Political Economy of

Post-Communism

A liberal perspective: Only two systems

• Is Kornai right?

One (communist) party State dominance Bureaucratic resource

allocationDistorted information

Absence of freedom, misallocation of

resources but full employment

Political power disbursed and

friendly to market and private property

Dominance of private property and

markets Freedom

Buyers market, no shortages,

unemployment, fluctuations in business cycle

Socialism

Capitalism

Socialism: Inevitable distortions

• Bottlenecks arose

• Factories improvised

• Found ways to produce critical inputs themselves or bartered directly for them

• So they were self-sufficient conglomerates

• Did not develop comparative advantage

Bartering is inefficient

• Suppliers of industrial goods often demanded consumer goods for their workers in return

• No direct contracts

Kornai: So Capitalism is better because……

• Capitalism is more efficient because prices and free choice determine industrial inputs and outputs

And Capitalism spursTechnologicalinnovation

• Innovation brings economic growth

• Because new technologies make industries more competitive in the international economy

• Competitiveness spurs exports

• Which bring in income

• So prosperity depends on knowledge-based production

In fact…..Capitalist countries are both innovative and rich

0

20

40

60

80

100

120

High Income Upper MiddleIncome

Lower MiddleIncome

Low Income

Index of technological achievement

1990s

2000s

Source: World Bank, Global Economic Prospects (2008)

Capitalist Countries High state intervention in economy

So the logic behind the “Washington Consensus”: liberalize, stabilize, privatize

• Internal liberalization of Markets• Integration into the world Economy• Reduction of extensive government programs

because they…….– allocate funds to non-productive activities– Prevent Entrepreneurs from finding funding for

new knowledge-based production– Create wrong incentives

Kornai: Capitalism is better, but problems can arise….like unemployment

But Socialism’s chief goal is equality not growth….

• Social equality

• Both political and economic

• Full employment

• And The Soviet Union pursued that goal….

Health Care for All!

Wage Equality

It worked!

Communism was widespread

But Everyone is equally poor under Socialism because equality was preferred to freedom,

efficiency, and growth

• “We pretend to work, they pretend to pay us”

Comparative GDP and Consumption, USSR and USA, 1990.

(USA = 100)

GDP GDP per capita Consumption per capita

49 43 31

“the race between the capitalist and socialist systems would ultimately be decided by

which could ensure higher productivity.” --Vlad Lenin

Back to Theory: What does it take to Change Systems?

• Replacing state ownership with private property

• Replacing bureaucratic decision-making with market decision making

• Opening to international markets• No spontaneous change: change is imposed

on the system (remember Polanyi)• State has to be friendly to the market and

private property

But there is no need for democracy under capitalism

But how to change? A Celebrity Economist vs. a Nobel Prize winner

• Sachs Appeal

• Shock Therapy

• Polish success

• Russian Failure

Jeffrey Sachs

Vs. Joe Stiglitz: We’ve met him before…

• He criticized the “Washington Consensus” and the IMF in the handling of the Asian Fincial Crisis

• Critic of neo-liberalism

• “Closet” follower of Polanyi

• Still a liberal…..

• But advocates incrementalism

…And the "Battle of Metaphors“

Shock Therapy (Radical Reform) Incrementalism

Continuity vs. Break

Raze old social structure Preserve social capital

Role of Initial conditions

Engineer solution that is not distorted by initial conditions

Piecemeal changes taking initial conditions into account

Role of Knowledge

Technical knowledge of end-state blueprint

Local practical knowledge for small changes

Knowledge Attitudes

Knowing what you are doing Knowing that you don’t know what you are doing

Chasm Metaphor

Jump across in one leap Build a bridge

Repairing the Ship

Repair in dry dock Repair the ship at sea

Real Live Transitions from Socialism to Capitalism: Russia

Economic Nationalists want Growth which leads to wealth which leads to power…

• Soviet Union: The inefficiencies of Autarky

• Soviet Growth rates fall

• Technology gaps widened and multiplied

• Soviet elites: “Yikes! We are no longer a Great Power!

Grow, compete or die!

• A non market autarkic economy was not bringing growth• No technological innovation• Technology gaps with the West• Economic Nationalist Elites saw the draining of Soviet power• So they purchased Western technology• And then plunged into debt • Which further decreased economic growth• Need to change goals: pursue growth

over equality

Economic Crisis!

• GDP Drops drastically

• Budget deficit grew…

• What to do? Print money

• No more distribution of goods…..

So…….Velvet Revolutions in the Soviet Union and Eastern Europe: Communist elites turn into Capitalist elites overnight

Vlad Putin, then and now: Is Kornai correct?

And China too……

• Wanted to modernize

• “Socialism with Chinese Characteristics”

• Goal: generate sufficient surplus

• Realized socialism wasn’t working…..

• Tried the “Great Leap Forward”

Large Leap…..Large Failure

• Land Reform

• People organized into “communes”

• Everyone was involved in making steel…..

• So harvests failed

• 30 million people starved

Melting down metal objects for Steel

Which path to capitalism?

OR

Russia choses Shock Therapy….

• “Washington Consensus”• Same process as the Bolshevic Revolution• Utopian social engineering?• Reason: “triumphialism” at winning the Cold

War• Large cluster of simultaneous changes needed

– Price liberalization + privatization + elimination of subsidies for industry + anti-monopoly policies + enforcement

Russia: Shock Therapy in action

More Privatization

Unemployment and inequality

Macroeconomic stabilization

Inflation drops

IMF imposes “Washington Consensus

Govt. gets IMF loan

So factories reverted to barter

So govt. printed money….But that didn’t help

Led to inflation…Prices rose for necessities

Privatization and Price controls are removed

Results….Unemployment

Privatization benefitted the Rich and Powerful….and the corrupt

• Crony Capitalism

• Emergency of oligarchs

• Asset stripping

• Capital flight

• Bandit Capitalism

• Protest

• Longing for a return to Communism

Inequality

Brain Drain

Poverty

Protesting “Bandit Capitalism”

Repression

Russia…. A “One Trick Pony” or a new world economic Power?

Russia: Crash and Burn?

Small Stimulus Package…

• Russia benefitted from the same easy credit that everyone else benefitted from….

• Debt is still high and billions are needed to rebuild infrastructure

• Sept. 2008, govt. used oil revenue to bolster stock market

• But oil price volatility

China

China choses Gradualism

• The Chinese got “shock therap”y out of their system

• They learned the hard way

• They chose the path of gradualism

• Ideological pragmatism

• Stiglitz believes they had the wisdom to “know what they didn’t know”

Peasants regain control of the land after the “Great Leap Forward” failed

Abandoning Autarky

• China started entering the international economy after 1978

• Foreign trade decisions were decentralized

• Special economic zones were created

• Volume of foreign trade rose

• And foreign investment flowed in……

Free movement of people? Chinese migrant workers

The China Price

• Low wage “industrial reserve army”

• Joint ventures

• Technology transfor

• Competition

• Remember the “product cycle?”

Microeconomic Reforms

• One-stop shopping

Influx of Capital: FDI

China’s growth

Growing at 9 per cent per year

China's GDP, 1990-2006 (current value, billions of U.S. dollars)

70% of goods in Wal Mart are made in China

Equality and Inequality in China

Poverty

Corruption

Any movement toward democracy?

Economic growth substitutes for political reform?

• Economic reform as a substitute for political reform?

• Institutional reforms limit the power of the one-party state

• Some of the reforms were……

China is more cushioned from economic shock than most countries….

China and the current economic crisis

Requirements for developmentg

Lessons for the Future