The State and Economic Development

Lessons from the Far East

Robert Fitzgerald, Robert Fitzgerald

• Publisher: Routledge
• Year: 2013
• ISBN:
  9781136303999
• Edition: 1
• Topic: Betriebswirtschaft
• Subtopic: Business allgemein

This book explores the role of national governments during the process of industrialisation in East Asia and examines the relationship between the State and business, clearing up many Western misconceptions. The similarities and differences which exist between nations in this region and the influence of Japan as a role model are also investigated. Government-industry linkages and an overview of economic rationale also studied in this volume are following the establishment of market orientated economies in many Far Eastern countries. This book brings new insight into the business-politics relationship which gives the reader a complete understanding of the East Asian economic 'miracle'.

Economic Theory and Industrial Policy in East Asia

Tan Kock Wah and Jomo K.S.

I: Economic Liberalism and East Asia

The recent resurgence of economic liberalism - most notably in the United States and the United Kingdom in the 1980s - has irreversibly undermined the earlier Keynesian (and Marxist) economic influences, which tended to favour government intervention to achieve policy objectives. As observed by Tobin, this 'counter revolution' - culminating in the development of New Classical Macroeconomics, fortified by the emergence of the Rational Expectations school

extends laissez-faire pretensions to macroeconomic theory and policy, which undermines the case for monetary and fiscal stabilisation policies that most economists, even those opposed to microeconomic interventions, had previously come to accept.¹

With the disintegration of the old socialist bloc in the Soviet Union and eastern Europe, communism is widely seen to have failed. The claimed superiority of the market has been further reinforced by a shift in the remaining communist regimes - especially in the People's Republic of China - towards greater reliance on market forces. The erosion of western European and other welfare states - largely due to the post-war ascendance of social democracy - since the stagflation of the 1970s is widely seen to have further weakened the case for state intervention, even for redistributive purposes. The virtues of the market economy appear to have never been more strongly demonstrated and affirmed than by contemporary trends.

Pressures have also grown since the 1980s, especially with the debt crisis, for economic liberalisation in developing countries, with far-reaching consequences. Approval of structural adjustment loans - under the auspices of the World Bank, with IMF endorsement - to Africa, Asia and Latin America have become conditional on recipient economies conforming to the conditionalities imposed by the two Bretton Woods institutions. Some of these requirements have included the removal of government subsidies and price controls, the devaluation of currencies, wage cuts, public expenditure cuts, privatisation, the relaxation of foreign exchange controls, interest rate increases and other measures to promote a better climate for foreign investment.

Basically, the neo-hberal position assumes and argues that neo-classical economic principles are universally valid, as relevant to Europe or North America, as to Africa, Asia and Latin America. Thus, development economics has been denounced as misleading and harmful, 'the invention of a set of theoretical curiosities by the dirigistes to supplant the market'. Hence, it has been claimed that 'the demise of development economics is likely to be conducive to the health of both the economics and the economies of developing countries'.² The emergence of the East Asian newly industrialising countries (NICs) was attributed to free market forces, while economic stagnation elsewhere was identified with market distortions due to government intervention.³ We will examine the theories underpinning neo-liberal views, and see how well founded these propositions are with reference to stylised facts and evidence from East Asian late industrialising economies, namely South Korea, Taiwan and Japan during the 1950s and 1960s. We suggest that the state failure argument is tautological in that the market mechanism can always be said to be working improperly due to some kind of state intervention or other.⁴ As failure can always be attributed to some sort of distortion, the theory can never indeed be proved wrong! This article aims to address these issues by looking more critically at the theories and evidence underlying the neo-liberal laissez-faire paradigm. It also incorporates some key findings of another growing stream of literature which emphasises the positive directive role of the state in Japan, South Korea and Taiwan.

II: Theoretical Foundations of the Neo-Liberal Paradigm

Efficient Allocation Of Resources

Contrary to the dominant economic development policy approach in the 1950s, 1960s and 1970s, which assigned the state a substantial role in developing the economy and emphasised capital formation as the main engine of growth, neo-liberals have underlined the efficient allocation of resources as the primary source of growth. They have emphasised the importance of getting prices 'right' and of promoting competitive, relatively undistorted markets. Their central thesis is that long-run growth and development will emerge from the attainment of short-run allocative efficiency. In their view, 'getting the prices right' is both a necessary and often a sufficient condition for maximising the long-term growth rate. As long as economies have stayed within the free market framework, economic growth is never a problem. The East Asian economies are hailed as exemplar economies that have adhered to these principles to achieve success. As James Reidel notes:

[The lessons are, above all, that] neo-classical economic principles are alive and well, and working particularly effectively in the East Asian countries. Once public goods are provided for and the most obvious distortions corrected, markets seem to do the job of allocating resources reasonably well, and certainly better than centralised decision making. That is evident in East Asia, and in most other parts of the developing and industrial world, and is after all the main tenet of neo-classical economics.⁵

The bedrock of the free trade doctrine seems to lie in the concept of comparative advantage. The neo-classical approach to international trade theory, the static Hecksher-Ohlin-Samuelson (H-O-S) model, shows that any two nations will be better off, in the sense of enjoying more, if they concentrate on those activities for which their costs are relatively, though not necessarily absolutely cheaper, in effect concentrating on producing goods with resources which are domestically abundant. Resources will then be allocated efficiently provided that international market forces are allowed to determine the relative prices of internationally tradable goods in the domestic economy. That requirement, in turn, calls for free trade or a close approximation to it, with low or no impediments to imports and with relative prices that give no more incentive to sell on the domestic market than to sell abroad.

But is the emphasis on promoting a relatively undistorted competitive market and, for that matter, the liberalisation efforts of the World Bank and IMF adequate in promoting sustainable growth in developing countries? It has been noted that:

in its present state, trade theory provides little guidance as to the role of trade policy and trade strategy in promoting growth . . . There is nothing in theory to indicate why a deviation from the [market optimum] should affect the rate of economic growth.⁶

Indeed, economic theory is generally silent about the effect of trade liberalisation on economic growth. Moreover, the theoretical benefits of liberalisation are based on comparative statics and involve once and for all changes in national income.⁷ There is also no presumption that liberalisation can raise the rate of growth over the medium to long run.⁸ Stein has recently argued that the structural adjustment programme in Africa is likely to lead to de-industrialisation due to serious deficiencies in its rationale:

The neo-classical approach is problematic. It is the product of the rational-deductive method which is the foundation of neo-classical economics. As a result, the process of investigation and recommendation is inverted since the causal effect is presupposed prior to determining the effective cause. As a result, the diagnosis of the malaise is under determined, leaving out vital structural features which are likely to impede its implementation . . . While there are problems with the structure of industry in Africa, hoping the market will solve the difficulties is no substitute for developing an industrial policy . . . while [Hecksher-Ohlin-Samuelson] would have us believe there is a natural basis for comparative advantage that the market will indicate, others might argue that opportunities are created, not inherited.⁹

In fact, the prescription of economic liberalisation for the realisation of comparative advantage is a static proposition more concerned with the status quo or present situation than future potential and it does not give enough weight to the possibility of dynamic gains from short-term distortions, and the possibility of creating comparative advantage through rapid structural change for countries concerned with long-run development. As an Indonesian economist, Suhartono, put it:

The context of the problem facing the developing countries is fundamentally different from that addressed by static analysis: it is not one of merely adjusting the allocation of given resources more efficiently, but rather it is a question of how to accelerate economic and social development... In economic terms, the problem, involves an expansion in the production possibility frontier, not only a movement along it, through increasing productive capacities and through the productive employment of unutilized or under-utilized factors of production. Since from the point of view of the developing countries, the analysis for static gains addresses itself to the wrong question, it is not of particular relevance.¹⁰

Further as Rodan argues:

The more fundamental theoretical flaw of the neo-classical position, however, is that they attempt to disembody policy decisions from their social and political environments . . . Another weakness of the approach is that it fails to specify the contribution of the state to comparative advantage itself. Indeed, for these writers, comparative advantage takes on an existence outside the realms of the concrete; it is a condition or a law independent of actors themselves. According to this approach, actors can distort comparative advantage or help realise it, but they cannot actually create or define it. Such a position is rejected ... it is argued that the state can and does play a major role in shaping comparative advantage not just by reducing or increasing the cost of factors of production, but also by conditioning the socio-political environment in which these costs are realised and exploited. It [is] argued that comparative advantage is not a natural, abstract law, but a position in the market, which is determined by a variety of empirical factors, some of which the state is clearly able to define with positive results.¹¹

Hence, neo-classical economics, being more prescriptive than descriptive, usually ignore or

downplay the social, political and historical dimension of the concept of comparative advantage, and so error is invited in both the attribution of causality of comparative advantage and in more narrowly prescribing the limits within which developmental choices can be made.¹²

By focusing on short-run static efficiency and by disparaging the role of the state, medium- and long-term industrial strategies and planning are effectively discouraged.

Consistent with these arguments, Sraffian or neo-Ricardian trade theorists have also shown that comparative advantage does not arise naturally, but is governed by differences in technology, consumer preferences and determinants of wages and profits. In other words, it can be deliberately created by economic policies. Further, net losses can result from unmanaged trade, and the adjustments needed to translate comparative advantage into competitive advantage may not be smooth and automatic.¹³ In fact, comparative advantage based on low wages may not be realised as 'there is always a physiological or political limit beyond which real wages cannot be reduced'.¹⁴ Thus, the so-called comparative advantage may remain hidden and unrealised for a long time. Meanwhile, the 'capital debate' - which also puts the very foundation of neo-classical economics into question - has disastrous implications for the internal logic of the theory. For if factor abundance cannot be defined independently of factor prices, then the building block of the theory is put into serious question. According to Evans and Alizadeh, the observation that relatively low wages - leading to comparative advantage in labour-intensive commodities - is favourable to export-led growth no longer holds.

Many propositions, which are taken as self-evident in the neo-classical discussion of the NICs, cannot be taken for granted. For example, the observation which derives from static H-O-S theory that an abundant endowment of labour relative to capital is the cause (ceteris paribus) of relatively low wages, leading to a comparative advantage in labour-intensive commodities, with favourable income distribution consequences for export-led growth, no longer holds. In the more complex heterogeneous capital world, one can only describe the characteristics of a trading equilibrium as being associated with the export of labour or capital-intensive commodities (in the two-factor case). Thus, even at the most abstract level, the question of what causes comparative advantage is quanlified in an important way.¹⁵

Although the causal mechanism linking liberalisation to growm is unclear, neo-liberal proponents claim that the record supports such a causal relationship. Some of the major studies that they rely upon to support their arguments have been the research carried out by Little, Scitovsky and Scott on ...