over which it has no control. As The British concept of an appropriate role for the state in economics affairs is very different from that prevailling. Whatever the motivating foce, the state would play an important role in the direction of the French economy, and planning was viewed as the appropriate mechanism.
- The British Economy →The Early Postwar Era → When a market economy ha been operating for some time under controls, release fom those controls can create adjustment difficulties. Such was the case in the immedite postwar British economy. What were the roots and the dimmensions o the impending economic problems?
· British economic problems of the 1950s and 1960s are now familiar, the most visible was a growing balance of payment deficit produced in large part by Britain’s.
· The have been many explanations of the poor performance of the British economy in the first decade and a half after the war.
· Many would consider these features sympotoms rather than cause.
- The British Economy → Planning in the 1960s → There were really two growth plan prepared for the 1960s. One, began i 1962, was to government the growth of the economy through 1966. The second plan, introduced in 1965 and abandoned in 1966, was to government the growth of the economy through 1970. Both plans were essentially a sectoral elaboration of a projected aggregate growth rate.
- The ‘’ British Disease’’ → Investment as a proportion of gross domestic product was between 16 and 20 percent, rising somewhat during the 1950s and 1960s. The ratio well below that France and Wesat Germany, although government and public enterprises accounted for over 40 percent of domestic capital formation. There is little evidance that the government played any useful role in directing investment activity that growth producing sectors or regions.
- Nationalization and the Market → To assess British economic performance, it is useful to return to our basic classification of economic system in terms of the decision making structure, the mechanisms for information and coordination, property rights, and the incentives system. The public sector in Britain has played a substantial role in both savings and investment. Public saving as a propotion of aggregate saving in the economy fluctuated from a low of 21 percent (1960) to high of 46 percent (1950) over the period 1950-1966. Public enterprise is highly visible in some sectors of the British economy, its overall contribution in really not large.
- The British Economy In the 1970s and 1980s : An End Stagnation?
Rel gross domestic product per person grew by 2.4 percent per annum in Britain in the 1960s and by 1.9 percent in the 1970s. Most countries experienced rapid infaltion in the 1970s. However, the Britist rate of inflation generally exceeded that of other Westren industrilized economies. British econommy of the 1980s, clearly represented a significant departure from those of earlier years. Economic policies in the 1980s were designed to reduce the role of government and to do so in four important areas. First, to improve make stability, a monetary policy designed to reduce the rate of inflation was instituted. Second, to reinstitute a competitive market economy, government controls and regulations were reduced. A third, area of focus, related to the issue of the public sector to private ownership to their members. Finally, steps were taken of these policy measures in the 1980s generated a discussion of great importance.
Germany : The Social Market Economy
The economy of West Germany, the Federal Republic of Germany, belongs in a discussion of variants of capitalism for three reasons. The first is that the economy performance of the West German economy is generally perceived to be the strongest of the major European countries throughout the postwar era. The second reason is West Germany’s combination of free market forces with significant state intervention to achieve desired social goals. Finally, unification of the former German Democratic Rebuplic with West Germany provides a unique historical example of integration.
1. Background → The Federal Republic of Germany (Bundesrepublik Deutschland ) came into existence as a federal republic in the late 1940s as the three allied occupation forces. A 1948 currency reform established the three occupation zones as a single currency area; Soviet authorities kept the Soviet occupation zone out of this currency union. The basic law for the Federal Republic of Germany consisting of a federal government and the local government. The integration of the former German Democratic Republic into the Federal Republic of Geremany has created a large nation by European standars.
2. Origins of the Social Market Economy → The social market economy originated in the immediate postwar years.The political background of the social market economy can be traced to the immediate postwar years of Allied occupation. Two major political events signaled the return to the amrket resources allocation; the Currency Reform and Price Reform of june 1948 and the passage of the Basic Law ( Grundgesetz ) of the Federal Repbulic in May, 1949 the latter serving as the German constitutio.
3. Characteristics of the Social Market Economy → First, Principle remains the sancitity of ptivate property. Second, is that resources allocation should follow the dictates of the market unless there ia s serious conflict with national social objectives.
4. Social Correctives of the Market Economy → The conflict between private economic decision making and national social objectives. Such social correctives occurs in five major area: (1) the security of employment, (2) the protection of employees, (3) insurance against the risks of workers, (4) improvement of the distribution of income and (5) other measures that have a significant impact on social policy. The first instance are typical of most industrialized capitalist countries and involve programs of employment service, protection against dangerous employment condition and protection to teen age workers; unemployment. Hospitalization, and accident insurance. Correctives aimed at improving the distribution of income are more unusual. In Germany, progressive income taxes are not the principal vehicle for making the market detremined distribution of income more equal.
5. Codetermination and Labor Unions → The 1976 regulations are still being tested in the German courts. Because codetermination rules call for a nearly equal labor voice, they call into question the protection of private property guaranted in the German constitution.
6. Labor and Collective Bargaining → Collective bargaining unions and management generally proceeds at a relatively high level. Unions have right to srike, and management has the right to lock workers out or close down firms in which workers are striking. The low frequency of srikes in Germany and the ralatively low nominal wage increase agreed to by unionns in tha postwar and period point to comparatively successful labor management it relaions in postwar Germany.
7. Public Enterprise → The role of public enterprise is greater in Germany than in the United State. Not only do state enterprise dominate transportation and communication. In some case; government participantion in mining and metallurgy. The management public enterprise has two typically been decentralized to the enterprise, (1) the sale of formely public enterprise to private person or private groups and (2) social denationalization which is achieved by establisihing a new type of equity, to call popular share to be sold to low income citizens on a preferential basis.
8. Performance → The postwar performance of the German eonomy has been good. To what extent this performance is related to the economic system. However, certain aspects of the the German system have arguably been important in influencing economic outcomes.
Germany : Unification
- The GDR as a Planned Socialist Economic System
- The FRG and the GDR on the Eve of Unification
- Unification and the Era of Transaction
- The German Economy in the 1990s.
Japan : Growth Through The Market
Japan is a capitalist economy with a record of exceptional economic performance. Japan’s postwar rate of economic growth is the higher among the major industrialized countries. However, in Japan as in other countries, growth rates have slowed.
1. Background of the Japanese Economy → Japan, like Great Britain is an island economy. With a population of approximately 123 million, 75 percent of whom live in urban areas, and land area slightly smaller than of the of California. Japan is a developed economy dominated by the service sector, the industrial sector, and a small agricultural sector. Japan developed policy measures for economic growth based on special features of the Japanse system. First of all, there was among the Japanse population a unity of purpose fostered by the state and facilitated by Japan cultural tradition and history. Second, the state has performed important function. Third, historical experience is crucial to understanding modern economic growth in Japan. Fourth, military acivity has been an important factor.
2. Japanese Economic Growth → The Japanse economy is a capitalist market economy, in which national economy planning has played only a marginal role. What are the important noneconomic feature of the Japanese development experience? First, we must again emphasize the important and multidimensional role of the state.Second, what Ohkawa and Rosovsky describe as the “ human element “ has been a very important factor in the Japanese story. Third, one could cite a number of other factors.
3. Industrial Organization → An economy’s industrial organization can affect its performance, and most capitalist theories associate competition with good economy performance. The concepts of industrial paternalism and lifetime emloyment have received a great deal of attention, in large part because the system seems so different from other capitalist.
4. Japanese Planning → Economic planning has not been an important element in the Japanese economy. One measure of the value of a plan is how closely it is fulfilled. Japanese economic performance has typically been better than that called for by by the plan. Plan targets have typically been exceeded, sometimes by very large amount.
Sweden : The Welfare State Market Capitalist Setting
- The Setting → Since World War II, Sweden has exprienced a long period of economic progress based on the development of its resources ( timber, hydroelectric energy, and iron ) with major reliance on a market economy and participation in foreign trade. Sweden is the prototype of a developed industrial society that has a significant involvement in foreign trade and a high standard of living based on an educated labor force functioning largely in an urban, industrial setting.
- The Wefare State?
· In influencing distribution can be measured in a variety, a few basic numbers will serve to illustrate the Swedish case. The Swedish economy is predomiantly a private enterprise economy is production.
- The Economy System → The nature of the Swedish economic system is more complex and deserves additional attention;
v From an environmental perspective, the nature of Sweden dictates to a large measure the sorts of the outcomes that one expects to obeserve.
v The essence of the Swedish model is the setting of social democracy, a system.
v Within the framework of social democracy, important market information.
v Employees can participate in enterprise management, at least on an advisory basic, through worker councils.
v The Swedish state is an active participant in the economy through the use of traditional tools of monetary and fiscal policy
v Sweden maintains an egalitarian distribution of income largely through transfers of various types, providing generous benefits for retirement, medical care, education, and the like.
- Performance : The Health of the Swedish Model → The Swedish economy was no exception. Inded, the problem of the 1970s and 1980s led many to ask whether the Swedish model had outlived its usefulness. Simply put,, the energy shocks of the 1970s increased domestic costs, which along with poor productivity performance, led to an erosion of the Swedish position in external markets. But government followed a policy expanding the deficit, which in turn stimulated inflation.
- A model for Socialist System?
However, we might judge the success of the contemporary Swedish model. The debate over the long term viability of the Swedish model has not been resolved. Quite apart from the merits of the economic model. Providing substantial social benefits necessitates high levels of taxation. Chapter 11
Variants of Capitalism: Developing Nations
India is an important example of capitalism in a large and poor country. Unlike, china, India has chosen an economic system that is basically capitalist in character, but it combines this system with a significant degree of state influence, the letter implemented through various types of controls and a state planning system. Economic growth and economic development are important goal of Indian economic policy. Thus, because we seek examples of the early stages of economic growth and economic development in large and relatively poor countries, it makes sense to compare India and china than, for example, china and United States. Next we examine the “four tigers”: South Korea, Taiwan, Singapore, and Hong Kong. These country have all experienced rapid economic growth and significant through uneven advances in the level of economic development. Most important here our discussion, all are relative small countries that utilize the market mechanism and strategy of export-led industrialization. Next we examine or focus on capitalism and on the policy combinations appropriate for promoting economic growth and economic development in the natural settings.INDIA: THE QUEST FOR THE ECONOMIC DEVELOPMENT
Does anyone economic system appear better suited than others to solving the development problems of low-income countries? It is therefore incumbent on us to include a low-income country among our capitalist variants. There are more poor countries than affluent ones. In fact, affluence is limited to a very small proportion of the world’s population. The difficulty is that there is more diversity among the less-developed countries (the LDCs) than among the industrialized economies. What common features can be extracted from this diversity? LDCs possess the characteristics generally associated with low levels of income: the dominant role of agriculture, high fertility and mortality rates, limited use of advanced technology, and lower saving rates. In addition to these features, LDCs share other characteristics: concentration of the ownership of wealth, reliance on indirect taxes, extensive government control of international transactions, poorly developed capital markets, and monopoly power in the limited industrial sector. Rather than attempt to deal with the LDCs as a group, we have selected one, India. We believe that the Indian economy is reasonably representative of the operation of the capitalist economic system at low level of economic development.Basic Characteristics
India has been called the world’s largest democracy. Its government is patterned on the English parliamentary system, and over the years Indian politics has been dominated by the Congress Party. India comprises a multiplicity of ethnic groups, who speak different languages, and has suffered over the years from the ethnic and regional strife. Indeed, this strife remains important in the 1990s.The Indian economy: Historical Background
The Indian economy prior to independence from Britain in 1947 makes an ideal case study of a traditional society with a long history of colonial domination. Prior to British rule (first under the British East India Company and then under the Crown), the Indian moghul economy (so called because a Muslim minority was the ruling elite) operated according to long-standing traditional rules. Society was divided into castes: the religious leaders, warlords, and their retainers were at the top, and the small peasant and untouchable castes were at the bottom. In this hierarchical system, one’s place in society, as well as one’s occupation, was determined at birth. Occupation were not distributed according to the skills, qualifications, and wishes of individualist or according to the needs of society. Moreover, work was considered beneath the dignity of the upper castes; physical labor could be engaged in only by the lower castes. In contras to other feudal societies, the ruling class itself generally did not own the means of agriculture production and was not involved in its management. In the farm family, an extended family system prevailed whereby income was shared among bothers, cousins, uncles, and so on. Economy progress under the moghul economy was limited. Population did not increase for two thousand years. It is likely that in the sixteenth century, per capita living standard were higher in India than at home. The Indian economy under British rule was nor dramatically different, but the British did remove the old moghul warlord aristocracy, replacing it with a new indigenous ruling elite (supportive of the British) and a professional British bureaucracy, both designed to preserve law and order.The Modern “socialist” Indian Economy
The modern Indian economy is the creation of the Congress party and its leaders, Mahatma Gandhi and Jawaharlal Nehru, who referred to India as a “socialist” economy, though they differed on the appropriate course of Indian socialism.Economic Planning in India
According to the definitions developed in Chapters 7 and 8, India planning would be classified as indicative, even though its heritage is the Soviet experience. It is a noncompulsory form of planning, in keeping with the Indian philosophy that the use of force is contrary to Indian democracy. This is not to suggest that Indian plan directives have not been implemented. In the industrial sector a wide range of enforcement mechanisms have been available.The Economic Controls in India
A most important instrument of state control is state regulation on foreign exchange and imports. Since the mid-1950s, India has been on a strict import and exchange control system. The Import control system has operated on the principles of essentiality and indigenous nonavailability. In the late 1960s, the Indian system of economic controls was reexamined, and an attempt was made to limit controls (except for agricultural pricing) to large firms.Growth Performance
The growth of the Indian economy after 1947 represents a marked improvement over its historical performance. Maddison and Malenbaum argue that Indian growth has been substandard for the LDCs in the postwar era and Maddison calculates that the Indian growth rate has been 25 percent below its potential.Capitalism in India
Notwithstanding the large share of government ownership of heavy industry and finance, India is capitalist economy. The public enterprise sector is a small part of the total economy, and private ownership prevails throughout the rest of the economy. The dominant sector, agriculture, is a characterized by private ownership of land. There has been no significant change in the distribution is greater in India than in the advanced capitalist countries, whether calculated on a pretax basis. Economic planning is a primarily indicative, although planning of the public enterprise sector may carry with its some compulsory elements. Nevertheless noncoercion remains the foundation of Indian planning. Government intervention in private economic decision making is probably more extensive In India than in the advance capitalist countries, although the actual degree of compliance is difficult to establish. Government control have been placed on prices, imports, foreign exchange, raw materials, and capacity expansion. One reason for these controls is a rather deep – seated distrust of market resource allocation. On the other hand, control is same to be a characteristic feature of capitalism under conditions of underdevelopment, so in this sense, India conforms to the general pattern of underdevelopment. Problem and Prospects
The basic challenge facing India over the coming decades is to improve the utilization of its abundant resource, labor. Endemically high rates of unemployment and unemployment attest to labor’s underutilization, but the means of correcting the situations remains and heatedly debated issue. In a sense the biggest decision facing India appear to be whether to choose more market or more plan.ASIAN SYSTEMS: SOUTH KOREA, SINGAPORE, TAIWAN, AND HONGKONG
South Korea, Singapore, Taiwan, And Hong Kong or the “Four Tigers” frequently characterized as the newly industrialized countries of Asia. That country are the object of considerable interest in region of the world where contemporary economic progress has been great but uneven. Moreover, these are all the system that have achieved significant rates of economic growth. Judged by world historical standards, have made progress the market mechanism and a strategy of export led industrialization. Although there are important differences among these countries, its their similarities, and their economic progress via mechanism and policies, that stand out. These Asian success stories deserve our attention.Background
Singapore is a wholly urban society with a strong manufacturing base, an active sector service, and virtually agriculture. South Korea is a industrialized country with a substantial agriculture sector, an urbanization level of roughly 70% at the end of the 1980s, and limited amount of such resources as coal. Taiwan has important agriculture sector, but its natural and climatic condition are less than ideal and minerals are in short supply. Agriculture is relatively unimportant in Hong Kong. Performance: System and Policy
The four tigers seem to have achieved these gains with little if any increase inequality. They are, therefore, system generating both efficiency and equity. Economic growth has been driven by export led industrialization. Export have been largely manufactured, but recent the years a somewhat more diversified export pattern has emerged (for example, financial service in the case of Singapore). Most of these countries have has modest and declining rates of population growth, though the transformation of agriculture has resulted in substantial growth of the labor force to support the industrialization process, most notably in south korea and Taiwan. Structural change has been typical and quite rapid. The setting of economic activity is predominantly a market economic with private ownership, but the role of the government has been important in varying ways. Asia: The Future
The Asian success stories are important not only for what they tell us about the sources of successful economic growth and development, but also models for those countries in asia and elsewhere in which economic progress has not been achieved. The four tigers have promoted rapid industrialization through strikingly similar policies focusing on the export sectors. The great deal of uncertainty exist about the future economic prospect of Hong Kong, which reverts to the people republic’s of china in 1997s. although the Chinese have indicated that they will leave the market of Hong Kong remains important. Another factors in Asian economic growth has been the presence of a strong entrepreneurial class ( sometimes from abroad) working with a population and labor force said to have a strong work ethic. Though more difficult to quantify than, investment, these factors may have been very important.CHAPTER 12
The Soviet Economic :
The Command Experience
Traditionally, the Soviet economy has been classified as a centrally planned socialist economic system. However, widespread state ownership and the dominance of a national economic plassn governing resource allocation, which was begun seriously in 1928, came to be questioned under a program of radical economic reform instituted by Mikhail Gorbachev in 1985. The nature of this reform reform process, or Perestroikawill occupy our attention in a subsequent chapter, because it is directed at fundamental change in the working arragements of the Soviet economy.
Perestroikarepresents a fundamental departure from Soviet economic policies of the recent past and deserves separate treatment.
Historical Perspectives
Our examination of American capitalism was not cast in historical perspective. The American economy is, after all, an open economy undergoing change all the time. The soviet experience has been rather different.
At the time of the Bolshevik revolution in 1917, the era of the czars came to a lose and the era of the Soviet began. Although the Soviet economic system as we know it today generally dates from 1928, analysis and assessment of the Soviet era must begin with the base from which it grew; the level and rate of economic development at the end of the czarist era
At the end of the 1920s the Soviet leader, Joseph Stalin, Made two important decisions. First, a comprehenssive system of central economic planning based on compulsory state and party directives was established. Second, the agricultural sector was collectivized.
The period of Soviet history from 1917 to 1928 provided some important lessons-lessons that permeated Soviet thinking. First, it became apparent that if the market were to eliminated, some mechanism for coordination had to take its place. Second, as a result, at least in part, of inept state the pace of industrialization.
The Setting
Before we examine the Soviet command economy, we should briefly discuss the setting in which that system has functioned.
By almost any measure, the Soviet Union is a very large country, a fact important both to its past and to its present economic development. The majority of the Soviet populaation (roughly 65 percent) lives in urban areas, and approximately 80 percent of the labor force is in industry and related nonagricultural occupations. Urbanization has characterized the Soviet experience, along with the traditional shift of the labor force away from rural/agricultural pursuits
The Soviet Union has an extraordinary rich resource base. In addition to being a major producer of fish and forest products, the soviet union is amply endowed with minerals and is the world’s largest producer of petroleum, coal, and iron ore. Indeed, there are very few minerals for which the Soviet Union has inadequate domestic reserves.
THE SOVIET ECONOMY : A FRAMEWORK FOR ANALYSIS
Differences in outcomes can be related to be related to differences in economic system. As we have noted before, system differences fall into four basic and important categories: decision-making levels, mechanisms of information (market and plan), property rights (public versus private), and the nature of incentives (material versus moral)
In terms of the decision-making structure, the Soviet economy has been organized in a vertical hierarchical fashion. The Soviet state, operating through government ministries, and the Communist party, operating through party groups and cells, share authority and responsibility.
The Soviet command system is clearly a centralized economic system from the perspective of resource allocation and how that allocation is determined
Turning to mechanism of information, the Soviet command economy is a planned economy in the sense that, for most units in the system, wheter ministry or factory, the national economic plan and its subcomponents supply information on the key issues of what to produce and how to produce
Organizational Features of the Command Model
In this system, the means of production are (with only limited exceptions) owned by the state; firms and other organization operate under the control of the state and party apparatus. The agricultural sector is organized into state farms, collective farms, and a private sector, the latter governed by strict regulations.
We have noted that over the years, the organizational arragements and the policy directives of the Soviet economic system have changed, and yet there has been remarkable stability. The administrative command system is a hierarchical command system in which public ownership is combined with substantial material incentives aimed at encouraging the carrying out of state and party directives.
Figure 12.1 The Organization of the Soviet Economy: The Command Model
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COMMUNIST PARTY GOVERNMENT
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PLANNING IN PRACTICE
Traditionally, the allocation of resources in the Soviet Union has been conducted primarily through the plan. There are short-term (1-year), longer-term (5- or 7-year), and even 20-year “perspective” plans. The 5-year and annual plans, which direct economic activity, are of central interest here.
In practice, the formulation of this plan takes considerable time, is complex, and clearly cannot approach the theoretical ideals posed in Chapter 6. Our own brief description cannot do justice to the bargaining, haggling, interplay among the various units, and delays that have become integral parts of Soviet planning.
This practice has been described as “planning from the achieved level”. Although it simplifies the planning process, it builds in considerable inflexibility.
Accordingly, Soviet planners are usually satisfied if they are able to come up with a consistent plan, but they do not have the luxury of seeking out the optimal plan from among all possible consistent plans.
Our picture of traditional Soviet planning is a distortion of reality, for it suggests an economy rigidly planned and controlled by central authorities. All economies combine some mix of market and plan, and the Soviet economy leans most heavily in the direction of planning by directive.
Theory of planning emphasized three important stages in the planning process: plan development, implementation, and feedback.
THE SOVIET ENTERPRISE
In the planned economy, all enterprises have a plan, which is usually specified in annual terms but broken down into monthly (and even shorter) periods. First, the plan is comprehensive document covering many facets of the firm’s operations, and it carriers the force of law. Second, the plan specifies both inputs and outputs in physical and financial terms, it specifies the sources and the distribution of funds for the firms; and so on.
Much of the traditional Soviet managerial milieu can be summed up as “the managerial success indicator problem. In short, Soviet managers are offered substantial rewards for achieving a number of planned (often conflicting) objectives, but those objectives are fuzzy and often ill defined, leading at times to peculiar and dysfunctional managerial bahaviour.
How do Soviet managers protect themselves and prosper in such an environment? First, managers can, during the plan formulation stage, attempt to secure “easy” targets-that is, targets that are relatively low vis-a-vis the actual capacity of the enterprise.
Second, managers can emphasize what is important (in terms of their rewards) and neglect or ignore other areas
Third, managers can seek “safety” in various other practices, for example, they can stockpile materials that are expected to be in short supply, they can avoid change, notably innovation they can establish unplanned (informal or”family”) connections to ensure a supply of crucial inputs
PRICES AND THE ALLOCATION OF LAND, LABOR, AND CAPITAL IN THE COMMAND SYSTEM
Soviet industrial prices are largely set to equal avarage cost by industrial branch plus a small profit mark up, Branch avarage cost generally excludes rental and interest charges, and its use as a standard has result in enterprises making both planned profits and planned losses within the same branch.
As far as inter-enterprises relations are concerned, wholesale proces play primarily an accounting role, for supplies and demands are administratively planned and are not functions of prices. However, when a product leaves the wholesale level to be sold at the retail level, the matter is not so simple. Figure 12.2 illustrate retail price formulation.
Figure 12.2 Soviet Turnover Tax.
|
Price
S
P” P’
D’ p D
O Q Q’ Quantiity
 |
Soviet price policy has always emphasized the desirability of pricing some goods and services relatively “low” and other relatively “high”.
INPUT PRICES: Land and Labor
In the Soviet economy, the prices of inputs-land, labor, and capital have reflected a peculiar combination of Marxian orthodoxy, pragmatism, and allocative necessity. There is, for the most part, no rental price for agricultural land. Land is allocated to collective and state farms administratively.
The allocation of labor in the Soviet Union is a very different case, for there is a price for labor in the form of wage.
Historically, wage differentials have been one of several mechanism utized to allocate labor in the Soviet Union. The demand for labor is primarily plandetermined. Once output targets are established, labor requirements can be determined by applying technical coefficients that represent the amount of labor required per unit of output under existing technology. On the supply side, however, households are substantially free to make occupational choices and to decide between labor and leisure.
Soviet trade unions and individual workers play virtually no role in setting wages, wages are set by administrative authorities. But unlike many other areas in the Soviet economy, planners have been quite willing to use these differentials to manipulate labor
Capital Allocation
Even if capital has no value-creating capacity, less is available than is demanded. Some means must be devised for its allocation. Furthermore, even if a “price” is used in this allocation function, it will perform only this function. Where all capital is owned by the state , the “income” from capital accrues directly to the state, not to individuals.
In the Soviet context, the state controls the amount of saving (primarily by the state and by enterprises). In a capitalist economy, saving arises as undistributed profits in enterprises and an income that is not consumed in households. Both types of saving exists in the Soviet case, but because wages and prices are set by the state, the state can itself accumulate savings at whatever rate it chooses without resources to the indirect method of taxation. This ability to control saving and investment is a powerful mechanism to promote a more rapid rate of capital accumulation than would probably be tolerated in an economy directed by consumer sovereignty.
Since 1958 planners have accepted the principle that the selectio among competing projects should be based on cost-minimizing procedures. To illustrate, a general formula (the coefficient or relative effectiveness) to compare projects was in use after 1958:
 |
Where
Ci = Currentexpenditures of the ith investment projects
En = the capital cost of the ith investment projects
Ki =the normative coefficient
This formula has been used to weigh the tradeoff between higher capital outlays (Ki) and lower operating costs (Ci). The notion underlying this formula is that that project variant should be selected that yields the minimum full cost, where an imputed capital charging indedin the cost of calcuculation. The capital cost (charge) is calculate applying a “normative coefficient” (En) to projected capital outlay.
Financial Planning
As we have emphasized, the Soviet economy has been run by largely administrative rules and instructions. Although value categories (prices, costs, profits, and so on) have always existed, they have played only a limited role in allocating resources. Even in a centralized economy where few decisions are made at local levels, households make decisions about how much members will work and what they will buy.
Aggregate consumer demand and supply can be illustrated in the following framework
 |
Where
D = aggregate demand
S = aggregate supply
W = the avarage annual wage
L = the number of worker-years of labor used in the economy
R = the amount of income not-spent on consumer goods
( equal to the sum of direct taxes and savings)
Q1 = the real quantity of consumer goods produced
P1 = the price level of consumer goods
Market Forces in the Command Economy
The American economy is a market economy in which the state has come to play a growing and frequently controversial role. The Soviet economy at least until the era of Perestroika, was a planned economy in which market forces were of only moderate and secondary importance.
In an economic system, ownership and control are closely related. The Soviet state, as the primary owner of the means of production, is assumed to exercise control over the direction of economic activity through the national beconomic plan.
A third role for market forces is the “second economy”. The second-economy has been analyzed extensively by Gregory Grossman, Dimitri Simes, Vladimir Treml, Michael V. Alexeev, Aron Katsenelinboigen, and others. “It consist of a number of market-type activities of varying importance and degrees of legality, all facilitating “unplanned” exchange among consumer and producers.
According to Grossman, second-economy activities must meet at least one of the following two criteria :
1) The activity is engaged in for private gain
2) The person enganging in the activity knowingly contravenes existing law.
AGRICULTURE IN THE COMMAND ECONOMY
Two majorinstitution have been dominant in Soviet agriculture since the 1930s. The collective farms (kolkhozy) were operate like cooperatives; the state farms (sockhozy), in which the farmers would be paid like industrial workers, would be a “factory in the fields”.
The sockhoz was and is a state enterprise with state-appointed management. The kollhoz was and is (intheory) a cooperative with elected management.
The labor day was not necessarily a measure of time or effort, but ratheran often arbitrary measure of work input. At the end of the year, the value of one labor day would be determined by the following formula
 |
Value of one labor = farm income after required deliveries and other expenses + total
number of labor days for entire kolkhoz The value of a labor day having been determined, it would then be possible to pay each individual a “dividend” by multiplying the number of labor days accumulated by the value of one labor day.
Differences Between Collective Farms and State Farms Most input and output determination in the kolkhoz and the sockhoz are planned in a fashion similar to that used in an industrial enterprises.There are, however, some noteworthly differences:
First, the method of payment for labor in the kolkhoz was, until 1966, very different from that in the sovkhoz. Second, the manner in which capital investment has been provided is different; kollhoz investments have been largely self-financed, sovkhoz investment funds come directly from the state budget. Third, until the late 1950 s was very and equipment were maintained in the Machine Tractor Stations were provided to the collective farms for a payment In both the kolkhoz and the sovkhoz, families to small plots of land (typically about half an acre) for their private use. “the produce from this land, which is very important in the case of some products (typically truck garden products) can be consumed on the farm, sold to the state, or sold by the peasants in the collective farm markets.
Changes in Soviet Agriculture
First, since the 1940s, a program a merger and consilidation has sharply reduced the number and importance of kolkhozy at the same time, the number of sockhozy has increased, and their avarage size is greater.
Second, there have been changes in planning and supervisory organs and in the farm managerial system.
Third, rural incomes have increased sharply since the 1950s, generally more rapidly than industrial incomes.
Fourth, after a period of extensive campaigns by Nikita Khurushchev in the 1950s (the Virgin Land Campaign, the corn program, and so on) design to expand inputs, the emphasis in the 1960s and 1970s shifted to improvement of productivity, in part through significant increases in the volume of investment provided by the state.
Fifth, there has been an ongoing program to examine seriously the problems of agriculture in an urban industrial economy.
INTERNATIONAL TRADE IN THE COMMAND ECONOMY
Foreign trade has played a major role in the Soviet development experience. Moreover, than organizational arrangements used differ significantly from those generally found in market economic systems.
Decision making, in terms of what will be traded, with whom, and on what terms- is relatively centralized in three major areas
The ministry of foreign trade (MFT) The Vneshtorgbank of Bank Fot Foreign Trade (BFT) The various foreign trade organizations (FTOs)Traditionally, most Soviet trade, even with other socialist countries, is bilateral-that is, directly negotiated for each trade deal with each trading partner. Bilateral trade means tht Soviet exports and imports are handled largely on a barter basis.
Chapter 13
Yugoslavia : Workerss Management and Market Sosialism
Yugoslavia has traditionally been characterized as a market socialist economy that uses a system of worker management at the enterprise level. These sorts of arrangements are of great theoretical interest, but its has prove difficult to analyze their impact on economic outcomes in the Yugoslavia case. Moreover, though market forces have been dominant in the operation of the Yugoslavia economic system, the role of the Communist party, both as a mechanism to develop and sustain national unity and as a force in resources allocation, has been less than clear. In a sense, therefore, our analysis of the Yugoslavia economic system neither provides conclusive evidence on the costs and benefits of market socialism nor fully illuminates the controversial issues of worker management or participatory socialism in general. In recent years, our attention has focused on Yugoslavia macroeconomic performance, and specially on the problems of political instability in an era of reform. For Yugoslavia, stability and reform are key issues of the 1990s.
The Yugoslavia Economy: Organizational Arrangements
As with most reform programs in socialist system, changes in the Yugoslavia economy have been identified with formal decrees, though associating changes with formal decrees is artificial. In practice, changes are usually introduced slowly and seldom follow formal decrees in their entirety.
Yugoslav Economic Reform
| Period | Reform measures |
| End of war to 1948 1948-1965 1965 to the mid-a1970s Mid-1970s 1988 1990 | Rigid centralized planning; emphasis on collective agriculture; minimal use of market resources allocation. Movement toward worker self-management; privatization of agriculture; indicative planning with extensive state and party interference in management appointments and in price, wage, and capital allocation decisions. Increased reliance on market allocation; greater freedom for enterprises to make price, wage, and investment allocation decisions; less state and party interference; devolution of government activities to lower levels; continued use of indicative planning. Creation of new enterprises arrangements and inter-enterprise arrangements; indicative planning from the ground up; further devolution of political authority; enlarged role of party and state in promotion of harmony of interest; social compacts and SMAs instruments of social harmony. Announced reforms of the tax system, foreign debt rescheduling, and austerity programs in response to the economic crises of the mid-1980s. Pegions.rivatization pursued in a setting of political and social tensions-basic differences between Serbia and other r |
Against this background, we examine the working arrangements of the Yugoslav economy, beginning with a description of the worker-management system prior to the changes of the 1970s. then we examine the impact of recent changes on the system. Finally, we consider more broadly the Yugoslav economy of the 1970s and 1980s, how it has changed, and where it is going in the 1990s. the latter period is especially important, because the economic reversals of the 1980s raise questions about the workability of the system, especially in a politically unstable setting.
Microeconomic Organization
With the exception of agriculture and enterprises employing fewer than five persons, Yugoslav enterprises are organized as producer cooperatives with worker management as the operational system. Private ownership in retail trade is not allowed. Even government offices and communal and the post office are work-management.
In the Yugoslav system, the workers do not own outright the assets of the enterprises; rather, they hold these assets in trust for society. This is so because Yugoslav workers have had to be concerned country with the long-term health of their enterprises, especially in a socialist country with a relatively high unemployment rate. This concern, coupled with official interest in enterprises reinvestment, explains adherence to the growth objective.
Labor and Capital Allocation
CAPITAL
Because Yugoslavia fundamentally a market system, we would expect allocation producers to be more akin to those with which we are familiar. In the Yugoslav case, however, evidence on this issue is clouded by the fact that there are substantial profitability variations by region, and by industry and enterprises, which largely result from wide p erformance differences.
The allocation of capital by region and by sector is invariably the focus of attention. In addition to maintaining a high rate of accumulation, a cornerstone of Yugoslav economic policy has always been the pursuit of economic growth and the reduction of regional income differentials through the promotion of economic growth and development in the poorer regions. Although Yugoslavia, as a developing country, is rich in labor, enterprises and political authorities appear to favor capital-intensive projects. Because the Yugoslav system taxes enterprise labor usage heavily and capital lightly. In addition, capital-intensive projects serve to raise the incomes of workers who remain with the enterprise over the long run.
LABOR
Labor allocation in Yugoslavia has been fundamentally a market process, though the mechanism of worker management and the peculiarities of Yugoslavia present some special problems. Workers in self-managed enterprise guaranteed a minimum annual wage. The remainder of the annual wage payment depends on enterprise performance. If the enterprise fails to earn enough net income to cover guaranteed wages, the enterprise must cover them out of reserve funds or the state must subsidize the wage bill. It is the responsibility of the workers council to establish the system of wage differentials in the enterprise.
The Foreign Sector
Foreign trade has been important to the Yugoslav economy, the Yugoslav economy faced increasingly tight export markets. At the same time, as a major importer of energy and manufactures, Yugoslavia saw its imports grow, resulting in persistent annual deficit and the accumulation of a large external debt, the bulk of which was in hard currency. Another major factor in Yugoslav foreign trade has been its exchange rate policy. The Yugoslav dinar is not a fully convertible currency, though convertibility has been a long term objective. Yugoslav manipulation of the dinar has been dictated by market forces.
Yugoslavia is an associate in the Organization for Economic Cooperation and development (OECD) and has a preferential trade agreement with the EEC. Yugoslav trade policy and posture of the alte 1970s and 1980s were aimed at handling an immediate problem: a mounting external hard-in economy was altered significantly in the 1970s.
Agriculture in Yugoslavia
Over time, agriculture’s share in the Yugoslavia economy has declined significantly, which is not unexpected during a period of economic development. Through the years, considerable effort has been expended to stimulate Yugoslav agriculture, especially through improvement of prices, expansion of incentives, and so on. At the same time, Yugoslav agriculture has failed to move toward a modern footing in which it would have a smaller share in the economy and a higher level of economic development. This has been a central issue in discussions of the federal Council for the problems of Economic Stabilization, and it doubtless will be the basis of future agricultural policy. That policy, whatever specific form it may take, will surely focus on the modernization of Yugoslav agriculture, particularly modernization based on agro-industrial integration.
Yugoslav Economic Performance
In the Yugoslav case, there is also the serious problem of relating observed performance patterns to the periods when particular Yugoslav economic institution of worker management existed. From the 1950s trough the 1970s, Yugoslav economic performance, judged in terms of the average annual growth of total and per capita gross national product, was very good. The pace of structural change was rapid, and Yugoslavia achieved a “socialist” distribution of income similar to that of other East European systems. Moreover, regional inequalities apparently sharpened in spite of policies intended to lessen them.
The decade of the 1980s was difficult for Yugoslavia. The negative trends noted above continued, and many of positive trends were reserved-partly as a result of recession elsewhere in the world and continuing energy problems. Moreover , export growth slowed in the 1980s, and import growth became negative.
The reversals of the 1980s have once again called attention to the relationship among the economic system, reform of the system, and performance. This issue is particularly critical in the Yugoslav case, given continuing search for a fully workable participatory market socialism.
Chapter 14
Interrrelationship Among Economic System : International Trade
An understanding of the traditional system is vital in our effort to assess current prospects for change. We must understand why international trade was so limit by the traditional system, what obstacles that system places in the way of trade, and what resistance to opening up to the world economic should be expected. The chapterends with a discussion of prospects for change in the traditional system.
THE FORCE INFLUENCING TRADE : COMPARATIVE ADVANTAGE VERSUS TRADE AVERSION
Capitalism and planned socialism take radically different approaches to international trade. The basic force explaining trade among capitalist nations is comparative advantages, describelong ago by classical economist. Participant in trade compare relative costs of foreign and home produce goods. At existing exchange rates, the commodities that can be obtained abroad at lower price will be imported, other will be produced at home. Free international trade benefits both trading partners by allowing each partner to specialize in commodities it can produce at lower relative costs. The respective trading partner exchange commodities at lower relative costs than would be possible in the absence of trade, there by raising welfare in both countries.
CHARACTERISTICS OF TRADE IN EAST AND WEST
The most characteristic feature of Eastern trade in general and East- west trade in particular has been its limited nature despite rapid growth in recent years. As a proportion of world trade, the flow of good and services between socialist and capitalist economic system is relatively minor, though it is expanding. Because of low trade volumes in the east, East – west trade is proportionally more important to the east than to the west. East – west trade account for only 4 percent of the west but for 25 percent of eastern trade. In the east at least, East – West trade has assumed a position of some importance.
FOREIGN TRADE PLANNING UNDER PLANNED SOCIALISM
Two types of organization assist the planning organization assist the planning organization in constructing and implementing the foreign trade plan, thay are ministry of foreign trade and foreign trade organization. Both are charged with working out the detail of import and export plans and both are respossible for making the actual contacts with domestic and foreign producers and determining the means of payment.
· Bilateralism and Incorvertibility
Citizen in most Eastern countries have been prohibited from holding Western currencies, and the state trading monopoly over foreign exchange.
· Commodity inconvertibility
Is the characterizes the trade among the planned socialist economies. Even if one country has a trading surplus with another, it cannot by goods freely from that country. If the surplus country could freely purchase goods on an unplanned basis, the domestic supply plan would be distrupted. The price at which traded goods change hands are often out ofline with opportunity cost. If surplus countries could freely select goods from a defisit country, they could opportunitiscally choose goods that exchange for irrationally low price.
· Balence of Payments Problem
On a formal level, the East bloc countries did not suffer from a balance of payment problem.
Export and import were planned by the state trade monopoly. And the foreign trade plan included a plan to balance international payment. If the project receipt of foreign (convertible ) currenciesfall short of requirements, projected import ( or export ) are reduced (or increased ) and trade balance is thereby achieved. In the case of intra bloctrade, there is usually no balance of payment problem because exchange of commodities are balaced via bilateral agreement. The balaced of payment problem concerns supplies and demands for convertible.
· Foreign trade criteria in social countries
These criteria apply the principle that import and export should be selected base on comparison of domestics and foreign cost.
In its simplest from, the standart index foreign trade effectiveness of import (E) IS :
E= 
k
kWhere :
Pd = the domestic of prucing the product at home
Pf = the cost in foreign exchange of importing the commodity
K = The amount of foreign exchange earned from export per unit of domestic cost of producing the export
TRADE POLICY IN EAST AND WEST
· Postwar History : The West
The postwar period witnessed the rapid growth of world trade. In the west, this rapid growth was a consequence of both the high growth rates of the industrialized capitalist world and the dismantling of trade barriers that had been erected during the Great Depression. Moreover, the founding of custom unions, in western Europe – the European Economic Community (EEC) – IN 1958 and the Europen Free Trade Association (EFTA ) led to a market integration of the west european economy and contributed to increased intra – European trade.
And there is policies toward the East, after 1960 restrictions against East – West trade were eased, with the United State being one of the last countries to make trade concessions. The major changes came from Western European countries that were more dependent on trade then the United State, the countries that stood to lose the most from continued restriction on West –East commerse. The thread of U.S counter measures was diminished after termination of the Marshall Plan and the end of the European “dollar shortage”. One by one, the western European nation and Japan began to expand sales to Eastern Europe and the Soviet Union ad to grant long term credits to finance such sales. Moreover, most of the Europe the Western European granted MFN to their Eastern trading partners, leaving the United States at the major capitalist power that had failed to extend MFN to its communist trading partners. However, quantitative restriction on Eastern import remained an important dterrent in western Europe.
· Postwar History : The East
The characteristic feature of postwar Western Europe has been the growing integration of its national economist. Postwar Eastern Europe, in contrast, experienced little economist integration. Instead, the amphasis was on the development of semi independent national economies and on the avoidance of regional specialization. This is true even though the European Countries formed their own international organization, the Council for Mutual Economic Assistance ( CMEA ), which was founded in 1949 for the purpose of promoting economic cooperation as the Soviet counterpart to the American Marshall Plan.
· Join Venture
In the long rung, legislalation should lead to meaningful cooperation between the East and West and should promote a significant flow of capital from West to East. Of course, how much capital and technology are transfered will depend on the ultimate success of the market reforms in this region. The major attractions of the East are the vast natural resources of the Soviet Union that require massive capital injections for development, the low labor costs of the region and the unexploited consumer market of the East. In the short run, few success stories can be cited. In both the Soviet Union and Eastern Europe, there continue to be few working joint venture. And those that do exist involve minimal capitalization.
· East European Debt
The international banking commuunity may have to write off a substantial portion of its loans to Eastern Europe as unrecoverable just as they had to write off a substantial porttion of their Latin American loans in the late 1980s. East European debt is currently being offered on world credit markets at a considerable discount.
· Socialist Economies In Transition : Liberalizing Foreign Trade
The liberalization of foreign trade is an important component of the transition from planned socialism to a market economy. The liberalized join venture procedures that we have noted are part of the liberalization packages in Eastern Europe. Most of the countries of Eastern Europe, including the Soviet Union. Have declared that eliminating the foreign trade monopoly is necessary step in the transition. Enterprises shoul be free to make their own foreign trade decision. The soviet union as a representative example, has given thousands of enterprises the right to deal directly with foreign firms, bypassing the foreign trade monopoly. The proliferation of small joint venture agreements is the product of this increased freedom.
EAST – WEST ECONOMIC RELATIONS WITH THE THIRD WORLD
Capitalism and sosialism have offered competing theories to the LDCs. The Capitalist theory of development states that the LDCs must be content to exchange the products that they produce at a comparative advantage. By doing so, they can obtain, at a minimum cost of their own resource, the imported materials required for their economic development. As their percapita income grows, the LDCs can gradually substitute domestic production for the machinery and manufactured goods they had previously imported. Capitalist development theory argues that the LDCs should maintain a basically capitalist economic system, albeit with stronger government controls, and should continued to produce traditional product until import substitution can be justified by sound profit maximizing criteria.
· East – West Trade and Aid : The LDCs
Most world trade is conducted among industrialized countries Eastern aid to and trade with the LDCs is small in both relative and absolute terms. The East is not in a position to exert much economic power over the LDCs.
Chapter 15
Performance of Economic Systems
Although certain objectives-a high standards of living, economic stability,growth,efficiency,good environmental quality are desirable,the achivement of each goal extracts a price in terms of economic resources. Insofar as resources are limited, hard choices must be made among economic goals.
The ranking of economic objectives among capitalist nations has been less uniform . some countries emphasize economic stability; others, especially developing nations, stress economic growth. Other emphasize social goals. There is no one unifying goal that the capitalist nations have singled out as their principal objective.
Evaluating performance is not easy even if we select only one criterion, such as economic growth. Some socialist countries have “out-grown”certain capitalist countries during certain time periods and vice versa. The evaluation depend on which countries are included in the comparison and on the time period.
For performance comparisons to be valid, the ceteris paribus assumption must hold. The economies compared should be alike in all respects excepts their economic systems. In the notations of chapter 3, the cateris paribus problem was described as follows: outcomes (O) are a function of a variety og environmental factors ENV (for example, natural and human resources endowment and level of development), economic policy (POL) , and the economic systems (ES). Thus
O = f (ENV,POL,ES)
Because ENV and POL differ by country, one cannot make a statement about the impact of ES on outcomes without a clear understanding of the role of the ENV and POL factors.
Two related approaches can be used to deal with this problem. The forst is to compare economies that are alike in all respects other than economic system.
The economic approach to dealing with the ceteris paribus problem requires estimation of the impact of the NEV and POL factors on O. This approach requires the investigation of groups of capitalist and socialist economies that differ according to ENV and POL characteristics, so that their impact can be isolated and held constant.
Because economic systems are multidimensional, their attributes are difficult to measure, and we cannot formulate an objective and quantitative measure of ES that differentiates economies according to the degree of capitalism or planned or market socialism.
In this chapter, we group real world economies into three categories used throughout this book: capitalism, planned socialism, and market socialism. This requires combining economies that differ in important respects, a process that further obscures the impact of the economic system on economic outcomes. In the comparisons that follow,intermediate and low income countries such as Greece, Spain, Turkey, and India are included in the “capitalist” group, despite their substantial differences from industrialized capitalist countries.
The Choice of Countries
The selection of representatives of capitalism and socialism is dictated by the availability of data. Data limitations dictate the principal emphasis on comparisons of the Soviet Unions and East European (CMEA) nations with the industrilalized and near industrialized capitalist nations. The data for Asian communist countriest (North Korea, Vietnam, Cambodja, and Mongolia) are too meager to support meaningful comparisons.
Comparisons of industrialized capitalism with planned socialism rest on firmer footing, for they are based on groups of capitalist and planned socialist countries.
The number of former CMEA members states ( excluding Mongolia, Vietnam, and Cuba for lack of data) is seven: Bulgaria, East Germany, Poland, Hungary, Romania, Czechoslovakia, and the Soviet Union. Our selection of industrialized and near industrialized capitalist countries is based on three considerations: the availability of comparable data, the need to include some countries at levels of economic development comparable to that of the CMEA nations, and the desire to include the major capitalist countries (such as the United States, West Germany, and Japan).
Data : Concepts and Reliability
Economics aggregates, such as GNP ,industrial production and percapita consumption are not compiled uniformly by the national statistical agencies in Eastern and Western countries, although statistical practices are fairly uniform within the two blocs. In the planned economy, government intervention in price setting is more substatntial than in the West, and substantial turnover taxes are applied to industrial products.
The aggregate figures cited in this chapter are recalculations that make the CMEA aggregates conform as closely as possible to standard Western national accounting practices.
One condition of full membership in world international economic organitions is that the nation’s statistical agencies compile relieble statistics that apply the statistical accounting procedurs used by the rest of the world.
The socialist industrialization model is important for two reasons. First,it represents a major alternative for the Third World countries. Second, the model underscores the point that the planned socialist economies have not been indifferent to what is being produced. Their objective has not been to maximize the growth rate of output per se, but to maximize the growth of particular branches.
Economic Growth
One should be cautions about attaching too much importance to small differences in growth rates both among countries and over time, for there is measurement error in such calculations. Moreover, the measures of the expansion of real goods and services. This is especially true of East-West comparisons,where substantial adjustments must be made to render the GNp data comparable.
Its difficult to reach firm conclusions about the growth performance of capitalism and socialism on the basis of these data. If one simply takes unweighted averages of the eight planned socialist and sixteen capitalist countries, the socialist group grew slightly more rapidly in the 1950s.
One contrast between capitalism and planned socialism that holds over the entire postwar period is the lesser variability of socialist country growth rates.
Direct comparisons of planned socialist and capitalist average growth rates did not reveal significant growth differences . however,if one makes a rule of thumb adjustment for differences in per capita income by including only the capitalist countries that fall within the approximate per capita income range of the socialist sample-say $6000 to $3000- some striing findings emerge.
The conlusion that economic growth has not been more rapid in the planned socialist economies is a strong one in view of the priority of growth in these countries and the low weight attached to economic growth by many of the capitalist countries. If one makes a crude ceteris paribus adjustment for differences in per capita income, capitalist growth even emerges as more rapid. The Cost of Economic Growth: Efficiency and Consumption
Extensive economic growth results from the expansion of the factors of production-land,labor,and capital inputs. Intensive growth is the consequence of increasing output per unit of factor input –that is,it is the product of increased efficiency . economic growth is typically both extensive and intensive, for growth is normally the product of increases in both factor inputs and output per unit of factor input. At issue is which effect dominates.
Growth by means of the expansion of labor and capital inputs involves distinct economic costs. The expansion of labor inputs requires a sacrifice of leisure and time spent in household production activity; the expansion of the capital stock requires a sacrifice of current consumption in order to accumulatecapital.
In the case of East-West comparisons,it is relevant to ask which economic system has done a better job in generating economic growth , where better is defined in terms of the relative weights of intensive growth versus extensive growth. Two such comparisons are relevant. The first called static efficiency,involves taking a snapshot of planned socialist and capitalist countries at a particular point in time to determine how much output they are generating from a given amount of factors inputs. The second, called dynamic efficiency, probes the question of efficiency performance over time- that is, the extent to which output has been expanding more rapidly than inputs, the difference being the growth rate of factor productivity.
Dynamic Efficiency
Specifically, we provide the annual growth rates of aggregate employment (
) and reproducible capital (
), which we then compare with the growth rate of aggregate output (
). By subtracting the growth rates of employment and capital, respectively from the growth rate of output,we obtain the growth rates of labor productivity (
– 
) and capital productivity (– ), respectively.
) and reproducible capital (), which we then compare with the growth rate of aggregate output (). By subtracting the growth rates of employment and capital, respectively from the growth rate of output,we obtain the growth rates of labor productivity (– ) and capital productivity (– ), respectively.Thus total factor productivity is defined as - ( + ). Here
- ( + ). Here 
WK + 
LWhere ,
WK = capital’s share of income
WL = labor’s share of income
We use rates of growth of labor and capital combined + , calculated in this manner.
+ , calculated in this manner.Consumption cost of growth
One cost of economic growth is the sacrificein current consumption required to add to the nations stock of capital. Although growth rates in the East and West have been similiar, it is not true that this growth was achieved with a similar allocation of resources between consumption and investment.
Static efficiency
Static efficiency is an extremely difficult concept to measure. To do so correctly requires firts a notion of an economy’s productive potential, as defined by its total resources, and then a determination of how closely the economy comes to meeting that potential.
Economic Stability
By economic stability we mean the absence of excessive movements in prices, unemployment, and output. Stability also refers to the absence of persistent (as opposed to cyclical) high unemployment rates or inflation rates.
Chapter 16
Perestroika : the soviet reform experience
A note observer of the soviet economy, ed hewett, characterized economics reform in a simple and straightforward fashion as reforming, the institutional arrangement constituting the system by which resource are allocated. Put another way, changes in institutional arrangement(the economic system) affect the manner in which basic decision about resource allocationare made, specifically to alter the way those decision are made in an effort to improve performance in areas of importance to political leaders.
Reform of the administrative command system
For long time, the socialist economics system have been largely isolated from the force of change so familiar to market economies.past planning arrangement and policies have created entrenched economic and bureaucratic structure that are unlikely to survive under an alternative system.breathtaking structure and institutional changes must continue to take place before one can safety that a new system has replaced the ild administrative economic system.
The interaction between political change and economic change has proven to be complex. The soviet case in much more complicated. While political change has in part facilited economic reform, instability and uncertainty have undoubtedly limited the nature, scope and placeof economic reform. Even if the latter include some form of all union arrangement, the nature of economic reform will change. What sort of changes might be expected?
First, it is obvious that the nature of new political arrangement will influance the nature of economic reform. Second, it is likely that any new set of arrangement will shity power to local leves. From an economics prospective,this will place new, important emphasis on the economics status of sub units, for example the n ature resource base, the extent of industrial and agriculture capacity, and the extent and quality of local infrastructure. Third, it is likely that under significant decentralization, the nature and pace of economic reform will be uneven. While economics reform driven from below present new challange, it also present bariers, especially for those region less well off in term of basic endowment and past attention to economic development.
Although there may be theoritical agreement on why the economic system must be change on privailing policy imperatives, an on where the economy shouldultimately be, the part from existing arrangement to the ideal of the reform model is still far from clear.
The impending disruption associated with any economic reform process might be characterized as a tradeoff between equity and efficiency. Although the introduction of market forces should improve economic efficiency, inflation and unemployment are also likely to result. Morever in many case there is concern about the potential cost of a new economic order in term of umemployment, inflation, and the like.
Perestroika as “radical” reform
Economic reform in the soviet union has been associated with the perestroka program initiated by mekhail gorbachev when he ascended to power in 1985, but soviet economic reform or possibly we should say reform attempts earlier reform were limited in scope, they were designed to improve the existing economics system , and little or no serious effort was made to implement them. In this sanse, the begining of perstroika did represent a major change in soviet policy, and quite apart from the problem of implementation, it can be characterized as radical in character. But in term of both design and especially implementation, soviet reform through 1991 has been much more limited that the major cases.
When gorbachev first announced his intent to restructure the adminisrative command model, he was careful to label his reform radical reform in order to distinguish it from past, half hearted attemp. It combines economic reform with social and political reform: with glasnost and democratization. Perestroika, glasnost and democratization in fact represent major new initiatives in the soviet union.
Why perstroika?
The soviet leadership of mikhail gorbachev embarked on a course of major social, political, and economic reform for a very simple reason : the deteriorating performance on the soviet economy. The performance of the soviet economy has long been a serious problem recognized at least in part by soviet leaders. Rates of economics growth declined steadily from the 1960s on,and most troubling, the growth of productivity plummeted. Many economies experience significant variation in rates of economic growth and certainly in productivity growth rate, but persistence and magnitude of the soviet decline have been alarming.
Although a variety of different of soviet economic growth have been developed over the years, there has been suprising agreement on the existence of the slowdown if not on its precise magnitude.
The general decline of soviet economic performance certainly spurred interest in economic reform, but we may in time descover more fundamental explanation. From its inception, the gorbachev reform was political as well as economic a critical different between perestroika and earlier soviet attemp at economic reform.
Finally, as compellingly as the evidence presented in table may support economic reform, it nevertheless leaves us unable to identify the root causes of failing economic reform. The soviet ec onomi seem to have grown increasingly complex, until it could not be directed by a relatively simple planning mechanism.
Table : soviet economic growth : the backrgound to perestroika
| | Average annual rate of growth | ||||
| 1966-70 | 1971-75 | 1976-80 | 1981-85 | 1986 | |
| Gross national product | 4.9 | 3.0 | 1.9 | 1.8 | 4.1 |
| Percapita consumption | 4.9 | 3.0 | 1.8 | n.a | -0.1 |
| Gross national product less agriculture and service | 6.0 | 5.3 | 2.2 | 1.9 | 2.0 |
| Factor productivity | .4 | .3 | -1.6 | -1.1 | -0.7 |
| manhours | 2.5 | 3.0 | .8 | 1.3 | 1.4 |
| capital | -1.3 | -2.1 | -3.7 | -3.2 | -2.6 |
Precedent to perestroika
Economic reform in the soviet union really began in the ;ate 1950s and early 1960s ehen suggestion for change in the guidance of enterprise were promulgated by the soviet economist evsei liberman. The objective of early reform was to improve the way enterprise made decision within the plan framework, but very little attention was paid to the environment in which enterprise operated and the variable used in making decision, such as price.
The liberman discussion of the late 1950s and early 1960s found offical expression in the kosygin reform of 1965s, a program named after alexei kosygin, prime minister of the soviet union during the early years of the brezhnev regime.
Although the kosygin reform 1965 did little to change the soviet economic system, there were a number of announcement of reform of the management and planning system in the year thereafter, aspecially in the late 1970s.
Price reform was discussed, but soviet arrangement for price foprmation remained unchange. The command system was retained, and once again, minimal attention was given to changing the character of decision making tools.
The phases of perestroikaprise
The perestroika reform experience( to date) can be divided into four general phases
The first phase : minor tinkering
In phase 1 from 1985 to 1987, gorbachev spoke of radical economic reform yet litte was done. General reform principle were enunciated decentralization of decision making, increased emphasis on the human factor, and a general soending up of the economy through democratization and the infusion of western capital.
The first phases of perestroika seemed to be characterized by the naive belief that the problem of the adminostrative command system could be corrected easily.
The socond phases : reform legislation
Phase 2 of the soviet reform experience seemed to answer the critics who pointed to the lack of a fundamental reform progrem. And gorbachev was making serious proposal that addressed critical weaknesses in the soviet economy system. Under the 1987 enterprise law, soviet enterprise were to become self financing, emi independent producrioa system units enjoying new autonomy but an the same time were to remain under of state guidance.
In addition to change in foreign trade arrangement, new legislation facilited join ventures between soviet enterprise and foreign enterprise. Perestroika program also addressed one of thr weaksest point of the soviet administration command system, agriculture. Early reform proposal in agriculture was significant in scope but ultimately were limited in application and benefit, at least for the remainder of the 1950s.
Like early attemp to solve prob;em through organization reshuffling, the gosagroprom experiment was a failure. A second major reform of agriculture has been the largely unsucessful attemp to introduce lease contracting. Begun with the collective contract brigade in the early gorbachev years, the concept of leasing was formalized in legislation introduced toward the end of the 1980s.
We have spoken of several organizational change : there have been important poliy change as well. In spite of these and related reform proposal, agriculture performance, remains mixed, and problem such as distribution bring daily attention to the sorry state of soviet agriculture.
The third phase: creating rules of implementation
Market allocation cannot be superimposed on an existing administrative command economy. It requires appropriate rule of the game, such as contract enforcement. The enterprise law, the join venture law and other laws of perestroika can be effective only when the market : rule of the game” are understood and uniformly applied in commercial dealings.
The fourth phase : economic reform in the post coup era
Assuming reasonable political stability and a loose federation of some type, it is likely that reform will continue, trough with substantial differential from one region to another as local legislation reflect local preferences and possibilities.
Although soviet reform have p[aid lip service to tyhe need to create market institution, promises of implementation have been vague, and timetable have not been set.
The transition plan : shock therapy versus gradualism
The gradualism argue that considerable preparation is required before allocation can be turned over to the market. In particular macro imbalance must be corrected before markets can work.
The shock therapy advocates point to the apparent sucess of the polish experiment, wherein poland moved swiftly to a market economy.
Perestroika : what has happened?
As we have emphasized throughout our discussion of economic reform, the process of reform id far more difficult than most imagine. First, it is quite clear after political change has taken place, politicl stability is a necessary condirion for successful economics reform. Second, although many have argued that the original legislation designed to represent perestroika constituted a rasionably comprehensive economic reform program, major and critical component of the original plan were not implemented. Third, the sequening of reform has proved difficult.
Fourth, the pace of economic reform may well have been inappropriate and the fundamental difficulties of reform less than fully recognized. Fifth, although it is difficult to access the extent to which soviet leader in fact remain commited to radical reform. And finally all sided in the reform debate have recognized that marketization will fundamentally alter power relationship.
Perestroika : the reform options of the 1990s
In the early of perestroika, soviet economic performance seemed to rebound somewhat. Many argue that the economy was on a downhill course for one major reason : the administrative command system.
Soviet enterprise gained autonomy before market institutional have been created to impose a new form of disciplineon them. In 1990, as we have emphasized, there was a great deal of new legislation passed including the creation of an independent central bank.
The two plans: transition proposals
Worth emphasizing that althrough the original shatalin plan was simplified and modified in importsnt wats. Thus the presidential plan specified three stage for the transition. First stage (100 day) a voluntary economic union would be created, with a single unified currency. In the stage 2 ( days 100-250) price would be increase and fallin output would be expected. Finally inthe stage 3 (250-500) more price reform would be implemented.
Although change continue in the soviet union the issue of developing a reform plan remained fully active in 1991.
The soviet economy in the 1990s
From an economic prospective, there are three major issue to be considered as we examine possible direction of chage in the reform process.
Performance issuesalng with declining economic performance, however these years have seen continuing systenic and policy change.as the measure were implemented gorbachev again wresled with the need for a basic reform plan. Th events of agustus 1991 could change this posture, possibly, resulting in more decisive changes.
The failed coup of august 1991 : new political reality
On august 19, 1991 a group of hard line comminist staged a coup to replace the leadership of mikhail gorbachev and to alter and reverse the path of democratization and economic reform in the soviet union.
By thye end og august more than half of the soviet republic had declared their independent from moscow.
Economic reform in the 1990s : the post coup era
First, important force limiting the nature and the pace of economic reform have been lessned or eliminated. Second, to the extent that the forces noted above facilitate the development of a real transition program, regional forces. Third, to the extent that the reform process is decentralized to a substantial degree, important new issue emerge. And fourth while the regional emphasize of reform is being understood the need for macroeconomic transatition policies more pressing.
Chapter 17
China: socialism, planning, and development
China has fascinated the west for centuries, western economists are interested in modern china for three principal reasons. first, the characteristics of Chinese industrialization distinguish in from other cases that we have examined.
China, like the Soviet Union and East Europe socialist countries, attempted some economic adjustments starting in the 1950s to reduce inefficiency in their centrally planned economic systems. To inject vitality into China's economy, an "economic management system reform" plan was put forward in 1956. It aimed to implement some policy adjustments while maintaining the framework tenets of public ownership and a planned economy.
China’s modern history began six decades ago with a grand experiment aimed at realizing national development through a planned economic system based on public ownership. It was an experiment destined to fail. When an entire society eliminates the rights and freedoms of individuals to experiment and innovate, and only an elite few lead an entire nation toward a future filled with uncertainty, more often than not, things go astray. Even attempts to correct mistakes can be rigid and ineffective. Coming to realize that a mistake was made may involve only a small elite class, but fixing it requires concerted action by an entire society. And since a society’s actions are not always right, a perpetual cycle of trial-and-error may result, forcing everyone to pay an unnecessarily high price that’s difficult to measure. The central government stopped tinkering with its centrally planned economic system, sparking a spectacular transformation to a market economy.
China: development
Role of planning in the Chinese economy
The Chinese economy is a mixed economy as it combines important features of a market economy and a planned economy. To understand the role of economic planning in China it is necessary to review its history briefly. During the period from 1953 when the first Five-Year Plan began to the end of the 1970s China practiced central planning under the direction of the State Planning Commission (SPC). The main function of planning was to direct the production of major products by state-owned enterprises. The State Council had a large number of ministries most of which were responsible for the production of the corresponding products
Effects of planning on China’s economic development
How does the planning system affect the functioning of the Chinese economy? Planning symbolizes the tradition of collectivism of the Chinese society, in contrast with individualism in the United States. The Chinese government sets out a five-year plan to get the support not only of government officials but of all Chinese people outside the government to help achieve the tasks specified by the Plan. Even though some of the targets set out in the Plan are not met in practice the Chinese people are urged to do their part as detailed in the different parts of the Plan. For an observer, knowledge of the Plan provides the areas of economic activities where the government is paying attention. The United States does not have such a planning system. There is no need to watch such a government plan to understand the development of the US economy. The planning system in China helps define the “mixed economy” for China.
During most of the 60 years of modern China’s development, much time has been spent on carrying out various economic reforms. From original struggles to system reform to developing a market system while maintaining the system of public ownership and a planned economy, and then on to a complete transformation to a market economy, the direction has been clear for a long time, and the end goals have gradually become more apparent. Property rights reform, market (pricing) reform, enterprise reform, and reform of the political system, working together, have to a great extent unleashed vitality in the national economy and led to an average growth rate of close to 10 percent per year for the past 30 years. The rapid pace of development has allowed China to become the world’s third-largest economy.
The history of planning in china
As central planning began dragging down the national economy, the central government tried to make some policy adjustments. However, constrained by the ideology of that period and limited knowledge, the adjustments in this early phase were little more than minor patches for the framework of a planned economy. Also, measures often deviated from their original plans – and sometimes moved in the opposite direction -- when put into practice. On the contrary, whenever a policy adjustment was implemented by central planning's elite few, everyone in China was suddenly forced to participate, jolting the entire society. Moreover, the system lacked any sort of social safety net.
For a planned economy to function -- as well as engage in meticulous planning and
organization – an essential condition is strict enforcement of orders that have been passed down from higher ups. If orders are not enforced, and each department acts on its own by allocating resources according to local interests and the whims of senior officials, complete disorder in the economy will be the end result. In short, resource allocation in a planned economy essentially requires a dictatorship. A planned economy with decentralized power is actually much worse than a planned economy with centralized state power. The only way to shake off the curse of choosing rigidity via a planned economy with centralized power or chaos through a planned economy with decentralized power is to carry out market reforms, establish a market-based system, tolerate healthy competition, and allow price mechanisms that let scarcity create a basis for resource allocation.
China: performance and reform
The traditional planned economy proved unsustainable. But some combination of ideology, public awareness and inertia from the original system meant a new system was unlikely to simply fall from the sky. While a reform trend was clear, its direction had been disputed. Now, to improve the system, many wondered whether the change should emphasize an unraveling of power to local governments, or give more autonomy to enterprises. Another question was whether to use planning to fully regulate the market or establish a full market economy.
A mild reform held the upper hand in debate and practice, but its intrinsic shortcomings once again came to the fore. At the same time, market-oriented reform, including property rights reform, was tried in the private sphere and showed great vitality.
The traditional planned economy proved unsustainable. But some combination of ideology, public awareness and inertia from the original system meant a new system was unlikely to simply fall from the sky. While a reform trend was clear, its direction had been disputed. Now, to improve the system, many wondered whether the change should emphasize an unraveling of power to local governments, or give more autonomy to enterprises. Another question was whether to use planning to fully regulate the market or establish a full market economy.
There were two ideas about how to reform the economic system.
· The first mainly called for giving more decision-making autonomy to major SOEs.
· The second had a broader scope: It said reform should result in a socialist commodity economy, one completely unlike the Soviet model.
Chapter 18
Eastern Europe: Socialism in Transition
THE EAST EUROPEAN SETTING
Prior to the era Glasnost and Perestroika, the Soviet Union had not been a leader among planned socialist systems in the sphere of economic reform. However, a comparison of various past reform attempts in Eastern Europe with reform attempts in the Soviet Union reveals similarities, including failure of implementation.
Has been much more aggressive than that in the Soviet Union. Let us examine some of the reasons for this.
First, the economic history of Eastern Europe is in most respect quite different from that of the Soviet Union. In most East European countries, the prevailing political and economic arrangements were imposed from outside in the years immediately following World War II. Thus a Communist party determined basic economic priorities, and resources allocation was directed through as system of centralized (balance) planning.
Second, although there was considerable discussion and debate in the Soviet Union of the 1920s about the level of economic development and the appropriateness of various alternative development strategies, there was no such discussion and debate in the East European cases. The planned socialist economic systems of Eastern Europe were imposed by the Soviet Union after the establishment of totalitarian political regimes.
Third, the East European countries have always differed significantly from the Soviet Union in terms of the environment in which an economic system must function. Most East European countries are relatively small, are poor in terms of resource endowment, and thus rely heavily on foreign trade. One might argue that this latter factor has been responsible for keeping the East European development patterns closer to what one might expect to find in a market scenario.
Fourth, as we have emphasized, there have been over the years significant differences in the degree to which the Soviet model could be imposed in the different East European countries. These differences help to explain contemporary variations in reform implementation.
Fifth, the countries of Eastern Europe differ significantly from the soviet Union in yet another important dimension: their cultural background and religious and ethnic composition. We have emphasized that economic reform requires change but that, paradoxically, political stability may be a prerequisite to economic change. In many respects, these differences and the difficulty of forging new political arrangements have overshadowed Mikhail Gorbachev’s attempts to promote economic reform.
In the East European cases, with the major exceptions of Yugoslavia and Czechoslovakia, there is a much greater degree of cultural, religious, and ethnic uniformity. In these circumstances, it is easier to develop a sustained political consensus capable of implementing new social and economic initiatives. Such a consensus is essential to a successful transition to a market economy, because the costs are immediate and many of the benefits are delayed.
Economic Reform In Eastern Europe: The Background
The background of economic reform in Eastern Europe is not unlike that in the Soviet Union, even though, as we have emphasized, the setting is rather different. The brief political thaw following the death of Stalin in the early 1950s did permit a freer discussion of ideals, which, along with growing problems of economic performance, led to limited attempts to develop and implement economic reform. Initially, these changes were modest in scope, and they typically followed the Soviet reform pattern: try to improve decision making while preserving socialist objectives and essence of the planning system. There were, then, numerous attempts at reform in Eastern Europe. What were the major forces promoting these efforts?
First, as was the case in the Soviet Union, rates of economic growth in Eastern Europe have undergone a long-term secular decline. The magnitude of this decline has varied from case to case, but overall it has been pervasive.
Second, East European countries relied heavily on foreign trade as a means of stimulating economic growth in the 1970s. Their strategy was to promote exports in Western markets so that the imports required both to stimulate technological change in industry and to enhance consumer well-being could be obtained without the growth of hard-currency debt.
Third, one could argue that in Eastern Europe, the possibilities for economic growth through extensive means had initially been less promising than in the Soviet case and had been exhausted more quickly.
East European Reform programs: Similarly and Differences
First, economic reform in Eastern Europe (at least in Poland, Hungary, and Czechoslovakia) is generally described as a transition in that these countries seek to replace the planned economy with a market economic rather than attempting merely to modify the former.
Second, transition programs have varied in speed and intensity. Some countries have pursued reform on a “gradual” basis, whereas other, like Poland, have pursued what is often termed a “big bang,” or rapid, approach to reform.
Third, although it is possible to examine and understand the basic elements of economic reform and even of transition from one system to another, we really do not have a general theory of change in economic system.
Fourth, important differences exist from one country to another. Our view of the socialist transition process is heavily influenced by our image the best known and most advanced reforms, such as those of Poland, Hungary, and Czechoslovakia.
The General Transition process
After political change had been effected, countries such as Poland, Hungary, and Czechoslovakia envisioned a set of transition policies that were to be followed by, or associated with, privatization and the replacement of the centrally planned economic system with a market economic system. Privatization would necessarily be fundamental to the creation of markets, though the counters of the latter remain the subject of both theoretical and practical controversy.
The transition policies focused on both microeconomic and macroeconomic issues, though transition policies per se belong largely in the latter category. From a microeconomic perspective, the reform scenarios included the elimination of the planning mechanism and the decentralization of decision making to the firm level, along with strict financial discipline for the firm – a “hard budget constraint,” to use Kornai’s expression. The implication here is that production decisions would increasingly derive from the market and that the allocation of inputs would also based on market forces.
In the macroeconomic context, transition policies focused on the creation of monetary stability (at most, limited inflation) through controls on the expansion of the money supply, limits on the expansion of wage payments. In addition, emphasis was placed on a reorientation of foreign trade based on a gradual movement toward a convertible currency – first on an internal and limited basis, subsequently on a full external basis.
Fundamentally, the goal of transition policies is stabilization of the economy while basic systemic changes can be made that will make it possible to sustain production and ultimately foster economic growth. The focus short-term at first, though longer-term issues must be considered. The most critical issue is privatization, because privatization is the means through which a market and related market mechanism can be created. But for at least five major reasons, privatization has proved difficult to achieve.
First, transition to market may be taking place in countries where there is little immediate experience with markets. Second, most socialist transition cases present unique problems such that the practical development of markets – indeed, the very nature of markets – proves very difficult to define. Third, beyond the basic mechanism of decentralized exchange that are characteristic of markets, most socialist economic systems lack the infrastructure necessary for developing such arrangements. The absence of a modern banking system is a striking case in a point. Fourth, issues of both timing and sequencing are important and complex. Are there advantages to rapid implementation such as has been attempted in Poland. Fifth, and most fundamentally, how privatization is resolved determines the long-term distribution of wealth. Accordingly, one would expect a long-term process of soul-searching prior to full-scale privatization. Some of the assets to be privatized will be quite valuable.
POLAND: FROM PLAN TO MARKET VIA SHOCK THERAPY
Beginning in 1990, Poland took decisive steps toward a market economy. This “shock therapy” approach was to be sudden, and in this it differed significantly from the gradualist approach being discussed in other socialist systems. In addition to freeing prices, Poland implemented monetary controls, the zloty was made convertible into hard currencies, and steps were taken to control wage increases.
Poland: The Setting
Urbanization and industrialization have changed the nature of Polish life and customs, but the church, family, and folk ties that have sustained Poland for a long time remain strong. Thus, although Poland must deal with problems of modernization, it also has valued traditions and a clear identify. These qualities make implementing change more manageable here than in many other countries.
Prior to the onset of major economic reform, the bulk of Polish industry was stated-owned and planned. Agriculture was a mixed system wherein the private sector produced about three-quarters of the total agricultural product. Foreign trade turnover – that is, exports plus imports – represents roughly one-third of Polish product, again using U.S. dollar measures.
Poland: The Command Economy
The organizational arrangements of the Polish command economy were established immediately after World War II and closely resembled those prevailing in the Soviet Union. There was widespread nationalization of property, central planning mechanism were established, and agriculture was socialized. In addition to organizational arrangements, Polish economic policies of the era, such as those on investment, sect oral development, and the like, closely mirrored the Soviet model.
The 1970s was a difficult decade for many countries, especially those that rely on imported oil. The polish strategy in the 1970s and later was to stimulate the domestic economy through the importation of foreign technology. Poland’s effort to expand exports failed, hard-currency debt accumulated, and the projected impact of Western technology on the Polish economy was minimal.
The polish Transition: The “Big Bang” In Practice
There had been attempts to decentralize decision making in large state owned Polish enterprise in the 1980s, but these reforms failed to change outcome. Moreover, on the eve of reform in Poland, macroeconomic conditions there were in a state of severe disequilibrium. Although the exact nature of monetary overhang in Poland has been the subject of debate, there was a significant budget deficit, wage increases were out of control, and hyperinflation has resulted.
In the fall in 1989, most price controls were lifted, public spending was reduced, and the zloty was devalued. In the second stage of major reform, begun 1990, the budget deficit was sharply cut, largely through a reduction of subsidies to state enterprises. A positive real rate of interest was to be implemented, and the market was to be used to signal changes in the value of the zloty.
Finally, wage increases were to be controlled partly through wage indexation and pertly through a new tax on wage increases that exceeded established guidelines.
Privatization is a major element of the Polish strategy of transition. In 1990 the Polish government passed a law creating a Ministry of ownership Change, a mechanism to supervise the process of privatization. Privatization has proceed rapidly, though it has been achieved mainly for small enterprise in the trade and service sectors.
Though privatization has been very successful for small-scale enterprises, the picture for large state enterprises is quite different. For reasons we noted earlier, privatization of these enterprises has proceeded very slowly. In addition, the economic position of these enterprises worsened as the state took decisive measures to introduce a hard-budget constraint. In addition to price changes and wage limitations, subsidies have been ended and protection from foreign competition has been sharply reduced.
HUNGARY: THE NEW ECONOMIC MECHANISM AND PRIVATIZATION
Prior to 1968, Hungary applied the Soviet model of centrally planned socialism in a typical fashion. But then, in 1968, Hungary began to introduce by far the most radical economic reform attempted in Eastern Europe.
Although the reform program in Hungary met with only partial success, the problems that have arisen are fundamental to the reform experience of planned socialist systems. Hungary shares many features with other Eastern and Southeastern European countries, such as Yugoslavia. It provides a refreshing contract to the Soviet Union, which in some important respects is a typical. Hungary is a small country heavily dependent on foreign trade.
Hungary: The Setting
Hungary is located in central Europe. Its land area of approximately 36,000 square miles makes it roughly the same size as the state of Indiana. Its population of about 11 million is comparable to that of the population of Illinois.
Although it has some rolling hills and low mountains, Hungary is basically a flat country with good agricultural land and favorable climate. As in other East European countries, the period since World War II has seen the population flow from rural to urban areas and a changing balance of industrial and agricultural activity.
Hungary is not particularly prosperous. Most estimates of its gross national product or per capita gross national product place Hungary in the middle of the East European countries. It is generally wealthier than Bulgaria and Yugoslavia and certainly wealthier than Albania, it ranks behind East Germany and Czechoslovakia.
The Hungarian Economy: Prereform
The era of balanced development came to an end with the introduction of a five-year plan in 1950. The share of national income devoted to investment was increased substantially, and the bulk of new investment was directed toward heavy industry.
In addition, excess demand for investment led to substantial amounts of unfinished new construction and to the neglect of old facilities. Some mechanism for the more rational allocation of capital investment had to be found. The adoption and diffusion of technological advances were seen as inadequate.
This background seems familiar: a small country, the Soviet model of industrialization, overcentralization, emphasis on extensive growth, rigidities of the plan mechanism, incentive problems, and the resulting difficulties.
Intent of the new Economic Mechanism
There is disagreement about the importance and effect of the Hungarian reform program. The New Economic Mechanism (NEM) has generally been interpreted as leaving the power to control the main lines of economic activity with the central authorities, while relying on the market to execute the routine activities of the system
The objective of NEM was to combine the central manipulation of key variables with local responsibility for the remaining decisions. The first change was a significant reduction in the number and complexity of the directives emanating from the central planners. The market was to assume a new role in determining both the input mix and the output mix and in coordinating inter-enterprise activities. The plans became considerably less detailed, greater emphasis was to be placed on five-years plans, less on one-years plans.
Second, and elaborate array of financial mechanism was developed. The prevailing theme was less control from above, the use of profits as an indicator of success, and, above all, the utilization of profits by the enterprise. Profits were to be used in an incentive system for both managers and workers and also for financing decentralized investment.
In general, the decreasing emphasis on administrative controls would be replaced by what Istvan Friss termed the “economic regulators.” These economic regulators would include a price policy, and fiscal and budget policy. The use of such regulators would facilitate enterprise autonomy, while keeping enterprise activities within bounds acceptable to state planners.
The potential appeal of the Hungarian economic reform is evident. As one analyst has noted, its development represents a clear-cut alternative to the East German reform. Hungary has attempted by far the most radical reform of all the planned socialist system.
Problems of Implementation: The Early Years
The Hungarian reformers have encountered three main type of difficulties.
First, political constraints, notably Soviet concern and vested domestic interests, have limited the extent to which central control over key variables could be replaced by decentralized decision making. The political constraint also affected foreign trade. The political setting necessarily circumscribed what could be attempted and achieved.
Second, it was quite evident that the structure of the Hungarian economy, like other planned socialist systems, would be molded by the priorities of the Soviet model. No reform program, regardless of political flexibility, could expect to avoid serious problems during the transition period.
Third, planned socialist systems typically operate under different policy objectives from market capitalist systems. These constraints, though important, were not sufficiently severe to lead to abandonment of the reform scheme, although they have led to various modifications of its original goals.
The reform was implemented with the existing industrial structure. Hungarian industrial enterprises, after the amalgamation of the early 1960s, were large, unlike other socialist countries, Hungary had not developed intermediate-level industrial authorities.
The sharp changes in World oil prices in the early 1970s made it necessary to connect external and internal prices on a permanent basis. Staged adjustments of internal prices and revaluation of the Hungarian currency to keep internal price increases below external price increased offered a reasonable means for accomplishing these goals, in the view of Bela Csikos-Nagy.
NEM in the Seventies and Eighties
Faced with these difficulties, Hungarian leader altered their economic policies to address the basic economic problems in the system. The changes of the late 1970s and early 1980s seemed once again to move the economy closer to the original goals of NEM. However, as with earlier reform efforts, bureaucratic inertia and the inherent difficulty if implementing new procedure stood as obstacles to success.
Hungarian economic policy of the late 1970s and early 1980s directed toward the achievement of two broad objectives. First, an effort was made to maintain the achieved standard of living of the Hungarian people, despite an inevitable slowdown. Second, to bring the trade imbalance under control, a set of procedures was instituted to keep the advancement of the domestic economy within the realistic limits of its trade potential.
Total gross domestic investment declined from an index of 100 in 1978 to 68.5 in 1984. Real earnings of wage earners and employees declined from an index of 100 in 1978 to 97.2 in 1982, although real consumption grew in the same period as a result of slippage in the private sector.
The NEM proposed to use economic regulators to improve the efficiency to industrial enterprises. As both Hungarian and Western observers have emphasized, however, Hungarian industrial enterprises have been protected by a myriad of regulations and protective policies such as subsidies.
First, the investment component of aggregate demand was largely out of control and grew rapidly. Second, there was excess demand for investment goods. Furthermore, with imports playing a major role in Hungarian industrial enterprises, protected in the domestic market and from world markets, had, little incentive to develop effective exports or, for that matter, substitute for imports.
After many years of isolation from market forces, domestic Hungarian prices at the time of the reform bore little relation to world market prices and even less to relative scarcities. Fundamental adjustment in relative prices were required if Hungarian prices were to reflect relative scarcities. The various programs of price controls and price freezes precluded these changes, and dramatic shifts in the world economy exacerbated the Hungarian adjustment problem.
Further adjustment of prices was to take in two general steps. First, prices of Hungarian producers goods were to be gradually adjusted to reflect world market prices. Second, Hungarian consumer foods prices were to be adjusted to cover domestic producer good prices. Some subsidies and taxes were to cushion the initial impact. Ideally, these changes should force enterprises to face economic reality rather than rely on subsidies.
Hungarian enterprises cannot make rational decisions as long as meaningful comparisons of domestic and foreign prices are impossible. Initial steps have been taken to bring the forint into line with world currencies in order to set a meaningful, though controlled, exchange rate that would reflect the purchasing power of the forint.
Hungary: A Gradual Approach to Reform
First, the issue of privatization dominated reform discussion. Hungary attempted to decentralize enterprise management in the 1980s, led to some privatization, especially by existing management in small firms. This initial privatization was the subject of considerable controversy, especially sensitive was the issue of appropriate valuation and the potential rights of past owners.
In spite of these steps and despite very liberal laws on foreign involvement, privatization in Hungary has occurred predominantly in small firms, for large state-owned firms, the traditional problems remain. Valuation is difficult, especially in loss-making enterprises. Moreover, it is hard to find buyers for these types of enterprises, let alone to arbitrate the potential rights of past owners.
In addition to privatization per se, Hungary has addressed the creation of infrastructure and new rules designed to change the guidance of enterprises. Accounting procedures have been refined and bankruptcy laws strengthened so that state subsidies can be curtailed and hard budgets introduced into large state-owned enterprises.
Hungary has very liberal laws regarding foreign investment, including the possibility of full foreign ownership with permission. Moreover, repatriation laws are liberal. Not surprisingly, Hungary has been considered a leader in the quest to attract foreign investment, though the magnitude of this investment and its overall impact on the Hungarian economy probably remain modest.
The Hungarian Economy in the 1990s
Inflation has been much less serious in Hungary than in Poland. The annual rate of inflation for 1989 has been estimated at roughly 17 percent. Although the inflation rate increased to about 29 percent in 1990, this performance has been viewed as positive. In addition, wage increases have generally been controlled.
Largely because of shift away from trade with former CMEA trading partners, the volume of Hungarian trade has declined. At the same time, the Hungarians have experienced growth in exports to Western markets and a generally weak domestic demand for imports – both important developments for the overall trade balance. The good news on the exports side, however, tends to be sector-specific. Hard-currency debt remains a serious problem, and the movement toward a convertible currency has been much slower than in the Polish case. Finally, the Hungarian budget deficit has increased.
EASTERN EUROPE: THE REFORM SCENE
The transition from plan to market in Eastern Europe is important, not only for those who live with and implement the transition, but also for those interested in the subject of comparative economic system. For a variety of reasons, if the transition cannot succeed in countries such as Poland and Hungary, it is unlike to succeed elsewhere.
Judged in terms of our earlier discussion of economic reform and projected outcomes in the early stages of transition from plan to market, there is room for guarded optimism as we examine the early results in Hungary and Poland. At the same time, there remain a number of basic forces that will heavily influence future economic trends.
First, although initial political transformation are substantially complete in Eastern Europe, there are cases where political instability and lack of cohesion make agreement on reform very difficult. Clearly, in these cases, the path of reform will be slower and much more difficult than in the leading cases that we have examined.
Second, the initial results of the transition have been generally as expected. As anticipated, in all cases there has been a downturn in output – occasionally a downturn of significant magnitude. Inflation has been very uneven and in some cases very rapid. However, post-reform inflation rates generally leave some room for optimism, especially in those cases where stabilization policies have been developed and applied.
Third, we have noted that initial privatization usually proceeded rather quickly but that, after the privatization of small firms, the pace of change decreased significantly. This latter development reflects the onset of major difficulties: the private sector must now absorbed large, state-owned, loss-making, and often technologically backward enterprises. The privatization of these firms presents serious problems, as does a setting where valuation is fraught with difficulties, buyers are hard to find, claims from the past must be handled, and contemporary management skills are wanting.
Fourth, although inflation and unemployment have necessitated a growing concern for safety-net measures of various types, there is also a since that the availability of consumer goods and services has improved.
All of these considerations seem to support a measure of optimism about the eventual outcome of the transition process. At the same time, there are important dimensions where change must be sustained if the transition is to be successful. Stabilization policies must be maintained – a tall order in those cases where consumer patience is lacking. Privatization must proceed, and it must increasingly reflect the counters of new market arrangements, including the infrastructure required for markets to function effectively. These changes must be sustained even in the face of political dissension, consumer dissatisfaction, and an uncertain international economic environment. These restraining forces will in large part dictate the pace and ultimate success or failure of the transition process.
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Chapter 19
Comparing Economic System: Trends and ProspecS
The typical contrast between a planned socialist economic system and a market capitalist economic system had to be modified, as many of the planned socialist systems entered an era of significant political and economic change and moved toward substantially greater reliance on market forces.
Even if communication on such issues improves among nations, the resources for handling them may not be available, especially in those countries that face a very difficult systemic transition.
And it poses an even greater challenge for the former socialist nations of Eastern Europe and the various Soviet republics in a new setting, all of whom must seek and develop new trading arrangements based on rules very different from those of the past. Such changes will necessitate important adjustments for all these countries.
A SUMMARY OF THEMES
Finally, the analysis of economic systems has focused on identifying and isolating the differences among them and relating these differences, where possible, to differing economic outcomes. This type of comparison is difficult, so we have worked with readily identifiable systems (such as central planning) and system components (such as socialist policies for the distribution of rewards). In the past, change in the planned socialist systems has not been viewed as fundamental.
BEYOND THE ECONOMIC SYSTEM: POLICY, IDEOLOGY, and NATURAL ENVIRONMENT
The list of noneconomic forces that can influence economic outcomes is quite long; it includes differences on policy, ideology, environment, past development experince, and so on.
1. In our analysis of the traditional administrative command model, they influence outcomes.
2. Environmental and other factors are important to our understanding of the reform process, especially the transition to a market-type economy.
In sum, it is likely that a number of forces – policy, ideology, and natural environment- will necessarily modify a particular form of economic system under differing applications.
For example, economic performance in;
1. Japan and Germany, has probably been affected by a strong, nonquantifiable work ethic and discipline.
2. China, has been subject to ideological disruptions (the Great Leap Forward, the Cultural Revolution).
3. Yugoslav, has been strongly affected by regional and ethnic factio
4. Nalism.
Unfortunately, because these other forces are not readily measured, they tend to be ignored by economists and left to the attention of other social scientists.
ECONOMIC SYSTEMS: DEVELOPMENT and CONVERGENCE
Why such change comes about in the first instance (and why it has been limited to a minority of the world’s population) is largely unexplained, except in very general terms – for example, the “telative backwardness” explanation proposed by Alexander Gerschenkron and the even more general explanation of Simon Kuznets that development is caused by the systematic application of scientific knowledge to economic activities.
Development economics, for the most part, tends to downplay the potential role of institutional (organizational) characteristics in the development process, though most development economists would argue that economic development cannot take place without the simultaneous creation of an appropriate institutional infra-structure. Few general economists have given explicit consideration to the socialist development alternative in this developmental framework.
The second alternative has tended to lend support to one interpretation of what is popularly termed the convergence hypothesis. Economists and others examining the process of economic development and modernization have observed regularities, even where different systems have prevailed. The basic notion of the convergence hypothesis is that as decelopment proceeds, social systems, their component economic systems, and even the system elements or mechanisms become increasingly similar over time. The basic convergence case is as follows: Though economic systems may differ in how they allocate resources at any particular time, the differences will tend to lesson, as time passes, in response to unifying basic forces of economic development.
ECONOMIC SYSTEMS: THE FUTURE
Of course, the field of comparative economic systems is much more than a study of system models and the components of those models. It is the analysis of real-world economic systems and of how these systems can adjust to real-world problems, whether they use the tools of economic policy to do so or need to make more basic, systemic change. Unquestionably, different real-world systems will respond to their various problems in different ways.
The industrialized market capitalist systems must face the perennial problems of inflation, unemployment, and balance-of-payments difficulties. More-over, they must do so in a new world setting priorities have changed and the simplistic arrangements of the market mechanisms’s past may not suffice for an effective future.
Fundamentally, the former socialist systems seek economic efficiency through the transition from planned socialist arrangements toward market capitalist arrangements.
Although the simplistic models of the past may seem archaic in the future, out interest will remain focused on different systems, system components, and nonsystem factors and on the extend to which new arrangements of these forces can in fact result in improved economic performance.
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