Making Capitalism Work: All Makes, All Models 9780814739693

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Making Capitalis m Wor k

MAKING CAPITALISM WORK Leonard Silk and Mark Silk with Robert Heilbroner, Jonas Pontusson, and Bernard Wasozv

A T W E N T I E T H CENTUR Y FUN D BOO K

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New York University Press • New York and London

New York University Press

New Yor k and Londo n Copyright © 1996 Twentieth Centur y Fun d All rights reserve d

The Twentieth Centur y Fun d sponsor s an d supervise s timely analy ses of economic policy , foreign affairs , an d domesti c political issues . Not-for-profit an d nonpartisan , th e Fun d wa s founde d i n 191 9 an d endowed b y Edwar d A . Filene. Board of Trustees of the Twentieth Century Fund Morris B. Abram Lewi s B. Kaden H. Brandt Ayer s Jame s A. Leac h Peter A . A. Berle Richar d C . Leon e Alan Brinkle y P . Michael Pitfiel d Jose A. Cabranes Richar d Ravitc h Joseph A. Califano, Jr. Arthu r M . Schlesiriger, Jr. Alexander Morga n Capro n Harve y I . Sloane, M.D. Hodding Carte r III Theodor e C . Sorense n Edward E . David, Jr. Jame s Tobi n Brewster C . Denny Davi d B . Truman Charles V. Hamilton Shirle y William s August Hecksche r Willia m Julius Wilso n Marina S . Horne r Richard C . Leone, President Library o f Congres s Cataloging-in-Publicatio n Dat a Silk, Leonard Solomon , 1918 Making capitalis m wor k / Leonar d Sil k an d Mar k Silk ; with Rober t Heilbroner, Jona s Pontusson, an d Bernar d Wasow . p. cm . "A Twentieth Centur y Fun d book/ ' Includes bibliographical referenc e an d index . ISBN 0-8147-8064-4 (alk . paper ) 1. Capitalism . 2 . Post-communism . 3 . Economi c policy. I . Silk , Mark. II . Title . HB501.S5896 199 6 330.i2'2—dc20 96-2525 7 CIP New Yor k Universit y Pres s book s ar e printe d o n acid-fre e paper , an d thei r binding material s ar e chose n fo r strengt h an d durability . Manufactured i n the United State s o f Americ a 10

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The passion s tha t inclin e ma n t o peace , ar e fea r o f death ; desire o f suc h thing s a s ar e necessar y t o commodiou s liv ing; an d a hop e b y thei r industr y t o attai n them . An d reason suggestet h convenien t article s o f peace , upon whic h men ma y b e draw n t o agreement . —Thomas Hobbe s

CONTENTS

Foreword i

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Richard C. Leone

Preface x

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Mark Silk

1. Th e March o f Capitalis m 1 Leonard Silk and Mark Silk

2. Th e Challeng e o f Slo w Growt h 1

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Leonard Silk and Mark Silk

3. America n Contract s 3

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Leonard Silk and Mark Silk

4. Th e Soviet Blo c in Transition 5

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Bernard Wasow

5. Th e Chines e Puzzl e 8

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Leonard Silk and Mark Silk

6. Japa n a t the Crossroad s 9

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Leonard Silk and Mark Silk

7. Whithe r Norther n Europe ? 11

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Jonas Pontusson

8. Militar y Spendin g a s Industrial Polic y 14

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Leonard Silk and Mark Silk

9. Th e Future o f Capitalis m 16

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Leonard Silk and Mark Silk

Epilogue: The (Political ) Economy o f Capitalis m 18

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Robert Heilbroner

Notes 20

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Index 21

9 vii

Foreword

Capitalism's greates t virtue—lik e democracy's—ma y simpl y b e that i t works bette r tha n an y othe r system . Thus , the disappoint ment tha t man y American s fee l afte r tw o decade s o f slo w growth, incom e stagnation , an d a n increas e i n wealt h inequalit y is tempere d b y th e knowledg e tha t rea l refor m i s onl y practica l in a fairly narro w range . Like othe r nation s wit h lon g experienc e with th e vagarie s o f markets , w e ar e wel l pas t th e blurre d per ception o f new lovers ; we hav e grow n i f not completel y comfort able wit h th e flaw s i n th e "marriage " o f democrac y an d capital ism, a t leas t satisfie d tha t w e canno t d o better . Muc h o f th e world, however , i s a t quit e a differen t stag e o f attachmen t t o either ideology . Some nation s tha t hav e recentl y embrace d capitalis m ar e stil l in th e throe s o f intens e infatuation , som e see m stunne d b y th e discovery o f wart s an d incompatibilities , an d stil l other s ar e seriously considerin g whethe r th e recen t rejectio n o f thei r previ ous attachment s migh t no t hav e bee n to o hasty . Give n th e wid e range o f cultures , nationa l histories , stage s o f development , an d domestic politic s o f th e man y state s attemptin g t o emulat e th e Western system , onl y a fundamentalis t (no t a n insignifican t group amon g academi c economists ) coul d b e surprise d b y th e variety o f thes e comple x an d uncertai n reactions . IX

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The transition to capitalism unde r wa y i n newl y modernizin g countries an d th e transitions of capitalism takin g plac e i n ver y modern nation s offe r irrefutabl e evidenc e o f considerabl e diver sity, bot h i n governmenta l structure s an d marke t mechanisms . Many countries , i t seems , ar e quit e fon d o f thei r ow n wa y o f "doing" capitalis m o r a t leas t o f system s tha t wor k fo r them . Moreover, th e marke t approac h t o producin g an d distributin g economic good s seem s mor e flexible tha n i s predicte d b y th e exquisitely refine d model s o f perfec t capitalism—model s tha t insist tha t on e siz e an d shap e i s bes t fo r all . On e i s tempte d t o conclude that , howeve r elegan t thei r mathematics , thes e ideal ized model s fail th e greates t capitalis t tes t o f all : The y ar e no t being bough t i n th e rea l marketplace—b y peopl e o r b y govern ments. The gap between theory an d practic e is especially od d becaus e economists hav e neve r ha d suc h ric h source s o f empirica l mate rial t o stud y an d analyze . An d no t al l o f th e informatio n i s new . The real worl d o f capitalis t experienc e i n th e advance d countrie s presents a polyglo t portrai t o f possibilities . Yet , listenin g t o th e libertarian strai n i n contemporar y economi c thought , fo r exam ple, a ma n fro m Mar s woul d neve r drea m tha t a numbe r o f relatively authoritaria n government s (o r a t leas t stronge r tha n democrats woul d like ) coexist , apparentl y nicely , wit h surgin g capitalist economies . On e i s harde r put , b y th e way , t o fin d thi s sort o f growt h i n nations wit h wea k governments . This dichotom y betwee n th e wa y th e worl d i s an d th e wa y i t is ofte n describe d fascinate d Leonar d Silk . Sil k fo r man y year s was America' s foremos t economist/journalist , firs t a s economic s editor an d eventuall y chairma n o f th e editoria l board o f Business Week and the n a s longtime economic s columnis t fo r th e New York Times. Hi s majo r book s includ e Economics in the Real World, The American Establishment (co-authore d wit h Mar k Silk , hi s son) ,

Foreword x

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Economics in Plain English, an d The Economists. Hi s lon g an d distinguished caree r wa s characterize d b y a n insistenc e o n un derstanding an d explainin g th e reality o f economics—of lookin g at th e fact s t o se e wha t wa s actuall y happenin g t o peopl e an d institutions. Leonard Sil k believe d tha t economists , rathe r tha n merel y cataloging globa l economic development s a s the best o f al l possible worl d marke t outcomes , ha d a specia l obligatio n t o develo p ideas an d offe r polic y option s tha t coul d chang e th e pat h o f th e economy. A n advocat e o f ful l employmen t policie s an d substan tial investmen t i n education , infrastructure , an d alleviatio n o f social ills , he sough t answer s i n th e rapidl y changin g patter n o f economic activit y i n othe r countries , a s well a s our own . Beginning i n 1992 , Sil k bega n a conversatio n wit h th e Fun d about a boo k tha t woul d addres s th e changin g globa l topolog y of capitalism . H e wa s excite d b y th e wid e variet y o f experiment s under wa y i n nation s tha t previousl y ha d bee n neithe r demo cratic no r capitalist . H e als o fel t tha t insufficien t attentio n ha d been pai d t o th e lesson s offere d b y th e Wester n Europea n coun tries an d Japan , wit h thei r highl y individualis t adaptation s t o mixed capitalism . And , h e wa s particularl y disappointe d i n th e current rol e o f mos t America n economist s i n th e nationa l an d international discussion s abou t wha t wa s occurrin g an d wha t should an d shoul d no t b e don e t o dea l wit h it . H e als o wa s alarmed b y man y o f th e curren t trend s i n America n economi c performance. H e noted , fo r example , tha t th e percentag e o f un employed wh o sta y unemploye d si x month s o r mor e increase d from 5 percen t i n 197 0 t o mor e tha n 2 0 percen t i n 1992 . H e discussed th e impor t o f a surve y tha t indicate d tha t virtuall y every Fortun e 50 0 CE O planne d t o downsize . Al l thi s an d mor e became ric h material fo r hi s book-in-progress . It wa s a book tha t Sil k woul d neve r finish . Diagnose d wit h a

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serious for m o f cancer , h e fough t back , bot h agains t th e diseas e itself an d agains t th e curtailmen t o f hi s project . A s th e illnes s took a n eve r mor e aggressiv e course , Leonar d Silk' s determina tion t o fin d a way t o complet e wha t woul d b e hi s las t book onl y increased. Hi s struggl e wa s difficul t but , i n th e mos t importan t sense, he triumphed . Since it s inceptio n mor e tha n seventy-fiv e year s ago , th e Fun d has supporte d man y work s tha t respon d t o ou r foundin g idea , that market s an d governmen t mus t b e judged b y thei r contribu tions t o th e well-bein g o f al l citizens . Ou r recen t outpu t i n thi s area include s Edwar d Wolff' s Top Heavy: A Study of the Increasing Inequality of Wealth in America an d The Report of a Task Force on Market Speculation and Corporate Governance, with a backgroun d paper, "Who' s Mindin g th e Store? " b y Rober t Shiller . Thi s year , Robert Kuttner' s importan t boo k fo r th e Fund , Everything for Sale, explorin g th e virtue s an d limit s o f markets , wil l b e pub lished. An d w e ar e currentl y supportin g a study o f public polic y and economi c growt h b y Barr y Blueston e an d Bennet t Harrison , as wel l a s a boo k o n th e cause s o f incom e inequalit y b y Jame s Galbraith. W e hope tha t Leonar d Silk' s book wil l b e see n a s on e of th e centerpiece s i n thi s curren t grou p o f Fun d publication s focused o n politica l economy . On behal f o f th e Fund' s trustees , I than k Leonar d Silk' s son , Mark, wh o b y takin g o n wha t becam e th e rol e o f co-author , preserved th e hear t o f hi s father' s idea s an d th e thrus t o f hi s writing. H e buil t upo n th e draf t materia l t o brin g hi s father' s vision o f thi s boo k t o life . W e als o ar e especiall y appreciativ e o f the chapter s contribute d b y Rober t Heilbroner , Jona s Pontusson , and Bernar d Wasow . Thes e distinguishe d scholar s o f economi c affairs enriche d thi s volum e wit h thei r insight s abou t capitalis m in the moder n world .

Foreword xii

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Finally, i t i s wort h notin g tha t mos t o f us , a s w e gro w older , seem t o lear n les s fro m eac h ne w experience ; rathe r w e ten d t o become mor e narro w i n ou r vie w o f th e worl d an d it s possibili ties. Leonard Silk , o n th e othe r hand , wa s tha t rar e huma n bein g about who m th e opposit e wa s true . Making Capitalism Work i s the resul t o f a collaborativ e effort , bu t i t i s als o a n expressio n o f one man' s determinatio n t o continu e t o question , explain , an d make a difference . I than k Leonar d Sil k fo r workin g wit h u s on thi s book—i t wa s a persona l hono r t o b e grace d b y hi s friendship. April 199 6 Richar

d C . Leone, Presiden t The Twentieth Centur y Fun d

Preface Mark Silk

In th e las t year s o f th e twentiet h centur y virtuall y th e entir e world contracte d capitalism . Lik e a n airborn e virus , th e spiri t o f free enterprise—o f market s unhindere d b y governmen t rul e an d regulation—blew acros s th e fac e o f th e earth , no t onl y settlin g in suc h unfamilia r precinct s a s Beijin g an d Mosco w bu t als o revisiting Grea t Britai n an d th e Unite d States , whenc e i t origi nally arose . It was blown , first , b y th e collaps e o f th e communis t dream, an d the n b y th e collaps e o f th e drea m i n action . A t th e end o f 1991 , the presiden t o f th e Russia n Republic , Bori s Yeltsin , issued a declaratio n o f Russia' s independenc e fro m th e Unio n o f Soviet Socialis t Republics , thereb y pullin g th e ru g ou t fro m un der th e larges t experimen t i n economi c history . In 1992 , m y fathe r embarke d o n a projec t fo r th e Twentiet h Century Fun d t o recko n wit h th e futur e o f capitalism . No w tha t the Col d Wa r ha d com e t o a n end , wha t woul d becom e o f th e economic syste m tha t ha d prevailed ? Ho w wel l woul d i t dea l with th e ne w challenges , economi c an d political , tha t th e worl d faced? Of th e peril s h e wa s wel l aware . Whe n h e wa s eleven , th e Great Cras h o f 192 9 wipe d ou t hi s father , a clothin g merchan t addicted t o buyin g stoc k o n margin . Th e awarenes s tha t every xv

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thing could be lost in a flash neve r left th e son. But his experienc e as a teenage r growin g u p durin g th e Ne w Dea l lef t him , a s well, wit h th e confidenc e tha t stron g politica l leadershi p an d enlightened governmen t interventio n coul d mak e a difference . This confidenc e gre w a s his lif e progressed . I n 1945 , he reporte d on the founding o f the United Nation s fo r hi s divisional newspa per i n Alaska. After Worl d Wa r II ended, h e witnessed th e recon stirution o f th e Norther n Europea n welfar e state , writin g hi s economics doctora l dissertatio n o n Sweden' s plan s t o provid e better housin g fo r it s citizens . Workin g fo r th e U.S . missio n t o NATO i n th e earl y 1950s , h e wa s involve d i n supervisin g th e economic reconstructio n o f Wester n Europ e tha t ha d begu n wit h the Marshal l Plan . For m y father , th e en d o f th e Col d Wa r a t firs t seeme d t o har k back t o thos e early , heady , postwa r years . Th e enemie s o f free dom ha d bee n defeated ; thei r economie s la y prostrate . Here wa s a ne w opportunit y fo r Americ a t o hel p fashio n a bette r world , both throug h direc t ai d an d b y wa y o f word an d example . It was no t t o be, a t leas t no t i n his lifetime . Th e United States , hamstrung b y hug e budge t deficits , wa s reluctan t t o spen d it s treasure abroa d i n th e absenc e o f an y obviou s threa t t o nationa l security. Equall y discouraging , th e professiona l understandin g of ho w t o g o abou t th e busines s o f economi c reconstructio n seemed t o hi m t o hav e al l but disappeare d sinc e hi s sala d days . His generatio n o f economists , inspire d b y th e theorie s o f Joh n Maynard Keyne s an d th e practices o f Franklin Delan o Roosevelt , understood thei r highest task to be to devise government policie s that woul d kee p th e worl d fro m eve r agai n slippin g int o th e kind o f depressio n tha t ha d devastate d i t durin g th e 1930s . Th e current generation , bemused b y th e elegancies o f microeconomi c theory, appeare d t o hav e los t interes t i n macroeconomi c polic y

Preface xvi

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except insofa r a s i t coul d b e show n t o b e wrongheaded , ineffec tual, o r counterproductive . Afte r Worl d Wa r II, American mone y and America n expertis e ha d helpe d se t th e Fre e Worl d o n a career o f unprecedente d growt h an d prosperity . No w tha t th e entire worl d appeare d t o be movin g int o th e Fre e World's camp , America seeme d bankrupt , financiall y an d intellectually . The 199 4 election s deepene d hi s sens e o f America n failure . Exhausted b y th e live r cance r t o which h e woul d succum b thre e months later , h e spok e wit h disgus t o f th e meannes s o f th e Republicans' proposals , th e glibnes s o f thei r allegianc e t o a ver sion o f laisse z fair e wel l outsid e th e mainstrea m o f economic s extending bac k t o Adam Smith . Professionally, h e ha d devote d mos t o f hi s workin g lif e t o educating th e publi c i n economic s an d economi c policy . At Business Week magazine, h e wa s hire d b y Elliot t V . Bell to inaugurat e a departmen t o f economics . Bell , who ha d earlie r hel d dow n th e economic polic y slo t o n th e New York Times editorial board , wa s a Republica n wh o wante d t o teac h th e busines s communit y t o look beyon d it s narro w self-interest , t o understan d tha t th e Keynesian Revolutio n woul d mak e it s worl d a better , mor e profitable place . Thi s wa s th e evange l tha t m y fathe r trie d t o spread a t Business Week, wher e h e eventuall y becam e edito r o f the editoria l page . Later , a s chie f economic s editoria l write r an d economics columnis t a t th e New York Times, he wa s abl e t o plac e it before a wider public . After th e 199 4 election, it almost seeme d that he had labore d i n vain . In th e eye s o f th e ne w devotee s o f laisse z faire , th e ver y ide a that th e governmen t shoul d tak e responsibilit y fo r maintainin g economic growt h an d assistin g thos e th e market econom y leave s behind i s a kind o f socialist illusion. To them, it seems impossibl e to b e a t onc e enthusiasti c abou t wha t market s ca n d o an d con -

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vinced o f th e nee d t o remed y thei r defects . Instead , the y hav e persuaded themselve s tha t governmen t interventio n i n the econ omy wil l alway s hav e ba d unintende d consequences—an d tha t those consequence s wil l necessaril y outweig h an y goo d tha t i s accomplished. Unlike a number o f th e free market' s mos t devote d publicist s today, m y fathe r neve r showe d th e slightes t inclinatio n towar d socialism, fro m hi s studen t day s a t th e Universit y o f Wisconsi n in th e lat e 1930 s forward. Bu t just a s th e eschatologica l visio n o f the workers ' paradis e lef t hi m cold , s o to o di d th e theolog y o f the invisibl e hand , wit h it s ow n paradisia c promises . Experienc e had taugh t hi m better—not jus t th e experience o f livin g throug h the Grea t Depressio n bu t th e experienc e o f economi c journalism . There was n o better vantag e fro m whic h t o take stoc k of th e vas t array o f paten t medicine s tha t ar e alway s bein g purveye d fo r economic ills : th e sure-fir e investmen t advice , th e cure-al l best sellers, th e anodyn e polic y prescriptions , th e lates t academi c panacea. I t wa s no t jus t because h e coul d mak e economi c polic y comprehensible t o noneconomists tha t his column was s o widel y valued acros s th e politica l spectrum . Wee k i n an d wee k out , h e let hi s reader s i n o n a well-kep t secret : Bi g economi c problem s rarely admi t o f simpl e solutions . A s this , hi s las t book , shows , that remain s a s true a s ever i n thi s era o f capitalis t triumph . Several month s afte r hi s death , I was aske d b y th e Twentiet h Century Fund' s president , Richar d Leone , i f I woul d b e willin g to tak e charg e o f doin g wha t ha d t o b e don e t o prepar e m y father's unfinishe d manuscrip t fo r publication . W e agree d o n the nee d t o brin g i n additiona l author s t o contribut e chapter s necessary t o th e argument . Beside s th e overal l editing , wha t fel l to m e wa s t o plac e th e whol e i n th e contex t o f th e Republica n economic agend a tha t cam e int o pla y i n 1995 . Tha t agenda , which advance d simplisti c free-marke t solution s t o al l th e prob -

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lems of post-Cold Wa r economic life , became the touchstone, an d intellectual foil , fo r examinin g th e disparat e force s pushin g an d pulling a t the evolution o f capitalis m i n today's world . Jonas Pontusso n o f Cornel l Universit y an d Bernar d Waso w o f the For d Foundatio n no t onl y worke d har d an d fas t t o complet e their chapters , but als o gave me the benefit o f their expert insigh t and wis e counsel . Rober t Heilbrone r wa s goo d enoug h t o grac e the boo k wit h hi s ow n distinctiv e perspectiv e o n th e shap e o f capitalism i n America . To m Kon o o f th e Unite d Nation s Interna tional Universit y i n Toky o provide d invaluabl e researc h assis tance to my fathe r earl y on , an d importan t hel p t o me a t the end ; the chapte r o n Japa n coul d no t hav e bee n don e withou t him . Kathleen Quin n an d Michae l McGover n o f th e Twentiet h Cen tury Fun d wer e ther e whe n I neede d them . Abov e all , I woul d like t o than k Richar d Leon e fo r enablin g m e t o shepher d thi s project t o completion , an d fo r reassurin g m y father , i n hi s las t months, tha t on e way o r anothe r hi s work woul d se e the ligh t o f day. I a m als o gratefu l t o m y forme r editor s a t th e Atlanta JournalConstitution fo r givin g m e th e severa l months ' leav e I needed. I t was a leav e mad e doubl y rewardin g b y th e chanc e t o spen d more tim e tha n usua l wit h m y son s Abraham , Ezra , an d Isaac , and wit h m y wif e Tema , a t th e en d o f a difficul t yea r fo r al l o f us; I hope i t helped the m a s much a s it helped me . I had collabo rated wit h m y fathe r o n variou s earlie r projects , bu t collaborat ing wit h hi m posthumousl y prove d t o be a moving an d a t time s eerie experience; his prose was alway s before me , an d I had onl y to clos e m y eye s t o hear hi s voice . As muc h a s thi s wa s a n ac t o f filial piety , i t wa s also , a s usua l whe n h e wa s involved , fille d with passio n an d fun . I trus t h e wouldn' t min d that , fo r once , I had th e last word . Although h e ha d hi s moment s o f doubt , Da d remaine d t o th e

xx Prefac e end a creatur e o f light—a n optimist . H e believe d tha t peopl e were basically good, and that they could be inspired to be better. The least disma l o f disma l scientists , he sa w economics a s bearing no t th e gri m new s o f scarcit y bu t th e hopefu l promis e o f improving th e live s o f th e poores t amon g us . He stoo d fo r th e right a s he sa w th e right . An d i f th e res t o f th e worl d di d no t agree, well, in time it would com e around.

0N € The Marc h o f Capitalis m Leonard Silk and Mark Silk

^ hre e years afte r th e drea m o f communis m guttere d ou t i n th e I ashe s of th e Soviet Union, th e Republican Part y wo n a major I it y o f seat s i n bot h house s o f th e U.S . Congres s an d an nounced a ne w capitalis t revolution . "[W] e hav e t o replac e th e welfare stat e wit h a n opportunit y society/ ' declare d New t Gin grich, th e soon-to-b e Speake r o f th e Hous e o f Representatives , just afte r th e Novembe r 8 , 1994 , congressiona l elections . "I t i s impossible t o tak e th e Grea t Societ y structur e o f bureaucracy , the redistributionis t mode l o f ho w wealt h i s acquired , an d th e counterculture valu e syste m tha t no w permeate s th e wa y w e deal wit h th e poor , an d hav e an y hop e o f fixin g them . The y ar e a disaster." 1 Taking th e hel m o f th e firs t Republican-le d Hous e i n mor e than forty years , Gingrich an d compan y spen t thei r first hundre d days rammin g throug h mos t o f th e Contrac t Wit h America , th e 1

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ten-bill legislativ e packag e tha t ha d serve d a s thei r campaig n platform. Texa s congressma n Dic k Armey , th e Hous e Majorit y Leader an d perhap s th e trues t believer , calle d i t th e Freedo m Revolution, base d o n "th e simpl e ide a tha t peopl e shoul d b e trusted t o spen d thei r ow n earning s an d decid e thei r ow n fu tures." Th e revolutio n woul d no t entai l an y los s o f fairnes s o r kindness t o th e poor , for , accordin g t o Armey , "[t]h e mos t jus t and compassionat e societies , i t turn s out , ar e als o th e mos t free." 2 I n orde r t o liberat e capitalis t enterpris e t o wor k it s won ders, th e Hous e Republican s propose d t o rol l back federa l regu latory powe r an d reduc e federa l outlay s anywher e fro m one third t o one-half . It could no t happe n righ t away . For tw o years , the revolution aries i n th e Hous e woul d hav e t o conten d wit h a Democrati c president's vet o power , a s wel l a s wit h les s radica l member s o f their ow n part y wh o wer e unwillin g t o g o alon g wit h th e whol e program. Bu t afte r th e nex t election , wh o knew ? Woul d 199 4 mark th e beginnin g o f a new er a i n America n history , culminat ing i n th e electio n i n 199 6 o f a presiden t wh o woul d lea d th e country bac k t o th e day s before Lyndo n Johnson' s Grea t Society , Franklin Delan o Roosevelt's Ne w Deal , or even Theodor e Roose velt's Ne w Nationalism ? O r woul d th e revolutio n subsid e a s a n extraordinary bu t temporar y midter m disturbance , brough t about b y a citizenr y disgruntle d wit h busines s a s usua l bu t unprepared t o g o alon g wit h a radica l overhau l o f th e America n system? At issue was the course o f the country fo r year s to come . The Hous e Republica n agend a di d not , o f course , com e fort h in a vacuum. A retreat fro m th e ideal s o f th e New Dea l had bee n underway a t leas t sinc e th e presidenc y o f Ronal d Reagan . No r was hostilit y t o "bi g government " limite d t o th e Unite d States . In Grea t Britai n durin g th e 1980s , Prim e Ministe r Margare t

The March o f Capitalis m 3 Thatcher undertoo k t o dismantl e a welfare stat e fa r mor e exten sive than anythin g eve r attempte d i n the United States . Similarl y if les s aggressively , th e advance d industria l state s o f Norther n Europe wer e cuttin g back o n th e governmen t economi c support s and service s o f th e postwa r period . Accordin g t o th e prevailin g wisdom, thes e coul d n o longe r b e afforde d i f a country' s busi nesses wer e t o compet e successfull y i n a n increasingl y interna tional marketplace . Thus, b y th e tim e th e Sovie t blo c bega n t o brea k u p i n 1989 , the loudest an d mos t energeti c economic voices were trumpetin g a pure r free-enterpris e ideolog y tha n ha d bee n hear d i n man y years, i f ever . Smal l wonde r tha t int o th e counsel s o f th e leader s of the new ex-communis t countrie s cam e free-market economist s preaching a gospe l o f immediat e deregulation , rapi d privatiza tion o f state-owne d enterprises , an d th e abandonmen t o f em ployment guarantees . The result s wer e no t a s goo d a s advertised . Economi c pre scriptions fo r "marketizing " th e ex-communis t countrie s tende d to neglect th e barriers t o economic growt h cause d b y th e absenc e of th e lega l an d regulator y structur e o f develope d capitalis t soci eties. Corruption , formerl y endemic , becam e worse . Consum mating busines s deal s mean t bein g subjecte d t o demand s fo r bribes an d othe r form s o f "lubrication. " Fo r masse s o f people , capitalism bega n t o loo k lik e a bonanz a fo r th e few—especiall y the cleve r politicians , ex-bureaucrats , an d th e new mafia . A com mon joke i n Russia wa s tha t capitalis m overnigh t ha d succeede d in doin g wha t th e Kremli n i n sevent y year s ha d faile d t o do : make communis m loo k good . Falling outpu t an d incom e togethe r wit h growin g unemploy ment an d povert y raise d th e specte r tha t aggressiv e nationalism , ethnic hostility , an d politica l instabilit y woul d lea d t o repressiv e

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dictatorships an d ne w danger s o f war , civi l an d international . I n the transitio n fro m communism , ther e wa s widesprea d tensio n and anxiet y abou t th e futur e amon g thos e wh o ha d thu s fa r suffered fro m th e collaps e o f th e ol d order . Bitternes s an d eve n nostalgia fo r th e communis t pas t gre w amon g peopl e raise d o n an ideolog y o f equalit y an d jo b securit y guarantee d b y th e state . Victories b y forme r Communist s an d reconstitute d communis t parties i n muc h o f th e forme r Sovie t blo c i n th e mid-1990 s wer e a measur e o f popular disaffectio n wit h th e ne w economi c order . To be sure , despit e th e economi c failure s an d th e devastatin g effects o n thei r well-being , ther e seeme d littl e desir e o n th e par t of th e majorit y t o g o bac k t o eve n on e o f th e mor e benig n variants o f Col d Wa r communism , muc h les s t o full-blow n Sta linist totalitarianism . Fe w wishe d a retur n o f th e cruelt y an d arrogance, th e spyin g an d harassment , th e represse d inflatio n and th e long waiting lines, the poor qualit y o f goods and service s and housing , th e meannes s an d hopelessnes s o f lif e fo r s o many . But on the basis of their experiences sinc e the fall o f communism , citizens o f th e forme r communis t worl d wante d t o kno w whether tha t syste m calle d capitalis m wa s to o selfish , corrupt , and cold-bloode d t o mee t thei r needs . Stil l lookin g fo r a demo cratic-market syste m that works, they asked : What sor t of syste m should tha t be ?

Models of Capitalism While man y economie s marke d b y privat e ownershi p o f capita l and b y ope n tradin g i n fre e market s exist , a close r loo k reveal s that ther e i s not on e capitalis t mode l bu t man y "capitalisms. " I n every capitalis t nation , th e economi c syste m ha s bee n shape d b y particular historical , social , an d cultura l force s an d b y politicall y

The March o f Capitalis m 5 determined nationa l needs . There i s thus a long men u o f model s to choose from : • The libertarian or laissez-faire model restrict s th e rol e o f th e state largel y t o defense , wit h minima l o r n o interventio n i n economic an d socia l matters . • The neoclassical model lets the market resolv e most microeco nomic issue s withi n a genera l regulator y regime , whil e employing nationa l fisca l an d monetar y polic y t o varyin g degrees t o achiev e macroeconomi c stability , lo w inflatio n and/or hig h employment . • The mixed economy, welfare state, or social market economy blends governmen t an d privat e marke t decision s to resolv e clashes between economic interests and socia l needs, particularly t o insur e a "socia l safet y net " fo r thos e wh o fail i n the marke t economy . • I n the corporate state, business an d governmen t wor k closel y together, whethe r overtl y o r covertly , honestl y o r corruptly , to pursue nationa l an d busines s interests . • Finally , i n authoritarian and totalitarian systems, a powerfu l government preserve s th e marke t an d promote s th e inter ests o f favore d businesses , bu t represse s genuin e democ racy an d persona l freedom . Within thes e broa d categories , ther e ar e variou s subspecie s o f capitalism, varyin g no t onl y fro m countr y t o countr y but , withi n a country , fro m tim e t o time. For example , Middl e Easter n state s like Syria , Iran , an d Ira q hav e i n recen t year s take n a fascis t approach, wit h th e stat e dominatin g privat e enterprise . I n suc h states, a n asserte d nee d t o preven t interna l instabilit y an d t o repel outsid e aggressor s i s used t o justify on e degre e o r anothe r of politica l dictatorship , whil e th e desir e t o trad e wit h othe r

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countries an d gai n th e benefits o f technologica l advanc e necessi tates experimentin g wit h capitalis t institutions . China's success , a t leas t unti l now , i n achievin g economi c growth rate s o f double-digi t proportion s b y combinin g stron g state politica l contro l wit h a n expandin g capitalis t secto r ma y provide a mode l tha t som e countrie s wil l b e tempte d t o imitate . Indeed, man y ex-communis t societie s ar e askin g themselves : Isn't oppressiv e governmen t wit h economi c liberalizatio n i n th e Chinese styl e mor e desirabl e tha n chaoti c democratizatio n a la Russe, a t leas t durin g wha t i s likel y t o b e a lon g transitio n pe riod? The effor t o f th e ex-communis t countrie s t o figur e ou t thei r capitalist future s i s not mad e easie r b y th e fac t tha t th e longtim e capitalist countrie s ar e als o i n th e mids t o f a struggl e t o fin d better way s o f combinin g marke t force s wit h assurance s o f hu man security . While many norther n Europea n countrie s continu e to tri m thei r welfar e states , Grea t Britai n i s actin g t o revers e th e Thatcherite free-marke t revolution . I n Japan , th e powe r o f th e government t o orchestrat e economi c activit y an d kee p th e masses subservien t ha s com e increasingl y int o question , thoug h the result s o f tha t questionin g remai n t o b e seen . An d i f th e United State s turn s bac k th e cloc k a s fa r a s th e Hous e Republi cans propose d i n 1995 , th e resul t woul d b e a degre e o f laisse z faire unknow n fo r generation s anywher e i n th e industrialize d world. How fa r shoul d th e stat e g o t o insulat e it s citizen s fro m vola tile marke t forces ? I f th e stat e i s t o b e th e agenc y fo r guidin g social an d economi c development , ho w ca n i t b e stoppe d fro m degenerating int o corrup t clique s o f politician s an d bureaucrats ? Around th e globe , findin g th e righ t systemi c answer s involve s the quest not only for economi c efficiency bu t als o for othe r goal s that ma y serv e th e public interest .

The March o f Capitalis m 7 What i s th e publi c interest ? I s it simpl y th e su m o f al l privat e interests? Or , considerin g th e clashe s amon g individual s an d groups an d th e wid e disparitie s amon g the m i n incom e an d wealth an d power , shoul d i t b e define d i n term s o f som e large r principles, suc h a s equality , socia l stability , humanitaria n pur pose, or economi c progress itself ? Perhaps th e resolutio n o f clashin g interest s an d value s i s bes t left t o the market, no t because it s solutions ar e necessarily just o r compassionate bu t becaus e marke t outcome s (whethe r reward s or punishments ) usuall y produc e bette r result s fo r th e entir e society tha n th e decision s o f politician s an d th e interest s the y represent (includin g thei r ow n interest s a s peopl e i n power) . Doesn't politics , whateve r it s intention s o r pretensions , inevita bly serv e th e interest s o f th e mos t powerfu l element s o r clas s i n the society ? Ye t eve n i f fre e market s i n genera l wor k tolerabl y well, an d certainl y bette r tha n highl y centralize d politica l com mand-and-control systems , shouldn' t nation s tak e step s t o sup plement an d correc t thei r malfunctionin g t o mee t th e need s o f all citizens—especiall y thos e wh o ar e poores t an d i n greates t need o f help ? Whatever th e case , th e economic s o f a syste m canno t b e di vorced fro m mora l issues , including th e obligation s o f the ric h t o the poor , th e responsibilit y o f th e curren t generatio n t o thos e ye t unborn, an d th e prope r exten t an d limit s o f individua l right s and freedoms . Addressin g th e interpla y o f economic s an d suc h issues a t th e curren t momen t o f worldwid e capitalis t triump h i s the purpose o f this book .

The Capitalist Ethic Does capitalis m hav e a n ethic , joine d t o huma n freedom , tha t addresses socia l concern s an d need s a s th e indirec t consequenc e

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of individuals ' pursui t o f thei r ow n economi c interests ? Or , in it s narrow focu s o n self-interest , i s capitalism th e nemesis o f ethics ? Capitalism wa s originall y assaulted , almos t a thousan d year s ago, o n mora l grounds . Centurie s befor e i t acquire d a name o r a theory, medieval theologian s sense d it s revolutionary natur e an d the dange r i t pose d t o th e social , religious , an d mora l order . A s early a s th e twelft h century , th e stiffenin g attitud e o f th e Roma n Catholic churc h towar d usur y represente d a n awarenes s o f th e threat o f thi s ne w an d powerfu l forc e t o th e medieva l idea l o f a harmoniously ordere d society . It wa s usury—th e paymen t o f interest , makin g i t possibl e t o earn mone y o n money—tha t brough t capita l int o bein g an d launched capitalis m upo n it s revolutionar y career . N o wonde r the guardian s o f th e medieva l orde r o f value s wer e agains t it , said th e Catholi c historian Werne r Stark : [For here] wa s th e cancerou s cel l which, i f no t excise d fro m th e body politi c by th e surgeon' s knife , woul d gro w eve r mor e rap idly unti l i t had eate n ou t th e vital s an d brough t o n destructio n and death . I t has been sai d mor e tha n onc e that th e Doctor s di d not understand th e phenomenon o f capital , but tha t i s decidedl y less than fair. Certainly, they did not have an express theory of it, but they realized , howeve r dimly , what it s true natur e is—t o b e the spring of economic change and advancement , to be the motor force o f progress. Here agai n th e contras t between medieva l an d modern conception s become s strikingl y obvious . W e thin k eco nomic progress desirable, whatever the cost; they counted the cost and found i t excessive.3 Adam Smith , th e eighteenth-centur y Scottis h philosophe r whos e Wealth of Nations inaugurate d moder n economics , sa w capitalis m as grounde d no t i n a n immora l thirs t fo r gai n bu t i n th e basi c human propensit y t o "truck , barter , an d exchang e on e thin g fo r another." Thi s propensit y enable d peopl e t o depen d upo n on e

The March o f Capitalis m 9 another fo r thei r need s withou t havin g t o beg. "I t is not fro m th e benevolence o f th e butcher , th e brewer , o r th e baker , tha t w e expect ou r dinner , bu t fro m thei r regar d t o thei r ow n interest, " Smith wrote . "W e addres s ourselves , no t t o thei r humanit y bu t to thei r self-love , an d neve r tal k t o the m o f ou r ow n necessitie s but o f thei r advantages." 4 Neithe r mora l no r immoral , th e habi t of exchang e brough t abou t th e divisio n o f labo r that , o n Smith' s account, wa s th e chie f produce r o f wealth . Later, capitalis m ros e wel l abov e ethica l neutrality , a t leas t i n the eye s o f some . A t th e daw n o f th e twentiet h century , th e German sociologis t Ma x Webe r portraye d i t a s th e secula r ex pression o f a socia l theology; he pointe d t o th e Calvinis t concep t of a person' s "calling, " whic h wa s no t th e rol e i n whic h h e ha d been place d b y Heave n bu t th e earthl y busines s h e chos e fo r himself an d woul d pursu e wit h religiou s fervor . Th e obligatio n to wor k hard , t o b e thrift y an d responsible , t o sav e an d inves t money prudently , neve r t o deplet e one' s capita l bu t alway s t o enlarge it , acquire d sanctit y a s "th e Protestan t ethic. " 5 Whether immoral , amoral , o r th e heigh t o f virtue , th e capital ist cree d ha s bee n mos t succinctl y an d pragmaticall y enunciate d in ou r ow n tim e b y th e Chines e Communis t leade r Den g Xiao ping, who tol d his people: "To get rich is glorious." What capital ism represente d wa s a radica l chang e i n th e powe r relation s within society—i n th e firs t instance , fro m th e rulin g clas s o f feudal lords , whos e powe r wa s supporte d b y th e church , t o merchants an d banker s who kne w ho w t o accumulate capita l no t just b y makin g thing s bu t b y makin g mone y bege t money . Th e members o f thi s ne w dominan t clas s pu t thei r capita l t o wor k primarily fo r thei r ow n enrichmen t bu t wit h sid e benefit s t o th e state, whic h ofte n wo n the m th e suppor t o f th e prince . Wit h th e passage o f time , th e wealt h generate d b y capita l sprea d throug h

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society, suc h tha t i t was ultimatel y possibl e t o persuad e worker s themselves t o identify thei r ow n interest s wit h thos e o f th e capi talists. A n America n propagand a campaig n earl y i n th e Col d War sough t t o rename th e syste m "people' s capitalism/ ' Despite it s protean abilit y t o adap t itsel f t o enormously differ ent politica l systems , capitalis m doe s have certai n characteristic s that mak e i t recognizable whereve r i t appears : • th e existenc e o f privat e property—th e ownershi p (o r a t least control ) o f asset s b y entitie s othe r tha n th e state , an d the abilit y o f those private owner s t o capture th e returns o n their investmen t o f capital ; • freedo m o f enterprise—the righ t o f individual capitalist s t o start ne w businesse s o r change , expand , o r ge t ou t o f thei r existing businesses ; • th e profit motive—o r mor e broadly, the desire for economi c gain—as th e dominan t forc e behin d individua l an d busi ness behavior; an d • decentralize d decisionmakin g b y wa y o f free competitio n in the marketplace a s the spur t o efficiency an d th e creatio n of ne w an d mor e attractiv e good s an d services . Of course , only i n the textbook mode l o f perfect competitio n an d "pure" capitalis m d o al l o f thes e characteristic s exis t withou t some interferenc e o r contro l o f th e stat e o r o f monopolie s an d cartels in the private sector , frequentl y wit h governmen t suppor t or protection . Capitalism i s above al l intensely "rational, " with its rationalit y commonly define d a s the pursuit o f pecuniary self-interest—an d with mor e alway s preferabl e t o less . Som e economist s g o s o fa r as t o defin e th e pursui t o f gai n a s th e onl y for m o f rationa l behavior. I n an y event , on e ca n hardl y overestimat e th e powe r

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of thi s for m o f rationalit y t o transfor m th e world—no t onl y economic lif e but scienc e an d cultur e an d religio n a s well. As th e conservative Viennes e economis t Josep h Schumpete r wrote : Primarily a product o f th e evolutio n o f economi c rationality , th e cost-price calculu s i n tur n react s upo n tha t rationality ; b y crys tallizing and definin g numerically , it powerfully propel s the logic of enterprise . And thu s define d an d quantifie d fo r th e economi c sector, this type of logic or attitude or method then starts upon its conquering caree r subjugating—rationalizing—man' s tool s an d philosophies, hi s medica l practice , his pictur e o f th e cosmos , his outlook on life, everything in fact including the concepts of beauty and justice and his spiritual ambitions. 6 Small wonde r tha t capitalism , whereve r i t ha s take n root , ha s failed t o wi n universa l approva l a s th e bes t o r onl y roa d t o a good society .

Why Capitalism Won No on e appreciate d th e powe r o f capitalis m t o transfor m th e world bette r tha n it s foremos t enemy , Kar l Marx . I n The Communist Manifesto, Mar x (an d hi s colleagu e Friedric h Engels ) wrote : The bourgeoisie, by th e rapi d improvemen t o f al l instruments of production, b y th e immensel y facilitate d mean s o f communica tion, draws all , even the most barbarian, nations into civilization . The chea p price s o f it s commoditie s ar e th e heav y artiller y wit h which i t batters dow n al l Chinese walls , with whic h it forces th e barbarians7 intensel y obstinat e hatre d o f foreigner s t o capitulate . It compel s al l nations , o n pai n o f extinction , t o adop t th e bour geois mod e o f production ; i t compel s the m t o introduc e wha t i t calls civilization int o their midst , i.e. , to become bourgeois them selves. In one word, it creates a world after it s own image. 7 Marx an d Engel s sa w capitalis m no t a s a benig n Go d wh o promoted th e interest s o f humankin d wit h a n invisibl e han d bu t

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as a tyrannica l demiurg e wieldin g a n iro n fis t o n behal f o f th e controllers o f capital—th e bourgeoisie . I n capitalis t countries , governments wer e a too l o f th e bourgeoisie , designe d t o hol d down th e workin g clas s wit h th e suppor t o f th e polic e an d th e military. T o stop bourgeoi s civilizatio n i n it s track s a communis t revolution wa s required . I t would b e aide d b y th e inherent insta bility o f capitalism : b y depression s tha t cause d th e syste m t o break down , an d b y th e progressiv e immiseratio n o f th e ex ploited workin g class . But th e communis t revolutio n faile d becaus e th e capitalis t system proved capabl e of bringing not immiseration but progres sively highe r livin g standard s t o th e workers ; becaus e econo mists, led by John Maynard Keynes , devised mean s fo r dampin g down an d containin g th e wil d swing s o f th e busines s cycle ; and becaus e th e centrall y controlle d economie s establishe d b y communist regime s coul d no t keep pac e with capitalis t countrie s committed t o inventio n an d innovation , wit h th e Unite d State s in th e forefront . In it s relativel y shor t history , Americ a ha s ha d fou r grea t waves o f growth , eac h lastin g a littl e mor e tha n hal f a century . The first , base d o n iron , stea m power , an d cotto n textiles , laste d from th e en d o f th e America n Revolutio n unti l th e 1840s . Th e second, base d o n railroad s an d steel , laste d unti l th e en d o f th e 1890s. Th e third , drive n b y electricity , th e automobile , an d oil , lasted unti l abou t th e middle o f the twentieth century . The fourt h wave, whic h ha s no t ye t bee n exhausted—an d whic h coul d rol l on indefinitely—go t unde r wa y durin g th e Secon d Worl d War . It wa s base d no t o n a fe w technologica l innovation s bu t o n a host o f discoveries stemmin g fro m scientifi c progres s in electron ics an d computers , th e biologica l sciences , nuclea r an d solid state physics, organic and inorgani c chemistry , engineering, aero nautics, astrophysics , th e eart h sciences , and mathematics .

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What we are passing through might be called the Research Revolution, a sophisticated an d profoun d outgrowt h o f the Industria l Revolution. Doubtless the most important factor in launching thi s new revolution , in which basic science emerged a s the initiator of industrial, social , an d politica l change , wa s th e succes s o f orga nized researc h o n military problem s i n World Wa r II. Early i n th e war Britis h scientist s move d int o hig h position s i n thei r govern ment an d industr y t o attac k a wid e variet y o f problems . Shortl y thereafter i n th e Unite d States , th e Offic e o f Scientifi c Researc h and Developmen t performe d th e sam e functio n an d initiate d many o f th e wonder s crucia l t o Allie d victory . Th e wa r brough t into bein g radar , antibiotics , an d th e firs t electroni c computers . But th e mos t dramati c an d militaril y significan t developmen t was, o f course , the Manhattan Project , whic h enliste d th e knowl edge and talent s of many refugee an d American-born scientist s t o create the atomic bomb before ou r enemies got it. The end o f World Wa r II quickly ushere d i n the great ideologi cal confrontatio n o f th e victors . Th e communists , le d b y th e Soviet Union , resume d thei r intentio n o f makin g a world revolu tion; th e non-communis t powers , le d b y th e Unite d States , de clared thei r intentio n t o preven t it . Neve r befor e ha d th e entir e world bee n thu s divide d betwee n tw o colossa l power s locke d i n apparently permanen t conflict . Wit h thermonuclea r weapon s i n the possessio n o f bot h sides , direct , full-scal e militar y conflic t between the m becam e unthinkable . Henc e th e Col d War , a con test n o les s bitte r fo r bein g fough t i n surrogat e countrie s alon g the lon g peripher y betwee n th e capitalis t an d communis t em pires and , a t a distance , b y spying , feinting , occasiona l terror , propaganda—and economics . The ol d Marxist-Leninis t thesi s hel d tha t a capitalis t countr y like th e Unite d States , facin g fallin g rate s o f retur n o n capita l a t home, needed wa r t o exploit ne w opportunitie s fo r profi t abroa d

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and t o creat e prosperit y an d hig h employmen t a t home . Th e truth i s tha t th e Col d Wa r supplie d a militar y rational e fo r th e United State s t o kee p th e Researc h Revolutio n going , throug h massive governmen t fundin g o f basi c researc h i n universitie s and privat e corporat e researc h an d development . Whe n th e Soviet Unio n launche d it s firs t spac e satellite , Sputnik , i n 1957 , the Unite d State s responde d no t onl y wit h it s ow n spac e pro gram bu t als o b y infusin g th e nation' s educatio n syste m wit h money fo r trainin g a generatio n o f scientist s an d engineers . I f the mos t gloriou s expressio n o f thi s effor t wa s th e Apoll o moo n mission, it s last hurrah wa s th e Strategi c Defense Initiativ e (SDI) , popularly know n a s Sta r Wars . SDI , whic h sough t t o plac e America beyond th e reach o f the Soviet Union's balance o f terror , was th e capston e o f th e post-Vietna m militar y build-u p tha t began unde r Presiden t Carte r an d greatl y accelerate d unde r President Reagan . Reagan-era hawk s credite d thi s build-u p wit h breakin g th e back o f th e Sovie t Unio n an d endin g th e Col d War , bu t tha t view ma y b e doubted. 8 I n hi s recen t memoirs , th e forme r Sovie t ambassador t o the United States , Anatoly Dobrynin, argue s plau sibly tha t a hard-line Sovie t regime coul d easil y have maintaine d its side o f th e arm s rac e an d kep t th e Col d Wa r going : "Sadl y fo r the arden t follower s o f Reagan , th e increase d Sovie t defens e spending provoke d b y Reagan' s policie s wa s no t th e stra w tha t broke th e back o f the evil empire. We did no t bankrupt ourselve s in the arm s race , a s the Caspa r Weinberger s o f thi s worl d woul d like t o believe . Th e Sovie t respons e t o Sta r War s cause d onl y a n acceptable smal l ris e i n defens e spending. " Wha t i s undeniable , however, i s tha t Wester n capitalis m ha d bee n abl e t o affor d a n extensive militar y establishmen t an d a n expensiv e arm s rac e while stil l increasin g th e well-bein g o f it s citizens ; Soviet-styl e

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communism ha d not . A s Dobryni n notes , "Th e trouble s i n ou r economy wer e th e resul t o f ou r ow n interna l contradiction s o f autarky, lo w investment , an d lac k o f i n n o v a t i o n . . . . " 9 Wha t th e long Col d Wa r di d wa s provid e plent y o f tim e fo r th e Wes t t o forge ahea d economically , an d th e Eas t t o sink . In th e Sovie t Union , th e econom y wa s collapsin g i n o n itself . It has bee n estimate d tha t i n 1975 , only 1 5 percent o f investmen t in the Russian Republic was goin g to consumer industries . Political and economi c corruptio n wa s growin g apac e a s party bosses , secure unde r th e agin g Leoni d Brezhnev , mad e linin g thei r ow n pockets thei r foremos t goal . Meanwhile , th e entir e syste m ha d become dependen t o n a "shadow " econom y o f unofficia l bu y and barte r tha t accounte d fo r a s muc h a s one-thir d o f al l eco nomic activity. 10 No r wa s i t simpl y i n th e aren a o f basi c good s that th e Communis t syste m wa s failing . Culturally , roc k 'n ' roll , blue jeans, and othe r icon s of capitalis t decadenc e wer e batterin g down th e Iron Curtai n an d winnin g th e hearts o f Sovie t youth . In th e fac e o f thes e woes , ther e wa s growin g interna l aware ness tha t th e onl y remed y wa s a health y dos e o f marke t incen tives. Indeed , eve n befor e h e becam e genera l secretar y o f th e Communist Part y i n 1985 , Mikhail Gorbache v spok e publicl y o f the need fo r decentralizatio n o f economi c power—perestroika. 11 Not tha t Gorbache v ha d an y intentio n o f doin g awa y wit h com munism, muc h les s wit h th e Sovie t Union . H e wa s a reforme r who believe d tha t greate r freedo m o f expressio n an d a mor e democratic approac h t o decisionmakin g woul d promot e th e eco nomic progres s tha t wa s necessary . "Mor e socialism , mor e de mocracy," wa s ho w h e like d t o pu t it . Hi s goa l wa s a socia l market econom y aki n t o Sweden's , combinin g element s o f capi talism an d socialism. 12 After hi s initia l effort s t o restructur e th e econom y wit h coop -

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eratives an d "individua l wor k activities " prove d fruitless , Gor bachev moved towar d mor e thoroughgoing reforms . A t the June, 1987, plenum o f th e Centra l Committee , h e announce d hi s inten tion t o mak e ever y enterpris e self-supporting , t o introduc e a new, rationa l pric e structure , an d t o creat e a ne w syste m o f finance an d credi t s o tha t enterprise s coul d borro w mone y fo r investment. Thi s economi c orde r woul d b e i n plac e b y 1991 , his chief^conomic advise r said . T o man y i n th e West , tha t seeme d too fast. Margare t Thatche r hersel f tol d Gorbache v durin g a visi t to Moscow i n th e sprin g o f 198 7 that high official s i n th e Reaga n administration wer e concerne d tha t perestroik a woul d exces sively disrup t th e working s o f th e hug e Sovie t economy . Base d on he r ow n difficultie s privatizin g industr y i n Grea t Britain , sh e wished th e Sovie t leade r wel l but warne d hi m t o g o slow. 13 Many Wester n expert s recognize d th e immens e complexit y o f the tas k Gorbache v ha d se t fo r himself . Ther e woul d hav e t o be financia l stabilization ; a decontro l o f price s an d quantities ; selective demonopolization ; a transfe r o f asset s fro m stat e own ership t o othe r proprietors ; an d a n openin g u p o f th e econom y to competitio n fro m importe d product s an d foreig n investment . Arranging al l this in a nondisruptive sequenc e woul d b e exceed ingly difficult . Meanwhile , i t woul d tak e tim e t o creat e th e insti tutions an d skill s of a market economy. 14 But insid e Russia , patienc e fo r gradualis m wa s rapidl y wear ing thin. Far from strengthenin g socialism , Gorbachev' s progra m of free speec h an d democratizatio n ha d succeede d onl y i n open ing th e floodgate s o f criticism , i n weakenin g centra l authorit y t o bring abou t reform , an d i n animatin g th e desir e fo r indepen dence amon g nation s tha t i n som e case s ha d bee n par t o f th e Russian empir e fo r hundred s o f years . Effectively , Gorbache v was destroyin g th e syste m he ha d hope d t o reform .

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In 1990 , h e turne d fo r ye t anothe r economi c refor m pla n t o Stanislav Shatalin , a n agin g economis t wh o ha d repeatedl y ru n afoul o f previou s regime s fo r advocatin g radica l reform . "[I] s this just anothe r cas e o f 'improvin g socialism ' o r creatin g a 'con trolled market'? " Shatali n asked . "Becaus e i f it is, I'm a sick ma n and I don' t hav e tim e lef t fo r suc h follies . Bu t i f yo u ar e seriou s now, I' m ready"

15

Th e Shatali n plan , whic h Gorbache v firs t

endorsed, the n rejected , propose d t o privatiz e n o les s tha n 8 0 percent o f th e Sovie t Union' s economi c enterprise s withi n 50 0 days. I n th e fina l yea r o f th e Gorbache v regime , th e econom y went fro m ba d t o worse, a s hyperinflation an d chroni c shortage s overtook a comman d econom y i n whic h fewe r an d fewe r enter prises wer e obeyin g th e commands . Even amon g th e stalwart s o f th e ol d regime , ther e wa s recog nition tha t a marke t econom y ha d t o be embraced . I n July , 1991, just befor e th e abortiv e militar y cou p tha t sen t th e Sovie t Unio n into it s fina l tailspin , th e Politburo , followin g Gorbachev' s lea d for th e last time, endorsed privat e property , privat e farming , an d retail trade . I t was no t economi c liberalizatio n tha t provoke d th e coup, bu t rathe r th e treat y tha t woul d hav e transforme d th e Soviet Union int o a federation o f independen t republics . But jus t as Gorbachev' s effor t t o maintai n a politica l rol e fo r centra l authority withi n suc h a federatio n ha d becom e a n unacceptabl e halfway house , s o his economi c visio n o f a middle pat h betwee n central plannin g an d laisse z fair e ha d los t whateve r appea l i t might onc e have had t o the younger generatio n o f reformers . Before th e denouement , a visito r calle d o n Anatol y Chubais , Leningrad's deput y mayo r fo r economi c policy . Noticin g a bar e spot o n th e wal l wher e ther e shoul d hav e bee n a portrai t o f th e current Sovie t leader , th e visito r aske d whos e portrai t h e in tended t o hang there . "Mm . . . . " Chubais replied. "Le t me thin k

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about it . No doub t som e economist. Well , let's sa y Friedman o r Hayek."16 Those two , Milton Friedma n an d Friedric h vo n Hayek , wer e the patriarchs o f the laissez-faire counter-revolutio n i n the West. For his part, Chubai s woul d soo n be Firs t Deputy Premie r an d chief economic strategist of the new post-communist Russia .

TWO The Challeng e o f Slow Growt h Leonard Silk and Mark Silk

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n a sense , th e Col d Wa r coul d no t hav e com e t o a n en d a t a worse time . A t th e ver y momen t o f capitalism' s triumph , th e industrialized Fre e Worl d wa s enterin g a painfu l an d pro -

tracted economi c slowdow n suc h a s ha d no t bee n experience d since th e en d o f Worl d Wa r II . This internationa l recessio n exac erbated impulse s t o nationalism, regionalism , an d protectionism , and increase d th e strains upon socia l cohesio n aroun d th e world . The growt h rat e o f th e industria l countrie s fel l fro m 4. 4 per cent in 198 8 to 3.3 percent i n 1989 , 2.6 percent i n 1990 , 0.9 percen t in 1991 , and 1. 7 percen t i n 1992—to o slo w t o kee p pac e wit h th e growth o f th e labo r force . Unemploymen t ros e abov e 1 0 percen t in mos t o f Europ e an d i n Canada , an d abov e 7 percen t i n th e United States. 1 Meanwhile, th e combine d growt h rat e o f th e "economie s i n transition"—the forme r Sovie t Unio n an d Easter n Europe—fel l 19

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from 4. 5 percen t i n 198 8 t o 2. 3 percen t i n 1989 . I t the n wen t negative, plummetin g b y 5 percent i n 1990 , 15. 9 percent i n 1991, and 1 2 percent i n 1992— a declin e o f one-thir d o f tota l outpu t i n three year s tha t represente d a steepe r fall tha n an y countr y o r combination o f countrie s suffere d i n th e Grea t Depressio n o f th e 1930s. Systemic collaps e i n th e Eas t aggravate d problem s i n th e West—especially th e hug e influ x o f immigrant s t o Wester n Eu rope. But th e slowdow n i n th e West di d no t begin wit h th e collaps e of th e Sovie t empire , th e en d o f th e financia l boo m o f th e 1980s , or th e 198 7 stoc k marke t crash . Rather , i t starte d tw o decade s earlier wit h th e beginning o f a persistent declin e i n productivity , whether measure d b y outpu t pe r worke r hou r o r b y al l factor s of production . The slowdow n i n productivit y growt h i s eviden t i n th e dat a for al l o f th e "Bi g Seven " member s o f th e Organizatio n fo r Eco nomic Cooperation an d Developmen t (OECD) : the United States , Japan, Germany , th e United Kingdom , Italy , France, and Canada . The annua l growt h o f U.S . gros s domesti c product , pe r capita , dropped fro m a n averag e o f tw o percen t i n 1955-7 3 * ° 1 -3 P er ~ cent in 1973-86 . In the sam e two periods , Japan's pe r capit a GD P fell fro m 8. 8 percen t t o 3. 3 percent , Germany' s fro m 4. 2 percen t to 2 percent, an d th e combine d rat e o f th e othe r fou r member s o f the Bi g Seve n fro m 3. 8 percen t t o 1. 7 percent . On e ma y argu e about th e precise measurement s bu t no t abou t th e overal l down slide o f productivit y growt h tha t ha s bee n goin g o n fo r tw o decades.

Lingering Impact of Oil Shocks What cause d th e productivit y slowdown ? Economist s ar e stil l not sure . Thei r principa l explanation , especiall y becaus e o f th e

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timing, is the oil-price explosions o f 197 3 and 1979 . Other leadin g suspects ar e a n asserte d greate r rigidit y o f nationa l economi c systems, a fall-of f i n th e growt h o f ne w knowledg e an d technol ogy, and ta x system s (particularl y i n the United States ) that favo r consumption, discriminat e agains t saving , an d retar d invest ment. 2 Low saving s an d investmen t rate s clearl y weakene d Ameri ca's productivit y growt h an d overal l economi c performance . I n the 1980s , America' s ne t nationa l saving s rat e fel l fro m abou t 8 percent o f nationa l incom e i n th e precedin g thre e decade s t o les s than 3 percent because o f larg e federal deficit s an d lowe r privat e savings. Tha t mean t tha t proportionall y th e Unite d State s wa s saving fa r les s tha n an y othe r majo r industria l country : abou t one-fifth Japan' s ne t saving s rat e an d one-thir d tha t o f German y and th e Grou p o f Seve n a s a whole. Th e shortag e o f saving s no t only constraine d America n growt h bu t als o severel y limite d th e capital th e Unite d State s coul d suppl y t o developin g countrie s or t o th e ex-communis t state s strugglin g t o buil d marke t econo mies an d effectiv e democracies . The economi c cause s o f th e inflatio n an d th e productivit y slowdown simpl y canno t b e separate d fro m politica l ones . Th e oil shock s wer e tie d t o growin g Wester n dependenc e o n Middl e Eastern oil ; the y wer e triggere d b y Ara b state s usin g oi l a s a weapon agains t Wester n importer s followin g th e 197 3 Arab-Is raeli war , an d the n b y th e Ayatolla h Khomeini' s Irania n revolu tion in 1979 . These price explosions were als o linked t o economi c boom an d worldwid e commodity-pric e inflatio n kicke d of f b y the escalatio n o f th e Vietna m War , an d t o th e failur e o f th e Johnson administratio n t o tak e promp t fisca l action , eithe r b y domestic spendin g cut s o r ta x increases , t o hea d of f inflation . This dilator y fisca l actio n resulte d fro m Presiden t Johnson' s un willingness eithe r t o cur b domesti c spendin g b y guttin g Grea t

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Society program s o r t o deman d a ta x increas e t o financ e th e Vietnam War—a s wel l a s fro m hi s desir e t o pus h fo r economi c growth. The U.S . inflation , bor n i n Vietnam , becam e global . Exces s fiscal an d monetar y stimulu s o n th e par t o f othe r develope d countries als o contribute d t o the worldwide commodit y boo m o f the lat e sixtie s an d earl y seventies . Inflatio n i n th e industria l countries worsene d th e term s o f trad e o f Thir d Worl d an d Mid dle Easter n oi l producers , settin g th e stag e fo r th e firs t roun d of oil-pric e hikes . Risin g oi l price s fuele d genera l inflatio n and force d th e develope d countrie s t o adop t th e tigh t monetar y and fisca l policie s tha t woul d i n tur n intensif y th e investment , productivity an d outpu t slowdown s o f th e 1970s , 1980s , an d 1990s. In th e 1980s , th e effec t o f th e oi l shock s o n productivit y growth graduall y wor e off ; industria l nations , som e faste r tha n others, adjuste d t o highe r oi l prices ; an d th e relative worl d oi l price cam e down . Nevertheless , th e slo w rat e o f productivit y growth continued . Hence , th e cause s o f slo w growt h i n th e lat e 1980s and earl y 1990 s had t o lie elsewhere .

Deflating "Bubbles" Slowed Growth Speculative feve r grippe d stoc k market s an d rea l estat e market s in th e 1980 s an d cause d a globa l wav e o f merger s an d acquisi tions. Rapi d growt h o f th e world' s financia l market s an d a n increasingly anti-governmen t politica l climat e tha t reduce d fi nancial an d antitrus t supervisio n an d regulatio n combine d t o produce "bubbles'

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i n economie s aroun d th e world . Les t th e

bubbles burst , government s an d centra l bank s decide d t o le t some ai r ou t o f them . Bu t deflationar y actions—no t onl y b y

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financial regulator s bu t als o b y privat e financia l institution s themselves—aggravated th e economi c slowdown . In Germany , th e fall o f th e Berli n Wal l exacerbate d th e switc h to counterinfiationar y measures . The huge pric e o f th e "takeove r bid" pai d b y Chancello r Helmu t Koh l t o brin g abou t quic k uni fication—an exchang e o f Wes t Germa n mark s fo r Eas t Germa n marks a t a n overprice d one-to-on e rat e an d a transfe r o f capita l to th e Eas t amountin g t o abou t $10 0 billion a year—cause d th e German budge t t o swin g fro m a moderat e surplu s i n 198 9 t o a deficit equa l t o 5 percent o f gros s domesti c produc t i n 1992 . That set of f inflationar y pressure s and , eve n worse , inflationary fears . To stil l th e pressure s an d fears , th e Bundesbank—tru e t o th e inflation-phobia tha t ha s afflicte d German y eve r sinc e the hyper inflation o f th e earl y 1920s—kep t mone y tigh t an d interes t rate s high whil e th e res t o f Europ e wa s tryin g t o figh t recession . European currencie s yoke d t o th e Germa n mar k becam e increas ingly overvalued . Th e resul t wa s t o worse n th e proble m o f slo w growth i n Europ e an d everywher e else . Bundesbank polic y als o intensified disequilibriu m amon g currencie s an d politica l strain s among Europea n Communit y signatorie s o f th e 199 2 Maastrich t Treaty, threatenin g Europea n monetar y an d politica l integratio n and eve n th e worl d tradin g syste m unde r th e Genera l Agreement o n Tariff s an d Trad e (GATT) . On th e othe r sid e o f th e world , Japa n wa s experiencin g th e worst economi c an d politica l tension s an d anxietie s sinc e begin ning it s remarkabl e postwa r recover y an d it s lon g spel l o f rapi d growth. It s financia l bubble , buil t o n boomin g asse t values , wa s sharply deflated ; stoc k an d rea l estat e price s fel l precipitously . Scandals ove r politica l an d busines s corruptio n shoo k publi c confidence i n th e syste m a s the economi c slum p intensifie d pub lic discontent an d eve n ange r wit h th e country' s politica l leader -

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ship. Th e Japanes e establishment—includin g politicians , bu reaucrats, and busines s leaders—acknowledged tha t th e countr y was i n a genuin e recessio n an d warne d tha t th e strain s migh t last fiv e t o seve n years longer , an d possibl y a decade o r more . The fea r wa s tha t th e stee p fall o f securitie s prices , real estate , and othe r asse t value s woul d hav e a long-lastin g effec t o n Japa nese bank s an d industries . I n 1992 , on e senio r Japanes e econo mist said : "I n the pas t th e threat s were lik e a broken leg—sharp , painful bu t specific—an d i t was clea r wha t wa s neede d t o men d them. Thi s downtur n i s mor e lik e a viru s affectin g th e bloo d system—much mor e comple x an d pervasive/' 3 Th e sam e year , Akio Mikuni , a leadin g Japanes e financia l analyst , note d tha t i n its effort s t o cur e th e diseas e Japan' s powerfu l Ministr y o f Fi nance wa s caugh t i n a dilemma : "I f i t allow s th e price s o f lan d and equit y t o b e se t genuinel y b y marke t forces , asse t price s would plumme t an d th e capita l cushio n o f Japan' s bank s wipe d out. Th e Financ e Ministr y woul d hav e give n u p it s mos t im portant tool s righ t a t th e momen t the y woul d b e neede d fo r coping wit h a resultan t first-orde r bankin g crisis . If , however , assets continu e t o be supporte d a t unrealistically hig h levels , th e underlying deterioratio n o f bot h th e financia l secto r an d th e profitability o f manufacturin g industrie s wil l onl y worsen. " Mi kuni considere d unsustainabl e th e Finance Ministry's decisio n t o support th e market s a t thei r deteriorate d levels : "Th e negativ e carrying cost s o f holdin g overprice d asset s wil l continu e t o ea t away no t just a t the stabilit y o f the financial secto r but als o at th e profitability o f manufacturin g firms."

4

Other analysts , whil e concedin g tha t Japa n ha d "finall y gon e over th e edge, " believe d tha t withi n a fe w year s i t woul d com e back stronge r tha n ever . Kenneth S . Courtis, strategist an d senio r economist fo r th e Deutsch e Ban k Grou p i n Asia , contende d i n

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1992 that Japa n wa s "purgin g itsel f o f th e excesse s o f th e 1980s , cleansing it s economy , meltin g of f th e fat " accumulate d ove r recent years . "B y th e mid-1990s, " Courti s said , "onc e th e econ omy i s brough t dow n agai n t o it s rock-hard , competitiv e core , Japan wil l be poised fo r anothe r powerfu l lea p ahea d throug h t o the en d o f th e decade." 5 By lat e 1995 , Mikuni looke d t o b e th e bette r prophet . I n Sep tember, th e Japanes e governmen t announce d a packag e o f $14 0 billion i n spendin g an d loa n program s t o ge t th e econom y goin g again. Analysts nonetheles s remaine d dubiou s tha t eve n this, th e largest o f seve n stimulativ e effort s sinc e 1992 , woul d b e suffi cient t o d o th e trick . Meanwhile, rea l estat e price s had shrun k t o less than 50 percent o f their bubble highs, leaving Japanese bank s staggering unde r a burde n o f ba d loan s estimate d a t anywher e between $50 0 millio n an d $ 1 trillion . I n October , afte r a succes sion o f ban k failures , th e U.S . Federal Reserv e Syste m agree d t o provide th e Japanes e wit h dollar s backe d b y U.S . Treasury bill s lest th e failure s spar k a n internationa l financia l crisis . Howeve r long i t too k Japa n t o ge t bac k o n track , i t seeme d clea r tha t it s recovery woul d depen d no t jus t o n action s b y th e Ministr y o f Finance, th e Ministr y o f Internationa l Trad e an d Industry , an d other Japanes e agencies , banks , an d businesse s bu t o n th e poli cies o f foreig n government s an d development s i n th e worl d economy a s a whole .

Like a Depression Economists, financia l analysts , governmen t officials , an d centra l bankers agree d tha t wha t wa s goin g o n wa s no t a typica l busi ness-cycle recession, either in Japan, Europe , or the United States . After a meetin g wit h Japanes e Prim e Ministe r Kiich i Miyazaw a

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and official s fro m th e Ministr y o f Financ e an d Ban k o f Japa n i n October, 1992 , Federal Reserv e Boar d Chairma n Ala n Greenspa n noted tha t amon g th e topic s discusse d wa s "th e balanc e shee t problem"—the proble m o f excessiv e indebtednes s tha t i n Japa n is referre d t o a s "asse t deflation." 6 Greenspa n ha d earlie r de scribed th e structura l imbalance s i n th e U.S . econom y a s mor e severe an d endurin g tha n man y ha d previousl y thought . Th e economy, h e said , wa s "stil l recuperatin g fro m pas t excesse s involving a generalize d overrelianc e o n deb t t o financ e asse t accumulation. Man y o f thes e activitie s wer e base d largel y o n inflated expectation s o f future asse t prices an d incom e growth. " 7 As realit y brok e through , businesse s an d individual s holdin g debt-burdened balanc e sheet s diverte d cas h flows t o deb t repay ment a t th e expens e o f spending , whil e lender s turne d cautious . The credi t crunc h wa s on , and , a s Greenspa n pu t it , "Thi s phe nomenon i s not uniqu e t o th e Unite d States ; similar adjustment s have sprea d t o Japan , Canada , Australia , th e Unite d Kingdom , and a number o f norther n Europea n countries . Fo r th e firs t tim e in a half centur y o r more , severa l industria l countrie s hav e bee n confronted a t roughl y th e sam e tim e wit h asset-pric e deflatio n and th e inevitable consequences. " The last suc h asse t deflation , credi t crunch , an d wav e o f bank ruptcies followe d th e Grea t Cras h o f 1929 . Fiscal, monetary, an d trade-policy blunder s helpe d t o tur n tha t earlie r bus t int o th e worldwide Grea t Depressio n o f th e 1930s , whic h laste d a ful l decade—until th e outbrea k o f World Wa r II. In the phrase o f th e late edito r o f Business Week, Elliott V . Bell, "Ou t o f th e wreckag e of depressio n slithere d th e serpent s o f Nazis m an d war. " Nowa days, invertin g th e celebrate d maxi m o f Georg e Santayana , w e believe, o r hope, that thos e o f u s wh o d o remembe r th e past wil l not be condemne d t o repeat it .

The Challenge of Slow Growth 2 7 The burs t o f optimis m tha t greete d th e downfal l o f Sovie t communism quickl y gave way to anxiety that years would pas s before th e new state s o f th e Eas t could becom e effective marke t economies an d democracies—an d tha t som e might no t mak e i t at all before dictatorshi p returned. The end o f the Cold War was expected t o bring grea t benefits t o people i n man y countrie s a s resources were shifted fro m militar y to social programs. Instead, the peac e dividen d wa s bein g pai d ou t i n los t jobs an d fallin g incomes. Theoretically ther e was no reason why thi s had t o be so. In a rational world , th e improve d prospect s fo r peac e shoul d hav e led t o greater spendin g o n consume r good s an d productivity raising investment. But that happens onl y when workers can be shifted t o new jobs—and financial resources reallocated to create those jobs. In the absence of sufficient shift s of human and capital resources t o expandin g civilia n industries , ther e wer e stron g economic pressures on arms-producing nations to maintain high levels of military production an d to sell weapons—conventiona l as well as dual-use nuclear technology—wherever buyer s coul d be found . Withou t a reviva l o f nationa l economie s an d o f th e global economy , th e productio n an d proliferatio n o f weapon s would continue , creatin g mor e Iraqs , Cambodias , Yugoslavias , and Somalias—or worse. Like th e Grea t Depression , th e economi c slum p o f th e earl y 1990s fanned th e fires o f nationalist, ethnic , and religiou s hatred around th e world. Economic hardship wa s not the only cause of these socia l an d politica l pathologies , bu t i t aggravate d al l o f them, an d i n tur n the y fe d bac k upo n economi c development . They also undermined effort s t o deal with such global problems as environmenta l pollution , th e productio n an d traffickin g o f drugs, crime, sickness, famine, AIDS, and other plagues.

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Economic growt h woul d no t solv e al l thos e problems . Bu t growth—and growt h alone—create s th e additiona l resource s that mak e i t possibl e t o achiev e suc h fundamenta l goal s a s higher livin g standards, national an d collectiv e security, a healthier environment, an d mor e ope n economie s an d societies .

Promoting Growth What woul d i t tak e t o fue l th e engine s o f economi c growt h i n the post-Col d Wa r era ? Th e answe r wa s th e sam e lesso n learne d during th e Grea t Depression : Th e develope d capitalis t countrie s needed t o pursu e macroeconomi c policie s tha t woul d kee p th e world econom y movin g forwar d an d kee p worl d trad e an d in vestment flowing freely . Specifically , fiv e step s were needed : • First , th e Unite d State s an d mos t othe r industria l countrie s had t o increas e saving s an d productiv e investment . A higher rat e o f capita l formatio n i n th e industria l countrie s would serv e no t onl y thei r ow n interest s bu t also , throug h the globa l growt h mechanis m o f expande d markets , thos e of the developin g countries , th e newly industrialize d coun tries o f Asia , an d th e ne w state s o f Easter n Europ e an d th e former Sovie t Union . Highe r rate s o f capita l formatio n i n the developin g an d newl y market-oriente d economie s wer e critical not only t o their economi c success but t o their politi cal viability. • Second , t o play a constructiv e rol e i n capita l formation , th e United States , still the largest an d mos t importan t econom y in th e world , ha d t o eliminat e it s hug e budge t deficits , which had force d i t to import capita l from abroa d t o financ e government activitie s an d hel p cove r it s ow n investmen t

The Challeng e o f Slo w Growt h 2

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needs. Instead o f exporting capita l to the developing world , with reciproca l benefits t o its ow n exportin g industries , th e United State s wa s absorbin g capita l fro m abroad , puttin g upward pressur e o n long-ter m interes t rate s an d slowin g its own an d worldwid e investmen t an d growth . • Third , U.S . economic polic y als o needed t o rais e th e rat e o f national savin g a t leas t t o it s pre-198 0 leve l o f abou t 8 percent o f nationa l income , abou t fiv e percentag e point s above it s curren t level . Th e additiona l saving , whe n pro ductively investe d i n ne w plan t an d equipment , researc h and development , an d infrastructure , bot h publi c an d pri vate, woul d rais e th e annua l growt h rat e o f productivit y back t o it s histori c leve l o f mor e tha n 2 percen t pe r year ; that woul d mak e possibl e a stead y increas e i n livin g stan dards an d extr a capita l fo r meetin g domesti c an d foreig n needs. • Fourth , i n a mor e closel y integrate d an d stagnatin g worl d economy, th e inadequat e growt h o f th e worl d mone y sup ply—not jus t o f an y singl e nation' s mone y supply — needed t o b e addressed . Collaboratio n amon g th e thre e most importan t centra l bank s an d source s o f internationa l monetary reserves—th e Federa l Reserve , th e Bundesbank , and th e Ban k o f Japan—woul d b e vita l t o curbin g worl d inflation o r deflatio n an d achievin g stronge r an d steadie r world economi c growth . Bu t collaboratio n b y nation s an d their centra l bank s o n monetar y polic y ha d t o be accompa nied b y effort s o f nationa l administration s an d legislature s to coordinat e fisca l policy , fro m whic h monetar y polic y could no t be divorced . • Finally , internationa l cooperatio n ha d t o b e sough t fo r re ducing militar y spendin g t o level s appropriat e t o th e post -

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Cold Wa r environment . I f defens e budget s continue d t o b e treated a s employment-securit y o r growth-stimulu s pro grams, wit h spendin g level s rationalize d b y misapplie d economic arguments , i t woul d no t onl y wast e resource s needed fo r investmen t an d growt h but als o create pressure s for otherwis e unnecessar y ta x increases—an d heighte n threats t o world peac e an d economi c development . The long-ter m proble m mad e acut e b y globalization—an d global slo w growth , stagnatin g rea l outpu t an d income , overca pacity, an d unemployment—wa s no t jus t maintainin g a n ade quate deman d fo r good s an d service s bu t raisin g investmen t i n activities tha t generate d stron g productivit y growt h an d jobs . Increasing savings , pe r se , woul d no t automaticall y rais e th e level o f domesti c investmen t sufficiently , althoug h greate r sav ings woul d hel p t o reduc e interes t rate s an d thereb y encourag e investment. I n th e integrate d globa l economy , capita l save d i n one country coul d a s readily be invested abroa d a s at home; and , increasingly, busines s organization s an d nation s ha d t o creat e o r acquire th e capital , huma n skills , an d technologica l knowledg e they woul d nee d t o mee t internationa l competition . Th e alterna tive, protectionism an d a n aggressiv e nationalism , woul d endan ger both peac e an d prosperity . In fact , th e interdependenc e resultin g fro m economi c integra tion greatl y reduce d th e effectiv e autonom y o f eve n larg e na tional economies . Nation s foun d tha t thei r policie s wer e les s potent domestically , affecte d othe r countrie s mor e strongly , an d produced shar p an d ofte n unwelcom e change s i n th e trad e an d payments balance s an d exchang e rate s tha t linke d the m wit h others. All this made cooperatio n amon g th e major economie s i n policy-making increasingly important . Indeed, i t could be argue d

The Challenge o f Slo w Growt h 3

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that th e greates t chang e neede d t o preserve stabilit y an d nurtur e growth wa s fo r th e world econom y t o become the focus o f polic y formulation. After Worl d Wa r II, every Western capitalis t countr y accepted , formally o r d e facto , th e responsibilit y o f employin g macroeco nomic policie s t o comba t inflatio n an d unemployment—al though, unde r varyin g economi c an d politica l pressures , nation s weighted th e tw o objective s differently . Throughou t mos t o f th e postwar period , th e nee d t o contai n an d defea t Sovie t commu nism wen t fa r t o overcom e politica l opportunism , th e pressure s of interes t groups , an d th e inheren t unpredictabilit y o f capitalis t economic systems . A s a result , th e earlie r postwa r performanc e of th e industria l nation s wa s muc h bette r tha n i n th e year s between Worl d War s I an d II , whe n thei r beggar-thy-neighbo r economic policie s dragge d th e world int o depression . But wit h th e daw n o f th e post-Col d Wa r era , slo w growt h i n the worl d econom y mad e th e dange r o f a reversio n t o beggar thy-neighbor policie s a rea l one . Som e sa w th e thre e majo r eco nomic powers , th e Unite d States , Germany , an d Japan , ridin g i n different directions , an d threatenin g t o pul l th e worl d econom y apart. 8 Aroun d th e world , resistanc e t o th e principle s o f free trade wa s o n th e rise , an d i n th e develope d countries , ther e was increasin g pressur e t o heighten barrier s t o immigration. No t entirely consistently , th e ne w enthusias m fo r laissez-fair e ideol ogy i n the West made government s les s ready t o make us e o f th e instruments o f macroeconomi c polic y domestically—muc h les s on a cooperative internationa l basis . The iron y o f th e post-Col d Wa r er a wa s thu s tha t th e remova l of Sovie t communis m fro m th e worl d scen e deprive d th e Wes t of th e stronges t spu r t o economi c cooperatio n a t a tim e whe n such cooperatio n wa s neede d mor e urgentl y tha n ever . An d al l

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countries—developed an d developing , ex-communis t an d stil l formally Communist—wer e lef t to grope for forms of capitalism that woul d enabl e the m t o surviv e an d prospe r i n th e worl d economy without destroying the cultural values and power relationships that governed their ways of life.

THREE American Contract s Leonard Silk and Mark Silk

I

n man y countries , Eas t an d West , develope d an d developing , the terms "capitalist " an d "capitalism " remai n pejorative, syn onymous wit h gree d an d selfishness . Bu t i n others , especiall y

the United States , the terms ar e honorific. Man y American s iden tify capitalis m wit h Americanis m an d conside r competin g eco nomic "isms, " whethe r socialism , communism , o r feudalism , a s by definitio n anti-American . In fact , muc h o f th e worl d see s th e Unite d State s a s th e epit ome o f capitalism , an d rightl y so . Fo r here , th e passio n fo r growth, founde d o n technologica l progres s an d fre e enterprise , became virtuall y a nationa l religion . I n The Protestant Ethic and the Spirit of Capitalism, Max Webe r wa s contemptuou s o f wha t h e regarded a s the abandonmen t b y Americ a o f what h e considere d capitalism's "highes t spiritua l an d cultura l values. " He wrote : 33

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In th e fiel d o f it s highest development , i n th e United States , th e pursuit o f wealth , strippe d o f it s religiou s an d ethica l meaning , tends to become associated with purely mundane passions, which often actuall y giv e i t th e characte r o f sport . N o on e know s wh o will liv e i n thi s cag e i n th e future , o r whethe r a t th e en d o f this tremendous development entirely new prophets will arise, or whether ther e wil l be a grea t rebirt h o f ol d idea s an d ideals , or, if neither , mechanize d petrification , embellishe d wit h a sor t o f convulsive self-importance . Fo r o f th e las t stag e o f thi s cultura l development, i t migh t wel l b e trul y said : "Specialist s withou t spirit, sensualist s withou t heart ; thi s nullit y imagine s tha t i t ha s attained a level of civilization never before achieved/' x Though Weber' s causti c attac k o n th e America n cultur e wa s written nearl y a century ago , many Europea n an d othe r critic s of the Unite d State s an d it s cultura l exports , fro m Disne y t o MTV , would repea t i t today. What repl y shoul d American s make ? Perhaps, i n thi s ag e o f worldwid e strivin g fo r economi c growth, affluence , highe r productivity , bette r technology , mas s consumption, an d entertainment , American s shoul d reply , "You , too!" Indeed , th e economi c succes s o f othe r capitalis t countries , particularly o f Japan, has led many American s t o worry tha t the y are no longe r capitalis t enough . What th e free-marke t revolutionarie s o f th e Republica n Part y say, however , i s tha t fa r fro m spawnin g a dispirited , heartles s society, America n capitalis m retain s it s religiou s an d ethica l meaning. "Ou r civilizatio n i s base d o n a spiritua l an d mora l dimension," insist s New t Gingrich . "Americ a i s a serie s o f ro mantic folktale s tha t jus t happe n t o b e true . W e ar e a uniqu e civilization. W e stan d o n th e shoulder s o f Wester n Europea n civilization, bu t w e ar e fa r mor e futuristic , mor e populist , an d more inclusive. " T o b e sure , th e botto m lin e remain s . . . th e bottom line : "Th e lesso n o f America n civilizatio n i s tha t in venting ne w form s o f wealt h i s the key t o a better future. " 2

American Contract s 3

5

Of course , thi s embellishe d expressio n o f th e traditiona l American free-enterpris e cree d woul d no t hav e surprise d Webe r in the least .

Free Enterprise v. Social Responsibilities After Worl d Wa r II, the debate ove r American capitalis m brough t the devotee s o f free enterpris e u p agains t proponent s o f a newe r "social responsibilities " doctrine . Th e fre e enterpriser s hel d tha t the ai m o f busines s wa s an d shoul d b e t o maximiz e profits , within th e rule s o f th e gam e se t b y law. 3 I n th e word s o f on e leading champion , "I t is inconceivable t o a one-hundred pe r cen t American tha t anyon e excep t a nu t shoul d giv e somethin g fo r nothing." 4 Milto n Friedma n use d mor e parliamentar y languag e in his classi c enunciation o f postwar free-market , o r laissez-faire , ideology, Capitalism and Freedom: "Fe w trend s coul d s o thor oughly undermin e th e very foundation s o f ou r fre e societ y a s th e acceptance b y corporat e official s o f a socia l responsibilit y othe r than t o mak e a s muc h mone y fo r thei r stockholder s a s pos sible." 5 Social-responsibilities advocates , b y contrast , contende d tha t this exclusiv e profit-maximizin g philosoph y ha d becom e a n anachronism. I t ha d mad e sens e onc e upo n a time , whe n busi ness was strugglin g t o win freedo m fro m "tyrannica l kings " an d mercantilist control , but n o longe r i n today's society , where hug e corporations pla y socia l an d politica l role s tha t g o beyon d th e purely economic . Corporation s canno t avoi d havin g a conspicu ous impac t o n society , which societ y eithe r approve s o r opposes , permits o r prevents. Hence, the advocate s said , if business want s to retai n it s autonomy , i t mus t b e prepare d t o assum e certai n social responsibilities—an d b e willin g t o se e governmen t tak e on socia l function s tha t th e marke t doe s no t perfor m adequately .

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In a word , busines s executive s mus t see k t o coordinat e thei r company's an d thei r ow n privat e aim s wit h publi c purposes , a s expressed throug h th e politica l process . They coul d d o thi s "an d still be successful/ ' asserte d Thoma s J. Watson, Jr., the lat e chair man o f IBM , wh o nevertheles s added : " I woul d b e th e firs t t o admit tha t it' s a good dea l easie r t o state this proposition tha n t o put i t into practice . One o f ou r mos t importan t continuin g prob lems i s th e questio n o f ho w w e ca n strik e a balanc e betwee n what i s soun d busines s practic e i n th e managemen t o f ou r larg e organizations an d wha t i s goo d fo r th e nationa l interest . I t i s a dilemma whic h wil l confron t u s mor e an d mor e ofte n i n th e years ahead. " 6 Business peopl e i n Americ a hav e tende d t o oscillat e betwee n the tw o creeds , acceptin g socia l responsibilitie s an d a large r governmental rol e i n period s o f crisis , whil e stressin g th e free enterprise ideolog y i n norma l time s o r wheneve r i t become s necessary t o figh t th e encroachmen t o f governmen t i n thei r af fairs. Virtuall y all , regardles s o f th e times , insis t tha t highe r profits serv e th e broa d publi c interest—b y stimulatin g invest ment, acceleratin g economi c growth , an d creatin g mor e jobs. To demonstrate thei r dedicatio n t o thes e worth y ends , corpo rate executive s lik e t o tal k abou t th e importanc e o f maximizin g long-term rathe r tha n short-ter m profits . I n day-to-da y busines s affairs, the y say , decision s mus t sometime s b e mad e tha t wil l i n the shor t ru n cos t th e compan y somethin g bu t i n th e lon g ru n will lead t o its survival o r growth. 7 Not infrequently , the y exten d this reasonin g t o corporat e action s tha t wil l expan d thei r mar kets, thereby helpin g t o spur th e national an d internationa l econ omy. One ma y doubt , however , tha t man y busines s peopl e hav e this sor t o f wide-rangin g vision , a s oppose d t o a n arden t devo tion t o thei r ow n immediat e interest . On e prominen t business man, wh o insiste d o n anonymity , pu t i t thi s way : "Al l business -

American Contract s 3

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men, o n th e make , ai m a t short-ter m profi t maximization . Whe n they've rise n i n th e world enoug h t o behave lik e statesmen , the y aim a t long-ru n profi t maximization . Bu t th e rea l truth—th e truth that a businessman wil l tell only to his wife o r best friend — is that h e stil l aims a t short-run profi t maximization. " 8 Most o f all , American busines s executive s ar e determine d no t to appea r softheaded . Whethe r partisan s o f fre e enterpris e o r social responsibilities , the y generall y den y tha t the y eve r behav e altruistically, rathe r tha n ou t of , a t most, enlightened self-interest . In thi s respect , the y (an d mos t o f thei r compatriots ) see m no t t o have change d a t al l sinc e th e 1830s , whe n a visitin g Alexi s d e Tocqueville observe d tha t "th e doctrin e o f self-interes t properl y understood" ha d wo n universa l acceptanc e amon g Americans — who, h e thought , ofte n faile d t o d o themselve s justice . Eve n though h e foun d tha t they , lik e peopl e everywhere , sometime s gave wa y t o "th e disinterested , spontaneou s impulse s natura l to man, " Tocquevill e reporte d tha t th e American s "ar e hardl y prepared t o admi t tha t the y d o giv e way t o emotions o f thi s sort . They prefe r t o giv e th e credi t t o thei r philosoph y rathe r tha n t o themselves." 9 When , a centur y later , American s helpe d rescu e a war-devastated Europ e wit h th e Marshal l Plan , the y insiste d they wer e onl y pursuin g nationa l self-interes t o r a t bes t "mu tual" interest, even a s the recipients hailed th e plan a s an unprec edented ac t o f nationa l generosity . Paradoxically , man y o f th e same hardheade d American s wer e outrage d b y th e failur e o f some European s t o be mor e gratefu l fo r thei r professedl y nonal truistic behavior .

Limited Government American "selfishness " is , in a sense , built int o th e origin s o f th e republic. Wha t entitle d th e colonist s t o cas t of f Britis h rul e was ,

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as Thoma s Jefferso n explaine d i n th e Declaratio n o f Indepen dence, th e fac t tha t the y wer e al l "create d equal " an d endowe d with th e "unalienabl e Rights " o f "Life , Liberty , an d th e pursui t of Happiness. " Tha t mean t the y coul d no t b e boun d b y th e sovereign wil l o f th e Englis h kin g t o provid e taxe s fo r th e com mon goo d o f his majesty's empire . In the new country , the peopl e would b e sovereig n an d th e governmen t a limite d thing , se t u p by th e consen t o f th e governe d t o protect thei r individua l rights . This wa s th e essenc e o f th e America n socia l contract , draw n up o n th e strengt h o f ove r a centur y o f philosophica l theorizin g in Europ e an d th e Americans ' ow n practica l experienc e manag ing many o f their affairs . Thus , responding t o critics who accuse d him o f plagiarism , Jefferso n insiste d tha t h e ha d "aime d neithe r at originalit y o f principl e o r sentiment " bu t a t "a n expressio n o f the America n mind. " Hi s words , h e said , reflecte d "th e harmo nizing sentiment s o f th e day , whether expresse d i n conversation , in letters , printe d essay s o r i n th e elementar y book s o f publi c right, suc h a s Aristotle, Cicero , Locke . . . etc." 10 The America n socia l contrac t limite d governmen t t o wha t th e people would allow , but i t did no t sa y how muc h governmen t th e people should allow . I n ou r ow n time , philosopher s hav e use d social-contract theor y t o justif y everythin g fro m a full-fledge d welfare stat e to minimalist libertaria n government. 11 Historically , the exten t t o which th e American socia l contrac t ca n legitimatel y be use d t o dea l wit h th e problem s o f a capitalis t econom y ha s been unde r debat e sinc e the Constitutiona l convention . The early representative s o f th e opposin g point s o f vie w wer e Jefferson himself , wh o believe d i n a wea k centra l government , and Alexande r Hamilton , wh o fel t i t shoul d b e stron g an d activ ist. A s th e economis t Danie l W . Bromle y ha s noted , Hamilton , the firs t secretar y o f th e Treasury , "understood—lon g befor e

American Contract s 3

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John Maynar d Keyne s offere d decisiv e proof—tha t th e nationa l government mus t us e it s fiscal power s t o promote certai n critica l sectors o f th e economy . Whil e h e wa s committe d t o th e ide a of markets , h e sa w the m a s a n extensio n o f th e government' s legislative an d executiv e capacities/'

12

Backe d b y Presiden t

Washington an d ove r Jefferson' s opposition , Hamilto n use d th e general-welfare claus e of the Constitutio n i n 179 1 to justify creat ing th e firs t Ban k o f th e Unite d States , whic h wa s uphel d a s constitutional b y th e Suprem e Cour t i n McCulloch v. Maryland. Two generation s later , th e Jeffersonia n traditio n reasserte d itsel f when Presiden t Andre w Jackso n vetoed a bill to keep th e Secon d Bank o f th e United State s in business pas t 1836 . In practice , American s wer e no t a t al l avers e t o governmen t involvement i n economi c enterprise . Befor e th e Civi l War , stat e and loca l government s too k a considerabl e han d i n helpin g t o build canal s an d railroads , amon g othe r things . Fro m th e 1860 s on, th e federa l governmen t expande d upo n it s relatively modes t record o f lan d donatio n an d undertoo k t o subsidiz e constructio n of th e transcontinenta l railroads , mak e publi c land s i n th e Wes t available t o settlers , creat e th e land-gran t colleges , an d financ e science an d technology . T o b e sure , economi c expenditure s b y the federal governmen t gre w slowly . As late as 1929 , total federa l outlays amounte d t o onl y $1. 3 billion—about 1 percent o f gros s national produc t tha t year . By comparison, stat e an d loca l spend ing i n 192 9 totale d $7. 2 billion . Befor e th e federa l governmen t became a majo r playe r i n th e econom y a s a sourc e o f expendi tures, however , i t wa s bein g widel y calle d upo n t o regulat e business activity . As th e economi c historia n Jonatha n Hughe s ha s demon strated, ideologica l an d rhetorica l enthusias m fo r fre e enterpris e has tende d t o obscur e th e fac t that , thank s t o th e importatio n o f

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English commo n law , governmen t regulatio n o f economi c lif e has bee n a constan t par t o f th e America n scen e fro m th e begin ning. 13 I n colonia l America , everythin g fro m lan d us e t o trad e practices t o wage s an d price s cam e unde r th e regulator y contro l of th e authorities , startin g a t th e villag e level . Throug h th e firs t three-quarters o f th e nineteent h centur y thi s habi t o f recours e t o "nonmarket controls " continue d t o b e exercise d withou t letu p by stat e an d loca l governments . Then , startin g aroun d 1870 , Washington bega n t o assum e responsibilit y fo r settin g rule s an d standards fo r a n econom y increasingl y dominate d b y larg e an d powerful corporations . Campaigning fo r hi s antitrus t ac t i n th e 1880s , Republica n Senator Joh n Sherma n o f Ohi o declare d tha t "societ y i s no w disturbed b y force s neve r fel t before. " I f Congres s refuse d t o act , there woul d soo n b e " a trus t fo r ever y productio n an d a maste r to fi x th e pric e fo r ever y necessit y o f life. " Fo r hi s part , th e industrialist Andre w Carnegi e declare d tha t mas s productio n involved heav y fixe d charge s an d tha t a chaoti c marke t woul d wreck hug e industries , caus e capita l t o be waste d an d depleted , and preven t nationa l industria l development . Th e day s o f Ada m Smith wer e dea d an d gone , sai d Carnegie . Jame s B . Dill , th e lawyer wh o brough t Carnegi e an d J . P. Morgan togethe r t o for m the U.S . Stee l Corporation , tol d th e reporte r Lincol n Steffens : "Trusts ar e natural , inevitabl e growth s ou t o f ou r socia l an d economic conditions . Yo u canno t sto p the m b y force , wit h laws . They wil l swee p dow n lik e glacier s upo n you r police , courts , and State s an d was h the m int o flowing rivers . I a m clearin g th e way fo r them." 1 4 Nevertheless, trust s wer e broken u p — i n th e name o f preserv ing free competitio n i n ope n markets . Eve n mor e significantly , the electora l succes s o f agraria n populist s an d urba n progres -

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sives resulte d i n th e creatio n o f a hos t o f federa l law s an d agen cies t o limi t th e powe r o f capitalis t enterprise . B y Worl d Wa r I , interstate commerc e (th e railroads) , mining , trad e practices , an d the foo d an d dru g industr y ha d com e under federa l supervision . With th e creatio n o f th e Federa l Reserv e System , a centra l bank ing authorit y wa s establishe d fo r th e firs t tim e sinc e Andre w Jackson's day . For th e firs t tim e ever , a syste m o f lan d conserva tion wa s create d b y wa y o f nationa l park s an d forests . Effort s were als o mad e t o regulat e hours , wages , workin g conditions , and chil d labor . Passag e o f th e Sixteent h Amendmen t i n 191 3 permitted th e accumulatio n o f persona l wealt h itsel f t o b e regu lated b y wa y o f a graduate d incom e tax . A s Hughe s notes , "Control gaine d th e uppe r han d ove r th e ne w laissez-fair e a t th e federal leve l becaus e powerfu l group s rejecte d th e decisio n o f the free marke t regardin g th e ownershi p an d distributio n o f economic power." 15 The advanc e o f th e ne w federa l regulator y regim e wa s inter rupted durin g th e 1920s , durin g whic h a serie s o f Republica n administrations hearkene d t o a reviva l o f free-marke t ideology . But the n cam e th e Grea t Depression . O n th e ev e o f th e Novem ber, 1932 , election , Presiden t Herber t Hoove r sa w somethin g coming, an d feare d it . "M y countrymen, " h e declared , "th e pro posals o f ou r opponent s represen t a profoun d chang e i n Ameri can life—les s i n concret e proposal , ba d a s tha t ma y be , tha n b y implication an d evasion . Dominantl y i n thei r spirit , the y repre sent a radical departur e fro m th e foundation s o f 15 0 years whic h have mad e thi s th e greates t natio n i n th e world . Thi s electio n i s not a mer e shif t fro m th e in s t o th e outs . I t mean s decidin g th e direction ou r Natio n wil l tak e ove r a century t o come." 16 As Hoove r ha d foreseen , th e electio n o f Frankli n Delan o Roo sevelt di d bring abou t a profound chang e i n the economic rol e of

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the Unite d State s government . Som e o f th e Ne w Dea l programs , like th e Work s Progres s Administratio n an d th e Publi c Work s Administration, wer e emergenc y measure s tha t soo n vanished . But othe r initiative s becam e a permanen t par t o f th e America n system, suc h a s th e Socia l Securit y pensions , unemploymen t compensation, publi c welfare , th e Federa l Deposi t Insuranc e Corporation, th e Hom e Loa n Ban k Board , th e Securitie s an d Exchange Commission , th e Agricultura l Adjustmen t Act , th e Fair Labo r Standard s Act , an d th e Nationa l Labo r Relation s Board. Most of these programs built on earlier precedents. (Socia l Security, fo r example , buil t o n a traditio n o f federa l suppor t fo r widows an d orphan s tha t bega n wit h th e paymen t o f Civi l Wa r pensions.) Bu t take n together , the y mean t tha t fo r th e firs t tim e the federa l governmen t wa s assumin g responsibilit y fo r main taining a satisfactor y leve l o f economi c life. 17 Hughe s see s th e culmination o f thi s ne w approac h i n th e Employmen t Ac t o f 1946, which officiall y mad e economi c growt h a n ai m o f nationa l public policy . By expanding government' s rol e in rescuing th e victims o f th e Depression, th e Ne w Dea l save d America n capitalism . I n 1933 , the yea r i t wa s launched , Hitle r too k powe r i n German y an d installed hi s National Socialis t regime. In effect, th e United State s government kep t it s sid e o f th e socia l contrac t b y protectin g th e people's right s t o life , liberty , an d pursui t o f happines s i n th e face o f economi c condition s tha t threatene d t o tak e the m away . It wa s not , i n Friedric h vo n Hayek' s words , "th e roa d t o serf dom." O n th e contrary , i t preserve d politica l an d economi c free dom an d barre d th e way t o the totalitarian revolution s tha t som e Americans, like Charles an d Ann e Lindbergh , though t wer e "th e wave o f th e future. " Eve n Herber t Hoove r pai d a visi t t o Hitle r in 193 8 to assure him tha t American s considere d no t Nazis m bu t communism th e real enemy .

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The fundamenta l Ne w Dea l reform s o f th e America n syste m survived fo r decade s unde r bot h Democrati c an d Republica n administrations. Lyndo n Johnson' s Grea t Societ y buil t upo n an d expanded them , throug h effort s t o wip e ou t povert y an d t o extend medica l assistanc e t o th e age d an d disabled . Afte r th e 1970 elections, Richard Nixo n declared , " I am no w a Keynesian, " and a s if t o prove hi s emancipatio n fro m laisse z faire , o n Augus t 15, 1971 , announced a Ne w Economi c Polic y tha t froz e wages , prices, and rents ; devalued th e dollar an d suspende d it s convert ibility int o gold ; imposed a surtax o n imports ; and cu t taxes . For a president an d a party tha t had heretofor e alway s swor n by fre e enterprise, i t seemed lik e a wholesale conversio n t o th e ideolog y of federal economi c management. 18 Nevertheless, the New Dea l tide was beginning t o turn. Nixo n himself too k step s t o retur n federa l dollar s t o th e state s i n th e form o f block grants . Gerald For d an d th e next Democratic presi dent, Jimmy Carter , commence d deregulatin g airlin e servic e an d interstate commerce , area s i n whic h th e regulator s wer e widel y recognized a s havin g bee n capture d b y th e regulated , t o th e detriment o f consumers . An d the n cam e th e firs t majo r attemp t to reverse th e economi c rol e o f th e United State s government .

The Reagan Play The 198 0 presidential campaig n o f Ronal d Reaga n wa s powere d by tw o differen t type s o f conservatives . On e wa s a grou p o f "populists" o f th e right , whos e mai n goa l was t o slas h taxes—i n the spiri t o f California' s Propositio n 1 3 ta x revolt . Thi s grou p of conservative s wa s dominate d b y smal l an d medium-size d business people , small-tow n bankers , saving s an d loa n opera tors, rea l estat e dealers , homeowners , farmers , white-colla r an d

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even man y blue-colla r worker s worrie d abou t thei r jobs . The y saw themselve s a s "middl e Americans, " an d the y showe d scan t sympathy fo r thos e belo w the m (especiall y black s an d thos e o n welfare), an d little , either, fo r bi g business . The othe r grou p include d man y o f thos e ver y representative s of big business an d bi g banking wh o had earlie r distance d them selves fro m Reaga n a s a right-wing populist , th e fo e o f th e mod erate an d predominantl y Easter n Establishmen t win g o f th e Re publican Party . Th e thinkin g o f thes e business-establishmen t conservatives wa s focuse d o n th e importanc e o f checkin g infla tion, especiall y b y monetar y policy , an d o n stimulatin g saving s and corporat e investment , preservin g th e internationa l economi c and monetar y system , balancin g th e budget , an d breakin g th e power o f organize d labor . Reagan's philosoph y wa s a n amalga m o f thes e tw o conserva tive creeds , wrappe d togethe r wit h traditiona l America n boost erism: "It' s mornin g i n America! " I f fre e enterpris e coul d b e liberated fro m th e heav y han d o f governmen t control s an d th e pressures o f organize d labor , Americ a woul d soo n regai n it s powerful economi c momentu m an d it s globa l dominance . Infla tion woul d b e stoppe d b y slowin g th e rat e o f monetar y growt h and breakin g th e powe r o f labo r t o rais e wage s faste r tha n pro ductivity; an d economi c growt h woul d b e accelerate d b y slash ing taxes. Reagan's supply-sid e economi c counsellors , headed b y David Stockman , a forme r Michiga n Congressman , produce d a paper calle d "O n th e Dange r o f a GO P Economi c Dunkirk, " which wa s leake d t o The New York Times. I t urge d th e ne w president t o tel l Congres s an d th e natio n tha t "th e economic , financial, budget , an d regulator y condition s h e inherite d ar e fa r worse tha n anyon e ha d imagined. " A Reaga n Revolutio n wa s needed t o sav e the nation .

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On takin g office , Reaga n began t o move agains t th e Ne w Dea l revision o f th e socia l contract . On e sig n o f hi s determinatio n was hi s firin g o f 11,40 0 member s o f th e Professiona l Ai r Traffi c Controllers Organization , a unio n o f governmen t workers , fo r participating i n a n illega l strike . Anothe r majo r ac t wa s th e weakening o f financial an d antitrus t regulation , which unleashe d a boo m i n merger s an d acquisitions , corporat e buyouts , an d managerial stoc k buybacks , togethe r wit h th e highl y speculativ e growth o f saving s an d loa n ( S & L) institutions, banks , an d rea l estate investment, muc h o f it financed b y junk bonds an d a rapi d increase i n corporat e debt. 19 The S& L bankruptcies adde d u p t o th e biggest financia l scan dal i n America n history , possibl y costin g ove r on e trillio n dol lars. A lootin g frenz y brough t o n b y corruption , i t wa s als o a n ideological setbac k fo r th e tru e believer s i n wha t Reaga n calle d "the magi c o f th e market. " Eve n L . Willia m Seidman , a Reaga n admirer an d conservativ e free-enterprise r wh o heade d th e Fed eral Deposi t Insuranc e Corporation , blame d th e ideologue s fo r careless an d excessiv e deregulation—fo r forgettin g tha t th e gov ernment's loos e us e o f it s "ful l fait h an d credi t ha d castrate d th e market's regulator y strength " an d ha d create d "a n ope n invita tion to gamble wit h othe r people' s money." 20 The deregulatio n o f bankin g an d financ e an d th e deb t explo sion an d takeove r wav e contribute d littl e t o th e nation' s eco nomic growth . Wha t the y brough t wa s a grea t dea l o f corporat e downsizing an d layoff s o f bot h worker s an d managers . Th e business personalitie s mos t likel y t o be remembere d a s th e non heroes o f th e Reaga n Revolutio n ar e th e financia l wheeler-deal ers Charle s Keating , chairma n o f Lincol n Saving s an d Loan , an d Michael Milken , junk-bon d kin g o f Drexe l Burnha m Lambert , both o f whom wen t t o jail.

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Along wit h th e explosio n o f privat e deb t cam e a quadruplin g of th e publi c deb t durin g th e Reagan-Bus h years . Reagan' s anti government ideolog y mad e hi m a read y conver t t o th e "supply side" economic s o f suc h adviser s a s Arthur Laffe r o f th e Univer sity of California , Jud e Wanniski, a former editoria l writer o n The Wall Street Journal, Representativ e Jac k Kem p o f upstat e Ne w York, Senato r Willia m V . Rot h o f Delaware , a s wel l a s Davi d Stockman, who , a s th e administration' s budge t director , cam e t o be know n a s th e "Robespierr e o f th e Reaga n Revolution. " A t their urging , Reaga n thre w hi s ful l suppor t behin d th e Kemp Roth bil l fo r cuttin g persona l incom e ta x rate s b y 3 0 percent , accepting th e theory , embodie d i n th e so-calle d "Laffe r Curve, " that th e ta x cu t woul d s o energiz e manager s an d worker s tha t i t would increas e nationa l economi c growt h enoug h t o generat e tax revenue s tha t woul d cover , o r mor e tha n cover , th e hug e ta x cuts. Th e deficit , therefore , woul d b e n o problem , an d ove r tim e it would shrink . Nothing lik e tha t happened . Instead , th e federa l debt , whic h had no t quit e reache d $ 1 trillion whe n Reaga n too k office , mor e than triple d durin g hi s eight-yea r term . Coache d b y hi s intellec tual advisers—no t onl y th e supply-sider s bu t Milto n Friedman , the conservativ e monetaris t an d Nobe l laureate—Reaga n cam e to regar d th e defici t a s a positiv e good : a barrier t o governmen t spending programs . Was i t al l a hoax , designe d t o serv e th e interest s o f th e rich ? Stockman's mos t famous , o r infamous , remark , t o Willia m Greider, the n o f th e Washington Post, was tha t th e big tax cu t wa s a "Troja n Horse. " Withou t dee p cut s i n governmen t spending , the deficit s woul d soar . Bu t ther e woul d b e n o dee p spendin g cuts. O n th e contrary , Reaga n himself , wit h th e backin g o f Con gress, stoo d fo r a bi g militar y buildu p an d neithe r h e no r Con -

American Contracts 4 7 gress woul d cho p Socia l Securit y an d othe r majo r federa l pro grams, for which there was still strong public support . "By 1982," Stockman later wrote, "I knew the Reagan Revolution wa s impossible—i t wa s a metapho r wit h n o ancho r i n political an d economi c realit y . . . I neve r gav e u p th e supply side ideology, however. I just put i t in my safe, along with othe r intellectual valuables. It was simply not operationally relevant in the worl d o f democrati c fac t wher e th e politicians hav e th e las t and fina l say. " So , unabl e t o bea t them , Stockma n joine d th e politicians—though, h e said, " I couldn't stan d th e idea o f mak ing all those deals to preserve their booty and waste." In the end, he concluded, "There has been no Reagan Revolution." 21 But ther e reall y wa s a Reaga n Revolution—a n anti-tax , re d ink, deregulatory , government-inhibitin g revolution—tha t would cas t a long shado w ove r th e American econom y an d se t the stage for th e Republican takeove r o f Congress in 1994. It lef t the Unite d State s wit h a tattere d socia l contrac t an d a deepl y unbalanced budge t that severely restricted th e ability of the fed eral governmen t t o dea l wit h th e ne w an d vexin g problem s troubling the United States and the rest of the world in the postcommunist era. The mos t endurin g legac y o f th e Reaga n year s ha s bee n a heightened publi c resistanc e t o payin g taxes . Mos t American s now appea r t o regard taxatio n no t a s "th e pric e o f civilization " but a s a rip-of f b y politician s an d bureaucrat s o f thei r hard earned mone y fo r th e benefi t o f thos e wh o lik e t o fee d a t th e public trough. (O f course , the privileged ar e generall y reluctan t to surrender their own place at the trough, as are members of the vast middle class , who ar e happy t o have Social Security, Medicare, and various other public retirement programs, but unhappy about paying for them.) No single action hurt George Bush polit-

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ically mor e tha n renegin g o n hi s ill-advise d pledg e ("Rea d m y lips") no t t o rais e taxes . Implicitl y acknowledgin g th e Reaga n administration's preferentia l optio n fo r th e rich with hi s promis e of a "kinder , gentle r America, " Bus h equivocate d betwee n ap pealing to centrist voters and kowtowin g t o the Republican right , ultimately pleasin g no one . In th e firs t tw o year s o f hi s presidentia l term , Bil l Clinto n sought t o und o th e legac y o f th e Reagan-Bus h year s b y raisin g taxes an d restrainin g th e growt h o f tota l outlays , militar y an d civilian, t o shrin k th e deficit ; b y tryin g t o bring corporat e execu tives an d labo r leader s togethe r i n a n effor t t o creat e mor e job s and increas e productiv e efficiency ; b y expandin g ai d fo r th e working poo r throug h large r ta x credits ; an d b y restorin g finan cial regulatio n an d antitrus t enforcement . H e eve n initiate d a significant effor t t o shrin k th e siz e o f th e federa l workforce . Bu t his imag e a s a "Ne w Democrat " wa s badl y tarnishe d b y hi s disastrously unsuccessfu l attemp t t o refor m th e nation' s healt h care system . The Clinto n plan , whic h sough t t o guarante e medica l cover age fo r al l American s b y wa y o f larg e "use r groups " an d man aged healt h care , was a far cr y from th e government-run medica l programs o f othe r Wester n nations . Bu t Republican s an d busi ness interest s oppose d t o an y ne w federa l mandate s successfull y portrayed i t as a huge governmen t intrusio n o n peoples' freedo m of choice . Indeed, som e Republica n partisan s resiste d an y exten sion o f federa l healt h car e guarantee s no t because the y wouldn' t work bu t o n th e purel y ideologica l ground s tha t passag e woul d undermine publi c oppositio n t o al l government-sponsore d solu tions t o socia l problems . Willia m Kristol , forme r chie f o f staf f to Vic e President Da n Quayl e an d a leading Republica n intellec tual strategist , pu t i t thi s wa y i n a 199 3 mem o urgin g tha t th e

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Clinton pla n b e kille d rathe r tha n amended : "I t will relegitimiz e middle-class dependenc e fo r 'security ' o n governmen t spendin g and regulation . I t wil l reviv e th e reputatio n o f th e part y tha t spends an d regulates , th e Democrats , a s th e generou s protecto r of middle-clas s interests . An d i t wil l a t th e sam e tim e strik e a punishing blo w agains t Republica n claim s t o defen d th e middl e class b y restrainin g government." 22 Th e demis e o f th e Clinto n health car e plan was the beginning o f the 199 4 Republican ascen dancy.

The New Laissez-Faire The Republican s wh o too k contro l o f th e Hous e o f Representa tives i n January , 1995 , wer e no t exaggeratin g whe n the y calle d themselves revolutionaries . I n th e cours e o f th e year , Hous e leaders, wit h th e stron g backin g o f seventy-thre e enthusiasti c Republican freshmen , prove d b y legislativ e effor t an d publi c pronouncement tha t the y wante d no t merel y t o reduc e th e siz e of th e federa l governmen t bu t fundamentall y t o alte r it s rol e i n the American system . The exten t o f th e revolutio n wa s onl y partl y visibl e i n th e G.O.R's Contrac t wit h America , whic h wa s les s a n anti-govern ment progra m tha n a catch-al l conservativ e politica l platfor m designed t o appea l t o voter s whil e generatin g a minimu m o f controversy. Gettin g toughe r o n crime , reducing produc t liabilit y lawsuits, settin g Congressiona l ter m limits , requirin g Congres s to compl y wit h workplac e an d civi l right s laws , prohibitin g fur ther cut s i n th e defens e budget—thes e ha d nothin g t o d o wit h shrinking th e federa l governmen t o r changin g it s role . Th e bal anced budge t amendmen t t o th e Constitutio n (whic h faile d b y one vot e i n th e Senate ) an d th e presidentia l line-ite m vet o coul d

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facilitate bu t woul d no t necessitat e a reduction o f federa l expen ditures. Th e proposa l t o reduc e federa l paperwor k an d restric t so-called unfunde d mandate s wa s sufficientl y uncontroversia l t o win quic k approva l fro m bot h house s an d b e signe d int o la w b y President Clinton . Bu t th e Contract' s welfar e pla n an d it s pack age o f $35 0 billion i n ta x cut s ove r seve n year s (late r reduce d t o $245 billio n b y compromis e wit h th e Senat e leadership ) clearl y indicated a radical shif t o f direction . The welfare pla n ( a version o f which Presiden t Clinto n signe d into la w i n th e summe r o f 1996 ) aime d a t endin g th e federa l government's sixty-yea r guarante e o f assistanc e t o al l singl e mothers wit h dependen t children . Passin g bot h th e Hous e an d Senate b y larg e margins , i t limite d suc h ai d t o a maximu m o f five year s pe r recipien t whil e sharpl y reducin g th e projecte d federal welfar e contribution ; i t woul d b e transforme d int o bloc k grants whic h th e state s woul d hav e wid e latitud e t o us e a s the y saw fit . Th e tax-cu t package , whe n combine d wit h a resolutio n to balanc e th e federa l budge t b y th e yea r 200 2 (passe d afte r th e budget-balancing amendmen t failed ) an d th e refusa l t o reduc e defense expenditures , meant tha t domesti c spending woul d hav e to underg o a rea l reductio n o f 3 0 percent. T o meet tha t goal , th e Republicans proceede d t o tak e thei r cleave r no t onl y t o discre tionary spendin g program s bu t t o entitlements , includin g $27 0 billion fro m healt h car e fo r th e elderl y an d disable d (Medicare ) and $18 2 billio n fro m healt h car e fo r th e poo r (Medicaid) . A number o f federa l program s an d agencie s wer e slate d fo r th e dustheap, includin g th e Commerc e Department , aroun d sinc e the day s o f Theodor e Roosevelt ; an d ther e wer e plan s t o privat ize som e IR S collection s an d sel l of f publi c land s an d nationa l parks. The Republican s als o se t ou t t o enfeebl e federa l regulator y

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power bot h throug h change s i n regulatio n an d budge t cut s o f 30 percen t an d mor e i n agencie s suc h a s th e Foo d an d Dru g Administration, th e Occupational Safet y an d Healt h Administra tion, an d th e Environmenta l Protectio n Agency . Effort s wer e mounted t o weaken clea n ai r an d wate r standards , rela x control s on pesticides , an d ceas e requirin g polluter s t o clea n u p thei r waste. Th e FDA' s authorit y t o guarante e th e effectivenes s o f drugs cam e unde r attack ; a s lon g a s th e suppose d remed y wa s not positivel y harmful , le t th e buye r bewar e an d th e marke t decide. For starters , th e Republica n progra m represente d a n effor t t o erase th e Ne w Dea l assumptio n tha t th e federa l governmen t ha s a responsibility fo r providin g a measure o f economic securit y fo r individuals an d th e countr y a t large . N o longe r wa s ther e tal k about maintainin g a socia l "safet y net " fo r th e poor . Th e bul k o f the ta x relief , whic h include d a long-sough t cu t i n th e capita l gains tax , woul d g o t o th e wealthy . Meanwhile , thos e a t th e lower en d o f societ y woul d se e cutback s no t onl y i n welfare an d health car e bu t i n publi c housin g an d lega l representation . Th e working poo r woul d los e a portio n o f th e earne d incom e ta x credit, b y whic h th e governmen t lifte d the m abov e th e povert y line. I n th e nam e o f reducin g "corporat e welfare, " th e Republi cans als o propose d t o ax e th e tax-credi t progra m tha t provide d private an d nonprofi t developer s wit h market-base d incentive s to build low-incom e housing . Muc h Republica n rhetori c stresse d how al l suc h program s di d th e poo r mor e har m tha n good , robbed the m o f thei r dignity , undermined privat e charity , an d s o forth. Bu t ther e wa s littl e effor t t o hid e th e harde r edges : An y programs tha t transferre d wealt h fro m have s t o have-not s wer e "redistributionist," an d a s such ha d t o go . Meanwhile, the assaul t on federal regulator y authorit y offere d

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a visio n o f unfettere d capitalis m i n whic h individua l libert y is th e highes t goo d an d fre e market s ar e alway s preferabl e t o government intervention . Thi s visio n wa s hardl y new , bu t sinc e the lat e 1970 s i t ha d acquire d precis e shap e i n th e whit e paper s and polic y proposal s generate d b y a grou p o f conservativ e thin k tanks an d foundations , includin g th e Heritag e Foundation , th e Cato Institute , th e Bradle y Foundation , th e Scaif e Foundation , and th e Ethic s an d Publi c Policy Foundation. A new laissez-fair e intelligentsia ha d sprun g int o being , som e o f who m wen t s o far a s t o oppos e th e us e o f languag e tha t eve n hinte d a t th e communitarian ideal s o f th e welfar e state . Thus, David Frum , i n his boo k Dead Right, too k t o tas k Willia m Bennett , th e forme r Education secretar y an d dru g czar , fo r titlin g hi s 199 2 book The De-valuing of America: The Struggle for Our Children and Our Culture. "What/' aske d Frum , is th e locutio n "ou r children " doin g i n Bennett' s mouth ? Th e phrase contains the thought that one's obligations to all the other children i n th e countr y ar e simila r i n nature t o one's obligation s to one's own; that a purely political bond—that betwee n citizen s of one nation—can resemble in some meaningful wa y the biological bond betwee n paren t an d child . Fo r peopl e wh o ar e alway s trying t o exten d th e reac h o f th e political , thi s i s a n attractiv e claim to make.23 Such hostility to the very concep t o f a political community mean t that eve n democrati c governmen t wa s a t best a necessar y evil — necessary t o protect individual right s but evi l because it impose d the wil l o f majoritie s o n unwillin g minorities . I n th e word s o f the Cat o Institute' s Constitutiona l expert , Roge r Pilon , "[W]hil e majoritarian democrac y ma y b e preferabl e t o othe r form s o f rul e in tha t i t enable s th e rule d t o participat e i n th e decisionmakin g process, i n th e en d i t i s simpl y a proces s throug h whic h t o

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decide, not a process that imparts legitimac y t o the decisions tha t follow." 24 This anti-governmen t visio n extende d fro m th e libertaria n think tank s t o th e Christia n Right , wher e evangelica l an d "Re constructionist" writer s calle d effort s t o "macro-manage " th e economy "unbiblical " an d pronounce d al l taxes other tha n a pol l tax "ungodly. " Accordin g t o thes e writers , th e stat e ha d n o rol e to pla y beyon d providin g fo r th e commo n defens e an d insurin g justice—which, t o b e sure , extende d t o enforcin g "biblical " moral standards . But virtually al l forms o f governmen t economi c regulation wer e disallowed , includin g minimu m wag e laws , re strictions o n advertising , licensin g o f the professions, an d zonin g laws. 25 A s extrem e a s thes e position s migh t seem , i t i s notabl e that onl y slightl y les s radica l worldview s wer e lai d ou t i n book s published i n 199 5 by th e tw o leader s o f th e Republica n Revolu tion: forme r politica l scienc e professo r New t Gingric h an d for mer economic s professo r Dic k Armey . Gingrich, a n enthusias t o f th e futuristi c imagining s o f Alvi n and Heid i Toffler , urge d American s t o rejec t th e "calculate d ef fort b y cultura l elites " t o discredi t America n civilizatio n an d "accelerate America' s entr y int o th e Thir d Wav e Informatio n Age." Regulation , litigation , taxation , publi c education , welfare , the structur e o f ou r governmen t bureaucracies—thes e wer e al l products o f th e Industria l Age , whos e tim e ha d no w passed . I n Gingrich's view , i f Americ a wer e t o remai n th e predominan t economy i n th e ne w globa l marketplac e i t woul d hav e t o g o back t o th e future : "Whil e th e Industria l Revolutio n herde d peo ple int o giganti c socia l institutions—bi g corporations , bi g unions, bi g government—th e Informatio n Revolutio n i s break ing u p thes e giant s an d leadin g u s bac k t o somethin g tha t is — strangely enough—muc h mor e lik e d e Tocqueville' s 1830 s

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America." A s in the country' s nominally laissez-fair e heyday , th e new Informatio n Ag e would , h e claimed , "b e a bi t lik e raftin g down th e rapids afte r w e have learne d t o cano e o n a quiet lake. " If som e o f u s happened t o fall overboard , tha t presumabl y wa s a price wort h payin g fo r th e exhilaratio n o f th e ne w economi c environment. 26 Armey, wit h a cas t o f min d mor e spiritua l tha n sci-fi , di d no t justify hi s anti-governmen t philosoph y i n term s o f America n competitiveness. H e portraye d free enterpris e a s a callin g fro m God, an d oppose d governmen t interventio n i n th e econom y o n principle, eve n shoul d i t prov e efficacious . "Liberals, " h e wrote , "keep comin g u p wit h thei r scheme s fo r collectiv e progress , which make s the m see m positiv e an d hopeful . I n ou r vie w thes e plans ar e generally hare-brained, whic h make s us see m negative . But i f the y di d wor k the y woul d insul t th e dignit y o f a free people." 27 T o be sure , h e tiptoe d aroun d certai n federa l guaran tees, contentin g himsel f merel y wit h pointin g ou t th e cos t o f laws tha t insur e ban k deposits , pensions , an d loans . An d h e made n o mentio n o f unemploymen t insuranc e o r emergenc y disaster relief , whic h b y hi s light s woul d see m t o b e a n unwar ranted governmen t retardatio n o f th e automati c adjustmen t mechanism o f th e free market . Hi s grea t love , which he hoped t o realize i n phas e tw o o f th e revolution , wa s a n ungraduated , o r flat, incom e tax ; indeed , whe n millionair e publishe r Stev e Forbes's flat-tax pla n foundere d i n th e earl y round s o f th e 199 6 presidential campaign , Arme y rushe d u p t o Ne w Hampshir e t o defend th e concept . In Gingrich , Armey , an d thei r intellectua l cohorts , i t wa s no t easy t o discove r an y acknowledgmen t tha t laissez-fair e capital ism migh t eve r creat e undesirabl e results , whethe r environmen tal pollution , monopolies , a shortag e o f consume r informatio n

American Contracts 5 5 and protection , o r economi c downturns . Gingrich , maintainin g his boyhoo d interes t i n natura l history , di d offe r a fe w kin d words fo r protectin g endangere d species . Mor e characteristic , however, wa s his clai m that "[t]h e so-calle d busines s cycl e is in large part a product o f th e theorie s o f American economists/' 28 What he appeared t o mean by this was that the Federal Reserv e Board creates recessions by acting to prevent inflation in times of economic growth . Ho w thi s woul d explai n th e recurren t reces sions and depression s of the late nineteenth century , when ther e was n o centra l bank , h e neglecte d t o mention . Mostl y th e Speaker o f th e Hous e appeare d t o b e reflectin g th e traditiona l small-business desire for easy money. Without venturin g a n opinio n o n th e cause s o f th e busines s cycle, Armey, too, made clear his opposition to federal economi c intervention. In his version of recent American economic history, the onetim e economic s professo r applaude d Ronal d Reaga n fo r sending "th e bi g thinkers " packin g whe n h e too k office : "N o more macroeconomic meddling. No more talk of aggregates this and aggregate s that . Above all, no more reliance upon 'experts / but instea d a relianc e o n rea l me n an d women. " Lookin g t o a brave ne w Republica n future , Arme y asked (rhetorically ) wh o would "'manag e th e economy / subsidiz e th e needy , regulat e industry, an d d o al l th e thing s Washingto n doe s today? " Th e answer: "The people themselves, individually an d throug h thei r local representatives . Thi s i s how a free countr y works." 29 Evidently, i n Armeynomics , ther e wa s n o plac e fo r countercyclica l fiscal o r monetar y policy—raisin g o r lowerin g taxes , shrinkin g or expanding the money supply—in orde r to keep the economy on track. Antitrust? Armey celebrated the thousands of small computer software companie s that , betwee n 197 5 an d 1985 , compete d

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against on e anothe r t o create a new worl d informatio n orde r tha t no larg e corporatio n coul d hav e imagined . Bu t h e betraye d n o concern tha t b y th e 1990s , a larg e numbe r o f the m ha d bee n gobbled u p b y th e Microsof t corporation . Wa s he , unlik e Theo dore Roosevel t an d Willia m Howar d Taft , unconcerne d abou t the effec t o f monopolie s o n th e fre e enterpris e system ? O r wa s he jus t ideologicall y oppose d t o th e federa l governmen t gettin g involved? "Who, " h e asked , "excep t a fe w socia l leveler s i n th e Clinton Justic e Departmen t begrudge s Bil l Gates , the founde r o f Microsoft, hi s billions? " A Baptist , Arme y acknowledge d tha t money wa s no t th e "end-al l o f huma n existence. " Bu t h e recas t Jesus's injunctio n tha t "i t i s easie r fo r a came l t o g o throug h th e eye o f a needle tha n fo r a ric h ma n t o ente r int o th e kingdo m o f God," t o mea n merel y tha t "wealt h alone " wil l no t ge t yo u int o heaven. 30 By th e end^o f 1995 , i t wa s clea r tha t th e Hous e Republican s had seriousl y overestimate d thei r abilit y t o tak e th e countr y b y legislative storm . Opinio n poll s an d Democrati c successe s i n th e November off-yea r election s lef t n o doub t tha t th e America n public ha d becom e scare d b y al l th e tal k o f revolution , whethe r it concerne d weakenin g federa l commitment s t o environmenta l protection o r t o th e socia l safet y net . Emboldened , Presiden t Clinton vetoe d bill s tha t woul d hav e mad e sweepin g change s i n Medicare an d Medicaid . H e als o vetoe d a balanced-budge t bill , and whe n Republican s trie d t o forc e hi s han d b y linkin g i t t o approval o f a rise in the deb t ceiling , he twice let the governmen t shut dow n rathe r tha n giv e in . Th e fina l 199 6 budget, whic h di d not pas s unti l April , fel l fa r shor t o f th e G.O.P/ s 199 5 aims ; although ther e wer e significan t cut s i n discretionar y domesti c spending, nearly al l the agencies and regulator y regime s targete d for extinctio n survived .

American Contract s 57 Even Republica n voter s seeme d uncertai n abou t whic h wa y to turn . I n th e G.O. R primar y campaign , tal k o f th e Contrac t with Americ a al l but disappeare d afte r th e Iow a caucuses , whe n Texas Senato r Phi l Gram m droppe d ou t o f th e race . Meanwhile , Forbes offere d u p unreconstructe d Reagan-er a supply-sid e eco nomics—shunning al l tal k o f hard , budget-balancin g deci sions—while Pa t Buchana n rallie d hi s troop s b y rejectin g free trade orthodox y an d assailin g corporat e Americ a fo r layin g of f workers. Wit h hi s unabashe d enthusias m fo r stokin g th e fire s o f nativism an d hi s appeal s t o Go d an d family , Buchana n offere d an almos t pre-capitalis t imag e o f th e futur e completel y a t odd s with th e Freedo m Revolutio n tha t ha d dominate d Capito l Hil l the year before . The uncertain cours e o f th e new laissez-fair e onl y emphasize d the opennes s o f fundamenta l question s abou t th e natur e o f th e capitalist system . How muc h regulatio n d o advance d technologi cal economie s require ? Wha t step s shoul d governmen t tak e t o protect th e people fro m har d times ? How fa r d o suc h protection s inhibit a country' s abilit y t o compet e i n th e world' s markets ? Unlike th e physica l sciences , huma n societie s neve r offe r th e opportunity fo r perfectl y controlle d experiments . Bu t a s the y wrestled wit h th e questions , American s ha d a n unprecedente d opportunity t o compar e th e claim s o f Gingrichia n free-market ers, Buchananit e protectionists , Clintonia n neoliberals , an d th e rest wit h capitalis t experimentatio n takin g plac e al l ove r th e world. Fro m th e trouble d effort s o f reformer s t o transfor m th e former Sovie t bloc into healthy marke t economie s t o an economi cally thrivin g bu t politicall y repressiv e China , fro m a Japan try ing t o decid e ho w fa r t o liberaliz e it s market s t o a Norther n Europe strugglin g wit h unwindin g it s welfar e states , ther e wer e insights t o be gleaned , lesson s t o be learned .

FOUR The Sovie t Blo c in Transitio n Bernard Wasow*

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n th e fac e o f stead y declin e i n popula r suppor t fo r refor m i n the Forme r Sovie t Blo c (FSB) , a se t o f storie s ha s com e int o circulation abou t economi c chang e there . In thi s conventiona l

wisdom, th e debat e betwee n "Gradualism " vs . "Bi g Bang " wa s won b y reformer s i n Russi a an d i n mos t o f Easter n Europe ; decisive reform , continue d agains t considerabl e opposition , ha s borne fruit ; muc h o f Easter n Europ e i s growin g vigorousl y an d Russia i s expecte d t o sho w positiv e growt h ver y soon ; eve n laggards—Ukraine an d th e Asia n republics—ar e haltingl y pledging t o d o th e righ t thing : stabilize , liberalize , an d privatiz e their economies . *In additio n t o extensiv e trave l an d wor k i n th e Thir d World , th e autho r taught economic s a t the Centra l Europea n Universit y i n Prague i n th e autum n o f 1992 an d participate d i n tw o Worl d Ban k mission s t o Mongoli a i n 1994 . Thi s chapter wa s writte n whe n h e wa s a n Associat e Professo r o f Economic s a t Ne w York Universit y an d a consultan t t o th e Twentiet h Centur y Fund . I t represent s his views alone .

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There i s reason t o doub t thes e stories . Contrary t o what man y in th e Wes t believe, th e economi c crisi s o f mos t o f th e FS B is no t moving steadil y towar d resolution . Politica l setback s i n th e FS B are no t anomalou s stumble s o n th e roa d t o capitalis m bu t a direct resul t o f faile d reform . Whil e a booming servic e econom y and explodin g wealt h fo r a narro w elit e provid e surfac e glitter , little has bee n don e t o solv e th e fundamenta l economi c proble m of makin g industr y an d agricultur e health y an d productive . Lit tle ha s bee n don e t o remov e th e condition s tha t lea d govern ments t o monetar y profligacy . Altogether , mor e tha n hal f a de cade afte r th e transitio n began , mos t o f th e FS B is stil l i n a dee p economic mess . No successfu l Bi g Ban g ha s take n place . Indeed , n o credibl e economic "shoc k therapy " ha s bee n applied . Repeatedly , FS B governments hav e agree d t o radical reforms, an d the n proceede d with th e mos t haltin g o f half-measures . Th e government s hav e moved gradually—mos t o f the m incoherentl y an d a d hoc , a few, lik e th e Czec h Republi c an d Estonia , mor e successfully . Nevertheless, Russia' s succes s compare d t o Ukrain e i s routinel y attributed t o it s adherenc e t o "shoc k therapy." 1 I n Russia , a period o f shoc k therap y di d occu r fo r a fe w months , fro m Janu ary unti l Apri l o r Ma y o f 1992 , under Bori s Yeltsi n an d hi s chie f economic reformer , Yego r Gaidar . Bu t sinc e then , th e ol d Sovie t managers an d bureaucrat s hav e succeede d i n protectin g thei r vested interest s ver y well.

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Governmen t hirin g binge s hav e

added thousand s o f employee s t o th e publi c sector. 3 Thi s ma y have bee n a n understandabl e politica l respons e t o th e threa t o f growing unemployment , bu t i t is part o f no coheren t "therapy. " If earl y reformer s o f th e FS B had n o ide a ho w roug h wer e th e waters tha t neede d t o b e crossed , neithe r di d Wester n adviser s understand wha t the y wer e u p against . A s th e crisi s persisted ,

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little advic e an d les s financia l ai d wer e directe d t o helpin g peo ple wh o ha d onl y vagu e idea s abou t thei r destinatio n solv e th e political challenge s o f gettin g there .

The Real Story As th e Sovie t empir e disintegrate d i n 198 9 an d 1990 , Karl Mar x and V . I . Leni n wer e supplante d i n th e Russia n pantheo n o f Great Me n b y suc h icon s o f th e free marke t a s Friedric h vo n Hayek an d Milto n Friedman . Russian s wh o pursue d th e stud y of Wester n economics , an d ther e wer e many , foun d th e prospec t of ope n financia l markets , mos t o f al l stoc k markets , immensel y fascinating. Afte r a lon g da y o f studyin g th e mundan e cor e o f Western economi c theory , eage r student s aske d Wester n teacher s for mor e relevan t material : Ho w coul d on e decod e th e financia l pages o f th e Wall Street Journal? Surel y i t wa s i n thes e arcan e columns tha t on e coul d fin d th e key s t o prosperity . Wasn' t th e wealth o f th e Wes t brewe d i n th e cauldron s o f hig h finance ? Homilies abou t efficien t productio n an d compoun d productivit y growth a t single digit rates could hardly satisf y peopl e wh o wer e straining t o enjoy th e cornucopi a o f th e market . In Russia , a s i n countrie s fro m Romani a t o Mongolia , huck sters o f ever y sor t sol d opportunitie s t o ge t ric h quick . Weren' t quick riches what capitalis m was al l about? But instead o f Profes sor Friedman , whos e portrait s an d quote s too k prid e o f plac e i n many a formerl y communis t office , Charle s Ponz i woul d hav e been a bette r emble m o f th e spiri t o f fre e market s i n th e Wil d East. Almost n o on e in the FSB appreciated th e true economi c situa tion. Russi a an d it s allie s wer e no t advance d industria l societie s that, wit h th e additio n o f efficien t financia l markets , woul d pro -

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vide al l th e good s an d service s enjoye d b y Westerners . The y were grossl y distorted economie s tha t could no t survive in worl d markets withou t radica l surgery . Man y o f thei r hug e factorie s added littl e o r n o valu e t o th e material s the y processed . Th e services the y provide d thei r employees—fro m housin g t o da y care to summer holidays—wer e finance d b y a surplus tha t coul d only exis t i n a pric e regim e tha t al l bu t gav e awa y energ y an d raw materials . In contras t t o th e feeling s o f triump h an d hop e tha t accompa nied th e en d o f communis t totalitarianism , th e FS B in 199 0 wa s anything bu t a lan d tha t ha d manage d t o wi n a wa r withou t a single grea t battle . Economically , i t wa s mor e lik e a defeate d country wit h it s factorie s an d farm s i n ruins . Bu t wh o coul d b e expected t o recogniz e th e devastation ? Unlik e German y i n 1945 , the rubbl e o f wa r wa s no t pile d al l around . I n th e FSB , th e factories wer e i n place an d th e workers wer e read y t o file in . Th e fields wer e read y t o b e plowe d i n th e sprin g an d harveste d i n the fall . In reality , however , mos t unit s o f productio n wer e incapabl e of surviva l i f that mean t purchasin g input s an d sellin g outpu t i n international competition . Firm s depende d o n input s a t conces sionary price s an d a flo w o f unrepayabl e credits . Efficien t finan cial markets , privatization , an d mos t o f al l free , untaxed , an d unsubsidized competitio n from abroa d woul d hav e been a s helpful a s smashin g th e window s o f a n overheate d greenhous e o n a winter's day . No r wa s th e fundamenta l economi c proble m t o help existin g firm s adjus t t o new economi c conditions . The unit s were to o big . The y wer e no t economicall y located . Muc h o f th e machinery wa s goo d fo r nothin g mor e tha n scra p metal . Th e economic structur e wa s populate d mostl y by economi c zombies , the livin g dead . The y ha d t o b e remove d an d replaced , no t

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rehabilitated. Ha d man y o f th e factorie s an d farm s o f th e FS B been physicall y destroyed , th e challeng e migh t hav e bee n mad e not mor e difficul t bu t easier . A fundamenta l barrie r t o understandin g economi c realit y i n the FS B is that ther e i s s o little goo d information . T o be sure , th e World Bank , th e Internationa l Monetar y Fun d (IMF) , an d othe r international agencie s ar e producing dat a tha t ar e harmonized i n format an d presentatio n wit h dat a abou t othe r countrie s o f th e world. Thi s provides , fo r example , detaile d evidenc e t o suppor t the assertio n tha t Gros s Domesti c Produc t (GDP ) i n Russi a fi nally ha s begu n t o increas e afte r fiv e straigh t year s o f decline . But in fact, w e have onl y th e vaguest ide a o f aggregat e economi c performance i n mos t o f th e FSB . Estimate s o f th e declin e o f Russian GD P betwee n 199 1 and 1994 , for example , hav e range d from 2 0 percen t t o 5 0 percent . I n it s firs t surve y o f th e Russia n economy, th e OEC D note d tha t a majo r difficult y wa s t o acquir e the necessary polic y informatio n an d statistica l data . The proble m i s not simpl y on e o f ne w concept s an d scarc e o r incompetent staff. 4 Ther e ar e capabl e peopl e i n stat e statistica l bureaus i n th e FSB , bu t the y hav e neithe r th e powe r no r th e ability to assemble goo d data . In the old days , economic account ing wa s a clos e partne r t o economi c planning ; however , ther e was n o nee d an d therefor e n o metho d fo r estimatin g mos t pri vate secto r productio n an d investmen t activity . No w tha t eco nomic plannin g ha s cease d t o exist , ther e ar e i n mos t place s n o methods, n o procedures , an d n o enforceabl e reportin g rule s fo r obtaining accurat e informatio n fro m decentralize d productio n units. Even state-owne d firm s ma y limi t stat e acces s to "proprie tary" dat a o f the kind tha t ever y OEC D government require s an y private busines s t o provide . Firm s i n th e FS B are likel y t o tr y t o hide a s muc h informatio n a s the y ca n fro m potentia l rival s an d

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tax collectors ; i n man y countries , the y ca n hid e mos t o f it . Th e data tha t ar e assemble d consis t largel y o f officia l record s fro m large stat e enterprises—somethin g lik e countin g fis h caugh t i n a net tha t onc e spanne d th e rive r bu t tha t no w capture s les s an d less o f th e flow . Missin g ar e dat a o n ne w servic e enterprises , successful privat e enterprises , an d productio n tha t "fall s of f a truck." Official statistic s sho w economi c recover y i n mos t o f th e FS B beginning i n th e mid-1990s . Som e recover y certainl y i s under way; bu t th e amoun t o f off-the-boo k activit y i n eve n ol d firm s renders mos t publishe d report s highl y suspect . Meanwhile , th e estimates o n whic h th e internationa l agencie s bas e thei r aggre gate statistic s ar e drive n b y pressur e withi n th e IM F an d th e World Ban k to find evidenc e o f turnaround. Th e wishful dat a ar e needed fo r publi c relations campaign s t o convince skeptica l loca l bureaucrats tha t th e painfu l adjustmen t progra m i s working . Nobody i s crudel y fabricatin g numbers , thoug h hopelessl y ob scure numbers—privat e investmen t i n services , fo r example — may be produced b y a visiting IMF expert fro m essentiall y whol e cloth. The estimate ma y be better tha n nothing , but it' s not muc h better. Against th e determinedl y optimisti c report s tha t prosperit y i s just aroun d th e corner , surve y dat a sugges t tha t th e economi c nadir ha s no t ye t bee n passed . Th e Ope n Medi a Researc h Insti tute o f Pragu e reporte d tha t barel y hal f o f al l Pole s considere d themselves bette r of f i n 199 5 than a yea r earlier , i n a n econom y that reportedl y ha d bee n growin g robustl y fo r tw o years. 5 Th e situation wa s wors e i n th e Czec h Republi c an d Estonia , tw o other star s o f th e transition . I n Russia , Ukraine , an d Belarus , fewer tha n 1 0 percent of the citizenry believed tha t their standar d of livin g improve d fro m 199 4 t o 1995 . Suc h number s ar e no t

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incompatible wit h aggregat e growth , bu t the y undermin e th e notion tha t condition s ar e improvin g anywher e i n th e FS B fo r the averag e citizen . And the y ar e supported b y som e frightenin g data o n publi c healt h (thoug h thi s information , too , i s surel y imperfect). Betwee n 199 1 an d 1994 , lif e expectanc y fo r Russia n men fel l b y eigh t year s (t o 57. 3 years , belo w India's) ; betwee n 1990 an d 1994 , infan t mortalit y ros e b y mor e tha n 1 2 percent . The turbulenc e an d uncertaint y o f lif e i n Russi a i s reflecte d b y the fac t tha t i n ever y on e o f it s seventy-nin e regiona l district s i n 1994, birth rate s were lowe r tha n deat h rates. 6 General skepticis m abou t recover y shoul d no t b e take n t o mean tha t everyon e i s sufferin g durin g th e transition . On e rea son for th e demise of industry i n the FSB is that the raw material s and energ y tha t loca l firm s ha d consume d ar e s o valuable . Ex port o f ra w an d semiprocesse d materials , arbitrag e o f energ y price distortions , an d th e establishmen t o f productiv e servic e enterprises hav e create d wealt h tha t i s eviden t o n th e street s o f capital citie s throughout th e FSB . But fo r th e ordinar y worke r i n the ordinar y factory , th e transitio n ha s no t ye t turne d th e corner . The task i s not simpl y t o raise aggregat e valu e added , whic h ca n be accomplishe d simpl y b y closin g dow n activitie s tha t subtrac t value. I t i s t o create , withi n a n open , civi l society , a n econom y with widesprea d opportunit y fo r productiv e employment .

The Task of Transformation The economi c chao s tha t evolve d fro m Gorbachev' s initiall y modest effort s t o restructur e th e econom y cam e a s a shoc k no t only t o Russia n expert s bu t t o Westerner s a s well . Th e latte r knew tha t a marke t econom y coul d no t functio n i f manager s were no t accountabl e an d i f the y ha d t o respon d t o arbitrar y

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prices. That was th e reason adviser s prescribed privatizatio n an d price liberalization. But a market syste m will also fail if manager s neither understan d th e presen t valu e o f thei r firm s no r thin k o f wealth- o r profit-maximizatio n a s thei r primar y task . An d ther e can b e no marke t econom y i f governmen t aim s t o preserv e ex isting institution s regardles s o f thei r abilit y t o compete , whil e opportunists se t abou t lootin g them . The FSB's transition t o a market econom y involve d mor e tha n reforming price s an d ownershi p o n th e micr o leve l an d preserv ing monetar y contro l o n th e macr o level . Th e structur e o f socia l obligations an d expectation s had t o change. Enterprise manager s were pushe d t o assum e dauntin g ne w roles : They ha d t o decid e what t o produc e an d ho w t o produc e it—an d fin d buyer s onc e it ha d bee n produced . Extensiv e obligation s t o thei r worker s such a s housing, da y care , and socia l activities remained a sourc e of pride, but ther e no w wer e als o luxuries tha t reduce d profits . Under socialism , firms di d not go bankrupt because their cost s were to o high o r their product s to o shoddy. Workers di d no t los e their job s o r benefit s becaus e the y performe d poorl y o r becaus e firms neede d t o economize. T o be sure , money di d som e talking . There wer e blac k market s fo r good s an d services , an d profes sional fixer s wh o fo r th e righ t pric e coul d solv e firms ' problems . But thes e operate d a t th e fringe s o f decen t society . No t soli d citizens bu t "opportunists " an d "profiteers " mad e th e deal s an d arbitraged th e prices. Prices and profit s di d no t determin e whic h firms coul d expand ; planner s did . Price s di d no t decid e whic h consumers receive d scarc e good s an d services ; politica l connec tions an d waitin g o n line did . The monumenta l coordinatio n proble m o f centra l plannin g was solve d i n par t b y simplification . Decision s abou t wha t would b e produce d an d ho w wer e centralized . Th e numbe r o f

The Soviet Bloc in Transition 6 7 firms wa s reduced . A fir m i n a marke t econom y i s th e scen e of thousand s o f decision s concernin g th e sourc e o f inputs , th e technology o f production , th e market s i n whic h t o sel l output , the pricin g strategy , an d th e plan s o f investment . I f on e fir m changes it s decisions , man y othe r firm s ar e affecte d throug h what they buy and sell in markets. Prices play the central role in coordinating decision s amon g interconnecte d firms . A s a pric e change modifie s it s costs , revenues , an d profits , th e enterpris e will decide how to adjust it s production plans profitably . In th e Sovie t Union , quantitativ e goal s fo r product s an d in puts use were set by planners and enforced by Communist Party functionaries. Th e proble m o f makin g firms ' productio n plan s roughly consisten t wit h on e anothe r an d the n overseein g thei r realization wa s mad e manageabl e b y reducin g th e numbe r o f plants—a strateg y reinforce d b y the assumptio n tha t bi g plant s were technicall y superio r t o smal l plants . In th e defens e sector , for example , there were approximately on e hundred enterprise s with te n thousan d o r mor e employee s an d n o mor e tha n fift y plants with fewer tha n a thousand employees . The largest enterprises employed mor e than thirty thousand worker s each. In the United States , b y contrast , no t a singl e establishmen t i n th e defense secto r employ s a s many a s ten thousand worker s whil e hundreds o f defens e firm s eac h emplo y fewe r tha n on e thou sand.7 Th e giganti c Sovie t factorie s wer e sprea d aroun d th e country ou t of a concern for regiona l fairness. A huge plant in a relatively small city might be not simply the major employe r but the only significant employer. According to one estimate, seventy towns an d smal l citie s i n Russi a eac h depende d o n a singl e defense establishment. 8 So planners needed t o coordinate the output o f relatively few , massive plants , ofte n locate d fa r fro m importan t producer s o f

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their input s an d user s o f thei r products . Eve n wit h relativel y few ver y larg e firms , th e plannin g proble m wa s formidable . I n addition t o productio n withi n th e forme r Sovie t Union , interna tional productio n neede d t o b e coordinated . Fro m Mongoli a t o Poland t o Bulgaria , th e member s o f th e Sovie t blo c (als o know n as Counci l o f Mutua l Economi c Assistance) , eac h wit h it s ow n giant firms , planne d internationa l exchang e o f goods . The problem s tha t woul d bedevi l th e transitio n extende d int o each productio n unit . Th e Sovie t educationa l syste m gav e goo d fundamental training , bu t technicians ' knowledg e ofte n wa s ou t of dat e an d neithe r manager s no r engineer s ha d a n adequat e regard fo r cost . Outsid e o f militar y an d scientifi c applications , production technolog y seldo m reflecte d th e stat e o f th e art , eve n in th e Thir d World . Fo r example , whil e textil e loom s i n Mexic o and Colombi a move d a s fas t a s thos e i n Wester n Europe—22 4 picks per minut e (ppm)—Polis h loom s were running a t 19 0 pp m and Mongolia n loom s a t less than 15 0 ppm. 9 The greates t competitiv e handica p facin g industrie s seekin g to mak e th e transitio n ha s bee n thei r dependenc e o n heavil y subsidized energy . Eve n accountin g fo r th e exceptionall y larg e size o f thei r industria l sectors , th e FS B (an d China ) use d thre e times a s muc h energ y pe r capit a i n 199 1 a s othe r economie s o f similar incom e level. 10 In 1992 , the energ y subsid y i n Russia wa s roughly th e siz e o f th e entir e GDP ! Although energ y price s wer e doubled th e followin g year , tha t onl y brough t the m u p t o 3 0 percent o f world levels. 11 The FSB' s internationa l tradin g regim e collapse d almos t a s soon a s th e Sovie t Unio n itsel f did . T o surviv e economically , managers ha d t o fin d input s and , mor e difficult , buyer s fo r output. Althoug h th e prospec t o f supplyin g traditiona l custom ers remaine d attractive , eac h fir m wante d t o fin d better , cheape r

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inputs an d eac h consume r wante d t o bu y better , cheape r prod ucts. Industria l productio n i n th e FS B collapse d becaus e i t wa s simply impossibl e t o compet e wit h th e exporter s o f ra w materi als and importer s o f foreig n goods. 12 Even had plant s been o f optimu m size , using cost-minimizin g technology i n idea l locations , manufacturin g i n th e Sovie t blo c probably woul d hav e bee n i n dee p troubl e afte r th e collaps e o f the socialis t system . Th e Sovie t convictio n tha t manufacturin g was productiv e an d mos t service s wer e no t resulte d i n econo mies wit h overdevelope d industria l an d stunte d servic e sector s compared t o marke t economies ; ther e wa s simpl y mor e indus trial outpu t tha n a marke t econom y coul d sustain . Othe r tha n countries heavil y dependen t o n petroleu m an d othe r minerals , no market econom y wa s a s heavily industrialize d a s the commu nist countries , includin g th e rapidl y industrializin g countrie s o f East Asia . Accordin g t o Worl d Ban k dat a fo r 1991 , onl y on e former communis t country , Hungary , ha d a n industria l secto r o f "average" size. All others were significantly larger . The transitio n economies i n 199 1 had, o n average , 1 4 percent mor e GD P gener ated i n th e industria l secto r tha n woul d b e expected , give n pe r capita incom e (correcte d fo r purchasin g power) , an d 1 5 percen t less GDP generate d i n services. 13 Given thi s imbalance , i t wa s predictabl e tha t th e transitio n t o a marke t econom y woul d involv e a boo m i n service s an d a decline i n industr y almos t everywher e i n th e FSB.

14

Service s

were needed . Man y wer e nontradable , protecte d naturall y fro m international competition . The y coul d b e produced economicall y by smal l units . The y di d no t requir e grea t initia l investmen t i n new capita l equipment. The y ra n continuously , no t seasonally , s o "learning b y doing " coul d procee d a t a stead y pace . Almos t everywhere i n th e FSB , servic e activitie s ar e booming . Th e de -

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cline o f industria l activit y wa s no t s o pretty . Existin g unit s wer e huge an d vita l t o thei r employees . Wit h thei r useless , energy hungry capita l stocks , the y require d massiv e recapitalization . And man y operate d seasonally , i n phas e wit h harvest s an d weather, enterin g a crucia l cycl e onl y onc e o r twic e eac h year . Such enterprise s woul d fin d i t muc h mor e difficul t t o lear n a new technolog y rapidly . When a plant i n a market econom y i s unable t o sel l its outpu t in th e market , i t cut s bac k productio n an d ma y attemp t t o re structure an d introduc e ne w technology . A s productio n col lapses, worker s los e thei r jobs . I f restructurin g fails , manager s and supervisor s joi n them . Mone y drie s up , an d th e fir m dies . This sequenc e o f market-drive n event s ha s bee n largel y absen t when i t come s t o th e huge , inefficien t plant s o f th e FSB . Uneconomic scale , poo r location , an d inferior , wastefu l equipmen t mark the m ou t fo r failure , bu t thi s ha s no t bee n allowe d t o happen. Relativel y rarel y hav e worker s bee n cu t loose . Manag ers—often powerfu l part y functionarie s i n th e ol d regime — have fo r th e most par t survive d b y using thei r politica l skill s an d connections. Credit s hav e bee n extende d tha t allo w firm s t o pay worker s (thoug h typicall y les s tha n i n th e pas t an d ofte n irregularly). Inter-fir m deb t ha s mounte d a s well , deepenin g th e policy dilemm a becaus e zombi e firm s no w shar e th e bloo d sup ply o f potentia l survivors. 15 And , o f course , wit h suppl y shrink ing fa r faste r tha n demand , wit h balloonin g expansio n o f credit , inflation ha s soared . When externa l injection s o f dollar s hav e permitted , people' s demand fo r foreig n good s an d asset s has for a time been satisfie d by interventio n i n foreig n exchang e markets . Billion s o f ai d dol lars have bee n spen t t o dela y th e inflationar y effect s o f measure s to pro p u p old , uncompetitive , gian t firms , instea d o f t o eas e

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their demis e an d facilitat e th e growt h o f smalle r replacements . Ironically, the overvalued exchang e rates only ad d t o the compet itive burde n o n producer s o f tradabl e goods . Th e sal e o f ai d dollars mute s th e inflationar y pressure , bu t i t doe s no t en d it . Currency-market interventio n ha s provide d classi c opportunitie s for currenc y speculators , whil e ordinar y citizen s simpl y se e in flation an d currenc y depreciatio n mov e i n burst s rathe r tha n steadily. Hundred s o f million s o f dollar s tha t coul d hav e bee n distributed t o citizen s throug h publi c work s program s instea d reward thos e wh o pla y foreig n exchang e markets .

Waiting for the Market The en d o f communis m offere d a remarkabl e opportunit y fo r visionary leadershi p t o shap e th e transformatio n o f th e FSB , but unfortunately i t ha s gon e largel y unexploited . N o Jea n Monne t has emerge d fro m withi n th e transitio n state s wit h a visio n for economi c progress . Western advisers , too—represente d mos t pervasively b y team s fro m th e IM F an d Worl d Bank—hav e failed t o offe r imaginativ e advice . Locke d int o a rigi d mode l o f free-market capitalism , the y hav e bee n preoccupie d wit h th e appearance rathe r tha n th e substanc e o f structura l change . The painfu l proces s o f replacin g th e ol d communis t econom y with ne w firms , ne w jobs , an d ne w infrastructur e i s aide d onl y slightly by th e standar d prescription s o f Western advisers : priva tization, liberalization , an d macroeconomi c austerity . I f existin g firms canno t surviv e competition , privatizatio n i s o f dubiou s value. Macroeconomi c polic y mus t confron t th e reaso n fo r fisca l and monetar y undiscipline : th e absenc e o f a progra m t o phas e out inherite d firms . Face d wit h th e choic e o f abandonin g indus tries an d farm s t o wholesale bankruptc y o r providing the m wit h

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liquidity, government s an d centra l bankers have opte d fo r mone tary infusions , tha t is , inflation . Rather tha n accor d governmen t a centra l rol e i n confrontin g the dilemm a o f transition, mos t domesti c an d internationa l econ omists appea r t o hav e a deist' s visio n o f th e rol e o f th e publi c sector: the lawmaker s se t the "institutiona l infrastructure " (prop erty an d contrac t law , system s o f payment , court s an d police) , commit themselve s t o well-define d macroeconomi c law s o f mo tion, an d the n le t markets wor k thei r magic , unimpeded . In a n inversio n o f th e ol d socialis t dream , bot h domesti c an d international economi c reformer s hav e se t up a n idealize d visio n of th e free marke t agains t a n imag e o f governmen t interventio n dominated b y deficienc y an d failure . Thu s th e Czec h leade r Vaclav Klau s ha s calle d fo r " a marke t econom y withou t adjec tives," defiantl y thumbin g hi s nos e a t th e "socia l market " state s of Norther n Europe . Ye t i n fact , Klau s ha s supporte d policie s that ar e fa r fro m th e laissez-fair e ideal . A s i n ever y countr y o f the FSB , th e Czech s hav e no t permitte d failin g enterprise s t o crash noisil y t o th e ground . The y hav e no t simpl y abandone d workers t o marke t force s i n housing , healt h care , an d th e othe r services offere d b y stat e firm s unde r communism . Th e Czec h Republic, wit h it s long tradition s o f excellenc e i n manufacturin g and sobriet y i n economi c affairs—an d it s appea l t o foreig n ex change-rich tourists—ha s manage d th e transitio n bette r tha n any othe r membe r o f th e FSB , but no t becaus e i t abandone d th e economic rol e o f th e publi c sector . Wh y ha s practic e there , a s almost everywher e els e in th e FSB , been s o at odds wit h theory ? If th e standar d packag e o f th e IM F an d th e Worl d Ban k wer e adopted a s prescribed , th e result s woul d b e brutal . Place d o n a hard-budget constrain t an d ordere d t o sin k o r swi m a s best the y could, mos t firm s woul d sink , an d fast . I n theory , th e peopl e

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displaced woul d fin d wor k i n emergin g servic e enterprise s an d in new , competitiv e industria l firms . Bu t i n mos t o f th e FSB , th e economic equivalen t o f wartim e destructio n o f th e capita l stoc k cannot b e expecte d t o generat e ne w opportunitie s smoothl y an d rapidly enoug h t o absor b th e displace d workers . No r coul d on e assume, a s mos t o f th e Wester n adviser s implicitl y do , tha t masses o f worker s raise d i n a socialis t econom y coul d suddenl y become independen t an d entrepreneuria l i n ope n labo r markets . In short , democraticall y electe d leader s coul d no t se t i n mo tion force s tha t woul d cas t th e populatio n adrift . Thei r laissez faire rhetori c notwithstanding , the y kne w tha t citizen s woul d not stan d idl y b y whil e th e enterprise s aroun d whic h thei r live s were organize d wer e reduce d t o economi c rubble . Voter s woul d not stan d fo r it . Ye t th e rhetoric—an d th e thinkin g tha t la y behind it—deprive d th e leaders , an d thei r experts , o f th e abilit y to devis e governmen t economi c policie s t o manag e th e transi tion. Fo r th e challeng e t o polic y durin g th e transitio n wa s no t t o identify goal s tha t virtuall y everyon e shared—a n orderl y demo cratic marke t econom y tha t i s efficient , fair , an d macroeconom ically stable. It was t o establish a new rol e for government , base d on th e recognitio n tha t government , wart s an d all , ha d t o b e a great par t o f th e solutio n t o problems o f th e transition . But ideolog y mad e thi s har d t o see . Wit h politica l wind s i n the Unite d State s an d Britai n blowin g strongl y agains t govern ment, i t seeme d t o man y tha t th e centra l jo b o f restructurin g government i n th e post-Sovie t worl d wa s simpl y t o disengag e government fro m th e econom y an d ge t i t ou t o f th e way . I f thi s reflected th e politica l fashio n o f th e day , i t als o showe d th e tendency o f late-twentieth-centur y economic s t o neglec t institu tions. Behind th e internationa l agencies ' narrow , mechanica l polic y

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prescriptions lie s a pessimisti c vie w o f th e potentia l fo r produc tive governmen t interventio n an d a failur e t o recko n wit h th e politics o f economi c policymakin g i n a democrati c society . Thi s approach drive s thei r recommendation s awa y fro m package s tailored t o specific socioeconomi c circumstance s an d towar d one size-fits-all program s base d o n classica l liberalism . Th e evidenc e of alternativ e form s o f capitalism—i n Eas t Asia , fo r example — in whic h governmen t play s a n activ e role , i s largel y ignore d o r deemed inappropriate . Ne w Dea l policie s tha t wer e use d t o mitigate th e cost s o f th e Grea t Depressio n i n th e Unite d State s are similarl y dismissed . No r i s th e experienc e o f postwa r West ern Europ e heeded , wher e Jea n Monnet' s effort s t o coordinat e the coa l an d stee l sector s le d eventuall y t o th e Europea n Com munity. Th e narro w economi c contributio n o f an y o f thes e gov ernment intervention s i s certainly ope n t o debate. But al l of the m helped unit e an d focu s societie s a s the y emerge d fro m povert y and economi c crisis . International agencie s hav e no t forbidde n activ e governmen t policy t o establis h a socia l safet y ne t o r t o hel p retir e failin g industries; but, wit h fe w exceptions , neithe r hav e the y provide d leadership i n formulatin g an d financin g suc h policies . Marke t economies everywher e pursu e policie s tha t eas e th e economi c pressure o n declinin g sector s an d hel p citizen s i n distress . Ye t international agencie s have sough t t o impose polic y tha t i s mor e "economically correct " tha n i n an y Wester n country . This i s not t o sugges t tha t th e Wes t bears primar y responsibil ity fo r th e curren t distres s i n th e FSB , no r t o impl y tha t i t i s within th e powe r o f externa l agencie s alon e t o se t matter s right . The focu s i s o n opportunitie s lost , o n contribution s no t made . Indeed, th e reluctance o f international ai d donor s t o endorse an d finance mor e activ e program s fo r governmen t doe s no t mea n

The Soviet Bloc in Transition 75 that peopl e withi n thes e institution s hav e no t though t deepl y about thes e issues . Economist Joshu a Aizenma n an d th e IMF' s Pete r Isar d hav e built a mode l t o justify publi c subsidie s t o state-owne d firm s t o slow thei r demise , thereb y preventin g th e emergenc e o f suppl y bottlenecks, excessiv e adjustmen t costs , and othe r externalities. 16 Isard an d Michae l P . Dooley hav e discusse d th e need fo r govern ment intervention , especiall y i n financia l markets , i n a n essa y that receive d th e AME X Ban k Revie w Priz e o f 1992. 17 I n 1991 , Eric Rice interviewed forty-tw o staf f member s o f the World Ban k and summarize d thei r idea s abou t governments ' rol e in the tran sition. H e conclude s tha t "government s o f Easter n Europ e ar e obliged t o car e fo r th e loser s i n th e proces s o f restructuring... . Given th e region' s fisca l constraint s an d it s nee d fo r infrastruc ture, benefi t program s tha t requir e recipient s t o wor k o n publi c infrastructure project s ma y b e o f particula r interest." 18 Ye t whe n he turns , barel y a pag e later , t o "A n Agend a fo r Externa l Assis tance," h e make s n o mentio n o f assistanc e i n establishin g an d financing suc h programs . For i t i s when th e focu s shift s fro m discussio n o f issue s t o th e actual dispersio n o f ai d tha t the priorities o f the agencie s becom e clear: macroeconomi c austerity , privatization , pric e liberaliza tion, ai d fo r suppor t o f exchang e rates , plus technica l adviser s t o show ho w t o d o al l o f th e above . Ai d t o th e unemployed—sa y through publi c employmen t i n large-scal e publi c work s pro grams—is endorse d a s a goo d idea , bu t onl y t o th e exten t tha t governments pursu e i t o n thei r ow n throug h thei r copiou s ta x revenues. When i t come s t o privatization , fa r mor e attentio n ha s bee n paid t o formalities tha n to substance. By no means d o the formal ities ensure tha t th e structur e o f incentive s an d reward s face d b y

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workers and , especially , manager s wil l chang e fundamentally . With centralize d contro l disable d i n mos t o f th e FSB , most enter prises, privatize d o r not , ar e ru n b y manager s wh o respon d t o complex incentive s an d constituencie s including local politicians, gangsters, workers , an d thei r ow n persona l interests . A ritua l o f privatization coul d involv e th e establishmen t o f a n enterpris e that trul y operate s unde r a hard-budget constrain t wit h it s man agers accountabl e t o activ e owners ; o r i t coul d mea n tha t pape r has been shuffled an d otherwis e nothing has changed fo r manag ers o r governmen t functionaries . Fo r smal l enterprises , particu larly i n th e services , a n entrepreneuria l privat e secto r i s growin g rapidly. Bu t th e "privatization " o f manufacturin g an d farmin g has brough t abou t muc h les s chang e tha n migh t hav e bee n ex pected. 19

What Is to Be Done? To navigat e th e transitio n successfully , th e government s o f th e FSB mus t tak e responsibilit y fo r meetin g basi c huma n needs . Citizens wil l not tolerat e th e collapse o f valued service s formerl y supplied b y enterprises—includin g housing , healt h care , an d community activities . As part o f broader economi c restructuring , government need s t o disengag e suc h service s fro m firm s b y offering substitutes . Unfortunately , ther e i s littl e i n th e progra m of internationa l agencie s t o hel p the m d o so ; the hol y trinit y o f stabilization, liberalization , an d privatizatio n receive s almos t al l prayer an d votiv e offerings , accompanie d b y ster n sermon s o n the danger s o f a bloated publi c sector. 20 Poland' s nee d t o desig n a pensio n syste m tha t discourage s costl y earl y retiremen t re ceived littl e international attentio n until poor policie s were intro duced. Whethe r o r not on e see s health clinic s or da y car e center s

The Soviet Bloc in Transitio n JJ as falling withi n th e optima l spher e o f governmen t activity , mea sures t o enabl e th e demis e o f uneconomi c enterprise s mus t in clude suppor t fo r th e peopl e wh o wil l suffer . The specter o f corrup t an d distortin g governmen t interventio n must b e balance d agains t th e consequence s o f a lifeles s publi c sector i n a sinkin g economy . Wha t institutio n bu t governmen t will provid e publi c good s suc h a s education , publi c health , an d infrastructure? Wher e ca n ordinar y peopl e tur n when , confuse d and impoverished , the y se e th e worl d changin g aroun d the m faster tha n the y ca n comprehend ? There i s a n ol d stor y o f a scientis t wh o kne w tha t h e coul d train a hors e t o liv e withou t food . Weanin g th e anima l da y b y day, th e scientis t almos t ha d succeede d whe n th e feckles s crea ture died . Th e advic e wa s good , th e experimenta l subjec t wa s weak. Befor e th e FSB succumbs, th e experimen t mus t b e revised . Against th e experienc e o f th e Czec h Republic—whic h show s that i t i s possibl e t o mov e fro m socialis m towar d capitalis m i n a remarkably straigh t line—w e shoul d weig h th e inabilit y o f th e remainder o f th e FS B t o follo w suit . Whil e th e eventua l goal , democratic capitalism , remain s unchanged , w e mus t recogniz e the responsibilit y o f th e governmen t no t onl y t o pu t condition s in plac e tha t allo w competitiv e market s t o develop , bu t als o t o play a n activ e rol e a s a midwif e t o th e transition . Peopl e wil l bear th e cost s of transitio n onl y i f the y have confidenc e tha t the y have no t been abandone d t o change s the y d o no t understand . Three step s ar e essential . First , non e o f th e responsibilit y fo r provision o f education , healt h care , chil d care , an d communit y activities shoul d res t wit h firms . Governmenta l agencie s mus t provide suc h services . Second, th e safet y ne t fo r th e unemploye d must b e developed , probabl y base d o n publi c work s projects . Third, th e inevitabilit y o f industria l protectio n mus t b e acknowl -

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edged; a structur e o f protection , it s implementatio n (throug h subsidies o r barrier s t o internationa l trade) , an d a timetabl e fo r its evolutio n mus t b e worke d out . Th e proble m o f transitio n societies is not simpl y t o remove o r reduce intrusiv e governmen t but t o find th e prope r mi x o f publi c an d privat e institutions—t o reconstitute government . I n th e FSB , it i s necessar y no t onl y t o "privatize" socialize d firm s s o tha t the y ca n sin k o r swim . I t i s necessary t o "socialize " som e function s formerl y performe d b y firms, s o tha t enterprise s tha t canno t mak e th e transitio n t o markets wil l be abl e t o disappea r int o bankruptcy withou t drag ging the education, healt h care , and community-suppor t system s along wit h them . Creating a capabl e an d efficien t publi c secto r wil l no t b e easy . Besides th e challeng e o f establishin g a cadr e o f reliabl e bureau crats, reasonabl y hones t an d read y t o tr y ne w methods , ther e i s the proble m o f financing . Her e Wester n ai d ca n pla y a centra l role. Billion s o f dollar s hav e bee n spen t t o suppor t currenc y values. A half billio n dollar s coul d suppor t te n millio n displace d workers i n th e FS B for a month . Ai d donor s woul d d o bette r t o shift suppor t fro m stabilizatio n t o publi c work s an d socia l ser vice programs, a s happened i n the United State s during th e Ne w Deal. Given thei r histor y o f overwhelmin g intrusion s o f govern ment int o famil y an d commercia l life , i t i s eas y t o understan d why peopl e throughou t th e FS B embrace d th e principl e o f free markets. Ye t the profoun d inabilit y o f post-Sovie t industria l an d agricultural firm s t o compet e create d stron g contractionar y pres sures, th e ful l effect s o f whic h hav e bee n avoide d onl y becaus e central government s hav e booste d credit s t o firms , regardles s o f whether thei r long-ter m prospect s ar e promisin g o r hopeless . International lender s sternl y deman d tha t government s abjur e

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monetary exces s an d forc e firm s t o accept th e hard consequence s of har d budge t constraints . Th e government s promise , an d eve n keep thei r promise s fo r a time. Workers ar e no t paid ; rea l wage s continue t o drop ; gangster s an d hustler s see m t o b e th e onl y people wh o prosper . An d the n th e peopl e sa y no . Reformer s are throw n out . Electe d government s los e credibilit y wit h thei r constituents, wh o instea d tur n t o demagogue s an d economi c witch doctors . Meanwhile, Wester n adviser s stic k tenaciousl y t o thei r pre scriptions. Acknowledgin g onl y on e mode l o f capitalism—th e neoclassical economists ' paradigm—the y fai l t o adjust th e medi cation t o historica l an d nationa l circumstance . I f the y ha d thei r way, the y woul d pus h th e economie s o f th e FS B further towar d the classica l libera l paradig m tha n an y Wester n country . While som e countrie s o f th e FS B see m t o b e managin g th e transition t o capitalis m wit h tolerabl e success—Estoni a an d Po land, a s wel l a s th e Czec h Republic—mos t ar e not . Th e sorr y spectacle o f faile d advice , economi c decline , an d mutua l distrus t and disrespec t betwee n government s an d thei r externa l adviser s suggests n o positiv e outcome . No r i s thi s likel y t o chang e with out a genera l recognitio n tha t activis t government—on e tha t responds t o economi c need s an d popula r distress—ha s bee n part o f capitalism i n almos t al l times an d places . The state canno t simply b e th e make r an d enforce r o f economi c rules . I t wil l no t do fo r adviser s simpl y t o acknowledg e a government' s righ t t o pursue popula r program s i f i t ca n fin d th e mone y t o d o so . Western advic e an d resource s must foste r essentia l publi c a s wel l as privat e institutions ; the y mus t buil d governments ' abilit y t o provide publi c goods ; the y mus t strengthe n politica l an d eco nomic leadershi p fo r th e ordinar y citize n caugh t i n th e mael strom o f transition .

fIVf The Chines e Puzzl e Leonard Silk and Mark Silk We ar e weepin g fro m to o man y joys . W e ar e ri d o f th e shame o f th e past . Ou r forefather s ca n feel a t eas e in thei r graves. O, my Motherland, you are no longer a broken bowl in front o f an ancient temple.

^F h e above lines come from a poem that a man named Qin g Xian I sen t t o th e Communis t Part y newspape r i n Guangdon g I shortl y befor e th e 198 9 massacr e o f pro-democrac y demon strators in Beijing's Tiananme n Square . The verse neatly encapsu lates the mode l Chin a offer s o f capitalis t economi c development ; one that juxtaposes th e shame o f political repression , symbolize d by th e Tiananme n tragedy , wit h a degre e o f economi c liberaliza tion tha t ha s transforme d th e stil l officiall y communis t countr y into a powerhouse o f production an d entrepreneurship . Since 1979 , th e Chines e econom y ha s grow n a n averag e o f 9 percent pe r year—mor e tha n doubl e th e rat e o f th e previou s twenty years. 1 I f China , wit h it s populatio n o f ove r on e billio n people, wer e t o continu e a t thi s pace , b y th e thir d decad e o f th e twenty-first centur y it s econom y woul d b e th e world' s largest . Already, China' s economi c powe r ha s bee n fel t globally . It s con 81

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struction boom , fo r example , ha s straine d th e supply-deman d relationship i n internationa l stee l markets . It s impac t o n foo d markets, a s a grai n importer , i s likely t o gro w rapidly . Driven b y a populatio n o f ove r on e billio n people , th e Chines e econom y could tur n int o a n engin e o f growt h fo r th e entir e world, an d th e twenty-first centur y migh t com e t o be regarde d a s "th e Chines e Century" However, ther e ar e critic s wh o doub t tha t th e boo m o f th e past tw o decade s ca n las t muc h longer . The y war n tha t th e Chinese economy i s overheating, that inefficiency an d corruptio n are widespread, tha t disparitie s between ric h an d poo r ar e grow ing, an d that , havin g gaine d s o muc h fro m importin g th e avail able technology o f others, China will not be able to keep growin g rapidly o n it s ow n withou t mor e fundamenta l change s i n th e system tha n it s communis t leader s hav e thu s fa r bee n willin g t o accept. Unless th e countr y achieve s politica l a s well a s economi c freedom, thes e critic s say , a politica l explosio n wil l driv e Chin a back int o isolatio n an d stagnation . No r ar e th e concern s limite d to educate d Westerners . Chines e peasant s stil l fea r a retur n o f traditional Chines e xenophobia . Accordin g t o th e People's Daily, many o f the m ar e s o afrai d tha t th e governmen t wil l chang e it s policy o f "makin g peopl e wealthy " tha t the y ar e hidin g thei r newly earne d cas h i n their home s o r putting i t in banks fa r fro m their hom e villages . Be that a s it may, China's economi c ris e has profound implica tions fo r th e futur e o f capitalism . Th e Chines e authoritaria n model offer s a n alternativ e t o othe r developin g countrie s tha t could undermin e th e West' s effort s t o promot e a developmen t model base d o n democrati c values . Fo r howeve r critica l fre e speech an d majorit y rul e may see m to be to a successful capitalis t system i n th e lon g run , authoritaria n decisionmakin g ha s en -

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abled Chin a t o pursu e a controlled , step-by-ste p approac h t o a market econom y tha t unti l no w ha s prove d fa r mor e successfu l than th e combinatio n o f democrac y an d dismantle d economi c coordination t o be foun d i n Russia an d Easter n Europe .

The Takeoff Today's economi c growt h i n Chin a i s th e resul t o f a decad e an d a hal f o f continuou s reform . B y th e lat e 1970s , th e result s o f th e radical economi c experiment s o f th e Ma o Zedon g year s ha d taught th e communis t leader s tha t extrem e centralizatio n o f con trol an d extrem e egalitarianis m woul d b e disastrous . Th e "Grea t Leap Forward " o f th e lat e 1950 s an d th e ideologica l fur y o f th e Cultural Revolutio n cause d shar p fall s i n agricultura l produc tion; ove r twent y millio n peopl e die d i n famines , whic h wer e linked t o th e government' s hatre d o f presume d interna l "ene mies" an d it s suppressio n o f trut h abou t condition s o n th e land . After Mao' s deat h i n 1976 , radica l ideologue s wer e totall y dis credited; Maoists were eliminate d a s a serious politica l forc e an d advocates o f Stalinis t bureaucrac y wer e crippled . T o recou p th e "ten los t years " o f th e Cultura l Revolution , th e Chines e govern ment turne d t o Den g Xiaopin g t o rene w th e Communis t Party' s claim t o legitimac y b y rebuildin g th e economy . Deng , wh o re turned fro m hi s secon d banishmen t t o becom e "paramoun t leader" i n 1978 , played dow n ideology , pu t th e clas s struggl e o n the bac k burner , an d stresse d materia l incentive s t o motivat e farmers an d workers . The way t o economi c growt h wa s cracke d ope n b y dissolvin g the ol d syste m o f collectivize d agriculture . Allowin g familie s t o farm th e lan d an d t o decid e how , when , an d wha t t o produc e was th e mos t far-reachin g an d dramati c o f th e reforms . T o in -

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crease incentive s fo r har d work , th e governmen t institute d a "production responsibilit y system/ ' b y whic h task s wer e as signed t o a famil y o r individual s throug h contract s betwee n th e production tea m an d th e household, assurin g tha t th e families o f farmers woul d b e rewarde d fo r thei r efforts . B y th e mid-1980s , almost al l far m task s ha d bee n assigne d o n a househol d basis . The families , calle d "brigades " t o preserv e som e flavo r o f social ist acceptability , wer e permitte d t o contrac t wit h th e governmen t to produc e se t amount s o f particula r crop s an d t o sel l what the y produced abov e thos e amount s o n loca l free markets , keepin g the cas h the y earned . The y wer e als o encourage d t o engag e i n side-line productio n an d dispos e o f tha t a s the y wished . Th e government the n moved t o rely o n market force s fo r distributin g farm products , eliminatin g o r sharpl y reducin g quota s fo r th e major crop s b y 1985 . The result : Agricultura l outpu t gre w two and-a-half times . Concurrently, Chines e authoritie s wer e makin g a concerte d effort t o expan d foreig n trade . Specia l economi c zone s wer e se t up t o mak e i t easie r fo r foreig n investor s an d exporter s t o d o business. Centralized stat e authorit y ove r trad e wa s disperse d t o regional an d provincia l corporations , an d eventuall y t o domesti c industrial enterprise s themselves . Foreig n exchang e wa s gradu ally decontrolled . Whil e openin g Chin a t o foreig n trade , Den g encouraged foreig n investmen t a s well. Ne w joint-ventur e regu lations wer e promulgate d i n 1979 , i n par t becaus e o f energ y shortages tha t force d th e Chines e governmen t t o invit e foreig n companies t o help explor e fo r offshor e oil . By the mid-1980s , the inflo w o f foreig n capita l an d technolog ies was exertin g a n enormou s impac t o n th e economy , especiall y in th e coasta l areas . Measure s wer e take n t o giv e greate r inde pendence t o th e southeaster n provinc e o f Guangdong , tradition -

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ally activ e i n foreig n trad e an d influence d b y Hon g Kong . Trad ing companie s wer e allowe d t o promot e exchang e trad e wit h Hong Kon g an d Maca o an d t o keep thei r profits . A Stat e Statisti cal Burea u communiqu e issue d o n Marc h 18 , 1992 , reporte d that a t th e en d o f 1991 , 37,215 foreign-funde d enterprise s wer e producing $1 2 billion wort h o f exports , representin g 1 7 percen t of th e expor t total . During th e first fou r year s o f reform, direc t foreign investmen t grew b y les s tha n $ 2 billion . B y 1991 , however, th e contracte d capital inflo w doubled , an d i n 1992 , i t ha d mor e tha n quadru pled, a s foreig n investor s signe d agreement s fo r $^y.^ billio n i n future investmen t an d actuall y poure d int o Chin a $11. 2 billion . In 1993 , foreig n investmen t contract s reache d a n amazin g $10 0 billion, an d foreig n direc t investmen t tha t yea r ros e t o abou t $20 billion. Muc h o f thi s influ x cam e fro m investment s i n join t ven tures an d emergin g financia l market s b y oversea s Chines e i n Hong Kong , Taiwan , Singapore , Indonesia , an d th e Unite d States. Ye t i t i s importan t t o not e that , wit h a domesti c saving s rate typica l o f Eas t Asia—3 0 percent—Chin a wa s generatin g most o f it s capita l internally . Altogether , export s surge d fro m $14.8 billion i n 197 9 to $85 billion i n 1992 . Now rankin g tent h i n world trade , Chin a ha s alread y becom e a n importan t tradin g partner t o many countries , includin g th e United States . Last i n lin e was refor m o f th e Chines e industria l sector , whic h did no t begi n i n earnes t unti l 198 4 with th e abolitio n o f regiona l monopolies an d th e establishmen t o f a dual-pric e syste m tha t permitted input s an d output s t o b e sol d a t price s se t b y th e market a s well a s by th e state . This had th e effec t o f encouragin g villages an d township s t o develo p competitiv e businesse s o f their own . Th e growt h o f locall y base d enterprise , especiall y light manufacturin g an d retai l businesses , serve d th e govern -

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ment's ai m o f promotin g a shif t fro m produce r t o consume r goods, the productio n o f whic h require d les s energy i n th e wak e of th e oi l crisi s o f th e lat e 1970s . It als o enable d ten s o f million s of surplu s far m worker s t o switc h t o industria l jobs , s o tha t b y the earl y 1990s , ove r one-fift h o f China' s rura l populatio n wa s working i n light industries . Another componen t o f China' s industria l polic y involve d re ducing militar y budget s an d manpower . I n 1985 , th e People' s Liberation Army' s eleve n militar y region s wer e cu t t o seve n an d the numbe r o f senio r officer s halved . Th e Centra l Intelligenc e Agency estimate s tha t fro m 198 4 to 198 8 China's militar y spend ing fell 2 1 percent.2 Meanwhile , th e arme d force s helpe d manag e the shif t fro m militar y t o civilia n production . Th e Chines e gov ernment claim s tha t productio n o f civilia n good s an d service s now account s fo r 6 5 percent o f defense-secto r economi c activity , including construction , healt h services , transport , telecommuni cations, farming , an d eve n entertainmen t center s an d massag e parlors. Thes e enterprises , accordin g t o th e Wall Street Journal, now generat e mos t o f th e $ 6 billion neede d annuall y t o pa y fo r the three-million-member arme d forces. 3 It i s importan t t o recogniz e tha t industria l refor m ha s no t meant privatization . Th e vas t majorit y o f townshi p an d villag e enterprises ar e collective s owne d b y loca l government . China' s leaders judge d i t bot h inconsisten t wit h socialis t ideolog y an d unwise publi c polic y t o privatiz e th e large , state-owne d indus trial enterprises . Fo r althoug h thes e ofte n antiquate d an d ineffi cient enterprise s represen t a larg e drai n o n th e nationa l budget , they emplo y hug e number s o f worker s an d provid e the m wit h housing, healt h care , an d othe r services . I n fact , hal f o f al l Chi nese city-dweller s ar e house d b y stat e enterprises . Th e govern ment's decisio n t o pro p u p thes e enterprise s b y keepin g energ y

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prices artificiall y lo w ha s als o contribute d t o th e financia l bur den; i n th e earl y 1990s , fully 4 0 percent o f state-enterpris e losse s came fro m th e coa l minin g an d petroleu m extractio n industries . Some effort s hav e bee n mad e t o reduc e th e numbe r o f state enterprise worker s an d t o place som e i n mor e competitive , spin off businesses . Bu t sellin g th e enterprise s t o privat e investor s o r simply shuttin g the m dow n ha s been deeme d to o high a price t o pay i n terms o f socia l dislocation . After ove r a decad e o f industria l reform , onl y 1 0 percen t o f Chinese industr y coul d b e considere d privat e i n a n econom y i n which industr y accounte d fo r 5 0 percen t o f outpu t an d 8 0 per cent o f tota l exports . Fro m this , economist s Gar y Jefferso n an d Thomas Rawsk i concluded : "China' s experienc e o f industria l reform suggest s that economists ten d t o overstate the importanc e of earl y privatizatio n durin g th e transitio n process . Th e strengt h of governmen t effort s t o forc e enterprise s towar d financia l inde pendence ma y coun t fo r mor e tha n th e locu s o f ownership/'

4

The evidence fo r this , at least so far, would appea r t o be indisput able. According t o th e Chines e government , th e gros s nationa l product nearl y quadruple d fro m $12 0 billio n i n 198 0 t o $42 7 billion i n 1989 . After a brie f setbac k cause d b y anti-inflationar y measures i n 1988-89 , China' s econom y agai n gre w ver y rap idly—in rea l terms , b y 7 percen t i n 1991 , 12. 8 percen t i n 1992 , and 1 4 percen t i n 1993 . Bu t i f anything , governmen t figure s understate th e exten t o f th e growth . Whereas , fo r example , th e official estimat e of GNP per capit a fo r 199 1 was $370, the Interna tional Monetar y Fun d re-estimate d i t a t $1,45 0 b y pricin g al l Chinese good s accordin g t o estimate d purchasin g power . A n Australian study , base d o n foo d consumptio n patterns , con cludes tha t a prope r estimat e o f China' s GN P woul d b e doubl e

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or tripl e tha t o f th e officia l statistics . Th e discrepanc y betwee n official statistic s an d independen t estimate s derive s mainl y fro m the artificiall y suppresse d price s i n th e socialis t syste m an d th e disparity i n th e valuatio n o f a variet y o f products . Thi s ma y reflect policy : B y appearin g t o b e poore r o n pape r tha n the y ar e in reality , th e Chines e ca n enjo y benefit s i n borrowing an d trad e that appl y onl y t o th e poores t countries . I n an y event , th e dis crepancy shoul d begi n t o disappea r a s price s continu e t o b e liberalized fro m a conditio n o f almos t complet e contro l whe n Deng cam e t o power . Sinc e th e agricultura l reform s o f 1978 , about three-quarter s o f state-fixe d far m price s hav e bee n abol ished, whil e by 199 2 the governmen t controlle d price s o f onl y 4 4 percent o f industria l produc t sales . China' s burgeonin g capita l markets ar e strikin g evidenc e o f it s shif t towar d a marke t economy.

Question Marks Although i t ha s kep t economi c dislocation s t o a minimum , Chi na's stage d approac h t o developmen t ha s create d numerou s op portunities fo r corruption . Enterpris e head s hav e bee n abl e t o profiteer b y exploitin g th e differences betwee n state-se t an d mar ket prices . Bureaucrats-turned-businessme n def y edict s fro m Beijing i n orde r t o pursue short-ter m gains . Nepotism an d favor itism withi n business an d industr y ar e widespread . One notoriou s scanda l too k plac e o n Haina n Island , a desig nated "ope n area " wher e loca l official s engage d i n a schem e t o enrich themselve s throug h sale s o f expensiv e car s an d othe r consumer goods , instea d o f usin g scarc e foreig n exchang e fo r purchases o f capita l equipment . No r wa s Haina n a n isolate d case. In its wake, the government announce d i t was investigatin g

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200,000 case s o f "unscrupulou s profiteering , ta x evasio n an d violation o f busines s regulations. " Den g tol d th e nation : "Onl y socialism ca n eliminat e th e greediness , corruptio n an d injustic e which ar e inheren t i n capitalism... . I n recen t years , productio n has gon e up , bu t th e perniciou s influenc e o f capitalis m an d feudalism ha s no t bee n reduce d t o a minimum . Instead , evil s that ha d lon g bee n extinc t afte r liberatio n hav e com e t o lif e again." To be sure , neithe r Den g no r othe r hig h official s showe d an y signs o f reversin g cours e a s the y trie d t o achiev e a mor e ope n economy. I n Beijin g an d i n th e specia l economi c zone s o f Shen zhen an d Xiamen , official s too k a commo n line , a t onc e promis ing tha t the y woul d d o everythin g t o eradicat e corruptio n an d denouncing part y opponent s wh o sough t t o us e it s existenc e a s an argumen t fo r tryin g t o sto p economi c reform s an d th e open door policy . Urgin g foreig n corporation s t o inves t i n thei r coun try, th e official s insiste d tha t ther e woul d neve r b e a chang e i n their opennes s t o foreig n investmen t an d th e safeguardin g o f foreign propert y an d right s t o repatriate capita l an d earnings . In privat e interviews , America n an d othe r foreig n business men i n Shangha i hav e complaine d tha t seriou s problem s d o exist fo r foreig n investors , mainl y involvin g th e readines s o f th e Chinese governmen t t o break a contrac t i t doesn' t like . The Chi nese hav e bee n sensitiv e t o th e criticism , sayin g tha t "issue s no t covered b y presen t law s an d regulation s ma y b e incorporate d into economi c contract s stipulatin g i n explici t term s th e right s and obligation s o f bot h parties. " Accordin g t o them , th e con tracts, once approved b y the government, "hav e full lega l effect. " But, sa y th e foreig n businessmen , bureaucrati c snarl s o r othe r tie-ups sometime s preven t governmen t approva l o f wha t the y thought wa s a valid contract . The y cal l for a stricte r enforcemen t

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of Chines e law s protectin g foreig n investors , a s well a s improve ment o f th e law s themselves . If China' s socialis t lega l syste m ha s lacke d protection s fo r foreign investors , i t ha s likewis e bee n inadequat e t o protec t th e natural environmen t fro m th e consequence s o f rapi d industrial ization. Ai r pollutio n i n Beijin g i s fou r t o si x time s a s ba d a s i t was in Tokyo at its worst level s in the late 1960s . Overall damag e to China' s land , air , water, an d forests—includin g relate d healt h care costs—ha s bee n calculate d a t 1 5 percent o f GNP . Research ers a t th e Chines e Academ y o f Science s predic t tha t i f measure s are no t take n t o protec t th e environment , Chin a wil l fac e sever e environmental crise s i n th e firs t tw o decade s o f th e twenty-firs t century. 5 At th e sam e time , rapi d industrializatio n ha s create d a work place environment reminiscen t o f the worst o f the Western indus trial sweatshops o f the late nineteenth an d earl y twentiet h centu ries. Accordin g t o Ul i Schmetze r o f th e Chicago Tribune, 19,00 0 Chinese worker s die d i n industria l accident s i n th e firs t hal f o f 1993; in Guangdong provinc e alone , a factory fir e occurre d ever y day. Factor y owner s habituall y ignor e safet y regulations , com pensating worker s wit h pittance s fo r los s o f lif e an d limb.

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Strikes agains t thes e sweatsho p condition s by worker s i n foreig n factories i n Guangdon g an d Fujia n hav e le d investor s t o see k more complian t worker s i n interio r provinces , a proces s tha t facilitated th e government' s desir e t o hav e prosperit y sprea d from th e southeas t coas t int o th e hinterland . Despit e succes s i n creating job s fo r displace d agricultura l workers , a n arm y o f 5 0 million no w trave l aroun d th e countr y i n searc h o f an y availabl e work, an d thei r number s ar e expecte d t o doubl e o r tripl e i n th e coming years . While i n th e Wes t advocate s o f laisse z fair e minimiz e an d

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even dismis s th e nee d fo r macroeconomi c management , observ ers o f th e Chines e scen e worry abou t th e degre e t o which decen tralization ha s undermined Beijing' s abilit y t o keep th e country' s economic hous e i n orde r wit h fisca l an d monetar y policy . I n place o f a unifor m nationa l syste m o f taxation , th e province s negotiate thei r ow n deal s wit h Beijing , an d the n procee d t o fin d ways t o minimiz e wha t the y contribute . A s a result , central government ta x receipts shrun k i n half relativ e t o gros s domesti c product betwee n 198 0 an d 1991 , and i t ha s becom e exceedingl y difficult t o coordinat e taxin g an d spendin g policy , whethe r t o manage th e econom y o r t o mak e infrastructur e improvements . On th e monetar y side , weak centra l banking authorit y ha s mad e it increasingly difficul t fo r Beijin g to keep inflatio n unde r control . In lat e 1993 , for example , urba n consume r price s ros e 2 0 percen t in a n econom y overheate d b y double-digi t growt h rate s an d speculation i n rea l property , foreig n exchange , an d stocks . Th e head o f th e centra l ban k wa s fire d an d replace d wit h Deput y Prime Minister Zhu Rongji , who announce d a set of anti-inflatio n policies. But wit h province s abl e t o issu e bonds t o financ e enter prise (i n addition t o abundant foreig n an d domesti c private capi tal), reinin g i n inflatio n prove d mor e difficul t tha n previously . I f inflation i s permitte d t o sto p th e flow o f domesti c saving s tha t has fuele d China' s boom , th e costs—politica l a s wel l a s eco nomic—could b e huge .

Human Rights In a petitio n t o th e Chines e governmen t release d th e da y befor e the arriva l o f U.S . Secretar y o f Stat e Warre n Christophe r i n Beijing o n hi s ill-fate d tri p o f March , 1994 , seven senio r Chines e

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intellectuals issue d a statemen t citin g thes e word s fro m th e United Nation s Declaratio n o f Huma n Rights : • Nobod y shal l carr y ou t unreasonabl e arrests , detentions , and deportations . • Everybod y ha s th e righ t t o freedo m o f ideas , conscience , and religion . • Everybod y ha s th e righ t t o enjo y th e freedo m o f advocac y and expressio n o f views . Those right s ma y b e crucia l t o a people' s happines s an d self respect, bu t ho w muc h d o the y contribut e t o economi c well being? China' s communis t leader s hav e neve r promise d demo cratic politica l reform , an d i t ca n b e argue d tha t thei r retentio n of an authoritarian politica l structure ha s helped the m t o manag e the difficul t transitio n t o a marke t econom y mor e successfull y than Russi a an d th e Easter n Europea n countries . Certainl y i t ha s earned the m som e awe d respec t fro m economists , internationa l civil servants , governmen t officials , an d abov e al l fro m busines s people, whose abilit y to make mone y migh t actuall y be inhibite d under a democrati c syste m that , fo r example , passe d minimu m wage o r workplace safet y laws . Is the Chinese model o f authoritarian capitalis m on e that othe r developing countrie s ca n o r shoul d imitate ? Chin a i s b y n o means th e onl y countr y i n Eas t Asi a t o mak e rapi d economi c progress. Japa n achieve d a n annua l growt h rat e o f nearl y 1 0 percent i n th e 1960s , an d Sout h Korea , Taiwan , Singapore , an d Hong Kon g followe d sui t i n th e 1970 s an d 1980s . Al l o f thes e Asian nation s shar e a commo n Confucia n cultura l heritage . (I n response t o th e question , "Wha t d o al l th e developin g countrie s that hav e succeede d i n achievin g economi c take-off s hav e i n common?" Joh n Kennet h Galbrait h jokingl y asserted : "The y ar e

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all Chinese/' ) Ye t each o f th e other s followe d a differen t patter n of developmen t tha n China's . Their politica l environment s hav e range d alon g a spectru m from rigi d autocrac y t o ope n democracy . Japan' s postwa r eco nomic expansio n occurre d withi n a democrati c politica l system , as di d Hon g Kong's . Sout h Kore a an d Taiwa n starte d thei r eco nomic developmen t unde r authoritaria n militar y regimes , bu t both hav e recentl y democratize d thei r politica l systems . Fo r it s part, Singapor e ha s becom e mor e rigi d an d authoritaria n ove r the years . The question remains how lon g China's apparen t succes s wit h its repressiv e mode l ca n endure . A s th e example s o f Naz i Ger many, fascis t Italy , an d th e Sovie t blo c hav e shown , totalitarian ism ha s it s limits . Whethe r th e Chines e leader s lik e i t o r not , their economi c reform s hav e empowere d th e Chines e peopl e t o a fa r greate r exten t tha n i n th e Ma o years . Economi c progres s has give n the m greate r self-respec t an d hop e o f improvin g thei r lives; economic freedo m ha s mad e the m mor e self-reliant . I t is i n the natur e o f a market econom y t o pu t a premium o n individua l choice an d initiative , t o instil l yearnings fo r freedo m an d protec tion fro m stat e intrusion . Tiananme n ma y hav e squashe d th e public democrac y movement , bu t i t i s har d t o believ e that , ove r time, popula r demand s fo r politica l freedo m wil l no t grow . Ulti mately, ther e i s a chanc e tha t Chin a coul d follo w th e Sout h Korea/Taiwan model , wit h economi c developmen t eventuall y bringing abou t politica l liberalization . Meanwhile, Deng's open-doo r policy , by fosterin g interdepen dence wit h foreig n countries , ha s mad e Chin a vulnerabl e t o outside pressure . Wester n suspensio n o f loa n an d ai d program s in th e wak e o f th e Tiananme n massacr e force d Chin a t o cu t bac k imports t o preserv e it s foreig n exchang e reserves . Zh u Rongji ,

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the deput y premier , wa s tol d o n a visi t t o Toky o tha t Japanes e foreign ai d t o Chin a woul d depen d o n th e leve l o f it s militar y spending—a warnin g fo r restrain t tha t Chin a ha s no t ignored . And th e U.S . threa t t o cance l China' s Mos t Favore d Natio n (MFN) statu s becaus e o f it s huma n right s abuse s woul d hav e cost Beijin g billion s o f dollar s an d hundred s o f thousand s o f jobs. To be sure , Presiden t Clinton' s decisio n t o dro p th e threat , i n response t o America n busines s pressures , brough t no t jus t a sense o f relie f bu t a renewe d arroganc e fro m Beijing . Soo n afte r U.S. renewa l o f it s MF N privileges , th e Chines e decide d t o ex plode a hydrogen bomb , a s i f markin g a triump h wit h a displa y of fireworks . Thi s kin d o f nose-thumbing , designe d t o demon strate tha t al l suc h threat s ar e pape r tigers , i s predicate d o n a belief tha t transnationa l busines s interest s wil l neve r permi t Western government s t o den y the m acces s t o th e biggest emerg ing market i n the world . For th e United States , China's huma n right s recor d i s only th e most visibl e sourc e o f tensio n betwee n th e tw o countries . Ther e are als o th e issue s o f China' s larg e trad e surplus ; it s militar y power, which som e se e as a threat t o stability i n the Asian Pacifi c region; an d it s arm s sales , whic h strengthe n aggressiv e an d dic tatorial state s i n othe r part s o f th e world . Alon g thes e lines , some geopolitica l strategist s argu e tha t a mor e pragmati c an d "nuanced" relationshi p woul d bette r serv e th e interest s o f bot h the Unite d State s an d China , an d avoi d a confrontatio n tha t could inflic t heav y damag e o n world economi c development . A Polic y Impac t Pane l establishe d b y th e Counci l o n Foreig n Relations an d chaire d b y forme r Secretarie s o f Stat e Henr y Kis singer an d Cyru s Vance, concluded: "Chin a has its issues and w e have ours . Eac h o f u s shoul d promot e ou r position s t o sui t ou r

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interests, whil e recognizin g tha t w e hav e a commo n overridin g interest i n makin g thing s wor k ou t withou t backin g awa y fro m our values . W e shoul d therefor e remai n i n constan t strategi c dialogue wit h Beijin g s o a s t o avoi d a situatio n i n whic h polic y failures i n an y on e sphere—whethe r i n human rights , nonprolif eration, trade , Asia n regiona l issues , o r othe r matters—under mine Sino-U.S . cooperation acros s the board/' 7 Presiden t Clinto n apparently accepte d thi s logi c an d backe d awa y fro m hi s earlie r efforts t o link huma n right s reform s t o U.S. trade wit h China . On this matter, Ira q may offe r a cautionary example . Through out th e 1980s , Iraq' s Presiden t Sadda m Hussei n an d hi s diplo mats emphasize d thei r country' s stabilit y an d growt h i n a n at tempt t o mut e criticis m o f thei r egregiou s huma n right s violations. Baghda d enjoye d considerabl e respec t fro m Wester n nations, includin g th e Unite d States , whic h provide d i t wit h military an d economi c assistance . Bu t a s Iraq' s invasio n o f Ku wait showed , rewardin g dictator s an d tacitl y encouragin g thei r aggressive design s ca n b e a dangerou s an d costl y game . Durin g the past tw o decades , Chines e leader s hav e subordinate d geopo litical ambition s t o economi c development , bu t ther e i s no guar antee tha t the y wil l continu e t o d o so . Historically , Chin a ha s shown a tendency t o bully it s neighbors, an d shoul d it s growin g economic powe r tur n int o greate r politica l assertiveness , i t would creat e seriou s problem s fo r countrie s throughou t th e Pa cific area—includin g th e Unite d States . Th e Beijin g governmen t has alread y steppe d u p effort s t o modernize th e military an d ha s increased bot h it s arm s procuremen t from , an d it s ow n arm s sales to , othe r countries . I t has als o rattle d it s sabe r a t th e islan d state o f Taiwan , t o whic h i t ha s neve r surrendere d territoria l claim. Yet Chinese leader s kno w the y don' t hol d al l th e cards . Hon g

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Kong, whic h officiall y become s par t o f Chin a i n 1997 , ha s in vested clos e t o 7 0 percen t o f China' s tota l intak e o f foreig n capital, an d Beijin g mus t b e war y o f bruta l behavio r tha t woul d provoke th e Hon g Konges e int o pullin g thei r capita l (an d them selves) out—o r a t leas t suspendin g furthe r investmen t o n th e mainland. Beijin g mus t als o worr y abou t destroyin g it s growin g trade an d investmen t relation s wit h Taiwan . No r ca n al l th e economic succes s i n th e worl d eras e it s unpleasan t imag e a s a trampler o f huma n rights . I n 1995 , it s repressio n o f dissident s was onc e agai n dramatize d b y th e arrest , trial , an d expulsio n o f human right s activis t Harr y Wu . Likewise , th e regime' s heavy handed behavio r i n hostin g th e Unite d Nation s Fourt h Worl d Conference o n Wome n prove d t o b e a n internationa l embar rassment. Are th e Chines e leader s read y t o loose n thei r gri p ove r th e people? The y kno w tha t th e greates t challeng e t o thei r domi nance wil l ultimatel y com e fro m within—fro m student s an d workers, fro m scientist s an d busines s people , fro m intellectual s and farmers , whos e powe r ca n onl y gro w a s th e econom y ad vances. They fea r tha t grantin g politica l right s would undermin e their monopol y o f power—powe r tha t ha s enable d the m t o lin e their ow n pocket s an d thos e o f thei r friends . Th e Tiananme n massacre in effect compelle d Chines e leaders to make th e promo tion o f wealt h th e sol e basi s o f it s legitimacy , an d indeed , ther e is some evidenc e tha t thi s approac h ha s worked—that th e popu lace, alienate d fro m al l politics , ha s focuse d it s attentio n largel y on th e achievemen t o f materia l prosperity. 8 Chin a ma y wel l de cide tha t th e pric e o f bein g a human-right s paria h i s wort h paying, a t leas t fo r th e foreseeabl e future . It s succes s i n thi s regard encourage s othe r developin g countrie s t o follo w th e dic tum: "If your econom y i s growing, you ca n repress your people. "

SIX Japan a t th e Crossroad s Leonard Silk and Mark Silk

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he persistenc e o f Japan' s hug e trad e surplus , base d o n Tokyo's determinatio n t o acquir e externa l asset s rathe r tha n invest domestically , ha s raise d th e questio n o f whethe r Japa -

nese capitalis m i s essentially incompatibl e wit h capitalis m i n th e West. Indeed , som e economist s maintai n tha t i f th e Japanes e system i s permitte d t o continue , i t wil l undermin e th e worl d economic system . Supportin g aggressiv e effort s t o forc e Japa n t o open it s market s an d th e us e o f manage d trad e a s a mean s o f getting a "fai r share " o f thos e markets , a numbe r o f rankin g Clinton trad e an d economi c official s di d no t hesitat e t o admi t sharing thes e "revisionist " views . A s Laur a d'Andre a Tyson , th e former chairma n o f th e President' s Counci l o f Economi c Advis ers, pu t it , "Japan' s capitalis m differ s fro m America's , s o tha t sometimes quota s ar e the onl y possibl e solution." 1 The premis e o f th e revisionis t argumen t i s tha t "traditional " 97

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Japanese societ y has create d a political an d economi c syste m tha t exploits th e opennes s o f th e West . No t sharin g th e Judeo-Chris tian heritage , th e Japanes e are , i t i s charged , individuall y an d collectively hostil e t o outsider s an d t o Wester n conception s o f openness. Thus , whil e Japa n ha s adopte d th e form s o f Wester n capitalism an d democracy , its political-economic syste m is impla cably an d unalterabl y oppose d t o both . This poin t o f vie w gaine d strengt h afte r th e en d o f th e Col d War shifted th e focus o f American foreig n polic y from containin g communism t o pursuin g economi c interests . Accordin g t o Chal mers Johnson , a leadin g revisionist , th e nee d t o maintai n a united anti-communis t fron t le d th e Wes t in general , an d Ameri can administration s i n particular , t o ignor e th e distinctive , an d disruptive, nature o f Japanese capitalism . But now, postwar capi talist unit y ha s begu n t o crack. 2 Henc e th e Clinto n administra tion's attempt s t o devise a n industrial polic y an d a tougher trad e policy agains t Japan . Recent reformis t effort s t o brin g th e Japanes e econom y mor e into line with th e open-marke t principle s o f th e rest o f th e indus trialized worl d hav e faile d t o chang e th e revisionis t imag e o f "Japan, Inc. " a s a conspiratorial , state-le d economi c monolith.

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How warrante d i s it?

Japanese Social Values Japanese capitalis m ha s unquestionabl y bee n shape d b y tradi tional Japanese culture . Although man y Japanes e ar e themselve s unconscious o f it s influence , Confucianis m stil l animate s thei r attachment t o authority , seniority , hierarchy, harmony , an d conti nuity, while a t the same time denigrating individualism , confron tation, an d sudde n change . Thes e values , particularl y anti-indi -

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vidualism, hav e give n a distinctl y nonwester n cas t t o bot h th e political an d th e economi c syste m i n Japan . Nonconformity , American-style, i s anathema t o most Japanese , wh o tak e comfor t not fro m individua l self-expressio n bu t fro m havin g a clearl y defined plac e withi n a socia l hierarchy . Indeed , th e Japanes e seem t o hav e change d littl e sinc e Rut h Benedic t describe d thei r reverence fo r hierarch y i n The Chrysanthemum and the Sword fift y years ago . Japanese economi c lif e i s meticulousl y structured . Hierarch y exists not onl y within a given compan y bu t als o within a n indus try, whic h i s itsel f par t o f a large r hierarch y extending , a t leas t nominally, o n up throug h th e central governmen t t o the emperor . People ar e expected t o obey directive s fro m thos e above ; popula r sovereignty, th e foundatio n o f Wester n democracy , goe s agains t the grain . Altogether , Japanese citizen s ar e far readie r tha n West erners t o acquiesc e i n anti-democrati c practice s an d th e abus e of politica l power . I n a societ y wher e individualis m i s see n a s egotism, peopl e see k th e comfor t o f groups , th e securit y o f organizations. Westerner s ar e ofte n frustrate d b y Japanes e reluc tance t o accep t persona l responsibilit y o r eve n t o clarif y wher e i t lies; the y com e awa y wit h a n impressio n o f Japa n a s a fortifie d camp. In addition , Japan' s geographi c an d histori c isolation , an d it s high degre e o f ethni c homogeneity , hav e fostere d a stron g na tional identit y a s wel l a s a n obsessio n wit h "Japaneseness. " De spite a high degre e o f interactio n wit h foreigner s i n recen t years , the Japanes e maintai n th e idea l o f a close d society , discriminat ing agains t foreigner s o n th e ground s tha t the y ar e no t "Japa nese." (Suc h foreigner s includ e ethni c Korean s an d Chines e wh o speak Japanese a s their nativ e languag e an d whos e familie s hav e lived i n Japa n fo r generations. ) I n economi c life , th e Japanes e

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have kep t foreig n businessme n a t ba y fo r ove r a centur y wit h nontariff barriers . Japanese cultura l value s an d socia l structur e ar e nowhere bet ter expresse d tha n i n education. Japanes e parent s pul l ou t al l th e stops to qualify thei r childre n fo r th e best nursery schools , whic h are see n a s a necessar y firs t ste p t o th e bes t jobs . Cra m course s designed t o generat e th e highes t tes t score s begin i n elementar y school. Th e highes t scorer s o n colleg e entranc e examination s ge t into th e handfu l o f elit e universities , whic h determin e futur e careers an d socia l status , an d suppl y th e nex t generatio n o f leaders o f th e Japanese establishment .

Postwar Legacies As importan t a s th e Confucia n legac y remain s i n Japanes e soci ety today , however , Japanes e capitalis m ha s bee n cruciall y shaped b y th e term s o f th e country' s reconstructio n afte r Worl d War II . Initiall y denie d sovereignt y an d kep t fro m participatin g in internationa l politics , th e Japanes e wer e late r prohibite d b y their constitutio n fro m almos t an y militar y activit y beyon d self defense. Th e post-occupatio n securit y arrangements , unde r which Japan relied for it s national securit y o n U.S. protection, lef t economic developmen t a s virtuall y th e sol e outle t fo r Japanes e national ambition . Desperat e t o reconstruc t thei r devastate d country an d eage r t o forge t thei r dar k militaris t past , th e Japa nese seize d th e opportunit y wit h unprecedente d fervor . In th e firs t perio d o f reconstruction , America n occupatio n officials—many o f who m wer e optimisti c an d committe d Ne w Dealers—put throug h democrati c reform s o f th e Japanes e eco nomic structure . The y eliminate d th e "zaibatsu " cartels , insti tuted anti-monopol y an d labo r laws , and pu t i n place a fair trad e

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commission. Bu t wit h th e onse t o f th e Col d War , an d especiall y after th e Chines e communist s cam e t o powe r i n 194 9 an d wa r broke ou t o n th e Korea n Peninsul a i n 1950 , libera l refor m gav e way t o the imperative o f transformin g Japa n a s quickly a s possi ble int o a politicall y stabl e an d economicall y powerfu l natio n that woul d b e imperviou s t o communis t subversion . Decentral ization an d democratizatio n policie s wer e se t aside ; purged war time governmenta l official s wer e reinstated ; antitrus t polic y wa s weakened; an d ne w restriction s wer e impose d o n labo r unions . During th e 1950s , th e Truma n an d Eisenhowe r administra tions helped buil d u p Japa n wit h Korea n Wa r militar y contracts , hundreds o f million s o f dollar s i n aid , an d constructio n loan s arranged throug h th e Worl d Bank . Th e U.S . governmen t als o sought t o "manage " Japanes e trad e b y encouragin g a n aggres sive expor t driv e whil e a t th e sam e tim e fosterin g domesti c protectionist practice s tha t enable d Japan' s marke t t o become th e most close d i n th e industrialize d world . Thirt y year s later , thes e policies woul d com e back t o haunt Washington . In Japan , th e ques t fo r economi c regeneratio n becam e a kin d of religiou s crusade . Wartim e sacrifice s fo r th e empero r wer e replaced b y sacrifice s fo r economi c development . Lik e th e kami kaze pilot s wh o believe d thei r sacre d spirit s coul d lea d imperia l Japan t o victory , hig h governmenta l official s an d lowl y factor y workers alik e cam e t o fee l tha t onl y thei r dedicatio n an d self sacrifice coul d sav e an d rebuil d th e war-battere d nation . Poverty-stricken, th e Japanes e nonetheles s restraine d thei r con sumption; the y enthusiasticall y embrace d th e government' s "Buy Japanese " campaign . Whil e livin g standards , leisure , an d social capita l investmen t wer e largel y neglected , industrializa tion an d expor t growt h becam e th e shrine s a t whic h al l wor shiped. Toky o institute d policie s t o protec t an d develo p infan t

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industries throug h subsidies , ta x breaks, an d impor t restrictions . It als o encourage d privat e saving s an d facilitate d capita l invest ment i n strategi c industries . Thus di d wartim e defea t bree d a widesprea d psychologica l attitude o f self-sacrific e an d a "must-do " spirit . Bu t economi c success als o reinforce d traditiona l Japanes e feeling s o f cultura l superiority an d isolation , an d heightene d economi c nationalism . It shifte d publi c attentio n farthe r an d farthe r awa y fro m domes tic politic s an d foreig n policy . I n creatin g th e world' s mos t re markable economi c succes s story, it also created th e world's mos t entrenched an d nationalisti c economy .

The Iron Triangle Japan's desperat e postwa r conditio n cause d th e governmen t t o play a prominen t rol e i n th e economy , an d tha t rol e continue d once th e countr y wa s bac k o n it s feet . I n th e 1950s , th e govern ment allocate d foreig n exchang e an d institute d ta x policie s in tended t o increas e capita l formation . I n th e 1960 s an d 1970s , i t targeted strategi c industries—thos e deeme d t o b e vita l t o mod ern economi c development—an d vigorousl y promote d exports . Such aggressivel y pro-busines s measure s wer e adopte d o n th e assumption tha t th e Japanes e econom y wa s stil l wea k an d vul nerable, a n assumptio n tha t influence s Japanes e policymaker s t o this day . Protectio n o f domesti c industrie s ha s becom e accepte d as a natural wa y o f life . Through th e postwa r decades , elit e governmen t bureaucrat s built relationship s wit h electe d politician s an d businessmen , cre ating wha t ha s com e t o b e know n a s th e "Iro n Triangle " o f th e Japanese Establishment . Cozy , clubby , an d lucrative , th e Iro n Triangle ha s safeguarde d th e interest s o f it s members , whil e

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excluding outsider s an d newcomers . Th e ke y t o thi s tripartit e fortress ha s bee n th e bureaucracy , whic h ha s jealousl y guarde d its power an d prerogative s throug h a n enormous variety o f regu latory devices . During mor e tha n fou r decade s o f government-le d economi c development, th e bureaucrat s establishe d elaborat e industry protection mechanisms . Various ministries foun d thei r reaso n fo r being i n th e protectio n o f industrie s unde r thei r jurisdiction , justifying a wide rang e o f regulator y practice s an d larg e staff s t o administer them . Japanes e capitalis m entail s extensiv e supervi sion an d clos e monitorin g b y governmenta l authority , fo r onl y within parameter s se t by th e relevan t bureaucrat s hav e Japanes e businesses been abl e to compet e fo r profit . The bureaucrat s hav e guarantee d thei r powe r throug h exten sive connection s buil t u p whil e servin g i n a variet y o f powerfu l government positions . Upo n thei r retirement , mos t senio r offi cials i n governmen t ministrie s ar e offere d executiv e position s a t large companie s i n a practic e know n a s "amakudari, " o r "de scent fro m heaven. " Eac h sid e benefits , a s th e "descendants " function bot h a s liaison s t o thei r forme r ministrie s an d effectiv e representatives o f them . Th e bureaucrat s als o develo p specia l relationships wit h electe d politicians , ofte n b y wa y o f forme r associates i n thei r ranks ; on e ou t o f fiv e member s o f th e long dominant Libera l Democratic Part y i s a former bureaucrat . The bureaucrats ' powe r i s no t limitless . Mos t senio r ministr y officials ar e appointe d onl y wit h th e approva l o r acquiescenc e o f politicians. An d i n highl y politicize d issue s suc h a s governmen tal refor m o r Japan' s militar y rol e i n th e world , i t i s th e politi cians wh o decide . Bu t otherwise , th e bureaucrat s ru n th e coun try. Senio r Japanes e politician s usuall y giv e cart e blanch e t o to p ministry officials , makin g the m th e d e fact o policy-maker s a s

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well a s th e implementer s o f policy . Lackin g vita l skill s an d staf f to dea l wit h day-to-da y administrativ e issues , th e politician s reserve onl y th e righ t t o gran t th e technocrats ' decision s thei r final approval , an d thi s i s often n o mor e tha n a rubber stamp . I n the meantime , the y devot e mos t o f thei r tim e t o part y politic s and factiona l strife . Four decade s o f one-part y rul e ha s ha d muc h t o d o wit h the deca y o f th e politica l process . Forme d i n 1955 , th e Libera l Democratic Part y (LDP ) buil t it s appea l throug h stron g anti communism an d a clos e allianc e wit h th e Unite d States—i n contrast t o th e Communis t an d Socialis t Parties , whic h oppose d the U.S.-Japa n mutua l securit y agreement . Concerne d tha t a left ist governmen t migh t com e t o power , Washingto n no t onl y un derwrote Japan' s economi c developmen t bu t provide d cover t assistance t o th e LDP . B y th e 1970s , thank s largel y t o Prim e Minister Hayat o Ikeda' s campaig n t o doubl e persona l income , the LD P ha d monopolize d th e credi t fo r th e postwa r economi c miracle. Meanwhile , th e U.S . retur n o f Okinawa , withdrawa l from Vietnam , an d establishmen t o f relation s wit h Chin a per suaded th e Japanese peopl e t o accep t Washington' s militar y um brella withou t question . Consolidating thei r power , LD P politician s becam e crucia l intermediaries betwee n bi g busines s an d th e bureaucrats . Th e politicians assume d specia l "portfolios"—regulator y authorit y over particula r economi c sector s suc h a s agriculture , construc tion, transportation , an d communication ; know n a s tha t sector' s "zoku" o r tribe , thes e politician s wer e give n contribution s i n order t o back favorable legislatio n an d block undesirable govern ment actions . A t th e loca l level , politician s receive d vote s an d ample politica l donation s fro m th e busines s establishmen t through suppor t group s know n a s "koenkai. " Onc e elected , th e

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politicians returne d th e favor s wit h regulator y approva l an d public work contracts . Money politic s als o served politica l ambition s withi n th e LDP. In the late 1960s , Prime Ministe r Kakue i Tanak a use d substantia l contributions fro m th e constructio n industr y t o expan d th e power o f hi s ow n politica l faction . Soo n othe r faction s wer e scrambling t o d o th e same . Eventuall y Tanak a wa s force d t o resign an d convicte d o f takin g a $2. 1 millio n brib e fro m th e Lockheed Corporation . Bu t thoug h comparabl e t o Watergat e i n scale, th e affai r barel y affecte d th e cours e o f Japanes e politics . Scandal followe d scanda l durin g th e 1980s , acceleratin g a s th e bubble econom y expande d th e quantit y o f eas y mone y availabl e to contributors . Th e Recruit Cosmo s scanda l force d Prim e Minis ter Nobor u Takeshit a ou t o f power an d tarnishe d th e reputation s of forme r Prim e Ministe r Yasuhir o Nakason e an d Financ e Minis ter Kiich i Miyazawa . Th e Sagaw a Kyubi n scanda l reveale d a close connectio n betwee n LD P leader s an d organize d crim e groups know n a s "yakuza" ; afte r a publi c outcry , th e leade r o f one LD P factio n resigne d fro m th e Die t an d wa s indicte d o n ta x evasion charges . I n 1993 , havin g becom e a nationa l embar rassment, th e LD P finally los t a n election .

The Entrenched Economy Japan's postwa r obsessio n wit h prosperit y an d growt h le d gov ernment an d busines s t o wor k han d i n han d t o mee t centrall y planned goals . Th e focu s wa s industria l development ; consum ers wer e promise d that , i n th e lon g run , the y woul d benefi t through jo b creatio n an d a n abundanc e o f mass-produce d an d affordable goods . The government' s promotio n o f larg e busines s enterprises accorde d nicel y wit h th e Japanes e lov e o f hierarchy ,

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and brought abou t harmony an d stabilit y i n economic life. It als o proved t o b e a n enormousl y successfu l competitiv e strategy , a s large Japanese companie s gre w faste r tha n thei r foreig n competi tors an d rapidl y expande d thei r share s o f oversea s markets . T o be sure , behin d th e succes s o f man y Japanes e bi g businesse s were countles s sacrifice s mad e b y th e smalle r busines s partners , suppliers, an d distributor s wh o relie d upo n the m fo r thei r sur vival. Contradicting classica l Wester n economi c theory , Japanes e economic polic y ha s give n prid e o f plac e t o producer s rathe r than consumers . Afte r fort y year s o f rapi d economi c develop ment, Japanes e consumer s continu e t o pa y muc h highe r price s than consumer s i n the West for th e same goods an d services , an d Japanese producer s ear n large r profi t margin s tha n thei r foreig n competitors. Unlik e Wester n countries , n o stron g consumer-ad vocate movemen t ha s take n roo t i n Japan . Hig h Japanes e retai l prices result from th e exclusion o f foreign goods , from monopol y and price-fixin g b y bi g business, an d fro m disguise d unemploy ment, ineffectiv e distributio n systems , an d collusiv e supplier buyer relationships . The Japanes e econom y i s a trust-buster' s nightmare . Eve n before U.S . postwa r occupatio n ended , th e ol d zaibats u cartel s had bee n permitte d t o regrou p unde r th e nam e o f "keiretsu. " With sovereignt y restored , th e Japanes e governmen t lifte d th e ban o n cross-shareholdin g an d interlockin g board s o f directors , permitting mos t majo r Japanes e firm s t o for m network s o f com panies surroundin g bank s an d tradin g corporations . Lik e th e zaibatsu, th e ne w keirets u group s acquire d companie s i n almos t all majo r sector s o f th e Japanes e economy , helpin g on e anothe r across industrie s b y sharin g information , financia l facilities , dis tribution networks , an d tradin g firms . Th e lac k o f enforcemen t

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of antitrust law s permitted vertica l integration ; large firms devel oped captiv e distributio n network s an d maintaine d exclusiv e suppliers. In theory , Japanes e marke t mechanism s ar e n o differen t fro m those o f othe r industrialize d marke t economies . In practice, the y often d o no t guarante e free competitio n t o thei r participants . This i s du e no t onl y t o th e keiretsu , bu t als o t o th e Japanes e tradition o f maintainin g longstandin g busines s relationship s even whe n better good s an d service s ca n be procure d elsewhere . In addition , th e Japanes e regulator y syste m protect s small - an d medium-sized busines s by maintaining a complex an d inefficien t distribution system , an d impose s complicate d rule s o n dealer s and retailer s i n end-consume r markets . Recen t revelation s o f widespread bid-riggin g practice s in the construction industr y ar e but anothe r sig n o f th e lac k o f free competitio n i n Japanes e markets. As a resource-poor country , Japan ha d lon g promote d export s in orde r t o obtai n ra w materials , bu t i n th e postwa r er a expan sion throug h export s becam e th e primar y drivin g forc e fo r Ja pan's economi c growth . Th e Japanese governmen t targete d stra tegic industrie s an d protecte d the m fro m foreig n competitio n until the y becam e sufficientl y competitive . I t als o prevente d th e entry o f foreig n companie s int o Japa n b y restrictin g thei r activi ties through licensin g an d joint ventures. The result was to creat e chronic overcapacit y withi n Japan , pushin g companie s t o see k bigger market s a t al l costs . Often , th e governmen t permitte d Japanese firm s t o fi x hig h domesti c price s eve n a s the y dumpe d their product s abroa d a t prices fa r belo w th e cos t of production . Driven b y overcapacity , th e intens e expor t driv e produce d a chronic trad e imbalance—an d complaint s b y foreig n competi tors tha t whe n i t cam e t o Japan, trad e wa s no t a two-wa y street .

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Here ther e i s n o underestimatin g th e rol e o f mammot h genera l trading firm s calle d "Sog o Shosha, " whic h unti l ver y recentl y served a s th e principa l intermediarie s betwee n Japa n an d th e outside world . Fo r i n additio n t o procurin g ra w material s an d finding oversea s markets , th e Sog o Shosh a functione d a s shield s against undesirabl e foreig n competitors , selectin g import s fo r Japanese market s i n suc h a wa y a s t o protec t thei r affiliate d manufacturers. The trad e balanc e wa s als o exacerbate d b y th e "lifetim e em ployment system " tha t sprea d throug h th e Japanes e econom y after Worl d Wa r II . Geare d t o rapi d growth , businesse s devise d the syste m i n orde r t o assur e a sufficien t labo r forc e an d kee p their skille d workers . I t als o helped establis h an d maintai n com pany loyalty . Whil e obligate d t o tak e car e o f employees ' well being, managemen t coul d coun t o n employee s t o sta y wit h thei r company unti l the y retired , an d tha t i n tur n permitte d a muc h larger investmen t i n employe e trainin g an d educatio n tha n would otherwis e hav e bee n justifiable . Bringin g socia l stabilit y and welfar e t o Japanese society , th e lifetim e employmen t syste m at th e sam e tim e create d substantia l rigiditie s i n th e Japanes e labor market . An d i n har d time s i t invariabl y le d manager s a t large firm s t o expan d thei r oversea s market s rathe r tha n brea k the tabo o agains t layoff s b y reducin g capacity .

Unraveling Japan, Inc. But howeve r muc h postwa r Japanes e capitalis m differe d fro m the industrialize d countrie s o f th e West , i t wa s no t somethin g unknown unde r th e Western sun . I t represented, rather , a throw back t o th e mercantilis m tha t mainstrea m Wester n economic s had se t itsel f agains t sinc e th e day s o f Ada m Smith . Indeed , al l

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the element s o f Japan' s economi c system—th e pus h fo r export s and limit s on imports, the internal an d externa l nontariff barrier s to free trade , th e cartel s an d monopolisti c tradin g companies — can be seen detailed i n the hundreds o f pages of Wealth of Nations that Smit h devote d t o attackin g mercantilis m i n early-moder n Europe. Moreover , Wester n economi c practic e ha d itsel f bee n a far cr y fro m th e free-trad e orthodox y o f Smit h an d hi s intellec tual progeny . Th e Unite d State s maintaine d hig h tarif f barrier s throughout th e nineteent h century , an d remaine d enamore d o f at leas t certai n kind s o f trad e protectionis m unti l Worl d Wa r II . The ver y fac t tha t Washingto n was , fo r reason s o f state , eage r t o sponsor a protectionis t Japa n i n th e earl y day s o f th e Col d Wa r shows th e continue d appea l o f mercantilis t policie s i n jump starting a n underdeveloped o r supin e economy . It ca n hardl y b e doubte d tha t mercantilism—undergirde d b y the willingnes s o f th e Japanese peopl e t o sacrific e fo r th e greate r good o f th e nation—worke d ver y wel l fo r th e Japanes e u p t o a point. Th e questio n i s whether, a s a full y matur e capitalis t econ omy, Japan ca n sta y it s cours e i n th e fac e o f foreig n pressure s t o liberalize, growing internationalism withi n th e Japanese busines s community, an d resistanc e fro m th e Japanese publi c itself. For i n spite o f everything , Japanes e societ y ha s no t bee n unaffecte d b y engagement i n th e globa l econom y an d b y th e ver y wealt h thi s engagement ha s brought . Especiall y amon g th e young , a ne w individualism ha s begu n t o tak e hold . Increasin g number s o f Japanese no w resis t self-sacrific e fo r eithe r th e stat e o r th e com pany, preferrin g instea d th e pleasure s o f consumption . Th e Stra tegic Impediments Initiativ e talk s between Japa n an d th e Unite d States, aime d a t crackin g ope n th e Japanes e market , helpe d edu cate Japanes e consumer s t o thei r ow n stak e i n free r markets , a s American negotiator s shifte d thei r emphasi s fro m "fairness " fo r

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U.S. producers t o consume r benefit s fo r th e Japanese. During th e 1993 economi c summi t i n Tokyo , Presiden t Clinto n stresse d th e theme o f consume r benefit s whe n h e addresse d Japanes e stu dents a t Waseda University . Japanese politica l leader s hav e increasingl y foun d i t i n thei r interest t o identif y wit h consumers , particularl y i n urba n areas . Before hi s downfal l i n 1993 , Prime Ministe r Kiich i Miyazawa, a n old LD P warhorse , propose d somewha t comicall y tha t Japa n become a "life-styl e superpower. " Elit e civi l servant s themselve s are changing . Th e governmen t a s a whole , le d b y th e Labo r Ministry, spearheade d a crusade t o cut work hours ; now govern ment office s ar e close d Saturday s an d workaholi c elit e bureau crats ca n be foun d takin g extende d vacations . Eve n th e Ministr y of Internationa l Trad e an d Industr y (MITI) , long regarde d a s th e heart o f "Japan , Inc., " has decide d t o espouse "human e policies " designed t o enhance th e qualit y o f lif e by promotin g leisur e tim e and th e creatio n o f "socia l capital. " Japanese businessme n ar e awar e o f th e need t o appeas e risin g consumer discontent . Despite having benefitted fro m th e existin g system, the y increasingl y emphasiz e th e nee d t o ope n th e coun try t o foreig n competitio n i n orde r t o reduc e th e trad e surplus . At a meetin g wit h America n businessme n i n Clevelan d i n 1993 , Gaishi Hiraiwa , forme r chairma n o f th e Japanes e Federatio n o f Economic Organization s (th e country' s mos t influentia l busines s organization), sai d tha t a nationa l consensu s wa s emergin g i n Japan o n th e nee d t o mov e fro m a producer-oriente d societ y t o one oriente d mor e t o consumer s an d focuse d les s o n exporting. 4 This newfoun d consumeris m o n th e par t o f big business ha s no t a little to do with th e fact tha t Japan's internationally competitiv e enterprises, no longer i n need o f governmental protection , woul d prefer som e deregulation . I n addition , b y erasin g fear s o f a so -

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cialist threa t t o Japanese capitalism , th e en d o f th e Col d Wa r ha s removed a n important rational e fo r funnelin g mone y t o the LDP. Business leader s openl y argu e tha t companie s an d busines s ser vice organization s shoul d discontinu e thei r financia l contribu tions t o political parties . The increase d powe r an d sens e o f securit y o f th e Japanes e business communit y ha s tende d t o mak e companie s mor e resis tant t o governmen t directio n an d control . Thus , whil e MIT I offi cials stil l ma p ou t industria l targets , larg e firm s loo k th e othe r way an d follo w thei r ow n agendas . Th e inabilit y o f th e Ministr y of Financ e t o devis e effectiv e fisca l an d monetar y policie s ha s deepened th e disenchantmen t o f Japanes e busines s leader s wit h bureaucratic guidance . An d a s th e bureaucrat s los e contro l o f Japanese business , th e rigiditie s i n th e postwa r Japanes e econ omy ar e beginning t o ease. 5

Uncertainties and Recession The defea t o f th e LD P i n July , 1993 , seeme d t o signa l no t onl y the en d o f th e Col d Wa r regim e o f anti-communis m an d eco nomic growt h a t al l cost s bu t als o a fracturin g o f th e Iro n Trian gle. During th e followin g eigh t months , th e reformis t Hosokaw a government delivere d wha t LD P leaders ha d lon g avoided : elec toral reform , th e openin g o f th e ric e markets , variou s deregula tory measures , an d a mor e straightforwar d apolog y fo r Japan' s transgressions i n Worl d Wa r II . However , Hosokaw a steppe d down i n th e fac e o f allege d financia l irregularitie s i n th e sprin g of 199 4 an d th e successo r coalitio n governmen t cam e t o a n en d after onl y tw o month s whe n th e Socialist s bolte d fro m th e coali tion an d forme d a onc e unthinkabl e politica l allianc e wit h th e

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LDP. Th e tw o forme r rival s successfull y snatche d powe r fro m the reformists an d shove d thei r agend a ont o th e back burner . Nevertheless, the ol d statu s qu o proved irretrievable . A weak ened Iro n Triangl e lef t th e LD P incapable o f implementin g effec tive nationa l policies . Bureaucrats becam e eve n free r tha n befor e to pursue narro w agendas . And bi g businesses wer e lef t o n thei r own t o cope wit h th e stron g yen an d th e protracte d recession . Without stron g leadership , littl e progres s wa s mad e i n trad e negotiations wit h th e Americans . I n respons e t o Presiden t Clin ton's cal l fo r a "result-oriented " trad e policy , th e Japanes e sid e continued t o argu e tha t settin g numerica l target s woul d lea d t o managed trad e an d adamantl y resiste d th e us e o f quota s o r benchmarks t o measure progres s i n opening market s t o dispute d goods. Frustrated by th e lack of progress, the Clinton administra tion announce d i n May, 1995 , that i t would impos e a 10 0 percen t tariff o n thirtee n Japanese-mad e luxur y cars . Thi s unilatera l threat, whic h dre w criticis m bot h insid e an d outsid e th e Unite d States, wa s withdraw n a t th e en d o f Jun e afte r intens e negotia tions resulte d i n a compromise . Althoug h th e U.S . trad e repre sentative, Micke y Kantor , an d th e Japanes e Ministe r fo r Interna tional Trad e an d Industry , Ryutar o Hashimot o (soo n t o b e th e next Prim e Minister) , publicl y disagree d ove r whethe r th e com promise containe d numerica l targets , Clinton's economic official s concluded tha t th e aggressiv e strateg y ha d worke d an d bega n issuing ne w threat s i n negotiation s o n ai r carg o an d films . Bu t the wea k globa l econom y an d Japan' s ow n protracte d recessio n made i t unlikely tha t Toky o woul d tak e th e trad e barrier s dow n any tim e soon . By late 1995 , the Japanese econom y had been stagnan t fo r fou r years; rea l estat e price s wer e continuin g thei r plung e an d man y industries wer e sufferin g fro m enormou s exces s capacit y buil t

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up durin g th e speculativ e bubbl e o f th e lat e 1980s—abou t 3 0 percent i n th e hug e automobil e industry . Th e Nikke i stoc k inde x had tumble d 6 0 percen t belo w it s peak . An d notwithstandin g continued adherenc e t o the principle o f lifetime employment , th e official unemploymen t rat e had crep t u p t o 3.2 percent . But th e greates t immediat e threa t la y i n th e shak y Japanes e financial system . Durin g th e bubble , Japanes e financia l institu tions mad e hug e rea l estat e loans . Deregulatio n adde d t o th e frenzy. Agains t a backdro p o f increase d diversificatio n an d global involvement , th e financia l institution s ha d insiste d the y needed mor e freedo m t o compet e wit h thei r opposit e number s overseas. Starting in 1988 , the Ministry o f Finance allowe d bank s and credi t union s t o se t thei r ow n interes t rates . Afte r th e col lapse o f stoc k market s an d th e shar p fall o f lan d prices , Japanes e companies' financin g cost s ros e sharply , deprivin g the m o f thei r competitive advantag e ove r foreig n manufacturers . On to p o f th e credi t crunc h cam e a serie s o f ban k failures — including tha t o f th e secon d larges t credi t unio n i n th e countr y in August , 1995—whic h threatene d t o wip e ou t th e fund s i n Japan's Deposi t Insuranc e Corporation , th e Japanes e versio n o f the U.S . FDIC. Althoug h th e Japanes e believe d th e governmen t would guarante e thei r money , th e failure s arouse d widesprea d fear i n th e internationa l financia l communit y tha t furthe r de faults coul d affec t liquidit y i n bank s aroun d th e worl d an d trig ger a globa l bankin g crisis . Becaus e Japanes e bank s maintaine d large holding s o f U.S . Treasury bill s an d othe r America n assets , the Federal Reserve Board move d quickl y t o devise a rescue pla n to infus e fund s int o Japanes e bank s shoul d the y ru n shor t o f money, usin g th e holdings a s collateral . In September , 1995 , the Ban k o f Japa n announce d a cu t i n it s discount rat e t o a recor d lo w o f one-hal f percent . Thi s wa s fol -

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lowed b y th e government' s $16 0 billion spendin g an d loa n pack age. However , th e package , lik e th e si x befor e it , wa s a patch work, reflectin g a Ministr y o f Financ e tor n betwee n a desir e t o pull th e countr y ou t o f recessio n an d a n unwillingness t o exacer bate a budge t defici t equa l t o 4. 5 percen t o f gros s domesti c product. (B y contrast , th e U.S . budget defici t equale d roughl y 2 percent o f America n GDP. ) Consistently , th e ministr y resiste d political pressur e t o use th e big fiscal stimulu s o f a tax cut .

A New Future? The foot-draggin g o f th e LDP-Socialis t governmen t coul d no t hold bac k th e gradua l liberalizatio n o f Japanes e society . Thank s to foreig n pressure , especiall y fro m th e Unite d States , tariff s have bee n lowere d o n mos t importe d manufacture d good s an d considerable improvement s hav e bee n mad e i n th e Japanes e distribution system . Today , importe d good s ar e n o longe r luxu ries beyon d th e reac h o f averag e Japanes e consumers . Importe d wine, beer , an d liquor s ar e availabl e a t price s competitiv e wit h domestic goods . Mor e foreig n businesse s ar e findin g way s o f cracking Japanese markets . The government itsel f ha s negotiate d several trad e agreement s wit h th e Unite d State s an d othe r coun tries, notabl y a January , 1995 , accor d openin g Japanes e publi c and privat e pensio n fund s t o foreign firms . For thei r part , Japanes e bi g businesse s hav e begu n t o recog nize tha t Japa n ha s com e t o th e en d o f it s perio d o f explosiv e growth, an d tha t th e ol d myth s o f Japan, Inc . will no t hel p the m deal wit h th e ne w realities . I n a n ag e o f slo w growth , th e ol d solution—expand, expand , expand—wil l n o longe r work ; the y have ha d t o lear n th e meanin g o f downsizing . Wit h eve n gian t automakers movin g t o close major factories , th e lifetime employ -

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ment syste m ha s itsel f graduall y com e int o question , a s distress ing a s this i s t o a population tha t ha s com e t o fee l entitle d neve r to b e lai d off . Rumor s o f possibl e layoff s a t majo r companie s have sen t shockwave s no t jus t throug h th e rank s o f employee s but throug h th e entir e society . Althoug h mos t bi g businesse s have manage d t o avoi d a fronta l assaul t o n th e system , the y are dismissin g part-tim e worker s (generall y women ) e n masse , encouraging earl y retirement , an d freezin g ne w hiring , particu larly o f femal e colleg e graduates . Pressure o n Japanes e manufacturer s ha s grow n a s th e yen' s appreciation dampene d deman d fo r Japanes e product s overseas . At the same time, steep production costs , the inefficient domesti c distribution system , an d excessiv e regulation s hav e mad e Japa n less hospitabl e t o manufacturing . Raisin g fear s tha t Japanes e industry i s "hollowin g out/ ' man y Japanes e companie s hav e transplanted manufacturin g t o lower-cos t nations , especiall y i n Southeast Asia , wher e chea p labo r i s readil y available . I n Octo ber, 1995 , th e Son y corporatio n becam e th e firs t Japanes e elec tronics gian t eve r t o announc e tha t i t woul d sto p exportin g Japanese-made colo r televisio n sets . I n addition , lower-price d imports hav e intensifie d industria l competition , whic h ha s i n fact delaye d th e country' s recover y fro m th e curren t recession . The persistenc e o f th e Japanes e trad e surplus , reflectin g i n part a shif t i n export s fro m finishe d good s t o part s an d equip ment, ha s force d th e governmen t t o see k way s o f encouragin g imports. 6 Thus MITI's oversea s offices , JETRO , which wer e origi nally establishe d t o promot e Japanes e export s worldwide , no w vigorously hel p Japanes e companie s impor t foreig n goods . Suc h efforts als o poin t t o Japanes e policymakers ' desir e t o stav e of f rising protectionist sentimen t aroun d th e world . In fact , th e buddin g refor m movemen t di d no t di e whe n th e

Il6 L E O N A R

D SIL

K AN

D MAR

K SIL

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Socialist-LDP coalitio n retoo k powe r i n June , 1994 . O n th e con trary, anti-establishmen t an d particularl y anti-bureaucrati c senti ments remaine d stron g throughou t th e country . Th e inep t gov ernmental respons e t o th e January , 1995 , Kob e earthquake , a s well a s t o th e poisonou s ga s attack s tha t bega n i n 199 4 an d continued throug h 1995 , shook Japanese confidenc e i n the princi ple that "centra l governmen t know s best." Tw o former televisio n personalities wit h stron g anti-establishmen t platform s wo n th e gubernatorial election s i n Toky o an d Osaka , defeatin g caree r bureaucrats runnin g wit h impressiv e credentials . I n July , 1995 , the reformis t Ne w Frontie r Part y mad e a stron g showin g i n upper hous e elections , confirmin g popula r disconten t wit h stag nant LDP-Socialis t rule . Where i s Japa n headed ? I t i s har d t o imagin e th e countr y resuming it s postwa r mercantilis t course , eve n i f i t wante d to . More likely, continued engagemen t wit h th e rest of the world, o n the par t o f bot h governmen t an d business , wil l slowl y mov e Japan close r t o it s economi c peer s i n th e West . Th e revisionis t assumption tha t Japanes e capitalis m i s sui generis an d mus t re main s o fail s t o recko n wit h th e natur e o f th e animal—an d run s the ris k o f undermining prospect s fo r economi c cooperation . Bu t that i s no prescriptio n fo r Wester n passivity i n the fac e o f contin ued Japanes e economi c discrimination ; externa l pressure s wil l still be needed t o suppor t th e internal force s fo r change . In an y event , ther e i s n o reaso n t o suppos e tha t Japa n ca n continue t o pla y it s postwa r mercantilisti c rol e withou t pro voking retaliatio n fro m th e Unite d State s an d othe r countries . Such retaliatio n woul d b e a sever e blo w t o th e futur e develop ment o f th e Japanes e economy . Japan' s economi c succes s ha s depended o n th e relativ e opennes s o f worl d market s t o it s ex ports an d investments , o n Wester n passivit y towar d it s hug e

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trade surpluses , an d o n th e politica l toleranc e an d protectio n o f Japan b y th e Unite d State s durin g th e Col d War . Th e en d o f the Sovie t threat , compounde d b y risin g concern s abou t globa l economic weaknes s an d th e imbalanc e i n trade , ha s radicall y changed th e environmen t i n whic h Japan' s driv e fo r economi c expansion worke d effectivel y fo r fou r decades . Ther e ar e sign s that Japan recognize s th e danger s i t faces i n overstayin g a polic y that has ha d it s day .

S EV EN Whither Norther n Europe ? Jonas Pontusson*

S

ince th e en d o f th e Col d War , the ne w laissez-fair e advocate s have take n ai m a t th e welfar e state , consignin g i t t o th e dustbin o f history a s an unacceptable halfwa y hous e betwee n

socialism an d th e fre e market . I n th e considere d opinio n o f House Majorit y Leade r Dic k Armey , th e resul t o f welfare-stat e expansion i n Wester n Europe , a s i n th e Unite d States , ha s bee n "a stagnan t economy , hig h an d persisten t unemployment , an d little incentive t o further achievement/ ' Bu t Armey take s comfor t that "eve n ou r Europea n friends , th e inventor s o f th e welfar e state, ar e themselve s gettin g o n board th e Freedo m train/' 1 There i s no better wa y t o understand welfare-stat e capitalism , and th e natur e o f th e recen t change s t o whic h Arme y alludes , than t o loo k a t German y an d it s small , affluen t neighbors : Aus * Jonas Pontusson i s Associate Professo r o f Governmen t a t Cornell University . 119

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tria an d Switzerlan d t o th e South ; Belgiu m an d th e Netherland s to th e West ; an d Denmark , Norway , an d Swede n t o th e North . For thes e ar e the advance d capitalis t countrie s wher e th e welfar e state ha s reache d it s fulles t development . T o Arme y an d othe r laissez-faire advocates , i t seems , al l capitalis t economie s ar e es sentially th e same ; they diffe r primaril y i n term s o f th e exten t t o which th e welfar e stat e intrude s o n th e marke t allocatio n o f resources. However, th e welfar e state—understoo d a s the publi c provision o f socia l benefits—i s bu t on e wa y o f distinguishin g between th e "socia l market " economie s o f Norther n Europ e an d "free market " economie s typifie d b y Britai n an d th e Unite d States. 2 It i s unquestionabl y tru e tha t i n German y an d it s smalle r neighbors, ther e ha s bee n a shif t toward s th e free-marke t mode l in recen t years . Th e question s befor e u s ar e th e reason s fo r an d implications o f thi s shift . I s Norther n Europ e followin g i n th e footsteps o f Britai n an d th e Unite d States , as Armey woul d hav e it? O r doe s th e shif t merel y represen t a n adjustmen t withi n a n essentially stabl e system , shiftin g th e balanc e o f decisionmakin g away fro m labo r towar d business , withou t alterin g th e basi c social contract ? Ther e i s n o simpl e answe r t o thi s question , bu t the followin g analysi s suggest s tha t th e socia l marke t econom y is no t a s dea d a capitalis t optio n a s th e enthusiast s o f laissez faire woul d lik e us t o believe.

How the Social Market Economy Works The socia l marke t economie s o f Norther n Europ e deriv e thei r distinguishing feature s bot h fro m thei r origina l patter n o f indus trialization an d fro m post-Worl d Wa r I I political developments . Compared t o Britai n an d th e Unite d States , thes e economie s

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were, o n th e ev e o f th e Industria l Revolution , mor e agraria n an d less commercialized . Privat e wealt h wa s les s concentrate d and , above all , les s capabl e o f bein g mobilize d t o financ e industrial ization. A s a result , Britai n go t a hea d start , an d it s industria l dominance i n the nineteenth centur y i n turn shape d th e industri alization o f Norther n Europe . (Becaus e o f geographi c barrier s and th e siz e o f it s domestic markets , American industr y wa s les s directly affecte d b y Britis h competition. ) In th e industrializatio n o f Germany , equit y market s wer e fa r less important tha n banks, which played a crucial role in mobiliz ing disperse d saving s b y takin g deposit s an d engagin g i n long term lending . Wit h th e Netherland s a s th e mos t notabl e excep tion, this pattern holds generally fo r th e social market economies , and it s implication s fo r corporat e governanc e ar e stil l i n evi dence. Th e risk s involve d i n long-ter m lendin g le d th e bank s i n these countrie s t o tak e a n activ e interes t i n th e affair s o f thei r corporate customer s an d the y continu e t o d o so , commonl y in sisting o n th e righ t t o b e represente d o n board s o f directors . Through a variet y o f mechanisms , bank s ofte n contro l majo r equity stake s i n their corporat e client s a s well . The rol e o f bank s represent s onl y th e mos t well-know n mani festation o f a broade r patter n o f "organized " o r "coordinated " capitalism, whic h als o feature s cross-ownershi p o f share s be tween larg e firm s an d th e swappin g o f boar d representatives . I n addition, ther e ar e long-ter m subcontractin g relationship s be tween firm s tha t clearl y violat e th e logi c o f pur e marke t forces . As i n Japan , cooperatio n an d trus t pla y a n importan t rol e i n these relationships , no t onl y betwee n larg e firm s an d thei r com ponent suppliers , as in the auto industry, but als o within regiona l networks o f smal l an d medium-size d firm s tha t engag e i n recip rocal subcontracting .

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In every on e o f th e socia l market economies , the vas t majorit y of firm s belon g t o employe r organizations , whic h engag e i n collective bargainin g o n thei r behalf , an d regularl y sanctio n members wh o fail t o abide by th e terms o f collectiv e agreements . Typically, firm s als o belon g t o trad e association s tha t represen t the interest s o f industria l sector s vis-a-vi s governmen t authori ties an d provid e a rang e o f service s t o thei r members . I n tw o cases, Germany an d Austria , firm s ar e required b y la w t o belon g to chamber s o f commerce , whic h primaril y cate r t o th e need s o f small business . The encompassin g natur e an d interna l cohesio n o f employe r organizations ca n b e see n no t onl y a s a respons e t o th e growt h of stron g unions , but als o a s a factor contributin g t o union cohe sion. Unionization rate s vary a great deal across the social marke t economies, bu t eve n i n th e leas t unionize d o f thes e countries , Switzerland an d th e Netherlands , union s represen t mor e tha n one-quarter o f th e labo r force , a s compare d t o 1 6 percent i n th e United States . (Prio r t o unification , th e Germa n figur e wa s 3 3 percent.) A t th e othe r en d o f th e spectrum , union s represen t more tha n three-quarter s o f al l wag e earner s i n Sweden , an d nearly three-quarter s i n Denmark . Even th e leas t unionize d o f thes e countrie s hav e lon g bee n characterized b y highl y institutionalize d form s o f (multi-em ployer) collectiv e bargaining . Collective-bargainin g contract s of ten stipulat e tha t thei r term s appl y t o nonunio n employee s a s well a s unio n members , an d governmen t legislatio n als o pro vides fo r th e extensio n o f collectiv e bargainin g agreement s t o employers wh o ar e no t themselve s partie s t o th e contract . Mea sured i n term s o f th e proportio n o f th e labo r forc e whos e wage s and othe r condition s o f employmen t ar e (a t leas t i n part ) deter mined by contract s negotiated by unions an d employe r organiza -

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tions, the scope of collective bargaining varie s less than unioniza tion rates , an d clearl y distinguishe s th e socia l marke t economie s as a group. Whereas th e percentag e o f th e labor forc e covere d b y some collectiv e bargaining agreemen t i s 1 8 percent i n the Unite d States, it ranges fro m 7 1 percent i n the Netherland s t o 98 percent in Austria (wit h th e exceptio n o f Switzerland, whic h lag s behin d at 53 percent).3 More s o than i n other capitalis t economies , collective bargainin g i n th e socia l marke t economie s constrain s th e ability o f individua l employer s t o se t wage s an d othe r term s o f employment. The dominanc e o f industria l unionism , th e concentratio n o f union membershi p i n a relativel y smal l numbe r o f nationa l unions, an d th e absenc e o f majo r politica l division s withi n orga nized labo r als o distinguis h th e industria l relation s system s o f Northern Europe . Here th e contras t wit h th e British cas e is stark . Despite a precipitou s declin e i n th e 1980s , th e Britis h unioniza tion rat e remain s quit e hig h (3 9 percen t i n 1990) ; yet organize d labor i n Britai n ha s alway s bee n plague d b y fragmentation , an d inter-union rivalrie s hav e undermine d it s abilit y t o engag e i n coordinated wag e bargaining . With respec t t o th e welfar e stat e proper , i t wa s German y tha t became th e firs t countr y i n th e worl d t o adop t a mandator y social insuranc e system . Thi s happene d i n th e 1880 s a s a n effor t to integrat e th e workin g clas s withi n th e existin g socia l an d political orde r afte r th e socialis t movemen t wa s repressed . I n Scandinavia, b y contrast , th e publi c provisio n o f socia l welfar e remained highl y limite d unti l Socia l Democrati c parties , closel y tied t o trad e unions , establishe d fir m contro l o f governmen t power i n th e 1930s . Bu t whil e th e ris e o f th e postwa r welfar e state wa s powere d b y th e growt h o f union s an d electora l gain s by partie s o n th e left , i t was characterize d b y broad-based politi -

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cal consensus . Indeed , i n Germany , Austria , an d th e Lo w Coun tries, rightis t Christia n Democrati c partie s playe d a n importan t role in passing th e formative welfar e legislatio n o f the immediat e postwar period . As show n i n th e accompanyin g table , hig h level s o f socia l insurance provisio n an d overal l governmen t spendin g differenti ate the smal l socia l market economie s fro m mos t othe r advance d capitalist economies . (Thi s i s les s tru e fo r Germany ; amon g th e small countries , Switzerlan d agai n stand s ou t a s a n exception. ) Spending data , however, d o not captur e the full exten t of govern ment measure s t o protec t citizen s an d communitie s agains t th e vicissitudes o f th e marketplace . Socia l protectio n als o include s a range o f governmen t regulation s pertainin g t o workin g hours , working conditions , vacatio n time , materna l o r parenta l leave , minimum wage s and , mos t importantly , th e term s o f severanc e pay an d th e condition s unde r whic h employer s ca n la y worker s off. Althoug h i t i s difficul t t o measur e precisel y th e leve l o f Select Measures of Economic Performance and Government Spending GDP per capita (US$)

Social security transfers as % of GDP

Total govt. spending as % of GDP

20,391 19,303 25,150 18,676 24,953 26,652 33,085 23,536 23,822 16,985 21,449 19,333 16,731

19.9 22.7 18.4 26.3 19.0 19.7 13.4 15.3 11.5 12.2 10.8 15.4 17.4

49.6 55.2 58.4 55.6 54.6 61.4 30.7 46.0 32.3 42.1 36.1 43.8 48.4

1990

Austria Belgium Denmark Netherlands Norway Sweden Switzerland Germany

Japan

Britain U.S. • OECD-Total • OECD-Europ e

1990

1990

Govt. spending Exports on educ. as % of as % of GDP GDP 1990-91

1990

5.4 5.1 7.4 6.3 7.9 7.7 5.0 4.0 4.7 4.9 5.3

41.1 74.3 35.1 56.6 44.0 30.3 36.9 32.0 10.8 24.6 9.8 18.5 28.7

Annual growth of real GDP per capita 1960-90

3.2 3.1 2.5 2.4 3.2 2.4 1.9 2.6 5.3 2.1 2.0 2.7 2.6

S O U R C E S : Figure s o n educatio n spendin g fro m UNESCO , Statistical Yearbook 1994 (Paris , 1995) ; al l other figure s fro m OECD , Historical Statistics 1960-1990 (Paris , 1992).

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social protection provide d b y governmen t regulatio n o f the labo r market, mos t observer s agre e that thi s type o f regulatio n i s espe cially pronounce d i n al l th e socia l marke t economies , includin g Germany 4 Returning t o th e table , i t i s noteworth y tha t th e Scandinavia n countries to p th e lis t wit h respec t t o overal l governmen t spend ing, bu t no t wit h respec t t o governmen t spendin g o n socia l insurance programs . Reflectin g th e dominan t rol e playe d b y so cial democrac y i n thei r formation , th e Scandinavia n welfar e states diffe r fro m thei r continenta l counterpart s b y thei r empha sis o n benefit s finance d ou t o f genera l revenues , an d especiall y on service s directl y provide d b y th e publi c sector . B y contrast , the publi c provisio n o f socia l welfar e i n Germany , Austria , an d Switzerland ha s bee n stratifie d b y occupation , wit h benefit s linked t o employmen t an d wor k performance ; th e administra tion o f socia l insuranc e ha s bee n delegate d t o occupation-base d associations an d othe r organization s tha t ar e neither strictl y pub lic nor private. 5 Full employmen t cam e t o be associate d wit h th e welfar e stat e in the postwar perio d and , in most o f the social market countries , the proble m o f achievin g pric e stabilit y unde r condition s o f ful l employment gav e ris e t o mor e centralize d form s o f wag e bar gaining. I n Scandinavia , unio n representative s an d employer s began t o negotiat e economy-wid e fram e agreement s fo r indus try-level bargainin g afte r th e war , an d thi s typ e o f "peak-level " bargaining als o prevaile d briefl y i n th e Netherlands . I n Austria , formal bargainin g remaine d a t th e industr y level , bu t th e pea k associations an d th e governmen t assume d a n increasingl y im portant coordinatin g role . Meanwhile , postwa r government s went beyon d socia l welfar e reform s t o enac t variou s legislativ e measures designe d t o provid e employee s a n d / o r union s wit h

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rights t o participate i n corporate decisionmakin g (an d associate d rights o f acces s t o corporat e records) . The most importan t exam ple o f thi s developmen t i s the Germa n // co-determination ,, legis lation, whic h wa s introduce d b y a Christia n Democrati c govern ment i n 1951-52 . Cooperative industria l relation s a t th e fir m leve l als o charac terize postwar Japanes e capitalism , but i n marked contras t t o th e Japanese model , co-determinatio n i s mandate d b y la w i n mos t social marke t economies , an d firm-leve l consultation s an d nego tiations occu r withi n parameter s se t b y (multi-employer ) collec tive bargaining . Becaus e thi s institutiona l framewor k i s externa l to th e fir m itself , i t provide s labo r wit h a mor e independen t voice an d greate r bargainin g powe r tha n i n Japan . Finally, th e socia l marke t economie s ar e distinguishe d b y sub stantial publi c investmen t i n publi c educatio n an d law s tha t encourage privat e investmen t i n huma n capital . A s th e tabl e shows, th e Scandinavia n countrie s devot e a considerabl y large r share o f gros s domesti c produc t (GDP ) t o publi c educatio n tha n Britain an d th e United States , and Japa n a s well. In Social Demo cratic Sweden , th e egalitaria n thrus t o f postwa r educationa l re forms brough t vocationa l trainin g int o comprehensiv e secondar y schools, an d downgrade d it s importanc e relativ e t o academi c instruction; th e Swede s als o pioneere d governmen t program s t o retrain worker s affecte d b y structura l unemployment . I n Ger many, t o b e sure , publi c spendin g o n educatio n i s substantiall y lower, but thi s reflects th e fac t tha t a large proportion o f Germa n teenagers g o int o apprenticeship-base d vocationa l trainin g pro grams tha t ar e largel y pai d fo r b y employer s an d administere d jointly by union s an d employers . To summarize , th e socia l marke t economie s shar e fiv e cor e features:

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• busines s coordinatio n b y banks , trad e associations , an d other privat e actors ; • mor e o r les s economy-wid e (bu t no t necessaril y central ized) wage bargaining ; • socia l protectio n i n th e for m o f governmen t regulatio n o f labor markets , a s wel l a s transfe r payment s an d service s provided b y th e welfare state ; • cooperativ e industria l relation s a t th e fir m level ; an d • a stron g commitmen t t o publi c educatio n an d worke r training.

Other advance d capitalis t countrie s displa y a t leas t on e o f thes e features—Japan wit h respec t t o business an d cooperativ e indus trial relations , Britai n wit h respec t t o publi c provisio n o f socia l welfare, an d Franc e wit h respec t t o publi c education . Bu t onl y the social market economie s o f Northern Europ e combin e al l fiv e into a coherent whole . Among thes e economies , w e ca n distinguis h betwee n Scandi navian an d Germani c models . Simpl y put , th e Scandinavia n model ha s gon e farthe r i n redistributin g income , a polic y achieved throug h centralize d wag e bargainin g a s wel l a s through socia l welfar e programs . I n 1985 , accordin g t o a recen t OECD study , th e Swedis h wag e earne r a t th e tent h percentil e earned 5 2 percent o f the salary of the wage earner a t the ninetiet h percentile. For (West ) Germany, th e figure wa s 3 8 percent; for th e United States , 1 8 percent. 6 However , wha t distinguishe s th e so cial marke t economie s a s a grou p i s no t wag e compressio n bu t wage standardizatio n acros s firm s an d sectors . Egalitarianis m represents a distinctl y Scandinavia n tak e o n th e socia l marke t economy. Altogether , i t i s no t th e redistributio n o f income , le t

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alone wealth, tha t mark s th e socia l market economies , but rathe r a generou s an d comprehensiv e socia l safet y net .

Postwar Growth The performanc e o f th e socia l marke t economie s i n th e postwa r period pose s a challeng e fo r laissez-fair e enthusiast s lik e Dic k Armey an d New t Gingrich , wh o apparentl y believ e tha t welfar e spending an d othe r form s o f socia l protectio n inevitabl y lea d to inefficien t allocatio n o f resource s an d undermin e economi c growth. Th e socia l marke t economie s o f Norther n Europ e al l figure amon g th e world's mos t affluen t nations . As show n i n th e table, fiv e o f th e eigh t ha d a highe r GD P pe r capit a tha n th e United State s i n 1990 , an d ever y on e o f the m ha d a highe r GDP pe r capit a tha n Britain . Mor e t o th e point , al l bu t on e (Switzerland) average d highe r annua l growt h rate s o f rea l GD P per capit a tha n Britai n an d th e Unite d State s betwee n i96 0 an d 1990. Th e tabl e als o show s tha t th e socia l marke t economie s o f Northern Europ e hav e bee n particularl y dependen t o n interna tional trade . German y i s th e mos t export-oriente d o f th e larg e OECD economies , an d th e smal l socia l marke t economie s ar e more export-oriente d tha n Germany . Althoug h th e socia l marke t economies di d no t gro w a s rapidl y a s Japa n afte r Worl d Wa r II , clearly the y passe d th e test o f competitiveness . This empirica l recor d migh t b e reconcile d wit h laissez-fair e doctrine b y arguin g tha t th e socia l marke t economie s wer e af fluent t o begin with , an d woul d hav e performe d eve n better ha d they been les s "social " i n their orientation . A t a minimum, socia l market arrangement s di d no t seriousl y inhibi t growt h an d com petitiveness i n th e postwa r period . Ye t coul d i t b e tha t the y actually contribute d t o growt h an d competitiveness ?

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Many scholar s conten d tha t hig h level s o f unionizatio n an d centralized wag e bargaining actuall y facilitat e th e wag e restrain t necessary t o maintai n pric e stabilit y an d internationa l competi tiveness unde r condition s o f ful l employment. 7 The y argu e tha t wage restrain t represent s a collective-actio n proble m fo r work ers: Whil e al l ar e bette r of f i f the y exercis e restraint , i t i s no t i n the interes t o f an y individua l worke r t o d o so . Thus, union s tha t represent a smal l percentag e o f th e labo r forc e wil l alway s b e tempted t o tak e maximu m advantag e o f thei r bargainin g power , but thos e representing a larger percentage o f the labor forc e mus t take int o accoun t th e inflationar y consequence s o f thei r wag e demands. Nationa l unio n leader s ar e mor e likel y t o recogniz e this imperative tha n thos e a t th e regional o r loca l level . As som e proponents o f thi s line of argumen t suggest , i t migh t be tha t th e sam e outcome s woul d occu r i f ther e wer e n o union s at all , an d wage s wer e se t entirel y b y marke t forces ; bu t thi s i s not a realisti c scenari o i n Wester n Europe . Th e crucia l poin t is tha t coordinate d wag e bargainin g ha s enable d th e Norther n European countrie s t o avoi d th e Britis h dilemm a o f stron g ye t fragmented union s bargaining a t the local level—the wors t o f al l possible world s fro m th e standpoin t o f wag e restraint . As noted above , coordinate d wag e bargainin g ha s take n mor e or les s centralize d form s i n th e socia l marke t economies ; bu t i n all these countries , th e broad scop e an d institutionalize d charac ter o f th e bargainin g ha s serve d t o lin k wag e development s across sectors , enablin g export-oriente d industrie s t o assum e leadership i n wag e formation . I n th e les s centralize d cases , suc h as Germany , centra l bank s an d employe r organization s hav e played a n importan t role—i n effect , takin g som e o f th e pressur e off th e unions . Again , th e contras t wit h th e Britis h experienc e i s stark: Becaus e o f th e lac k o f employe r coordination , responsibil -

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ity fo r wag e restrain t fel l entirel y o n th e shoulder s o f Britis h unions i n th e 1960 s and th e 1970s . Even th e most cohesiv e unio n movement woul d hav e ha d difficult y deliverin g wag e restrain t under thes e conditions . Social marke t arrangement s ma y als o contribut e t o economi c efficiency an d growt h throug h worke r trainin g an d othe r invest ment i n huma n capital. 8 Skil l formatio n constitute s a classi c col lective good s proble m fo r employers : All employers nee d skille d workers, but th e threa t o f poachin g b y othe r employer s make s i t irrational fo r an y individua l employe r t o invest i n training hi s o r her labo r force . Th e fre e marke t econom y i s likely t o giv e ris e t o corporate trainin g scheme s tha t emphasiz e narrow , firm-specifi c skills, thereby creatin g a n under supply o f genera l skills . Japanese employer s overcam e thi s proble m b y agreein g among themselve s t o hir e ne w employee s onl y a t entry-level , and effectivel y enforce d th e agreemen t throug h trad e associa tions an d othe r form s o f employe r coordination . I n Wester n Eu rope an d th e United States , strong unions an d societa l condition s (including lac k o f employe r coordinatio n i n Britai n an d th e United States ) precluded thi s typ e o f labor-market segmentation . The socia l marke t economie s solve d th e proble m b y combinin g public educatio n an d training , publi c subsidie s t o privat e train ing initiatives, and union-employe r cooperatio n i n administerin g training programs . Wage standardizatio n ma y als o com e int o pla y b y con straining th e abilit y o f employer s t o us e highe r wage s t o poac h one another' s workers . Indeed , employer s wh o ar e unabl e t o compete fo r labo r b y offerin g highe r wage s ma y instea d d o so b y offerin g trainin g an d caree r opportunities . Thus , wag e standardization make s i t no t onl y possibl e bu t necessar y fo r employers t o inves t i n thei r labo r force . Similarly , institutiona l

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factors tha t inhibi t employer s fro m layin g of f worker s durin g economic downturn s migh t b e see n a s mechanisms tha t forc e (o r entice) the m t o inves t i n worke r skills . Unemploymen t i s no t only a waste o f currentl y productiv e resources ; to the exten t tha t the unemploye d los e som e o f thei r productiv e capacit y ove r time, unemploymen t represent s a long-ter m los s o f productiv e potential. In a comparabl e vein , th e economis t Pete r Katzenstei n ha s argued persuasivel y tha t welfar e spendin g an d othe r form s o f social protectio n serv e t o compensat e worker s fo r losse s the y experience a s a result o f change s i n th e worl d economy , an d tha t the existenc e o f a comprehensiv e socia l safet y ne t ha s playe d a key rol e i n securin g societa l acceptanc e o f continuou s economi c adjustment t o world-marke t condition s (i n particular, th e phase out o f employmen t i n low-wag e industries). 9 Whe n th e Swedis h Social Democrats launche d a public syste m o f occupationa l pen sions i n th e lat e 1950s , the y argue d tha t th e existin g syste m o f employer-organized pensio n scheme s no t onl y provide d inade quate an d unequa l pensio n coverage , bu t als o create d disincen tives for employee s t o move fro m on e firm (o r sector ) to another . By rendering employee s les s dependent o n particular employers , public pension s woul d promot e labo r mobility , an d henc e eco nomic efficienc y an d competitiveness . The logi c o f thi s argumen t migh t wel l b e extende d t o othe r welfare stat e programs , bu t i t obviousl y doe s no t appl y t o gov ernment regulation s tha t mak e i t mor e difficul t (o r costly ) fo r employers t o she d labor . Still , a s th e Japanes e syste m o f lifetim e employment shows , employmen t securit y ma y enhanc e th e will ingness o f worker s an d thei r union s t o embrac e efficiency-im proving change s withi n firms . Arguably , employer-unio n co-de termination ha s als o playe d a significan t rol e i n promotin g

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flexible adjustmen t t o internationa l marke t force s withi n firms . Let u s turn , finally , t o corporat e financ e an d governance . I t has ofte n bee n observe d tha t dependenc e o n equit y market s encourages America n an d Britis h firm s t o pursu e short-ter m profit maximization , an d t o pa y ou t a larg e portio n o f thei r profits i n dividend s t o shareholders . B y contrast , bank-domi nated system s o f corporat e financ e enabl e firm s t o reinves t thei r profits, an d t o mak e investment s wit h long-ter m payoffs . Th e social market economies ' approac h t o corporate governanc e ma y also hav e contribute d t o competitivenes s throug h produc t spe cialization. According to the economist Davi d Goodhart , "I t is n o coincidence tha t th e bi g thre e [German ] chemica l companies — Bayer, BAS F an d Hoechst—hav e develope d area s o f produc t specialization tha t preven t direc t domesti c competition. " Good hart emphasize s tha t thes e firm s fac e intens e competitio n i n world markets , i n th e absenc e o f whic h suc h coordinate d prod uct specializatio n woul d simpl y represen t a for m o f collusion , with negativ e consequence s fo r efficiency.

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Whether o r no t busines s coordinatio n promote s competitive ness i n general , ther e ca n be no doub t tha t banks have playe d a n important rol e i n managin g sectora l crise s i n th e socia l marke t economies, organizin g th e consolidatio n o f declinin g sectors , such a s stee l an d shipbuilding , an d providin g fo r th e phase-ou t of employmen t o n "sociall y acceptable " terms . I n man y cases , these private-secto r arrangement s hav e reduce d th e pressur e o n the stat e t o provide socia l protection. Non e o f thes e argument s i s meant t o impl y tha t socia l marke t institution s ar e i n principl e more efficien t tha n fre e marke t institutions . I n th e abstract , fre e labor market s ma y yiel d mor e efficien t outcome s tha n coordi nated wag e bargaining. But it makes littl e sens e to discus s politi cal-economic institution s i n thi s way . Th e importan t questio n i s

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how th e institution s perfor m i n a give n societa l context . Fo r example, th e proble m o f securin g societa l acceptanc e o f eco nomic adjustmen t t o internationa l marke t force s wil l onl y aris e if societa l group s ar e abl e t o resis t th e adjustment . Here , a com pelling cas e ca n b e mad e tha t socia l marke t institution s hav e promoted growt h an d competitivenes s i n postwar Europe . Ther e are goo d reason s t o suppos e tha t institutiona l practice s inspire d by free-marke t doctrin e woul d hav e performe d les s well.

The Shift to the Right Under th e leadership o f Margaret Thatcher , th e British Conserva tives i n th e lat e 1970 s broke decisivel y wit h th e postwa r consen sus i n th e lat e 1970 s an d 1980s . Commonl y likene d t o th e "Reagan Revolution " i n th e Unite d States , th e Thatche r Revolu tion entaile d a serie s o f reform s designe d t o rol l bac k th e state , curtail unio n power , an d unleas h marke t forces . O n th e macro economic front , th e shif t fro m Keynesianis m t o monetaris m meant tha t th e governmen t woul d hencefort h trea t th e figh t against inflatio n a s it s to p priority , an d essentiall y resig n an y direct responsibilit y fo r th e leve l o f employment . Though America n an d Britis h conservative s wer e mor e stri dent in advocatin g th e free-market approach , th e cente r o f politi cal gravit y i n Norther n Europ e wa s als o shiftin g t o th e right . Already i n 1973 , ta x revolt s a t th e poll s rocke d Danis h an d Norwegian politics . Wit h th e sudde n emergenc e o f maveric k anti-tax parties , th e establishe d partie s o f th e center-righ t wer e compelled t o adop t a mor e critica l vie w o f th e welfar e stat e that the y ha d helpe d build . Th e Danis h an d Norwegia n Socia l Democrats subsequentl y recovere d electorally , an d wer e headin g

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up coalitio n government s i n th e earl y 1990s , bu t ha d no t full y regained th e political dominanc e the y enjoye d prio r t o 1973. In 1981-82 , center-righ t coalitio n government s replace d cen ter-left coalitio n government s i n Belgium , th e Netherlands , an d Germany. I n Belgiu m an d th e Netherlands , thes e ne w govern ments impose d fisca l austerity , an d pursue d Thatcher-lik e dereg ulation with a great deal of vigor. Electoral gains by leftis t partie s brought coalitio n politic s bac k towar d th e cente r late r i n th e decade, bu t th e polic y shif t o f th e earl y 1980 s endured . I n Ger many, th e coalitio n forge d i n 198 1 between Christia n Democrat s and Liberal s remaine d i n powe r throug h th e mid-90S . Indeed , Chancellor Helmu t Koh l manage d t o hol d o n t o powe r longe r than Margare t Thatche r did—i n par t becaus e bette r economi c circumstances an d politica l constraint s (som e o f whic h deriv e from th e federa l structur e o f th e Germa n state ) le d hi m t o shu n radical economi c refor m i n favo r o f a mor e gradua l shif t t o th e right. Only i n Swede n an d Austri a di d th e lef t retai n contro l o f th e government i n th e 1980s , bu t her e too , a rightwar d polic y shif t took place . Promotin g private-secto r growt h b y boostin g corpo rate profits , an d curtailin g th e expansio n o f th e publi c sector , the Swedis h Socia l Democrat s departe d fro m traditiona l socia l democratic polic y prescriptions . Th e continuit y fro m socialis t t o nonsocialist government s wa s striking : Whe n nonsocialis t par ties cam e t o powe r i n 1976 , they essentiall y pursue d traditiona l social democrati c policies , an d whe n the y returne d t o powe r i n 1991, thei r pursui t o f "syste m change " buil t o n market-oriente d reform measure s introduce d b y th e Socia l Democrat s i n th e 1980s. Thoug h th e Austria n Socia l Democrat s avoide d currenc y devaluation i n the 1980s— a key component o f the Swedish strat egy—they to o pursued mor e market-oriente d policies , includin g privatization o f nationalize d industry .

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Retrenchment and Deregulation To wha t extent , an d i n wha t ways , ha s thi s shif t t o th e righ t affected th e institution s an d functionin g o f th e socia l marke t economy? Excep t i n Norway , tota l governmen t spendin g (out lays) a s a percentag e o f GD P decline d i n al l OEC D countrie s from th e earl y o r mid-1980 s t o 1989-9 0 and , i n general , th e decline wa s larges t i n th e countrie s tha t wer e th e biggest spend ers t o begi n with . Amon g th e smal l socia l marke t economies , Belgium le d th e wa y wit h governmen t spendin g fallin g fro m a peak o f 64. 2 percen t o f GD P i n 198 3 t o 55. 2 percen t i n 1990 , followed b y Swede n (dow n 5. 3 percen t fro m a pea k o f 66. 1 percent i n 1983) , an d th e Netherland s (dow n 4. 8 percen t fro m a peak o f 62. 3 percen t i n 1987) . Th e declin e wa s modes t i n Ger many, wit h outlay s pe r capit a fallin g 3 percen t fro m a 198 3 peak o f 48. 5 percent. (Amon g th e larg e OEC D countries , Britai n achieved th e larges t spendin g cut s i n th e 1980s— a 4. 9 percen t decline fro m a peak o f 47.1 percent i n 1984.) n These figure s reflec t no t onl y governmen t effort s t o curtai l spending but als o the rapid growt h o f GD P in the secon d hal f o f the 1980 s relativ e t o th e precedin g te n years . Durin g th e globa l recession o f th e earl y 1990s , it became mor e difficul t fo r govern ments t o cu t back , an d governmen t spendin g a s a percentag e o f GDP increase d i n al l OEC D countries , actuall y exceedin g it s previous peak s everywher e excep t Britain , Belgium , an d th e Netherlands. Thi s general patter n hold s fo r Socia l Security trans fers a s wel l a s fo r overal l governmen t spending . I t is als o wort h noting tha t fro m 198 3 t o 199 3 onl y tw o Europea n OEC D coun tries, Britai n an d th e Netherlands , reduce d governmen t employ ment a s a percentag e o f tota l employmen t b y mor e tha n on e percentage point . In short , fo r al l th e tal k o f rollin g bac k th e state , th e siz e o f

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the publi c secto r ha s no t bee n significantl y reduce d i n Wester n Europe. There are three principal reasons for this. 12 First, govern ment effort s t o cu t expenditure s hav e been offse t b y mas s unem ployment an d th e agin g o f th e population, whic h hav e increase d welfare entitlements . Second , th e politica l constituencie s tha t benefit fro m th e welfar e state—public-secto r employee s a s wel l as welfar e recipients—ar e larg e an d well-organized , an d hav e effectively resiste d cutbacks . Third , th e intellectua l underpin nings o f the welfare stat e have proven t o be quite durable . Publi c opinion poll s sho w tha t cor e publi c program s suc h a s Britain' s government-run healt h car e system remai n highly popular . Radi cal proposal s t o scal e bac k th e welfar e stat e ma y eve n hav e strengthened publi c suppor t fo r it . This said , i t woul d b e wron g t o conclud e tha t nothin g ha s changed, o r tha t th e futur e o f th e welfar e stat e i s secure . Face d with politica l resistance , reform-minde d government s hav e avoided larg e cut s i n basi c welfar e entitlements , bu t man y in stances o f entitlemen t cut s ca n b e cited , ofte n targete d agains t groups tha t lac k politica l power . I n Sweden , fo r instance , publi c unemployment insuranc e wa s recentl y reduce d fro m 9 0 percen t to 75 percent o f previou s income . Government s hav e fiddle d a t the margin s o f broad-based socia l programs b y reducin g cost-of living adjustment s an d introducin g (o r raising ) use r fee s fo r public-sector services . The y hav e sough t budge t saving s b y freezing public-secto r employment , holdin g dow n public-secto r pay, an d cuttin g expenditure s fo r infrastructure . Reformers inspire d b y free-market principle s have als o sough t to lin k eligibilit y fo r welfar e benefit s t o activ e participatio n i n the labo r forc e and , i n th e cas e o f unemploymen t an d pensio n insurance, t o lin k benefit s mor e closel y t o (prior ) incom e fro m employment. Thi s i s perhap s mos t clea r i n th e Scandinavia n

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countries, whic h hav e becom e les s egalitaria n an d mor e lik e th e German welfar e state . Indeed, i n al l the social market economies , governments hav e sough t t o create incentives fo r peopl e t o wor k more b y shiftin g th e ta x burde n awa y fro m incom e taxe s an d reducing margina l ta x rates a t the upper en d o f the income scale . Welfare-state "retrenchment " ha s gon e han d i n han d wit h increased earning s inequality . Whil e mas s unemploymen t eroded th e marketplace powe r o f unskilled worker s i n the 1980s , the positio n o f mor e skille d wag e earner s improved . Althoug h this shif t wa s partl y offse t b y th e continue d reductio n o f wag e differentials betwee n me n an d women , within-gende r earning s inequality increase d significantl y i n mos t countries.

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wide dat a sugges t tha t a trade-of f betwee n wag e compressio n and employmen t growt h emerge d i n th e 1980s : I n countrie s where wag e inequalit y increased , employmen t gre w a t a mor e rapid rat e tha n i n countrie s wher e i t continue d t o declin e o r remained constant . I n contras t t o th e 1970s , whe n expansio n o f the publi c secto r mad e i t possibl e t o hav e bot h employmen t growth an d wag e compression , market-le d employmen t growt h in private service s appears t o be closel y associate d wit h a widen ing o f earnings disparities . In th e socia l marke t economies , th e tren d towar d earning s inequality ha s als o bee n associate d wit h employe r effort s t o decentralize wag e bargaining , allowin g fo r greate r wag e differ entials and , abov e all , allowin g firm s t o develo p pa y system s that rewar d skill s acquisitio n an d individua l effort . I n Sweden , export-oriented engineerin g employer s turne d agains t central ized wag e bargainin g i n th e earl y 1980s , but th e union s resisted , and i t took th e employer s nearl y te n years t o achiev e thei r objec tives. Simila r i f les s dramati c development s occurre d earlie r i n Denmark, Belgium , an d th e Netherlands . I n German y an d Aus -

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tria, wher e wag e bargaining ha s alway s occurre d a t th e industr y level, wag e contract s hav e becom e mor e flexible, allowin g fo r more loca l variation. A s with publi c welfare provision , collectiv e bargaining ha s assume d ne w forms , an d becom e mor e sensitiv e to market forces . Mass unemployment ha s weakened th e bargaining positio n of labor, especiall y unskille d labor , an d rendere d employer s les s dependent o n nationa l union s t o hel p the m restrai n wag e de mands. A t th e sam e time , ther e hav e bee n a numbe r o f politica l initiatives t o rela x governmen t regulatio n o f employment — again, mor e moderat e an d cautiou s version s o f Britain' s "Thatcher Revolution. " Fo r instance , th e Wes t Germa n Employ ment Ac t o f 198 5 enhance d firms ' abilit y t o awar d temporar y employment contracts . But th e fac t tha t Germa n employer s hav e not take n ful l advantag e o f thi s legislatio n suggest s tha t th e thirst fo r deregulatio n i n th e socia l marke t economie s remain s limited. Although th e Thatche r government s o f th e 1980 s failed t o cu t welfare spendin g decisively , the y succeede d i n both rollin g bac k union power an d privatizin g public housing an d stat e enterprise . In the social market economie s (othe r than Austria), privatizatio n did no t becom e a majo r issue , fo r th e simpl e reaso n tha t ther e was ver y littl e stat e enterpris e t o begi n with . Som e "creepin g privatization" ha s occurred , fo r instanc e i n contractin g ou t fo r cleaning an d foo d service s b y publi c healt h authorities . Mor e importantly, th e Northern European s followe d th e British lead i n deregulating domesti c financia l market s an d removin g control s on capita l movement s acros s nationa l borders . Thes e reform s have le d t o a marke d increas e i n financia l speculatio n an d for eign ownershi p o f domesticall y liste d shares . Whateve r effect s the changin g operatio n o f financia l market s ha s o n economi c

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efficiency an d growth , i t i s boun d t o stimulat e mor e "short termism" i n corporat e decisionmakin g i n the lon g run . Where, then, does al l of thi s leave the social market economie s of Norther n Europe ? Clearly , ther e ha s bee n a retreat fro m egali tarianism. Socia l marke t principles , however , ar e no t necessaril y egalitarian. Whil e th e change s describe d abov e migh t b e inter preted a s the beginning o f a long-term erosio n i n the directio n o f laissez-faire, the y ar e mor e accuratel y interprete d a s a recalibra tion o f th e balanc e betwee n market s an d socia l institutions—or , for th e Scandinavia n countries , a convergenc e o n th e Germa n model. Althoug h th e Germa n econom y ha s itsel f becom e mor e "market-driven," i t has shifte d les s fa r i n tha t directio n tha n th e British an d America n economies . Relativ e t o Britai n an d th e United States , th e socia l marke t economie s o f Norther n Europ e remain a s distinctive a s ever .

The Role of Internationalization Since th e lat e 1960s , th e advance d capitalis t economie s hav e become increasingl y dependen t o n trade , a s well a s more closel y linked i n othe r ways . Th e internationalizatio n o f financia l mar kets an d th e growt h o f multinationa l corporation s ar e onl y th e most obviou s manifestation s o f economi c integratio n beyon d trade i n good s an d services . Free trader s t o begi n with , th e socia l marke t economie s hav e participated full y i n thi s integratio n process , a s illustrate d b y their increase d relianc e o n exports . Betwee n 196 8 an d 1990 , ex ports gre w fro m 16. 2 percen t t o 24. 3 percen t o f GD P fo r Wes t Germany and , o n average , fro m 33. 3 percen t t o 44. 9 percen t o f GDP fo r th e seve n smal l socia l marke t economies . (Ove r th e same tim e period , expor t dependenc e increase d fro m 5. 3 percen t

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to 1 0 percen t fo r th e Unite d States , fro m 21. 4 percen t t o 24. 4 percent fo r Britain , an d fro m 10. 1 percen t t o 10. 8 percen t fo r Japan.) 14 It i s widel y believe d tha t internationalizatio n constrain s th e autonomy (sovereignty ) o f nationa l governments , an d generate s convergence amon g advance d capitalis t economies . Typically , proponents o f th e convergenc e theor y hol d tha t deflationar y policies an d free-marke t institution s wil l prevai l i n th e ne w world economy—tha t internationalizatio n wil l forc e socia l mar ket economie s an d othe r "deviants " t o converg e o n somethin g like th e America n model , eithe r becaus e o f tha t model' s inher ently superio r abilit y t o allocat e resource s efficiently, o r simpl y as th e resul t o f competitio n amon g state s i n a worl d econom y where factor s o f productio n (capita l i n particular ) mov e freel y across nationa l borders . Ye t i n fac t internationalizatio n doe s no t appear t o hav e particularl y (o r disproportionately ) affecte d th e social marke t economies . From 198 3 t o 1993 , real GD P gre w a t a n averag e annua l rat e of 3. 0 percent i n th e Unite d States , 2. 4 percent i n Britain , an d 2. 7 percent in Germany (includin g East Germany afte r 1990) . Among the seve n smal l socia l market economies , th e growt h rat e range d between 1. 4 percen t (Sweden ) an d 2. 9 percen t (Norway) , an d averaged 2. 1 percent . I n term s o f employmen t growth , Britai n and th e Unite d State s performe d distinctl y bette r tha n th e socia l market economies . Bu t th e performanc e pictur e change s i f w e look a t th e growt h o f rea l GD P per perso n employe d ( a measur e of overal l productivity ) durin g th e 1983-9 3 period . B y thi s mea sure, bot h th e Unite d State s an d Britain , wit h annua l growt h rates o f 1. 3 percen t an d 1. 6 percen t respectively , lagge d behin d Germany (1. 9 percent ) an d th e smal l socia l marke t economies , which average d 1. 7 percent .

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It i s als o significan t tha t i n 1989-9 3 onl y tw o socia l marke t economies (Swede n an d Switzerland ) ra n highe r rate s o f infla tion tha n th e Unite d States , an d onl y on e (Sweden ) exceede d Britain. Most importantly , al l of th e socia l market economie s ha d positive trad e balance s i n 1990-93 , rangin g fro m 0. 1 percen t o f GDP i n German y t o 4. 7 percen t i n Norwa y (average d ove r fou r years), whereas th e United State s and Britai n both labore d unde r sizeable balance-of-trad e deficit s o f on e percen t an d 1. 7 percent , respectively. Th e socia l marke t economie s ma y no t hav e don e very wel l ove r th e las t tw o decades , bu t i t i s b y n o mean s obvious tha t the y hav e becom e les s competitiv e tha n Britai n an d the United States . Convergence theor y implie s tha t th e institutiona l arrange ments an d governmen t policie s associated wit h th e socia l marke t economy hav e becom e luxurie s tha t canno t b e afforde d i n a n increasingly globa l marketplace . I hav e argue d t o th e contrar y that thes e hav e actuall y contribute d t o growt h an d competitive ness. I n th e postwa r period , th e Germa n econom y wa s mor e trade-dependent tha n othe r larg e economies, and th e small socia l market economie s mor e trad e dependen t tha n Germany . I f so cial-market practice s wer e conduciv e t o o r a t leas t consisten t with th e maintenanc e o f competitivenes s then , wh y aren' t the y now? Th e convergenc e theor y mus t sho w tha t th e worl d econ omy has change d i n way s tha t favo r free-marke t institutions . With respect t o trade, the theor y woul d see m t o fail. Competi tive succes s i n th e advance d capitalis t countrie s ha s increasingl y come t o depen d o n havin g well-educate d worker s wit h adapt able skill s producin g high-qualit y good s i n a n environmen t o f cooperative industria l relations . Thi s appear s t o favo r (rathe r than penalize) producers embedde d i n social-market institutions . The internationalizatio n o f financia l markets , an d o f capita l

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mobility mor e generally , suggest s a greater likelihoo d o f conver gence on the American model. For while the social market econo mies hav e bee n mor e expose d t o internationa l competitio n tha n their free-marke t competitors , mos t o f the m hav e ha d relativel y closed financia l market s (Switzerlan d an d th e Netherland s bein g the exceptions) . Financia l integratio n ha s mad e i t mor e diffi cult—or, t o b e precise , mor e costly—fo r government s t o us e deficit spendin g t o pa y fo r th e educatio n an d welfar e program s that enhanc e productivit y an d eas e societa l acceptanc e o f eco nomic change . Becaus e defici t spendin g threaten s t o weake n a currency b y fuelin g inflation , internationa l financia l market s charge highe r interes t rate s t o government s seekin g t o financ e current governmen t consumption . Thi s implie s tha t a greate r proportion o f governmen t spendin g mus t no w b e finance d through taxes— a difficul t tas k give n ongoin g politica l resistanc e to increased taxation. 15 In a nutshell , th e challeng e t o th e socia l marke t economie s i n the 1990 s is this. The institutionalized powe r o f unions an d othe r organized interest s make s compensator y governmen t spendin g necessary t o achiev e economi c adjustment . Whil e corporation s and citizen s ar e unwillin g t o shoulde r furthe r ta x increases , an d may eve n insis t o n ta x cuts , th e integratio n o f financia l market s curtails th e abilit y o f government s t o engag e i n defici t spending . Moreover, th e internationalizatio n o f financia l market s ca n b e expected t o stimulat e mor e // short-termism ,, i n corporat e deci sionmaking, with th e possibility o f reducing productivit y growt h and competitiveness .

Domestic Politics If th e economi c rational e fo r abandonin g th e socia l marke t econ omy i n favo r o f a n American-styl e free-marke t econom y i s fa r

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from compelling , i t i s nonetheles s tru e tha t th e countrie s o f Northern Europe , like most othe r advance d capitalis t economies , have bee n plague d sinc e th e lat e 1970 s by sluggis h productivit y growth and , abov e all , by sluggis h employmen t growth . Thoug h the rightwar d shif t o f governmen t polic y ha s bee n les s pro nounced tha n in Britain and th e United States , most of the North ern Europea n countrie s hav e looke d t o public-secto r cutback s and deregulatio n a s the solutio n t o these problems . Countries ar e no t unitar y decisionmaker s tha t choos e amon g political-economic model s o n th e basi s o f a rationa l calculatio n of relativ e efficiency . Th e politic s o f economi c polic y an d institu tional refor m pivo t o n th e interpla y o f man y societa l actor s wh o not onl y see k efficiency , growth , an d competitiveness , bu t als o concern themselve s deepl y wit h th e distributio n o f incom e an d power (tha t is , thei r standin g relativ e t o eac h other) . Arguably , the social-marke t approac h t o competitivenes s remain s a s viabl e as i t eve r wa s fro m a strictl y economi c poin t o f view . Bu t main taining o r rebuildin g th e socia l coalitio n necessar y t o suppor t social-market institution s ha s become politicall y mor e difficult . What constitute s a tolerabl e leve l o f taxatio n i s a politica l question, an d th e uppe r limit s o f taxatio n var y acros s countrie s and ove r time . Risin g productivit y an d rea l wage s mad e i t rela tively eas y fo r government s t o increas e taxe s i n th e postwa r period. Bu t sinc e th e lat e 1970 s suppor t fo r additiona l public sector expansio n amon g wag e earner s i n th e lowe r hal f o f th e income hierarch y ha s weakene d a s real wages hav e stagnate d o r declined. Meanwhile , better-off workers , whose relativ e earning s increased i n th e 1980s , hav e embrace d cut s i n governmen t spending an d taxes . A t leas t i n th e Britis h case , ther e ar e sign s that deterioratin g publi c service s hav e le d thes e voter s t o pur chase private service s such a s health care , daycare, and schoolin g that th e stat e provide s a t lowe r cost , i f no t fo r free . Ther e i s

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every reaso n t o believ e tha t thi s kin d o f "welfare-stat e opt-out " generates demand s fo r ta x relief , leadin g t o furthe r public-ser vice deterioratio n i n a viciou s cycl e o f considerabl e potentia l significance. During th e 1980s , organized labo r los t membership an d politi cal influenc e i n mos t o f th e socia l marke t economies , thoug h much les s s o tha n i n Britai n o r th e Unite d States . I n larg e mea sure, thi s declin e ca n b e attribute d t o th e growt h o f privat e service employment , an d th e ris e o f smalle r unit s o f productio n within th e manufacturin g sector.

16

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organizations an d othe r politica l representative s o f th e busines s community activel y mobilize d publi c opinio n agains t hig h taxe s and governmen t spending ; they als o took advantag e o f emergin g conflicts o f interes t amon g unions , playin g of f loca l union s against nationa l union s an d private-secto r union s agains t public sector unions . Organize d busines s ha s becom e les s willin g t o participate wit h government s an d union s i n the kind o f tripartit e bargaining arrangement s tha t li e a t th e cor e o f socia l marke t economies. Thi s ne w outloo k reflect s th e constraint s o f intensi fied internationa l competitio n an d th e opportunitie s afforde d employers b y slac k labo r markets , bu t ideolog y als o matters . During th e postwa r period , busines s learne d t o liv e wit h th e social marke t economy , an d recognize d th e benefit s o f doin g s o at a pragmatic level , but i t never embrace d social-marke t princi ples a s a n alternativ e t o Anglo-America n capitalism . Fo r North ern Europea n businessmen , free-marke t ideolog y retain s muc h of it s instinctive appeal . The rol e o f th e Europea n Community—no w th e Europea n Union—deserves t o b e mentione d briefl y i n thi s context . Ove r the las t decade , partie s an d union s o n th e lef t an d Norther n European government s irrespectiv e o f partisa n compositio n

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have trie d t o persuad e th e Europea n Unio n t o legislat e a mini mum floo r o f socia l protectio n an d labor-marke t regulatio n t o prevent a proces s o f competitiv e deregulatio n o r "socia l dump ing." The 199 1 Maastricht Treat y include d a "socia l chapter " tha t extended th e Union' s legislativ e authorit y i n thi s area , bu t Brit ain opte d ou t an d mos t government s subsequentl y retreate d from it s ambitiou s vision . Wha t i s more , th e Europea n Union' s Single Market progra m undercut s th e abilit y o f member state s t o regulate thei r economie s i n suc h importan t area s a s th e contro l of capita l movemen t an d foreig n ownership . Indeed , politica l integration ma y ultimatel y constrai n th e socia l marke t econo mies mor e tha n economi c integration , especiall y becaus e i t i s easier fo r th e Europea n Unio n t o deregulat e tha n t o requir e members state s t o tak e action . Ye t th e futur e o f th e Unio n re mains open , an d deepl y contested . I n th e end , domesti c politic s in th e larg e membe r state s wil l determin e th e outcom e o f th e contest betwee n free-marke t an d social-marke t vision s o f Euro pean integration . The manifes t failur e o f th e Britis h Torie s t o consolidat e publi c support fo r a free-marke t agend a i n th e 1990 s suggest s tha t th e ascendancy o f free-marke t ideolog y i n Europea n domesti c poli tics ma y hav e reache d it s zenith . I n thi s regard , th e Labou r Party's ne w programmati c commitmen t t o th e ide a o f th e socia l market econom y i s as noteworthy a s its spectacular ris e in publi c opinion polls . A Labour victor y i n the nex t Britis h electio n coul d prove t o b e a critica l momen t i n recreatin g th e socia l marke t economy a s the distinctiv e mode l o f Europea n capitalism . And wh y not ? Scandinavian-styl e egalitarianis m ma y hav e exhausted itself , bu t th e cor e feature s o f th e socia l marke t econ omy leav e roo m fo r a rang e o f distributiv e outcomes , an d d o not necessaril y requir e continue d expansio n o f th e publi c sector .

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German unification seem s to have had th e effect o f pushing th e German Christia n Democrat s bac k towar d th e politica l center , emphasizing nationa l solidarit y an d th e extensio n o f Wes t Ger man institutiona l arrangement s t o th e Eas t rathe r tha n radica l institutional reform. Even European conservatives find th e social polarization characteristi c of contemporary America n capitalis m unpalatable, an d ther e ar e goo d reason s t o believ e tha t suc h polarization undermines long-term economic prosperity.

EIGHT Military Spendin g a s Industrial Polic y Leonard Silk and Mark Silk

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n recen t years , fe w governmen t activitie s hav e draw n suc h undisguised contemp t fro m America n conservative s a s indus trial policy , o r th e promotio n o f privat e enterpris e afte r th e

manner o f th e Japanes e Ministr y o f Internationa l Trad e an d In dustry. Pointin g t o Clinto n administratio n program s t o spu r ad vanced civilia n technolog y an d th e developmen t o f a cheaper , more fuel-efficien t automobile , Dic k Arme y call s industria l pol icy a "misguide d an d ofte n corrupt " effor t t o pic k winner s an d losers i n th e marke t place : "Proponent s o f industria l polic y nor mally tal k o f 'private-publi c partnership s t o promot e th e indus tries o f tomorrow / bu t usuall y i t turn s ou t t o b e a give-awa y t o the industrie s wit h th e mos t politica l clout—ofte n th e industrie s of yesterday." 1 I n 1995 , the new Republica n majorit y i n Congres s sought no t onl y t o stri p th e federa l budge t o f a range o f Clinton inspired industrial-polic y program s bu t als o t o ge t ri d o f th e 147

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entire Departmen t o f Commerce , a Theodor e Roosevelt-er a cre ation responsibl e for , amon g othe r things , promotin g America n business throug h loan s an d internationa l lobbying . But lon g befor e "industria l policy " ha d a nam e t o labe l th e process b y whic h governmen t coul d us e it s resource s t o ai d the nationa l econom y b y protecting , guiding , an d strengthenin g particular industries , ther e wa s a powerfu l instrumen t use d t o achieve thos e objectives : military spending . In 1946, General Dwight D . Eisenhower outline d hi s proposal s for keepin g th e militar y i n a stat e o f preparedness . I t wa s im portant, Eisenhowe r thought , fo r th e arme d force s t o b e abl e to ta p industr y an d th e universitie s fo r th e talen t neede d fo r comprehensive militar y planning ; t o d o this , the y shoul d le t contracts fo r hel p i n plannin g rathe r tha n merel y contractin g fo r equipment, a s had bee n tru e i n th e past . An d afte r th e contract s had bee n let , th e scientist s an d industrialist s involve d shoul d have th e greates t possibl e freedo m t o carr y ou t researc h an d development a s they sa w fit . Eisenhower though t tha t i f th e civilia n secto r wer e give n it s head afte r bein g briefed o n the basic problems, it would b e muc h more likel y t o com e u p wit h usefu l solution s tha n i f th e Army , Navy, o r Ai r Forc e wer e t o buz z aroun d tryin g t o duplicate , correct, o r amen d th e idea s th e scientist s an d industrialist s wer e developing. A t th e sam e time , h e thought , th e militar y shoul d see tha t som e o f it s officer s wer e wel l traine d i n th e natura l an d social science s throug h a thoroug h progra m o f advance d study . "Officers o f al l arme d service s mus t becom e full y awar e o f th e advantages whic h th e Arm y ca n deriv e fro m th e clos e integra tion o f civilia n talen t wit h militar y plan s an d development, " h e stated. 2 Fifteen year s later, in his famous Farewel l to the Nation, Eisen -

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hower expresse d radicall y differen t view s abou t th e relationshi p of the military to the civilian sector—what h e called the military industrial complex . "Onl y a n aler t an d knowledgeabl e citizenr y can compe l th e prope r meshin g o f th e hug e industria l an d mili tary machiner y o f defens e wit h ou r peacefu l method s an d goal s so tha t securit y an d libert y ma y prospe r together/ ' h e said , add ing: "Th e prospec t o f dominatio n o f th e Nation' s scholar s b y Federal employment , projec t allocations , an d th e powe r o f money i s ever presen t an d i s gravely t o be regarded. " 3 This wa s n o last-minut e piec e o f oratory ; h e ha d bee n wor rying abou t th e proble m fo r years . I n 1956 , i n a lette r t o hi s friend Everet t E . Hazlett, Eisenhowe r complaine d tha t th e chief s of eac h o f th e militar y service s ha d thei r mind s o n th e goo d o f their ow n service s rathe r tha n th e natio n a s a whole , s o tha t th e total militar y budge t resultin g fro m thei r aggregat e request s wa s "fantastic." H e sai d tha t som e da y th e ma n sittin g i n hi s chai r would kno w les s about th e military tha n h e did—an d les s abou t where budget saving s coul d b e made : "Le t us no t forge t tha t th e Armed Service s ar e t o defen d ' a wa y o f life, ' no t merel y land , property o r lives, " h e wrot e t o Hazlett . "America n strengt h i s a combination o f it s economic , mora l an d militar y force . I f w e demand to o muc h i n taxe s i n orde r t o buil d plane s an d ships , we wil l ten d t o dr y u p th e accumulation s o f capita l tha t ar e necessary t o provid e job s fo r th e millio n o r mor e ne w worker s that w e mus t absor b eac h year. " 4 In fact, postwa r militar y sponsorshi p o f research an d develop ment di d muc h t o buil d upo n th e technologica l advance s brought abou t b y organize d wor k o n militar y problem s durin g World Wa r II. It was instrumenta l i n creatin g th e postwar "Infor mation Age " celebrate d s o enthusiasticall y b y New t Gingric h a s the avata r o f his laissez-faire Utopia . But the danger s Eisenhowe r

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warned agains t als o becam e mor e deepl y embedde d wit h time . In 1987 , Murra y Weidenbaum , firs t chairma n o f Presiden t Reagan's Counci l o f Economi c Adviser s an d a forme r executiv e at th e Boein g Aircraf t Corporation , sai d i n a n addres s t o th e American Economi c Association: "Th e close, continuing relation ship betwee n th e militar y establishmen t an d th e majo r compa nies servin g th e militar y establishmen t i s changin g th e natur e o f both th e publi c secto r o f th e America n econom y an d a larg e branch o f America n industry . T o a substantia l degree , th e gov ernment i s takin g o n th e traditiona l rol e o f privat e entrepreneu r while th e companie s ar e becomin g les s lik e othe r corporation s and acquirin g muc h o f th e characteristic s o f a governmen t arse nal. I n a sense , th e close , continuin g relationshi p betwee n th e Department o f Defens e an d it s majo r supplier s i s resultin g i n a convergence betwee n th e two , whic h i s blurrin g an d reducin g much o f th e distinctio n betwee n publi c an d privat e activitie s i n an important branc h o f th e America n economy. " 5 Prime defens e companie s an d thei r far-flun g subcontractor s all over the country learne d t o work behin d th e scenes and lobb y the Pentagon , Congress , an d stat e an d loca l politicians , t o insur e that thei r contract s wer e obtaine d o r renewed . Th e coalitio n might bette r hav e bee n calle d th e Military-Industrial-Politica l Complex, fo r th e loca l politic o wa s ofte n th e stronges t influenc e in keepin g militar y program s alive : There wa s n o bette r demon stration o f forme r Hous e Speake r Ti p O'Neill' s famou s dictum , "All politic s i s local. " T o loca l communities , militar y contract s could b e matter s o f lif e an d death , a s whe n Presiden t Carter' s cancellation o f th e B- i bombe r jus t abou t wipe d ou t E l Segundo , California. T o preven t suc h a thin g fro m happenin g i n thei r states o r districts , senator s an d representative s hav e fough t wit h all the y ha d t o protec t a weapon s syste m tha t keep s a plan t o r

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industry i n business , eve n whe n th e rational e fo r th e weapon s system i s bogus.

The MX Missile Does military spendin g driv e economi c polic y i n American capi talism? On e piec e o f evidenc e i n suppor t o f th e affirmativ e i s th e story o f th e M X missile— a travest y o f Col d Wa r strategi c plan ning tha t ultimatel y involve d thre e administrations , thirt y con gressional votes , an d severa l change s i n justificatio n an d plan s for deployment . Originally propose d becaus e o f th e fea r tha t th e existin g Min uteman intercontinenta l ballisti c missile s (ICBMs ) were vulnera ble in their immoveabl e silos , the MX was t o be deploye d s o tha t it coul d b e move d quickl y amon g multipl e protectiv e shelter s and coul d pla y a gam e o f Blin d Man' s Bluf f wit h th e Sovie t Union's ICBMs . I n a n effor t t o demonstrat e ho w vulnerabl e th e Minuteman ICBM s were , Presiden t Geral d Ford' s Secretar y o f Defense, Jame s Schlesinger , tol d th e Senat e Foreig n Relation s Committee i n September , 197 4 tha t a Sovie t firs t strik e coul d destroy 9 0 percent o f th e 1,05 4 silos . Then, ignorin g th e fac t tha t U.S. nuclea r strateg y mad e th e threa t o f retaliatio n th e onl y deterrent agains t attack , Schlesinge r wen t o n t o sa y tha t th e danger o f th e Soviets ' strikin g America n citie s an d killin g a s many a s 9 5 million peopl e migh t mak e a U.S . president hesitat e to retaliate . Although Presiden t Jimmy Carter' s Secretar y o f Defense, Har old Brown , conclude d tha t U.S . force s survivin g a firs t strik e would b e full y capabl e o f retaliation , Carte r bowe d t o pressur e and directe d tha t preparation s b e mad e t o figh t a lon g bu t lim ited nuclea r wa r i n whic h th e M X woul d pla y a n importan t

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strategic role. In the spring o f 1979 , with hawkish senator s threat ening t o vot e agains t th e SAL T II arms treaty , Carte r approve d a plan t o establis h 20 0 "race tracks/ ' aroun d eac h o f whic h a n M X missile woul d rol l a t 3 0 mp h amon g 2 3 shelters , shielde d fro m prying satellit e eye s excep t a t prearrange d time s t o permi t veri fication. Al l this would requir e constructio n o f 4,600 shelters an d 13,500 miles o f roadway. 6 Soon th e stratospheri c estimate d cost—$3 3 billio n i n 197 8 dollars no t countin g th e 2,00 0 warheads—persuade d th e Penta gon t o "simplify " th e basin g pla n b y convertin g th e rac e track s into a gri d syste m o f straigh t roads ; reducin g th e siz e o f th e shelters; an d usin g a n elaborat e serie s o f dumm y missiles . Th e new pla n just abou t negated th e entire scheme, however, becaus e hooking u p a real missile t o its launcher woul d no w tak e severa l hours, muc h longe r tha n th e probabl e fifteen-minut e warnin g period woul d allow . No r di d i t appea r eve n t o cu t th e estimate d cost, whic h eventuall y ros e t o $12 0 billion. Meanwhile , th e peo ple o f Nevada , Utah , Ne w Mexico , an d wes t Texas , wher e th e missiles wer e suppose d t o go , gre w increasingl y inhospitabl e t o the entir e enterprise . By th e tim e Ronal d Reaga n assume d th e presidency , i t ha d become obviou s tha t th e 200-missil e moveabl e forc e wa s eco nomically an d politicall y unfeasible . I n 1982 , Reaga n propose d that 10 0 M X missile s b e deploye d a t Warre n Ai r Forc e Bas e i n Wyoming i n wha t h e dubbe d a "dens e pack. " Whe n Congres s told th e administratio n t o com e u p wit h a les s stupi d idea , a commission ru n b y Nationa l Securit y Advise r Bren t Scowcrof t suggested tha t th e 10 0 missiles b e place d i n existin g Minutema n silos alon g th e Wyoming-Nebrask a border . Congres s approve d this concept , thoug h i t mad e a mocker y o f th e origina l justi fication fo r th e MX . Th e Scowcrof t Commissio n admitte d a s

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much, bu t sai d tha t goin g ahea d woul d demonstrat e t o Mosco w that th e Unite d State s ha d "th e will " t o buil d a n effectiv e deter rent. Congress approve d constructio n o f twenty-on e missiles , an d by 198 5 Reaga n wa s pleadin g fo r a tota l o f fifty . T o wi n th e P R battle, h e bega n talkin g abou t ho w th e "Peacekeeper " wa s needed t o clos e th e "windo w o f vulnerability. " H e finall y de clared tha t th e M X wa s neede d a s a "bargainin g chip " a t a ne w round o f arm s reductio n talk s i n Geneva . Eventuall y Congres s agreed t o kee p th e M X contractor s i n busines s wit h appropria tions fo r a doze n i n 198 6 an d a tota l o f fort y t o forty-tw o dow n the line . The stor y o f th e M X missile ca n be multiplie d wit h an y num ber o f othe r examples . Th e ultimat e expressio n o f th e Col d Wa r military-industrial comple x i n actio n wa s Presiden t Reagan' s Strategic Defens e Initiative , i n whic h contract s t o construc t a pie-in-the-sky nuclea r missil e shiel d fo r th e Unite d State s wer e distributed no t onl y acros s th e state s o f th e Unio n bu t als o t o defense contractor s throughou t th e Fre e World. During th e Bus h administration, report s o f high-price d Ai r Forc e monke y wrenches an d toile t seat s create d publi c pressur e t o d o some thing abou t cos t overruns , overcharges , an d outrigh t act s o f fraud o n the part o f defens e contractors , including som e big one s like Genera l Electri c an d Genera l Dynamics . Vern e Orr , th e Ai r Force Secretary , observed , "Nationa l suppor t fo r buildin g mili tary strengt h ha s bee n severel y battere d b y publi c perceptio n that w e pa y to o muc h fo r th e good s an d service s w e acquire. " But th e proble m wa s inheren t i n th e symbioti c relationshi p o f military contractors , high-rankin g militar y officers , an d Penta gon bureaucrats ; i n th e commo n insulatio n o f defens e contrac tors fro m norma l busines s competition ; an d i n th e politica l sup -

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port provide d b y senator s an d representative s lookin g afte r thei r constituencies' interest s an d thei r ow n re-elections .

The Military Build-Down As powerfu l a s military-industria l complexe s aroun d th e worl d have been , the y coul d no t preven t a substantia l reductio n i n defense spendin g afte r th e en d o f th e Col d War . After peakin g i n 1987, globa l militar y outlay s decline d a n averag e o f 7. 2 percen t annually ove r th e nex t si x years. 7 Th e bul k o f th e reduction s occurred i n th e develope d countries , an d primaril y i n the forme r Soviet bloc . Wher e onc e th e Sovie t Unio n accounte d fo r 3 0 per cent o f th e world' s tota l militar y spending , it s successo r state s have com e t o accoun t fo r les s tha n 1 0 percent . I n 1992 , Russi a and Ukrain e slashe d thei r procuremen t o f new weapon s system s by abou t 8 0 percen t an d 75 percen t respectively ; betwee n 199 1 and 1993 , Russi a cu t it s tota l militar y spendin g b y mor e tha n half. Between 198 8 and 1993 , the forme r Warsa w Treat y Organi zation state s o f Easter n an d Centra l Europ e reduce d militar y spending b y 7 0 percent i n orde r t o undertake economi c reforms . By contrast , Wester n Europea n state s remaine d war y o f cut ting to o muc h i n th e fac e o f politica l instabilit y t o thei r eas t an d in th e forme r Yugoslavia . Th e ceiling s impose d b y th e 199 0 Treaty o n Conventiona l Arme d Force s i n Europ e (CFE ) staye d high, an d ha d littl e direc t effec t o n militar y outlay s i n NAT O countries. Overall, military spendin g i n Western Europ e decline d only on e percen t pe r yea r betwee n 198 8 an d 1993 , as compare d to averag e reduction s o f mor e tha n thre e percen t i n th e Unite d States. The cut s in the U.S. military budget wer e themselve s ver y modest, considerin g tha t abou t 6 0 percen t o f tha t budge t ha d been attributabl e t o th e contes t wit h th e Sovie t Union . Wha t th e

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slow pac e o f reduction s i n militar y spendin g b y th e capitalis t countries reflecte d wa s th e linkag e betwee n nationa l securit y and economi c concerns , fo r withou t question , recessio n an d un employment helpe d dela y arm s reductio n an d limi t th e siz e o f any peac e dividends . In th e developin g world , militar y spendin g showe d wid e re gional variations . I n economicall y strappe d Nort h Africa , i t de clined mor e tha n 7 percent annuall y betwee n 198 8 and 1993 ; but there were smal l increases i n Sub-Saharan Africa , wher e violenc e exploded i n countrie s lik e Somali a an d Rwanda . I n Centra l America, th e stagin g groun d fo r som e o f th e las t an d grimmes t Cold Wa r conflicts , militar y spendin g virtuall y groun d t o a hal t between 198 8 an d 1993 , wherea s i n Sout h Americ a th e annua l reductions wer e les s tha n 4 percent . I n th e Middl e East , height ened feeling s o f insecurit y i n th e wak e o f Iraq' s invasio n o f Kuwait an d th e subsequen t Gul f Wa r le d countrie s briefl y t o increase defens e outlays , bu t the y the n resume d a downwar d course tha t ha d begu n i n th e earl y 1980s . In Asia , militar y spendin g ros e an d wa s likel y t o kee p o n rising. Widesprea d politica l uncertainties , especiall y ove r possi ble threats from Nort h Kore a and China , led many Asia n govern ments t o increas e th e preparednes s o f thei r arme d forces . Thes e countries modernize d thei r arme d force s throug h purchase s o f submarine fleets, advance d aircraft , an d ai r reconnaissanc e systems.

The International Arms Trade Stuck wit h exces s capacity , defens e contractor s toda y fin d them selves i n a n unprecedente d buyers ' market . Altogether , worl d arms import s decline d fro m a pea k o f aroun d $90 billio n pe r

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year i n th e mid-1980 s t o $2 2 billio n i n 1993 . No r doe s thi s 75 percent decreas e full y conve y ho w muc h mor e competitiv e th e international arm s trad e ha s become, a s defense industrie s i n th e developed countrie s see k t o expan d foreig n sale s i n orde r t o cope wit h domesti c reduction s i n defens e expenditures , an d countries i n th e developin g worl d gea r u p thei r ow n arm s pro duction fo r th e sak e o f thei r domesti c economies . Nothin g illus trates th e squeez e bette r tha n th e case s o f Eas t an d Sout h Asia , which betwee n 198 8 an d 199 3 increase d thei r militar y spendin g by 2. 3 percent an d 2. 9 percent per year , respectively. Both region s reduced thei r arm s import s substantiall y durin g th e sam e pe riod: Eas t Asi a b y mor e tha n two-third s an d Sout h Asi a b y 9 5 percent. Of course , wit h th e en d o f th e Col d Wa r th e ideologica l basi s for th e Unite d State s an d Russi a t o transfe r arm s t o prox y state s evaporated. N o longe r s o willin g t o giv e awa y expensiv e weap onry, th e American s an d th e Russian s ende d u p eithe r reducin g arms transfer s t o thei r forme r Col d Wa r allie s o r discontinue d them entirely . Arms export s b y th e Sovie t Unio n an d it s primar y successo r state, Russia , droppe d fro m a n averag e o f $2 3 billio n pe r yea r during th e 1980 s t o onl y $2. 5 billio n i n 199 2 an d 1993 . Russi a fell t o thir d plac e (behin d th e Unite d Kingdom ) amon g arms exporting states , wit h th e bul k o f it s sale s goin g t o Iran , China , Afghanistan, India , an d Cuba . Th e aggregat e sale s leve l wa s comparable t o actua l sale s durin g th e Col d War ; th e precipitou s decline i n export s ha d t o d o wit h th e inabilit y o f th e Russia n government t o subsidiz e export s th e wa y th e Soviet s had . Th e biggest outlay s o f th e Russia n militar y no w g o fo r pension s an d to maintai n it s mor e tha n tw o millio n militar y personnel . Th e Russian Centra l Bank provides subsidie s to its military-industria l complex throug h th e ne w Ministr y o f Industr y fo r th e sak e o f

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avoiding unemployment an d retainin g skille d workers—to mee t the needs o f civilia n conversions , the y hope . But th e Unite d State s ha s cu t militar y outlay s fa r les s tha n Russia, thereb y becomin g th e dominan t playe r i n th e arm s ex port business. To cite one strikin g shift , th e U.S . share o f militar y exports t o developin g countrie s ros e fro m 1 6 percent t o 5 1 per cent betwee n 198 3 an d 1993 , whil e th e Soviet/Russia n shar e dropped fro m 4 4 percent t o 1 0 percent. Th e apparentl y spectacu lar performanc e o f America n high-tec h weaponr y durin g th e Gulf Wa r prove d t o b e seductiv e advertisin g fo r U.S . arm s con tractors; since then, the United State s has garnered hal f th e globa l arms export market. Som e observers even believe that the Unite d States ca n become th e monopol y supplie r o f arm s i n worl d mar kets. 8 Nevertheless, i n the shrinkin g arm s market , America n mil itary producer s hav e ha d reaso n t o worr y abou t th e los s o f orders t o foreign competitors . The countrie s o f Wester n Europ e i n 199 3 accounte d fo r 3 2 percent of world arm s sales, with the United Kingdom , Germany , France, and Ital y representing ove r 9 0 percent o f the total: Britain exported $4. 3 billion ; Germany , $1. 1 billion ; France , $0. 7 billio n and Italy , $0. 4 billion. (A mai n componen t i n th e Germa n figur e has been it s disposal o f militar y equipmen t owne d b y th e forme r East Germa n arme d forces. ) In 1993 , China was the fifth larges t arm s exporter i n the world , accounting fo r 4 percent o f al l militar y export s an d 8 percent o f conventional arm s sales . Althoug h Chin a want s t o ear n mor e hard currency , the reality is that most countrie s purchas e Chines e weapons onl y becaus e o f thei r inabilit y t o bu y fro m othe r sources, especiall y th e Unite d States . I n man y cases , Chines e weapons hav e bee n transferre d o n concessionar y terms , i n a n effort t o buil d close r politica l ties . Chin a ha s secretl y helpe d several Middl e Easter n countries ' nuclea r weapon s programs ; i t

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has exporte d nuclear-relate d material s t o Pakista n an d nuclea r reactors t o Iran . Defyin g th e nonproliferatio n agreemen t o n mis sile technologie s o f th e so-calle d Bi g Fiv e supplie r states—th e United States , the Soviet Union , France , Great Britain, an d Chin a itself—China ha s als o attempted t o ship long-range ballistic missiles t o Iran . However , Chines e arm s shipment s hav e mostl y consisted o f fighte r aircraft , armore d vehicles , an d nava l vessels . Beijing's mai n customer s ar e Sout h Asia n nations—Bangladesh , Myanmar (Burma) , Thailand , an d Pakistan . It s effort s t o marke t Chinese weapon s i n othe r area s hav e bee n hampere d b y mor e competitive Russia n weapons . Th e U.N.-sponsore d embarg o o f Iraq, whic h ha d bee n China' s primar y custome r i n th e Middl e East, deprive d i t of a major revenu e source . Meanwhile, India , Japan , Taiwan , an d Sout h Kore a ar e up grading thei r alread y substantia l arm s production capacities , an d Southeast Asia n countrie s ar e busil y tryin g t o catc h up . Indone sia ha s mad e effort s t o develo p domesti c aerospac e an d ship building industries ; Singapore want s t o expan d an d diversif y it s defense industr y t o promot e arm s exports ; an d Malaysi a an d Thailand hav e move d t o develo p th e capacit y t o produc e high tech weaponry. Thes e countrie s ar e soon likel y t o join suc h othe r arms-exporting countrie s i n th e developin g worl d a s Nort h Ko rea, Brazil , Turkey , Israel , Egypt , an d Sout h Africa—makin g th e global arms market eve n more congested , wit h producers cuttin g prices further t o push sales , largely fo r th e sak e o f their domesti c economies.

The Contract with the Complex Just afte r th e Gul f War , then-Chairma n o f th e Join t Chief s Coli n Powell remarked , "I' m runnin g ou t o f demons . I' m runnin g ou t

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of villains . I'm dow n t o Castr o an d Ki m I I Sung/' 9 Withi n a fe w years, Kim , th e Nort h Korea n leader , wa s dead , leavin g onl y th e tottering regim e o f Fide l Castr o i n Cuba . Bu t notwithstandin g the villai n shortage , militar y contractor s worke d har d t o kee p awareness o f threat s aliv e an d vivid , an d t o inven t ne w ones . After th e 199 4 electio n the y foun d a receptiv e audienc e i n th e Republican-controlled Congress , quickl y demonstratin g th e po litical limit s o f th e ne w laisse z faire . Fo r her e wa s a for m o f industrial polic y tha t free-enterpriser s woul d support , Col d Wa r or no Col d War . To b e sure , amon g libertaria n purist s th e working s o f th e military-industrial comple x wer e almos t a s ba d a s an y othe r exercise i n bi g government . A s Jeffre y Gerlach , a Cat o Institut e foreign polic y analyst , put it : "During th e Cold War , the presenc e of a formidabl e enem y provide d a t leas t som e rational e fo r con tinuing program s o f dubiou s value . However , i n a n er a whe n significant threat s t o th e Unite d State s hav e virtuall y disap peared, i t i s intolerabl e t o continu e t o justif y defens e spendin g on th e basi s o f it s allege d economi c benefits/ ' Gerlac h acknowl edged tha t the military por k barre l rested o n America's readines s to pu t it s militar y migh t t o th e servic e o f peacekeepin g aroun d the world. Th e true libertaria n positio n wa s isolationist : Americ a should b e militaril y prepare d onl y t o safeguar d it s ow n vita l (economic) interests . Therefore , s o lon g a s th e Unite d State s lef t the Haitians , Somalis , forme r Yugoslavs , an d th e res t o f tha t il k to thei r ow n devices , i t coul d safel y cu t it s defens e budge t i n half.10 This, however , wa s a fa r cr y fro m th e positio n o f New t Gin grich. I n hi s 199 5 manifesto , To Renew America, th e Hous e Speaker portray s th e worl d a s ful l o f "cleve r countries " tha t ar e trying t o "lear n ho w t o cop e wit h a n America n militar y force" ;

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these includ e Russia , India , China , Libya , Iran , Iraq , an d Nort h Korea. An d that' s no t t o mentio n th e threa t o f internationa l terrorism an d Islami c fundamentalism . "W e hav e t o plan, " say s Gingrich, "base d o n th e assumptio n tha t somewher e ther e ma y be a n opponen t wit h th e courag e an d determinatio n t o test u s i n circumstances tha t w e hav e no t considered , usin g system s tha t we hav e no t invente d ourselves. " Drawin g o n th e post-Vietna m Republican traditio n o f portrayin g th e Democrat s a s sof t o n defense, Gingric h contrast s the smashing succes s of Desert Stor m with th e grindin g stalemat e o f th e Korea n War : "Th e decisiv e difference wa s th e Reaga n militar y buildu p o f th e 1980 s a s com pared wit h th e Truman defens e demobilizatio n o f the late 1940s. " In Gingrich's view , the collaps e o f the Soviet Union "ha s actuall y widened ou r rang e o f responsibilities an d i s spreading ou r force s even thinne r acros s th e planet. " Americ a shoul d b e "frugal " i n its militar y spending , bu t no w tha t i t ha s th e "potentia l t o lea d the entir e human race, " it must recogniz e tha t i t must shoulde r a greater militar y burde n tha n ever. 11 A certai n amoun t o f loca l military-industria l politic s but tressed Gingrich' s internationalis t posture . His district northwes t of Atlant a i s hom e t o a Lockhee d Aircraf t plan t an d a majo r military bas e (Dobbins ) tha t togethe r poure d $2. 8 billion o f De fense Departmen t mone y int o th e loca l econom y i n 1994 . Th e Lockheed plan t i s largel y take n u p wit h manufacturin g C-13 0 transport planes , whos e busines s i t i s t o projec t America n mili tary migh t acros s th e seas ; an d th e plan t i s countin g heavil y o n the Pentagon' s decidin g t o spen d ove r $ 8 billio n t o replac e it s entire 165-plan e flee t wit h ne w C-130 J models . (Ultimately , Lockheed woul d lik e t o manufactur e on e thousan d C-130JS , more tha n 8 0 percent o f whic h woul d b e sol d outsid e th e Unite d States.) 12 Not surprisingly , Gingrich' s recip e for defens e frugalit y

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is focuse d entirel y o n limitin g Congressiona l revie w an d re ducing Pentago n paperwor k an d "civilia n micromanagement.

,,

There's no t a word abou t preventin g cos t overrun s an d fraud , o r subjecting defens e contractor s t o the disciplin e o f marke t forces . All i n all , th e Republica n Contrac t wit h America , perhap s reflecting division s betwee n Gingric h an d hi s les s international ist colleagues , treade d rathe r gingerl y o n th e defens e question . While generall y denouncin g th e Clinto n administratio n fo r mak ing excessiv e cut s i n militar y spending , i t di d no t com e ou t i n favor o f an y particula r spendin g leve l o r oppos e furthe r bas e closings. Rather, i t promoted a National Securit y Restoratio n Ac t that woul d preven t "raiding " th e defens e budge t t o pa y fo r social programs; maintain a strong NAT O under U.S . leadership; and forbi d placin g America n troop s unde r Unite d Nation s com mand. The las t o f thes e betraye d mor e tha n a trace o f th e isolationis t impulse that , seventy-fiv e year s earlier , ha d le d Republican s t o oppose U.S. membership i n the League o f Nations. The old spiri t of Fortres s Americ a wa s likewis e apparen t i n th e sol e defens e program th e Contrac t sai d i t wishe d t o reinvigorate : Presiden t Reagan's Strategi c Defens e Initiative . Th e Defens e Departmen t would b e directe d t o develo p "a t th e earlies t possibl e date " a n antiballistic missile syste m to protect th e United State s from, "fo r example, accidenta l o r unauthorize d launche s o r Thir d Worl d attacks." 13 Th e multi-billion-dolla r SD I bazaa r woul d b e ope n for busines s again—thoug h give n tha t th e dange r wa s no w judged a s comin g fro m an y numbe r o f obscur e an d unforesee n adversaries, th e progra m presumabl y coul d neve r b e justified , like th e MX , a s a "bargainin g chip " a t som e futur e arm s contro l negotiating table . When Congres s go t dow n t o busines s i n 1995 , th e disparat e

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propositions advance d i n th e Contrac t spawne d a more concret e pledge t o prohibi t an y furthe r reductio n i n U.S . defens e spend ing. I n th e cours e o f th e year , Hous e an d Senat e appropriation s committees move d t o increas e th e Clinto n administration' s $23 4 billion budget proposa l by nearly $ 9 billion—most o f whic h wa s to pa y fo r weapon s system s th e Pentago n sai d i t di d no t want . These include d additiona l B- 2 (stealth ) bombers , th e troubled , supposedly radar-evadin g strategi c aircraf t whos e justificatio n had bee n dubiou s eve n whe n i t was t o dro p nuclea r weapon s o n the Sovie t Union , an d whic h th e Pentago n itsel f no w sai d i t didn't want . Th e rea l justification, o f course , wa s keepin g th e B2 contractors i n business . How fa r Washingto n ca n g o i n preservin g th e military-indus trial practice s o f th e Col d Wa r i s les s tha n clear . Th e post-Col d War world remain s dangerous , an d a s the Clinton administratio n and it s Republica n adversarie s bot h discovere d i n Bosnia , th e pressure t o produc e a peac e backed b y America n militar y migh t may be hard t o resist. But popular reluctanc e t o become involve d in foreig n land s ha s grow n stronger , an d coul d wel l lea d t o a scaling bac k o f America' s oversea s commitments . Amon g th e dangers i s a n internationalist' s nightmare : isolationis t with drawal fro m th e world' s uglies t problem s combine d wit h th e worst kin d o f industria l policy— a militar y por k barre l designe d to protect America n soi l agains t imaginar y threats .

Military-Industrial Perils Despite short-ter m economi c benefits , arm s export s hav e omi nous politica l effect s an d long-ter m cost s fo r producer s a s wel l as consumers—throug h wars , interna l o r external , tha t destro y

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lives an d property . Th e Unite d Nation s Developmen t Progra m counted eighty-tw o arme d conflict s betwee n 198 8 an d 1992 , o f which al l bu t thre e too k plac e withi n th e border s o f a n existin g state. Whistlin g pas t th e graveyard , th e Economist editorialize d that "lik e th e developmen t bank s an d ai d agencies, " arms-pro ducing countrie s "shoul d refus e t o hel p th e bi g militar y spend ers. The y wil l no t pu t a n en d t o th e craz y primac y pu t upo n defense spendin g i n part s o f th e poo r world—tha t wil l com e only wit h democracy—bu t the y ca n sav e som e o f thei r taxpay ers' money , an d perhap s som e othe r people' s lives."

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these countrie s hav e don e wha t the y coul d t o shor e u p thei r arms export s i n a n effor t t o maintai n employmen t an d satisf y the needs o f thei r military-industria l complexes . During th e perio d o f th e Gul f War , th e Bus h administratio n did mak e som e gesture s towar d restrictin g th e flo w o f conven tional arm s t o th e Middl e East . I n testimon y befor e th e Hous e Foreign Affair s Committe e i n Februar y 1991 , Secretary o f Stat e James Baker sai d tha t th e time ha d com e t o "tak e concret e steps " to stem th e flow o f armament s i n the Middle East , an d o n Marc h 6, 1991 , a wee k afte r th e liberatio n o f Kuwait , Presiden t Bus h called fo r arm s trad e restraint , sayin g tha t i t woul d b e tragi c i f the nation s o f th e Middl e Eas t wer e now , i n th e wak e o f war , t o embark o n a new arm s race . On Ma y 29 , 1991 , in a speec h t o th e graduatin g clas s o f th e U.S. Ai r Forc e Academy , Bus h unveile d hi s Middl e Eas t Arm s Control Initiative , i n whic h h e suggeste d tha t th e Bi g Fiv e com mit themselve s t o guideline s fo r arm s suppliers . Th e Unite d States the n proceede d t o initiat e discussion s o n reinin g i n nu clear an d conventiona l arm s export s amon g th e fiv e permanen t members o f th e U.N . Securit y Council . A t talk s o n arm s contro l in th e Middl e Eas t i n Pari s an d Londo n i n th e summe r an d

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fall o f 1991 , th e Bi g Fiv e agree d t o see k rule s o f restrain t fo r conventional arm s transfe r an d t o meet regularl y t o discuss thei r implementation. O n Decembe r 1991 , the U.N . Genera l Assembl y resolved t o establis h a registe r o f arm s transfe r b y a vot e o f 15 0 to o, with onl y Cub a an d Ira q abstaining . Iraq, th e largest weapon s importe r i n the 1980s , did disappea r from th e arms market, thank s to the U.N. embargo. Washington' s "dual containment " polic y als o checke d arm s sales , particularl y high-tech products , t o Iran . I n actuality , however , littl e o r n o progress wa s mad e i n curbin g conventiona l arm s export s t o th e Middle East , an d America' s Gul f allie s wen t ahea d an d mad e heavy purchase s o f arms , mostly fro m thei r principa l benefactor . And generally , U.S . polic y sinc e th e en d o f th e Col d Wa r ha s tilted awa y fro m limitin g th e conventiona l arm s trade . Th e til t was epitomize d b y th e transformatio n o f th e Stat e Department' s small Offic e o f Munition s Contro l int o a n expande d Cente r fo r Defense Trade , which alon g wit h th e Commerc e Departmen t ha s played a ke y rol e i n facilitatin g America n arm s exports . Th e Clinton administratio n als o acte d t o reduc e restriction s o n arm s exports b y "streamlining " th e bureaucrati c revie w proces s an d liberalizing trad e i n dual-us e technology—tha t is , technolog y with bot h militar y an d civilia n applications . Thes e change s i n policy fle w i n th e fac e o f th e administration' s crisis-base d oppo sition t o liftin g th e arm s embarg o agains t th e forme r Yugoslavi a prior t o the signin g o f th e Dayton peac e agreemen t i n 1995. Here, memor y o f Sadda m Hussein' s importatio n o f dual-us e technology t o build up his military machine weighed les s heavily than th e argumen t tha t maintainin g existin g restriction s onl y harmed U.S . economi c interests . A s Democrati c Rep . Sa m Gej denson, whos e Connecticu t distric t include s som e prim e defens e contractors, sai d durin g Congressiona l hearing s o n th e subject ,

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"[AJdvances in technology hav e outstripped th e ability to contro l dual-use equipment . Muc h o f wha t w e ar e makin g i s to o small , too good an d to o commonl y availabl e fo r u s t o have an y realisti c expectation o f keepin g i t ou t o f th e hand s o f dangerou s coun tries/' 1 5 Th e arms-expor t deregulatio n ha d it s effect . Althoug h actual U.S . arm s sale s decline d fro m $15. 4 billio n i n 198 9 t o under $10 billio n pe r yea r fro m 199 0 throug h 1993 , arm s sale s agreements in 199 3 jumped b y $1 5 billion, portendin g expandin g exports i n years t o come . Governments ofte n see k t o justif y larg e arm s sale s a s a n in strument o f foreig n policy , such a s to reach o r maintain a balanc e of power , eve n whe n thes e sam e objective s migh t b e achieve d far mor e cheapl y an d fa r les s dangerousl y b y arm s contro l agreements. Moreover , exportin g arm s sometime s work s agains t nations' ow n politica l interests . Th e fal l o f th e Sha h o f Ira n lef t massive amount s o f America n weaponr y i n th e hand s o f th e virulently anti-America n regim e of the Ayatollah Khomeini . Sim ilarly, a larg e portio n o f th e weapon s delivere d t o anti-commu nist Afgha n rebel s woun d u p i n th e hand s o f anti-Wester n Is lamic radicals an d helpe d t o arm thei r "floating " armies . Wester n arms manufacturer s hav e contribute d t o th e developmen t o f arms industrie s i n th e developin g worl d b y transferrin g no t only weapon s bu t militar y technologie s a s par t o f thei r "offset " agreements wit h Thir d Worl d countries . The pursui t o f immediat e economi c gai n throug h arm s sale s on th e par t o f Wester n countrie s ma y als o har m thei r long-ter m economic an d securit y interests . Ther e i s heightene d dange r t o world peac e an d economi c developmen t i f militar y programs , economic objectives , an d foreig n polic y ar e scrambled—with th e military-industrial-political player s doin g th e scrambling . Th e commercialization o f nationa l securit y an d foreig n polic y no t

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only divert s domesti c resource s fro m mor e productiv e us e bu t results i n globa l povert y an d slo w o r negativ e growth . I t i s an especiall y dangerou s cas e o f wha t migh t b e calle d capitalis t myopia.

NINE The Futur e o f Capitalis m Leonard Silk and Mark Silk

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n th e ideolog y o f th e America n righ t today , wha t make s fo r national prosperit y i s som e combinatio n o f laissez-fair e eco nomics, minimalis t democrati c government , traditiona l reli -

gion, an d middle-clas s virtues . "We must, " declare s New t Gingrich , "rethin k al l th e thing s that inhibit our abilit y to compete: regulation, litigation , taxation , education, welfare , th e structur e o f ou r governmen t bureaucra cies." 1 Democrac y an d capitalis m "wor k together, " say s Dic k Armey, an d bot h deriv e fro m a highe r power : "W e hav e bee n called t o Freedo m b y God . I thin k th e free marke t aros e fro m that calling."

2

I n th e vie w o f th e Christia n Reconstructionis t

David Chilton , "Godl y culture s hav e th e 'Purita n wor k ethic ' deeply ingraine d int o thei r natures , an d thi s ha s notabl e effect s in economics : risin g productivity , risin g rea l wag e rates , an d accelerating dominio n ove r ever y are a o f life . Bu t ungodl y me n 167

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. . . ar e slave s b y n a t u r e . . . . Th e unbelievin g cultur e thu s gravi tates toward statis m an d socialism/' 3 And the n ther e i s the clai m of Irvin g Kristol , father o f neocon servatism, tha t an y attac k o n har d work , th e family , o r religio n is necessaril y a n attac k o n capitalism , fo r "[i] f yo u delegitimat e this bourgeoi s society , th e marke t economy—almos t inciden tally—is als o delegitimated. " Indeed , Kristo l take s t o tas k non e other tha n th e founde r o f free-marke t thinking , Ada m Smith , fo r imagining (Enlightenmen t intellectua l tha t h e was ) tha t cultura l attitudes an d religiou s opinion s ar e matter s o f persona l tast e rather tha n th e necessar y foundatio n o f th e economi c system : "For tw o centurie s now , Wester n civilizatio n ha s bee n haunte d by thi s stupendou s erro r o f judgment, wit h th e resul t tha t today , even a s a marke t econom y i s accepte d a s superio r t o an y other , at leas t i n principle , th e bourgeoi s societ y o n whic h th e marke t economy i s based i s being challenge d wit h unprecedente d bold ness/' 4

Free Markets and Other Values Such claim s are , at th e ver y least , exaggerated . A s we hav e seen , highly regulate d a n d / o r heavil y taxe d countrie s lik e Japa n an d the socia l marke t economie s o f Norther n Europ e hav e fare d very wel l durin g th e pas t hal f century—despit e thei r relativel y ungodly culture s an d thank s i n no smal l measur e t o the very un laissez-faire protection s an d guarantee s the y hav e afforde d thei r economic enterprises an d citizens . In China, a s well a s in most of the othe r rapidl y advancin g countrie s o f Eas t Asia , capitalis t economic progres s ha s com e abou t i n th e absenc e o f democracy , and a t times amids t considerabl e repression . Notwithstanding th e view s o f today' s Christia n Right , godl y

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cultures hav e lon g bee n ambivalen t abou t th e pursui t o f wealth ; moreover, whil e bot h Wester n an d Easter n religion s hav e ofte n accorded th e highes t spiritua l valu e t o thos e wh o forswea r pri vate propert y i n favo r o f a communa l ("socialistic" ) lifestyle , there has been no shortag e of nonbelievers wh o have enthusiasti cally embrace d "Puritan " wor k habits . Tha t th e pursui t o f pri vate vice s lead s t o publi c economi c benefit s wa s a commonplac e in Ada m Smith' s time , an d i s n o les s tru e no w tha n then . Th e genius o f th e market , lik e th e geniu s o f democrati c politics , i s that bot h ar e capabl e o f transformin g som e o f th e les s attractiv e human attributes—th e hunge r fo r wealth , th e thirs t fo r power — into servant s o f th e public weal . None o f thi s i s t o sugges t tha t ther e ar e n o positiv e correla tions betwee n nationa l prosperit y an d free markets , democracy , and traditiona l religiou s an d cultura l values . The preservation o f an effectiv e an d dynami c econom y ma y wel l be difficul t withou t some measur e o f democrati c governance ; conversely , main taining a healthy democrac y i s likely to be difficul t withou t som e measure o f economi c freedom . Bu t th e correlation s ar e loose , shifting, an d a t time s inverse . Clashe s amon g desire d end s an d the mean s o f achievin g them—betwee n moralit y an d liberty , liberty an d equality , equalit y an d efficiency , efficienc y an d qual ity o f life—canno t b e escaped , an d ever y natio n mus t wor k ou t its own way s t o resolve them . Optimists maintai n tha t capitalis m wil l eventuall y brin g greater politica l freedo m i n it s train—that , a s ha s happene d i n Taiwan an d Sout h Korea , economi c advancemen t i n Chin a wil l not resul t i n a passiv e an d quiescen t populatio n bu t on e tha t sooner o r late r demand s freedo m o f speec h an d freedo m fro m fear o f oppressio n by th e state . But caus e an d effec t coul d jus t a s easily wor k th e othe r way , leavin g a n econom y undermine d b y

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authoritarian rule . I n an y event , politica l freedo m wil l no t com e about o n it s ow n a s th e resul t o f som e ineluctabl e economi c process; it takes pressure, an d th e will to mak e i t happen. Abov e all, th e abuse s an d cruelt y o f one-part y dictatorshi p nee d t o b e combatted fo r thei r ow n sake , no t becaus e the y coul d adversel y affect economi c developmen t i n the long run . Will the Chines e combinatio n o f authoritaria n politica l contro l and a larg e an d growin g capitalis t secto r provid e a better mode l for th e economi c developmen t o f poo r countrie s tha n th e mor e democratic politica l system s o f Russi a o r India ? Th e answe r depends substantiall y o n th e goals that nations , o r whoeve r run s them, seek . I f acceleratin g th e rat e o f economi c growt h an d raising livin g standard s ar e th e onl y criteri a o f success , the priz e may indee d g o t o free market s combine d wit h politica l authori tarianism; bu t i f th e criteri a o f succes s includ e no t onl y highe r economic growt h an d livin g standard s bu t als o th e safeguardin g of huma n right s an d people' s feeling s o f wort h an d self-respect , the judgmen t ma y b e tha t India , Russia , an d othe r democrati c societies wil l ultimatel y d o bette r i n meetin g thei r people' s mos t important want s an d needs , including th e protection o f life itself . Some observers have argue d tha t th e United State s should no t try t o forc e othe r countrie s t o accep t transplantatio n o f a politi cal-economic syste m for whic h the y have no historical o r cultura l foundation. The y warn o f the risk—even t o ourselves—of push ing fo r Wester n democrac y an d concept s o f human rights , main taining tha t thi s woul d mak e economi c developmen t mor e diffi cult, an d eve n imped e th e gradua l movemen t towar d a functioning politica l democracy . Bu t other s hol d tha t ther e i s an appetit e fo r democrac y an d freedo m amon g mos t people , stemming fro m ancien t root s an d nourishe d b y resistanc e t o dictatorial control . I f th e anti-communis t revolutio n i n Easter n

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Europe reflecte d resentmen t o f prevailin g economi c conditions , it dre w it s strengt h fro m popula r longin g fo r freedo m fro m oppression. Th e countrie s o f th e Forme r Sovie t Blo c wil l b e weakened i f thei r government s an d institution s lac k legitimacy , a legitimac y tha t ca n onl y com e fro m winnin g th e suppor t o f th e people. Bu t th e revers e i s als o true : I f thei r economie s fail , thes e fledgling democracie s wil l als o fail—an d increas e th e peri l o f a revival o f conflic t wit h th e West . In the modern age , democracy develope d i n a struggle agains t the oppressiv e structure s o f th e state . Ove r th e pas t century , however, th e evolutio n o f Wester n democrac y i s largel y a stor y of how unfettere d capitalis m an d th e interest s i t has serve d hav e gradually bee n restraine d i n th e publi c interest . I t i s democrati c institutions—including freedo m o f th e press , o f popula r expres sion, an d o f assembly—tha t ensur e tha t th e stat e act s t o safe guard th e interest s o f th e peopl e agains t th e failure s o f th e mar ket, an d th e uncertaintie s o f nature . Wher e Chin a suffere d millions o f death s fro m famin e unde r communis t totalitarianism , India ha s not experience d mas s starvatio n sinc e it achieved inde pendence afte r Worl d Wa r II , despit e sever e drought s an d ex tremes o f wealt h an d poverty . Thank s t o a free pres s tha t ha s dramatized th e urgenc y o f rescuin g famine-imperile d peopl e i n different part s o f th e country , th e India n governmen t ha s re sponded i n time t o head of f threatene d disasters . But free market s an d democrati c institution s cannot , i n them selves, guarante e solution s t o al l th e problem s o f huma n misery . India i s a case in point. Despit e faste r economi c growt h i n recen t years—the resul t o f marke t liberalizatio n an d othe r economi c reforms—the urgen t nee d t o focus nationa l polic y o n healing th e abysmal livin g condition s o f th e poo r wa s dramatize d b y th e outbreak o f pneumoni c plagu e i n th e cit y o f Sura t i n Septembe r

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1994. Whil e th e numbe r o f recorde d death s wa s les s tha n on e hundred, th e plague, because o f its horrific histor y an d th e spee d with whic h i t struck , sprea d fea r throughou t th e country . I t forced th e political elite to pay greate r heed t o the dreadful socia l and sanitar y condition s i n whic h th e poo r lived , crowde d int o slums wit h ope n sewer s an d virtuall y n o mean s o f gettin g ri d o f human wastes—condition s fo r breedin g plagu e o r othe r dis eases tha t threate n t o infec t rich , poor , an d middle-clas s peopl e in al l parts o f th e country . During th e politica l debat e se t of f b y th e plague' s outbreak , Prime Ministe r Rao , wh o le d th e driv e t o liberaliz e th e India n economy, sai d tha t th e economi c reform s o f th e precedin g thre e years were not enoug h t o bring "genuin e prosperity ,, t o the grea t mass o f Indians . India' s growt h coul d b e dragge d dow n b y th e maldistribution o f th e economi c benefit s o f growt h an d neglec t of th e masse s o f poo r people . Hungry, sick , homeless, and illiterat e people canno t contribut e to economic developmen t an d technologica l an d industria l mod ernization. 5 The y ar e a disgrac e fo r a natio n whos e affluen t and middle-clas s peopl e ar e movin g rapidl y ahead . Thos e wh o benefit fro m marketizatio n an d privatizatio n i n th e developin g world canno t ignor e thos e lef t behin d withou t threatenin g th e entire economi c an d politica l system . I t i s u p t o th e governmen t to make sur e tha t the y d o not .

The Visible Hand Experience afte r Worl d Wa r I I showe d tha t th e conversio n o f economies fro m wa r t o peace , i f shepherde d b y intelligen t na tional an d internationa l policies , coul d brin g abou t enormou s economic benefits . Followin g th e mos t devastatin g wa r i n his -

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tory, with man y million s dea d fro m th e wa r an d man y countrie s lying i n ruins , th e worl d enjoye d th e longes t an d stronges t pe riod o f economi c growt h i n history . Virtually everyon e wa s surprise d b y th e spee d wit h whic h th e prostrate economie s o f th e industria l worl d wer e revived . Th e underlying knowledg e an d skills , th e habit s o f wor k an d thought, th e structur e o f industria l organizations , an d th e eco nomic institution s wer e stil l there . " I alway s though t i t wa s impossible fo r th e Germa n econom y t o recover, " sai d Theodor e Schultz, late r a Nobe l laureat e i n economics , wh o serve d i n th e Allied occupatio n o f Germany . "W e wer e dea d wrong—Britis h economists, America n economists , an d fo r tha t matte r Ger mans." The y ha d al l underestimate d th e rea l growt h force s i n West Germany . Th e plant s an d citie s tha t ha d bee n destroye d were, sai d Schultz , "reall y quit e secondary , mino r detail s reme died i n very shor t order. " By contrast, the collapse of communist regime s an d economie s in Easter n Europ e an d th e forme r Sovie t Unio n pose d fa r mor e difficult task s of political an d economi c reconstruction i n a worl d much les s capabl e o f undertakin g them . Afte r Worl d Wa r II , th e United State s could dea l with th e external financia l requirement s for reconstructio n withou t runnin g a budget deficit . I n the 1990s , not onl y wa s th e world' s onl y remainin g superpowe r runnin g big interna l an d externa l deficits , bu t ther e wer e doubt s tha t even th e Grou p o f Seve n larges t industria l democracie s coul d collectively provid e enoug h capita l fo r th e ex-communis t coun tries, eve n i f the y wante d to . And ther e wa s littl e sig n tha t the y wanted to . The proble m o f capita l shortag e wa s onl y on e o f th e obstacle s the forme r communis t state s neede d t o overcome . The y ha d t o get ri d o f th e Stalinis t economi c institution s an d th e habit s an d

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attitudes inculcate d b y year s o f scleroti c centra l plannin g tha t stood i n th e wa y o f economi c advance . The y neede d t o lear n how t o conduc t sensibl e macroeconomi c policy ; hug e budge t deficits an d loos e monetar y policie s threatene d hyperinflatio n and th e collaps e o f th e rubl e an d othe r nationa l currencies . The y needed t o determin e i n eac h secto r o f th e econom y whethe r private, public , o r mixe d ownershi p bes t satisfie d individua l o r social needs. Above all , they neede d t o be abl e to close dow n th e huge industria l firm s tha t woul d neve r b e abl e t o compet e i n world markets . Th e preventio n o f unemploymen t wa s a majo r attraction o f communism ; t o facilitate th e chang e t o a productiv e market econom y tha t satisfie d people' s consumptio n need s an d desire t o work , government s ha d t o tak e th e responsibilit y o f creating jobs , an d educatin g an d trainin g worker s t o handl e those jobs, lest they gro w resentfu l an d restiv e fo r a return t o th e employment securit y o f th e ol d regime . Government s neede d t o improve th e infrastructur e bot h a s a mean s o f jo b creatio n an d for it s own sake . But th e economi c doctors , i n thral l t o free-marke t ideology , declined t o follo w i n th e footstep s o f post-Worl d Wa r I I recon struction. The y gav e littl e though t t o nurturin g ne w industria l enterprises an d guidin g the m int o th e worl d economy ; eve n les s to creatin g appropriat e safet y net s t o assur e citizen s tha t the y would no t be abandone d durin g th e transition t o a stable marke t economy. Th e reform s the y prescribe d neglecte d th e barrier s t o economic growt h pose d b y th e inadequat e legal , moral , an d institutional foundation s fo r a n effectiv e marke t economy . Strengthening thos e foundation s wa s necessar y t o cal l fort h th e commitment o f foreig n capita l an d direc t foreig n investment , a s well a s interna l savin g an d investment . Privatizatio n becam e a byword o f th e day , an d a lo t o f transfe r fro m publi c t o privat e

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ownership commenced . Bu t privatizatio n di d no t provid e th e answer t o th e mos t appropriat e form s o f ownershi p o r contro l for al l industries o r functions . Douglass North , th e 199 3 Nobe l laureat e i n Economi c Sci ences, attacked thi s approach by callin g the underlying economi c theory "simpl y a n inappropriat e too l t o analyz e an d prescrib e policies tha t wil l induc e development/ ' Pointin g ou t tha t neo classical economic s wa s concerne d wit h th e operatio n rathe r than th e developmen t o f markets , Nort h insiste d tha t "transfer ring th e forma l politica l an d economi c rule s o f successfu l West ern marke t economic s t o Thir d Worl d an d Easter n Europea n economies i s not a sufficient conditio n fo r goo d economi c perfor mance." 6 O n th e contrary , Wester n economists ' lac k o f concer n for th e rol e o f governmen t i n developin g a workabl e marke t economy le d mos t Easter n government s t o pursu e n o coheren t policies a t all . They trie d t o suppor t existin g firms ; the y trie d t o control subsidies ; the y trie d t o le t price s adjus t t o worl d prices ; they trie d t o protec t domesti c user s fro m pric e increase s fo r energy an d othe r ra w materials . Thes e policies , whic h wer e mu tually incompatible , pu t th e Easter n economie s an d thei r peopl e through a harrowin g experience , wit h fallin g livin g standard s and risin g joblessness , socia l discontent , an d hostilit y towar d foreigners o r differen t ethni c groups . As a result , ol d communist s bega n t o generat e considerabl e electoral appea l throughou t th e Forme r Sovie t Bloc . No t tha t politicians lik e Gennad i Zyuganov , hea d o f th e revive d Russia n Communist Party , publicly advocate d a return o f dictatoria l one party rule , th e abandonmen t o f freedo m o f expressio n an d civi l liberties, o r a rejectio n o f privat e property . Bu t the y promise d a distressed populatio n respit e fro m th e turmoi l o f th e disorderl y capitalist present , whethe r b y renationalizin g som e industrie s o r

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limiting th e abilit y o f th e well-place d fe w t o amas s hug e for tunes. Unfortunately , the y to o lacke d th e intellectua l where withal t o manage th e transition . While ther e i s n o doub t tha t communis t totalitarianis m los t the Col d War , i t i s unclea r ho w capitalisti c th e peopl e o f th e former Sovie t bloc will wan t thei r economie s t o be. How capital istic should the y be ? Decentralized political-economi c system s ar e fa r mor e effi cient tha n highl y centralize d ones ; a n authoritaria n governmen t cannot collec t o r integrat e al l th e informatio n an d knowledg e that divers e individual s an d group s posses s an d tha t ca n b e integrated throug h th e marke t an d th e democrati c politica l pro cess. A t th e sam e time , solution s t o th e divers e economi c prob lems o f the ex-communis t countrie s canno t be black an d white ; a combination o f publi c suppor t an d privat e enterpris e i s needed . While privat e foreig n investmen t an d indigenou s entrepreneur ial initiativ e ar e essential , th e visibl e han d o f governmen t wil l still b e neede d fo r th e transitio n fro m communis m t o succeed . How muc h i t wil l b e neede d an d i n wha t way s wil l diffe r fro m society t o society , dependin g o n varyin g cultura l an d economi c conditions. I n al l cases , i t wil l b e neede d t o maintai n a measur e of respec t fo r la w an d huma n rights , withou t whic h individual s will lac k th e powe r t o protec t themselves , t o avoi d th e plague s of hunger an d sickness , preserve their environment, an d advanc e their separat e economi c an d socia l interests . I n sum , devisin g effective governmen t intervention s an d protection s withi n th e context o f a free societ y i s the prim e challeng e lef t behin d b y th e downfall o f Sovie t communism .

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Exit over Voice That th e anti-governmen t tid e whic h swep t ove r th e Wes t i n th e 1980s shoul d hav e persiste d afte r th e en d o f th e Col d Wa r i s not har d t o understand . Particularl y i n th e Unite d States , anti communism ha d bee n th e wa y t o sel l otherwis e unpalatabl e federal initiatives , fro m th e Marshal l Pla n t o nationa l highwa y construction, fro m massiv e suppor t fo r scientifi c researc h t o for eign aid , fro m th e Korea n conflic t t o th e wa r i n Vietnam . Wit h the Cold Wa r over, there was ever y reaso n to expect a resurgenc e of th e traditiona l America n preferenc e fo r smal l government , a preference tha t ha d bee n effectivel y hel d i n abeyanc e sinc e th e Great Depression . Ye t tha t i s no t t o sa y tha t th e desire s o f th e enthusiasts fo r smal l governmen t represente d goo d polic y fo r the United State s a t the en d o f th e twentiet h century . Before th e 199 4 election s brough t th e Republica n tax-cutter s to powe r i n Congress , U.S . ta x rate s wer e amon g th e lowes t i n the industrialized world . In 1992 , total tax revenues in the Unite d States equaled 29. 4 percent o f gros s domesti c product (GDP) , th e same a s Japan an d wel l belo w Grea t Britai n (35. 2 percent), Can ada (36. 5 percent) , German y (39. 6 percent) , Ital y (42. 4 percent) , and Franc e (43. 6 percent). O f al l th e OEC D nations , i n fact , onl y Australia (28. 5 percent ) an d Turke y (23. 1 percent ) ha d lowe r proportional ta x revenues . Moreover , contrar y t o th e assertion s of anti-ta x crusaders , taxe s hav e rise n onl y modestl y i n recen t decades; betwee n 197 4 an d 1993 , total governmen t revenue s i n the Unite d State s increase d b y onl y 1. 4 percen t o f GDP . Betwee n 1970 and 1994 , federal outlay s a s a proportion o f GDP gre w fro m just unde r 2 0 percen t t o jus t ove r 2 2 percent , whil e th e propor tion o f outlay s fo r governmen t a s a whol e (federal , state , an d local) gre w fro m 29. 7 percen t t o 32. 7 percent . Al l told , govern -

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ment outlay s hav e remaine d relativel y constan t i n proportiona l terms sinc e the en d o f Worl d Wa r II. 7 If th e governmen t secto r o f th e econom y ha s no t grow n sig nificantly, wh y d o American s believ e th e contrary ? Th e answe r may wel l li e i n th e declin e i n America n livin g standards . Be tween 197 3 and 1993 , real hourly wages fell o r remained stagnan t for mos t America n workers . Th e declin e wa s steepes t fo r thos e earning least—11. 7 percen t a t th e twentiet h percentile . Fo r me dian wag e earners—thos e i n th e fiftiet h percentile—th e declin e was 7.5 percent; and fo r thos e i n the sixtiet h percentile, it was 4. 9 percent. Onl y a t th e eightiet h percentil e wa s ther e a smal l ris e of 2.7 percent . No r d o wage s tel l th e whol e o f th e story . Betwee n 1979 an d 1989 , th e proportio n o f America n worker s covere d b y employer-sponsored pension s decline d fro m 5 0 percen t t o 42. 9 percent, whil e th e proportio n wit h employer-sponsore d healt h coverage fel l fro m 68. 5 percen t t o 61. 1 percent. Altogether , tota l private-sector compensation—includin g wage s an d salaries , health an d pensio n benefits—decline d 8. 5 percen t i n rea l term s between 197 7 and 1994. 8 But rathe r tha n blam e employers , American s appea r t o hav e been willin g t o accep t Republica n argument s tha t th e faul t lie s with government . Significantly , mal e worker s hav e see n thei r incomes an d benefit s declin e faste r tha n femal e workers ; i n rela tive terms , whit e me n hav e fare d wors e tha n whit e women , whose shar e o f better-payin g job s ha s gon e up . Thi s ma y sa y something abou t why , ove r th e pas t fe w electio n cycles , whit e men hav e bee n votin g Republica n i n substantiall y greate r pro portions tha n whit e women . Is i t simpl y th e cas e tha t American s hav e bee n sol d a bil l o f goods tha t ha s le d the m t o blam e th e governmen t rathe r tha n business o r th e econom y i n genera l fo r takin g th e bit e ou t o f

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their standar d o f living ? Perhaps , bu t publi c susceptibilit y t o anti-government rhetori c ma y reflec t a deeper shif t i n attitude . According t o th e economis t Alber t Hirschman , ther e ar e tw o basic kind s o f response s t o institutiona l decline : "exit " an d "voice." Exi t represent s th e characteristi c approac h o f th e mar ket: I f a produc t decline s i n quality , th e custome r simpl y aban dons i t fo r a bette r one . Voice , b y contrast , i s th e characteristi c approach o f politics, whether forma l o r informal: Give n defectiv e policies o r behavior , individual s spea k u p t o ge t the m changed . Hirschman emphasize s tha t the two approaches ar e not mutuall y exclusive. Disgruntle d customer s ca n voic e dissatisfactio n wit h products an d services ; disgruntled citizen s can pick up an d leav e their tow n o r country . Hirschman' s argumen t i s tha t health y institutions rel y o n th e availabilit y o f som e combinatio n o f bot h exit an d voice . Not surprisingly , economists—an d thos e wh o thin k lik e them—have a prejudic e agains t voice . A s a n example , Hirsch man quote s Milto n Friedman' s justificatio n fo r subjectin g publi c education t o market force s b y wa y o f schoo l vouchers : Parents could expres s their views about schools directly, by withdrawing thei r childre n fro m on e schoo l an d sendin g the m t o another, to a much greater extent than is now possible. In general they ca n now tak e this step onl y by changin g thei r plac e of residence. Fo r th e rest , the y ca n expres s thei r view s onl y throug h cumbrous political channels. Hirschman note s the oddity o f the economist's belief tha t exit is a more "direct " wa y t o express one's views than simpl y expressin g them. A s fo r th e contemptuou s referenc e t o "cumbrou s politica l channels," he asks , "Bu t what els e is the political, an d indee d th e democratic proces s tha n th e digging , th e use , an d hopefull y th e slow improvemen t o f thes e ver y channels? " 9

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The ris e o f anti-governmen t feeling s i n both th e Unite d State s and th e res t o f th e industrialize d worl d ma y b e see n a s th e expression o f a popula r desir e t o shif t th e balanc e o f socia l decisionmaking fro m voic e t o exit—fro m politic s t o economics . People appea r intereste d i n removin g som e o f th e powe r t o address socia l needs fro m publi c institution s an d depositin g i t i n the private sector ; they woul d rathe r b e consumer s tha n citizens . This woul d explain , amon g othe r things , wh y poll s sho w hig h levels of public animosit y t o government , eve n afte r governmen t has acte d t o reduc e it s rol e i n thei r lives . What citizen s dislik e i s not s o much an y particular governmen t official s a s decisionmak ing by collectiv e voice per se . Why migh t th e America n publi c hav e shifte d it s allegianc e i n the directio n o f exit ? Conside r th e wa y o f lif e enjoye d b y th e middle-class suburbanite s wh o ar e increasingl y determinin g th e direction o f the country . Thanks t o cable television, video rentals , and th e Internet , the y ca n tak e thei r entertainmen t an d sta y i n touch wit h th e rest o f th e world fro m withi n th e confine s o f thei r homes. Th e home s themselve s ar e increasingl y likel y t o si t no t on a publi c thoroughfare , bu t withi n a privat e subdivisio n wit h rules o f desig n an d behavio r an d amenitie s (tenni s courts , swim ming pools ) tha t the y bu y int o o r sel l ou t of . The y wor k an d shop no t downtow n o r o n a courthous e squar e bu t i n semi private offic e park s an d retai l malls . It i s a lifestyl e i n whic h th e poor an d disadvantage d liv e farthe r an d farthe r away , an d ar e less an d les s visible—excep t o n televisio n a s th e victim s an d perpetrators o f crimes . Th e mos t substantia l ne w publi c edific e is th e count y jail . Otherwise , th e publi c spac e seem s mor e an d more attenuated , an d wit h i t th e plac e o f governmen t i n thei r lives. To b e sure , th e advocate s o f laisse z fair e vigorousl y den y

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wishing t o let the poor sin k o r swi m o n their own . The y applau d private charit y an d goo d works , quotin g agai n an d agai n Tocqueville's observation s o n Americans ' recours e t o voluntar y associations fo r carryin g ou t al l sort s o f worth y purpose s tha t i n Europe fel l t o government . I n Majorit y Leade r Dic k Armey' s view, th e ver y ide a o f usin g governmen t t o brin g abou t socia l and economi c improvemen t carrie s " a certai n mora l despair. " Society had to be managed, social progress paid for in tax dollars, compassion mad e compulsory . Eac h da y i n America , i n ou r biggest cities an d smalles t towns , that assumptio n i s proved repeat edly wron g i n uncounted , unheralde d act s o f persona l courage , sacrifice, kindness , fidelity , generosity , an d idealism . I t wa s th e arrogance o f politic s tha t brough t abou t man y o f th e division s that trouble us.10 Shrink th e rol e o f politics , an d th e division s will , presumably , begin t o disappear . Legislatively, th e Republican s se t ou t i n 199 5 t o ac t o n thi s philosophy. Anythin g tha t smacke d o f incom e redistributio n t o the poo r becam e a n objec t o f attack , includin g no t onl y welfar e but th e earne d incom e ta x credi t tha t bolstere d th e wage s o f th e working poor . (Ta x breaks for th e rich, such a s a cut in the capita l gains tax , wer e al l right. ) Th e Republican s claime d t o b e a s opposed t o "corporate " welfar e a s t o an y othe r governmen t handouts. I n practice , thos e wit h sufficien t mone y an d connec tions retaine d a goo d dea l mor e voic e tha n exi t i n th e hall s o f Congress. Sugar an d peanu t farmer s manage d t o hold o n to thei r protections an d pric e supports . Whe n th e America n Medica l Association expresse d concern s abou t doctors ' losin g incom e from th e Republicans ' Medicai d fundin g reductions , Speake r Gingrich sweetene d th e po t t o wi n it s support . A s fo r privat e agencies tha t receive d federa l grant s t o d o goo d works , Hous e

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Republicans mad e strenuou s effort s t o forbi d the m t o us e thei r own fund s t o advocat e publicl y fo r thei r programs . O n th e regu latory front , corporat e interest s wrot e th e languag e intende d t o weaken environmenta l protection s an d limi t th e oversigh t o f th e Security an d Exchang e Commission . By late 1995 , there began t o be sign s tha t th e American peopl e had becom e skittis h abou t lettin g th e Republican s carr y throug h the mos t radica l experimen t i n laissez-fair e economic s eve r at tempted i n th e Unite d States . Victorie s b y Democrat s i n off-yea r elections i n Maine , Kentucky , Oregon , an d Virgini a showe d i t was possibl e t o prevai l b y runnin g agains t th e Republica n agenda, o r a t leas t tha t par t o f th e agend a tha t threatene d Socia l Security, Medicare , an d th e environment . Th e immediat e effec t was t o stiffe n Democrati c spines , an d especiall y th e spin e o f President Clinton , wh o appeare d t o conclud e tha t meetin g th e Republicans head-o n woul d serv e hi s interest s bette r tha n tem porizing. However, th e declin e o f organize d labo r lef t th e Democrati c Party withou t a broad-base d organizatio n t o represen t worker s and othe r group s o n a wid e rang e o f publi c issues—no t onl y jobs bu t health , safety , pensions , housing , civi l rights , an d th e environment; each issue tended t o develop its own "single-issue " constituency, whethe r women , gays , blacks , Hispanics , o r th e elderly. The whole seeme d les s than th e su m o f it s parts, with n o group broa d enoug h t o spea k fo r publi c goods , o r fo r th e poo r and homeless .

Making the Capitalist Future With th e end o f th e Col d War , the world confront s no t th e end o f history—that is , th e en d o f th e dialectica l proces s o f chang e

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created b y antithetica l political-economi c systems—bu t th e his torically unprecedente d challeng e o f a worl d o f nation-state s subject t o a virtually all-encompassin g capitalis t order . Ho w wil l capitalism play itself ou t o n national, regional, and globa l stages ? Where will capitalist institution s be embedded i n free democrati c societies an d wher e i n authoritaria n o r totalitaria n regimes ? What, i n short , i s th e futur e o f capitalis m i n th e ex-communis t countries, in the developin g countrie s seekin g a better life , in th e industrialized countrie s plague d b y slo w growth ? From curren t trends , a ful l spectru m o f possibilitie s ca n b e discerned: a t on e extreme , a worl d tha t fall s bac k int o hostil e forms o f nationalis m an d protectionis m tha t caus e th e globa l economy t o collapse ; a t th e other , a worl d o f increasingl y clos e integration, vigorou s economi c development , cooperatio n fo r building an d maintainin g peace , an d internationa l cooperatio n to protec t th e natura l environment . Intermediat e outcome s be tween thos e extreme s ar e mor e probable , wit h nationalis m an d internationalism varyin g accordin g t o pressure s o n th e syste m and th e kin d o f leadershi p nation s ge t o r fail t o get . With th e dissolutio n o f th e Col d War' s bipola r structur e o f world power , th e industrialize d countrie s o f Nort h America , Japan, an d Wester n Europ e ma y b e movin g towar d a "capitalis t cold war, " wit h th e Unite d State s particularl y suspiciou s o f Ja pan's economi c intention s an d mercantilisti c practices . Withi n Europe, ther e i s strai n an d mountin g resistance , especiall y i n Britain, t o creatin g a more thoroughl y integrate d unio n o f states . The world economi c slowdown , resultin g i n high rate s o f unem ployment i n man y countrie s an d sluggis h o r negativ e incom e growth fo r th e majorit y o f peopl e i n develope d countries , ha s exacerbated disintegrativ e pressures . Paradoxically, suc h pressure s hav e bee n strengthene d b y

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growing globa l integratio n an d competition , wit h worker s an d some businesse s i n advance d countrie s believin g tha t thei r spe cial interests , jobs , an d income s wil l b e adversel y affecte d b y free trade . Ther e ha s bee n som e reversio n t o nationalis m an d protectionism. Presiden t Clinto n ha d a har d figh t pushin g through th e Nort h America n Fre e Trad e Agreemen t (NAFTA ) over labo r an d populis t opposition . H e encountere d furthe r re sistance t o Congressiona l ratificatio n o f a U.S . commitment , made durin g th e Urugua y Roun d o f trad e talks , t o a broade r General Agreemen t o n Tariff s an d Trad e (GATT ) an d a stronge r World Trad e Organization . Althoug h bot h th e Clinto n adminis tration an d th e Republica n leadershi p i n Congres s remaine d committed t o free-trad e principles , protectionis t flames wer e be ing fanne d b y G.O.P . presidential aspiran t Patric k Buchana n an d maverick third-part y populis t Ros s Perot , a s wel l a s b y th e pro union left . Embracin g a risin g nativism , th e Republica n Part y enthusiastically promote d legislatio n t o enforc e ne w restriction s on immigration , an d succeede d i n limitin g governmen t benefit s even t o tax-paying lega l immigrants . Working agains t thes e disintegrativ e force s i s a widesprea d recognition, especiall y b y man y leadin g busines s corporations , that ope n market s an d a free flo w o f capital , technology , an d knowledge ar e vita l t o th e futur e o f th e businesse s themselve s and t o nationa l an d worl d economi c growth . A n ope n worl d economy i s als o a powerfu l mean s o f promotin g regiona l an d world peace , i n th e fac e o f danger s o f aggressio n pose d b y authoritarian nationalism . Capitalist states , portrayed b y Leni n a s inherently an d aggres sively imperialist , hav e abandone d th e hun t fo r politica l em pire—territorial acquisitio n an d control—bu t remai n committe d to expanding markets , bigger profits , an d lowe r cost s from trans -

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national busines s activities . Capitalis t enterprise , whil e some times seekin g th e suppor t o f th e stat e t o gai n particula r objec tives (such a s access to foreign markets) , basically want s freedo m to operate withou t interferenc e a t home an d abroad . Labor an d othe r group s o n th e lef t fea r tha t th e emergin g global economy ma y mea n no t onl y a loss of jobs and incom e fo r themselves, bu t a los s o f powe r b y th e nation-stat e tha t wil l undermine it s abilit y t o mee t th e need s o f thos e group s withi n each nation . Suc h reasoning , however , assume s littl e o r n o growth i n tota l output . Th e theor y o f free trad e an d th e la w o f comparative advantag e hol d tha t th e mor e efficien t us e o f re sources resultin g fro m free trad e wil l resul t i n expande d tota l world outpu t an d henc e mor e productio n an d job s fo r eac h nation. That i s no t t o sa y tha t ever y workin g grou p o r industr y wil l be bette r of f a s a resul t o f mor e ope n markets . I n th e absenc e o f adequate mobilit y o f labo r an d capital , nation s nee d t o assis t the adjustmen t proces s throug h education , training , investment , transportation, housing , an d othe r programs . Contrar y t o con temporary right-win g ideologues , economi c freedom—fo r com panies a s wel l a s individuals—doe s no t entai l a minimalis t rol e for government . Eve r sinc e th e firs t antitrus t la w wa s passe d over a centur y ago , i t has bee n par t o f America' s publi c philoso phy an d practic e tha t th e federa l governmen t mus t ac t to protec t and guarante e tha t freedom . Thi s i s th e traditio n o f th e mixe d market econom y tha t ha s enable d th e Unite d State s t o lea d th e world throug h mos t o f thi s waning century . It i s thi s traditio n tha t th e laissez-fair e radical s hav e rejected . Opposed i n principl e t o an y effor t t o redistribut e th e good s of societ y fo r th e benefi t o f all , naively—o r self-interestedly — wedded t o a belief i n the omni-beneficenc e o f th e invisibl e hand ,

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they hav e capitalize d o n th e anxietie s o f a middl e clas s livin g in increasingl y straitene d circumstances . Promisin g a society i n which citizens can hold on to more of what is "rightfully" theirs , they hav e committe d themselve s i n practic e t o weakenin g th e ability o f citizen s t o safeguar d thei r right s i n th e marketplace . Theirs is a model of capitalism far removed from bot h the mainstream of economic thought an d the history of economic legislation extendin g bac k mor e tha n a century. I t is a measure o f th e demoralization o f American societ y tha t i t has been allowe d t o get as far a s it has. But it need not prevail. The goa l o f enlightene d worl d leadershi p shoul d b e t o rein force capitalist institutions with democratic and moral principles that permi t th e benefits o f economi c freedo m an d growt h t o be shared mor e equall y amon g th e peopl e o f an y on e natio n an d among al l nations. Th e grea t challeng e i s t o translat e thes e ab stractions int o policie s tha t foste r developmen t i n th e Thir d World an d eas e the transition t o capitalism i n the Former Sovie t Bloc. While internal an d externa l deficit s seriousl y constrai n th e financial ai d the United States can provide to countries in transition, this country, counting both its private and public resources, has a great dea l o f physical , financial, an d intellectua l capita l t o contribute—as hav e th e othe r develope d countrie s o f Europ e and Asia , togethe r wit h th e Internationa l Monetar y Fund , th e World Bank, and other national and regional development funds . The need fo r a stable and expandin g worl d econom y extend s beyond th e pursui t o f wealt h t o th e searc h fo r peac e an d th e protection of human rights and freedom. Suc h goals, historically protected only within the borders of a nation state, and often no t even there, must now be sought within the context of an emerging but still inchoate global economic and political order. Recovery fro m th e breaku p o f a n ol d politica l orde r ca n neve r b e

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easy—and neve r withou t risk s o f ethni c o r nationalisti c bitter ness an d internecin e warfare . Nation s mus t guar d agains t th e danger tha t suc h outbreak s o f violence i n th e Former Sovie t Blo c could sprea d t o Wester n Europe , th e Middl e East , Africa , an d Asia. A n open , stable , an d growin g worl d econom y an d polit y will requir e government s tha t ar e respecte d an d respect-worthy ; such government s mus t hee d th e right s o f al l thei r people , no t just thos e o f a privilege d clas s o r foreigner s whos e investment s or market s the y want . Th e goal s o f politica l freedo m an d protec tion o f huma n right s canno t b e treate d a s secondar y t o th e goa l of economi c freedo m an d progress . As w e hav e seen , ther e ar e man y form s o f capitalism , an d examples o f societie s tha t hav e successfull y combine d marke t economies wit h significantl y differen t cultura l an d politica l val ues. Creatin g a mor e prosperou s an d human e worl d doe s not , can not, mea n forcin g al l nations int o a n identica l socioeconomi c straitjacket. Bu t durin g thi s hazardou s transitio n period , makin g capitalism wor k wil l requir e the m t o face u p t o difficul t choices . The comin g centur y offer s rea l hop e fo r peac e an d globa l eco nomic development , bu t th e hop e wil l no t b e realize d withou t the determinatio n an d skil l t o secur e th e opportunitie s tha t li e ahead. Fo r th e futur e o f capitalis m canno t b e extrapolate d fro m current economi c trends . Th e futur e o f capitalis m wil l b e deter mined b y nations—workin g separately , an d workin g together .

Epilogue: Th e (Political ) Economy o f Capitalis m Robert Heilbroner*

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t i s on e o f th e man y odditie s o f th e stud y mos t intimatel y connected wit h th e working s o f th e socia l orde r i n whic h we liv e tha t a curiou s inhibitio n deter s it s practitioner s fro m

mentioning it s name . I a m speakin g o f th e reluctanc e o f mos t conventional economist s t o us e th e wor d capitalism . W e hea r a great dea l abou t "marke t systems, " "fre e enterpris e systems, " and th e like , but th e on e ter m tha t give s institutiona l specificit y to ou r mod e o f economi c organizatio n i s curiousl y absen t fro m the professiona l literatur e tha t analyze s it . Indeed , "literature " may itself misrepresen t th e situation: An intelligent alien , comin g across th e American Economic Review i n th e cours e o f visitin g ou r planet, migh t b e forgive n i n thinkin g i t a journal o f physics . The reluctanc e t o us e th e wor d "capitalism " stems , I believe , from th e desir e o f economist s t o protect th e "scientific " characte r of thei r wor k fro m bein g tainte d b y politica l considerations . *Robert Heilbrone r i s Norma n Thoma s Professo r o f Economics , Emeritus , a t the New Schoo l for Socia l Research, Ne w Yor k City .

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The professio n i s right , o f course , tha t th e ter m "capitalism " i s inextricably politica l i n natur e fo r reason s tha t w e shal l loo k into i n thi s epilogue . Bu t th e professio n i s seriousl y mistake n i n believing tha t th e working s o f th e syste m woul d b e les s clearl y understood i f w e wer e t o reinstat e "politica l economy/ ' th e no menclature o f Smith and Ricardo , in place of the chaste "econom ics" tha t becam e it s designatio n afte r th e publicatio n o f Alfre d Marshall's tex t o f tha t nam e i n 1890 . Indeed , i n th e spiri t o f Leonard Silk , I hope t o show tha t ou r understanding o f the socia l order i n whic h w e liv e i s seriousl y distorte d b y a failur e t o perceive tha t muc h o f wha t passe s a s scientifi c economic s is , i n fact, "political " economics , whos e unscientifi c conten t i s al l th e more perniciou s fo r bein g unrecognized . Let us star t b y outlinin g th e quintessentia l element s o f a capital ist order . Thi s boo k ha s alread y identifie d thes e element s a s private property , freedo m o f enterprise , th e profi t motive , an d competition, but I prefer t o name thre e somewha t simila r aspect s that provide mor e specifi c shap e an d greate r lif e to its behaviora l dynamics. The firs t o f these , no t surprisingly , i s th e institutio n tha t mos t visibly separate s capitalis m fro m it s preceding socia l formations . This i s th e us e o f market s a s th e primar y mean s o f organizin g the activities of production an d o f distribution—activities almos t exclusively dominate d b y Traditio n fo r th e firs t ninety-nin e per cent o f huma n existence , an d b y Comman d fo r mos t o f th e remainder, startin g perhap s aroun d th e thir d o r secon d millen nium B.C . Nonetheless, fo r al l its striking prominence an d opera tional importance , th e marke t i s only on e o f th e crucia l element s of capitalis m and , i n m y estimation , no t tha t o f th e greates t significance whe n i t comes to looking int o th e future . Far mor e importan t fo r tha t purpos e i s th e comple x entit y t o

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which capitalis m owe s it s internal energ y an d historica l momen tum, no t t o mentio n it s name—capital . A t th e ris k o f sayin g what everyon e alread y knows , I mus t stres s tha t capita l i s no t the sam e a s wealth, whic h lon g predates it . The differenc e i s tha t capital i s a dynami c concep t an d wealt h i s not . King s an d pha raohs di d no t build palace s t o ren t the m out , o r see k gol d t o bu y mean object s lik e coa l o r clot h i n th e hop e o f sellin g the m a t a profit. A s Mar x wa s th e firs t t o see , th e institutio n o f capita l requires a chang e o f perspectiv e tha t transform s wealt h fro m a thing int o a process, in which coa l is turned int o money whic h i s then use d t o bu y mor e coal , whic h i n tur n wil l b e sold — hope fully, fo r mor e mone y tha n wa s neede d t o bu y it . Nothin g lik e such a continuou s self-expandin g proces s existe d i n th e precapi talist worl d o f wealth . I nee d hardl y ad d tha t unde r th e blan d description o f "investmen t spending/ ' thi s circui t o f capita l be comes th e very life-bloo d o f th e capitalis t world . The process o f capita l accumulatio n appeare d a s a commercia l class forme d withi n th e decayin g framewor k o f feudalism , an d with i t cam e a n immens e forc e fo r socia l change . I f market s ar e the ke y institutio n b y whic h capitalis m escape s th e routine s o f Tradition an d th e vagarie s o f Command , tha t whic h supplie s both th e psychologica l energ y an d th e behaviora l predictabilit y that make s market s "work " i s th e displacemen t o f feuda l o r imperial politica l ambition s b y thos e o f th e mercantil e class . Th e appellation "economic " make s i t clea r tha t thes e ambition s wer e not aime d a t a n extensio n o f rulership , whic h wa s th e mai n expression o f politica l lif e befor e capitalism . Bu t ther e i s n o concealing th e fac t tha t economi c expansio n resulte d in , eve n i f it di d no t sprin g from , a n extensio n o f politica l power , a s th e mercantile clas s now began t o contend wit h th e olde r aristocrati c order fo r representatio n in , an d the n fo r direc t entr y into , th e institutions o f rulershi p itself .

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This brings to attention a third identifyin g aspec t of capitalis m that bears with equal—perhaps eve n greater—importance o n the future o f th e system . I t is the peculia r shap e tha t powe r itsel f as sumes, once capital accumulation becomes a new form i n which it makes itself manifest. Thi s is a bifurcation o f power into two coexistent realms . One o f these , of ancien t heritage , continue s th e tra ditional function s o f governance , no w mor e an d mor e organize d according t o libera l politica l principles , but stil l largely occupie d with th e maintenance o f law an d orde r withi n th e state , and wit h foreign relations , includin g war , wit h othe r states . I n th e newl y constituted "economic " realm , however, powe r assume s a differ ent for m an d concern s itsel f wit h differen t objectives . It is not di rectly connecte d wit h th e promulgatio n o f la w an d orde r o r th e conduct of foreign relations , but with control over production an d distribution, an d i t exercise s thi s powe r no t b y "governmental " compulsions an d punishments , but by the exercise of disciplinar y authority ove r "its " wor k forces , abov e all , th e righ t t o fi x th e terms o f employmen t o r t o terminat e it , an d th e righ t t o owner ship of all output tha t emerges from it s undertakings. For al l th e difficultie s o f drawin g a ma p o f thes e tw o realm s with accuracy , w e commonl y tal k abou t th e coexistenc e o f tw o intermingled, bu t distinctiv e "sectors, " on e public , the othe r pri vate. Moreover, thi s widel y recognize d divisio n o f powe r i s gen erally perceive d a s th e locu s o f a majo r proble m wit h respec t t o the prospect s fo r capitalism—namely , th e necessit y fo r th e tw o realms t o cooperat e fo r wha t politica l econom y woul d cal l th e successful realizatio n o f capita l accumulation—wha t economic s calls "growth. " I t i s here , a s I a m certai n Leonar d Sil k woul d have agreed , tha t economic s mus t com e t o term s wit h politic s and politic s wit h economics— a stat e o f affair s tha t seem s ver y far fro m bein g realize d i n ou r countr y today .

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This i s no t ye t th e plac e t o describ e wha t "comin g t o terms " implies wit h respec t t o either o r both realms . As we ca n perhap s anticipate, it is very doubtfu l tha t it can be described i n simple o r unchanging terms . The relation o f th e two realms does , however , admit o f clarificatio n b y riddin g i t o f conception s tha t distor t both side s o f th e issue , al l the mor e s o for bein g unintentiona l a s well a s unrecognized . I therefore begi n wit h a seemingl y triflin g matter tha t has, I guarantee, anythin g bu t triflin g consequences . The matte r i s th e chang e i n ou r poin t o f vie w i n considerin g th e same problem s i n th e tw o realms—o r mor e analytically , th e mind-set tha t incline s u s t o se e difference s betwee n th e publi c and privat e sectors , wher e ther e ar e i n fac t similarities . A fe w down-to-earth example s wil l giv e thi s genera l charg e a cuttin g edge. My firs t cas e i n poin t wil l be th e treatmen t o f th e ter m "debt " in th e tw o sectors . B y genera l consensus , th e deb t o f th e publi c sector constitute s a burden o n future generations , an d a s a consequence, a dra g o n growth . I f th e debt s o f privat e enterprise s exercise an y suc h negativ e influence , w e rarel y hea r abou t it . From thi s negativ e construa l o f publi c debts , i t follow s tha t th e smaller th e public debt , th e les s the burden; an d tha t th e optima l state o f affair s woul d b e a conditio n o f zer o debt . Wha t goe s unnoticed i n this earnest assertio n i s that a nation wit h n o publi c debt mus t b e a natio n withou t Treasur y bond s o r note s whos e distinctive attribut e i s tha t the y carr y th e promis e o f reimburse ment a t maturity b y th e governmen t itself . That statemen t alway s bring s a reactio n o f shock . I n wha t securities would a nation without a national deb t invest it s Social Security Trus t Fund ? Wha t bond s o r note s woul d th e Federa l Reserve us e fo r it s open marke t operations , o r commercia l bank s

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or corporation s o r privat e household s fo r th e safekeepin g o f their cor e reserves ? The shock , o f course , come s fro m th e realizatio n tha t zer o national deb t woul d constitut e caus e fo r national , perhap s inter national, alarm , rathe r tha n nationa l celebration . Bu t wh y i s thi s not immediatel y apparent ? I s i t no t clea r tha t th e "debt " o f a national governmen t i s not the sam e thin g a s the debt s o f privat e entities? Th e latte r ar e onl y a s stron g a s th e capabilit y o f thei r issuers t o realiz e th e fund s neede d t o redee m them . Th e forme r has n o suc h limitation , insofa r a s nationa l government s creat e their ow n money . Of cours e eve n national state s can go bankrup t and thei r bonds become so much wallpaper , bu t t o the best of m y knowledge thi s has occurred onl y when th e issuing government s have bee n defeate d i n wa r an d thereb y los t thei r sovereig n pre rogatives, a s i n th e case s o f th e Confederat e State s o f Americ a and th e Czaris t governmen t o f Russia . Otherwis e nationa l debt s are alway s redeemable , althoug h t o b e sure , th e valu e o f th e money i n whic h the y ar e pai d of f wil l diminis h i f inflationar y forces, perhap s fuele d b y excessiv e governmen t spending , rac e out o f control . On th e othe r hand , th e sam e inflationar y devalua tion ca n aris e fro m excessiv e privat e spending , wit h th e sam e effects fo r privat e bonds . I trus t th e purpos e o f thi s excursio n i s apparent . I t i s t o sho w that th e sam e term s ar e differentl y appraise d whe n the y refe r t o the operation s o f th e privat e an d th e publi c sectors . Privat e corporate deb t i s no t perceive d a s a burden , bu t a s a n asset — sometimes risky , t o b e sure , bu t a for m o f wealt h tha t ou r chil dren will bless us for leavin g to them i n our safet y deposi t boxes . Public debts , neve r considere d a s governmen t bonds , ar e no t s o pictured. Wha t w e hav e her e i s a strikin g exampl e o f tw o prob lems tha t interfer e wit h th e successfu l guidanc e o f th e econ -

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omy—first, tha t th e publi c understandin g o f governmen t deb t is incomplet e an d seriousl y distorted , no t leas t b y ou r publi c representatives themselves ; an d second , tha t eve n economists , whose trainin g shoul d mak e the m agent s fo r publi c enlighten ment, see m o n al l to o man y occasion s t o b e enthralle d b y th e same misperception s a s their should-b e students . The consequence s o f thi s misperceptio n ar e s o importan t tha t I shal l continu e furthe r b y considerin g th e relate d matte r o f deficit spending . I f debt s ar e regarde d wit h unease , deficit s ar e viewed wit h genuin e fear . O n th e par t o f liberal s an d conserva tives alike there is agreement tha t a balanced budge t i s an imper ative goa l o f nationa l economi c polic y withi n seve n o r te n years . The mos t commonl y hear d reaso n fo r thi s i s tha t som e expendi tures, mainl y i n healt h care , ar e risin g a t rate s tha t fa r outpac e any realisti c projection s o f ta x revenues , wit h th e consequenc e that ou r annua l nationa l borrowing—ou r deficit—threaten s t o reach "unsustainable " proportions . Let m e begi n t o examin e thi s argumen t b y notin g tha t th e private secto r als o incur s deficits—tha t is , borrowing . Fo r 199 5 the on-budge t governmen t defici t i s estimate d a t aroun d $25 0 billion, wherea s tota l corporat e borrowing s ar e projecte d a t something jus t unde r $35 0 billion . Nonetheless , th e firs t i s re garded wit h trepidation , whil e th e secon d i s viewed wit h appro bation. W e shal l explor e th e reason s i n a moment , bu t th e ver y fact tha t busines s borrowin g i s not calle d "deficitary " i s itself a n instance o f th e failur e o f economic s t o view th e operation s o f th e two sector s throug h a single lens . The conventiona l explanatio n fo r thi s i s tha t privat e bor rowing i s use d fo r investment—tha t is , fo r purpose s whos e benefits wil l be reape d i n term s o f economi c growth , wherea s n o comparable clai m ca n b e mad e fo r Treasur y borrowing . Thi s

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does no t mean , however , tha t ther e i s no investmen t componen t in federa l spending . Th e problem , rather , i s tha t th e volum e o f private investmen t spendin g ca n b e readil y ascertaine d insofa r as borrowin g fo r investmen t purpose s i s identifie d a s suc h b y firms, wherea s ther e i s nothin g lik e a comparabl e "capita l bud get" fo r th e borrowin g operation s o f ou r nationa l government . As a result, on e canno t separat e federa l expenditure s fo r routin e operational expenditure s fro m thos e fo r investmen t purposes . Quite correctly , th e investmen t banke r Feli x Rohaty n ha s de scribed th e federal budge t a s "a grotesqu e documen t tha t reflect s neither accountin g no r economi c reality." 1 Is i t possible , nonetheless , t o ascertai n th e volum e o f govern ment borrowin g fo r investmen t purposes ? Som e year s ag o th e well-known financia l analys t Pete r Bernstei n an d I trie d t o esti mate wha t a plausible figur e migh t be. We started wit h a calcula tion by th e Offic e o f Managemen t an d Budge t tha t estimate d th e size o f federa l investmen t outla y durin g th e lat e 1980 s t o b e something ove r $20 0 billion per year , which was , in fact, mor e o r less equa l t o th e deficit s o f thos e years , althoug h thi s wa s no t pointed ou t b y th e OMB . W e reduce d thi s tota l b y abou t thre e quarters b y riddin g i t o f suc h item s a s defense-relate d expendi tures, commodity loans , transfers t o state an d loca l governments , and a few othe r suc h purposes tha t th e OMB deemed dubiou s a s investments, bu t whic h stil l lef t enoug h t o yiel d a quit e respect able federa l investmen t tota l o f abou t $40 billion. This was prob ably a considerabl e underestimate . Fo r instance , a considerabl e portion o f federa l transfer s t o stat e an d loca l government s ar e used fo r roads , tunnels , bridges , an d education , althoug h thes e expenditures ar e no t credite d t o th e federa l governmen t a s in vestment. I n total , thes e transfer s cam e t o $13 7 billio n i n 199 0 and woul d probabl y excee d $20 0 billion today. 2

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What a carefu l estimat e o f tota l federa l investmen t woul d amount t o today i s beyond m y power s o f computation . Worse , i t seems t o b e mainl y beyon d th e concern s o f economi c statisti cians. Th e widel y know n economis t Willia m Nordhaus , fo r ex ample, ha s complaine d tha t ou r nationa l account s fo r "invest ment" ar e sorel y a t varianc e wit h wha t th e ter m i s presume d t o mean—to wit , expenditure s whos e return s wil l increas e rathe r than sustai n th e existing leve l o f output . "Domesti c investment, " he writes, referring t o the sum o f both privat e an d publi c sectors , "includes onl y busines s o r quasi-busines s purchase s o f long lived tangibl e assets—structures , equipmen t an d inventories . I t excludes al l governmen t investments , al l busines s intangibl e in vestments, a s wel l a s muc h activit y i n th e househol d secto r tha t is of a n investment nature. " This means , Nordhau s goe s o n t o poin t out , tha t th e officia l figures fo r investmen t exclud e governmen t road-buildin g (evi dently no t a "structure") , a s wel l a s research , education , an d health. Makin g hi s ow n estimate s fo r th e categorie s o f invest ment tha t escape these arbitrary definitions , Nordhau s mor e tha n doubles th e estimate d rat e o f nationa l saving s whenc e arise s th e bulk o f national investment , privat e an d public. 3 I hav e n o doub t tha t a recognitio n o f th e Procrustea n natur e of ou r accountin g definition s coul d g o a long way t o calming th e public's anxiet y abou t th e defici t problem . Bu t I rathe r doub t that th e accountin g change s wil l b e mad e befor e ther e i s chang e in ou r stubbor n tendenc y t o se e publi c financia l matter s i n a different ligh t fro m privat e ones . Th e proble m i s exemplifie d i n a recen t intervie w wit h Rober t Reischauer , a forme r directo r o f the Congressiona l Budge t Offic e an d no w a senio r staf f membe r of th e Brooking s Institution. 4 Aske d whethe r ther e wa s no t a parallel betwee n privat e investmen t an d tha t portio n o f th e na -

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tional b u d g e t u n d e r t a k e n fo r capita l p u r p o s e s — r o a d s a n d brid ges a s th e s t a n d a r d e x a m p l e — R e i s c h a u e r replies : In theor y ther e ar e severa l attractiv e aspect s o f dividin g govern ment spendin g int o capita l account s an d operatin g accounts . Bu t in practic e i t i s difficul t t o imagin e suc h a syste m workin g well . The divisio n o f governmen t activitie s betwee n th e capita l an d operating account s would no t be don e in an analytically justifiabl e way. Politic s woul d ente r int o th e definition s o f capita l an d op erating accounts . We would b e left wit h a worse situatio n tha n w e have now—wit h por k unfettere d b y budget constraints . H i s interrogato r t h e n asks : You sa y tha t i n practic e i t ma y b e difficul t t o divid e activitie s between capita l an d operatin g accounts , but mos t o f th e state s d o this already . Reischauer r e s p o n d s : Most state s us e a rather narro w definitio n o f capita l tha t include s only certai n type s o f physica l capital . Th e federa l governmen t does not engag e i n much direc t physica l capita l investment . Mos t of th e physica l capita l investmen t mad e wit h federa l dollar s i s made b y th e state s fo r highways , airports , an d buildings . Th e federal governmen t doe s not ow n thes e assets . The interrogato r persists : If ther e wer e a n independen t boar d simila r t o th e Federa l Ac counting Standard s Board , whic h woul d defin e capita l narrowly , would thi s remove th e political element ? Reischauer i s a d a m a n t : I doub t i t woul d b e possibl e t o protec t decision s o f suc h a boar d from politica l pressure . Bu t o f mor e importance , a narro w defini tion o f capital , on e tha t covere d onl y physica l investment , woul d bias th e decisio n proces s because i t would mis s wha t ar e the mos t important investmen t activitie s o f th e federa l government . Th e federal investment s tha t ar e mos t importan t fo r strengthenin g th e

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long-run potentia l o f th e econom y ar e spendin g o n education , training, researc h an d development , chil d nutrition , an d chil d health. This i s a curiou s an d revealin g dialogue . T o begin, figure s fo r recent year s sho w a muc h large r defici t becaus e healt h expendi tures hav e rise n s o rapidly . Ye t Reischaue r himsel f declare s tha t it is this kind o f socia l restorativ e spending , no t th e conventiona l physical capital , tha t constitute s th e "real " leverag e tha t govern ment make s fo r ou r nationa l growth . I have n o ide a ho w muc h pork coul d b e foun d i n ou r Medicar e an d healt h programs , but I should gues s tha t a t th e leas t a quarte r o f ou r $250-od d billio n of health-relate d expenditur e coul d b e safel y classifie d a s pro ductivity-related. Quit e b y itself , thi s woul d reduc e ou r "waste fur' defici t t o about $16 0 billion, o r a little over 2 percent o f GDP , hardly a figure t o worry about. 5 An d w e hav e no t eve n include d the publi c investmen t fo r suc h purpose s a s flood control , avia tion guidance , healt h research , education , an d th e abov e men tioned stat e an d loca l investment transfers . In short , ther e i s a n analo g t o th e accumulatio n o f privat e capital i n th e accumulatio n o f publi c capital—a n analo g un known t o mos t noneconomist s an d ignore d b y al l to o man y economists. Ther e is , t o b e sure , als o a profoun d differenc e be tween th e tw o categories . Privat e investment , whic h i s capita l accumulation i n the original sense , aims at returning t o its principals th e monie s the y hav e lai d out . Profit s ca n thu s b e see n as th e strea m b y whic h expenditure s mad e t o achiev e privat e purposes retur n t o those wh o hav e riske d thei r assets . In th e publi c secto r a differen t accountin g procedur e i s per force i n order . Ther e i s no wa y fo r publi c expenditure s t o retur n directly t o th e publi c spendin g sourc e unles s fee s ar e levie d fo r the use s t o whic h th e expenditur e i s put . I f ever y chil d wer e

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charged a hig h enoug h tuitio n fo r it s publi c schoo l education , every motoris t sen t a monthl y bil l fo r th e highwa y mile s o n his automati c registerin g mechanism , ever y Medicar e patien t presented wit h a n accoun t o f he r charges , the n federa l agencie s could justify thei r programs by comparin g cost s and returns , an d could eve n mak e profits , lik e thei r privat e counterparts . Th e difficulty, o f course , is that thi s woul d n o longe r b e government , but private enterprise raise d t o the level of a public disbursemen t agency. A mor e traditiona l vie w hold s tha t jus t a s th e flo w o f government spendin g i s determine d b y th e advancemen t o f th e public weal , wit h al l th e imperfection s o f an y democrati c pro cess, so its expenses mus t b e borne by th e sam e public , partly b y the ta x revenue s tha t provid e th e bul k o f government' s costs , partly b y th e borrowin g tha t i s a n appropriat e sourc e fo r it s investment spending . But wha t o f th e pork ? Agai n th e curiou s politic s o f apolitica l economics enter s int o th e determination . I t arise s whe n econo mists spea k o f th e dange r tha t excessiv e governmen t borrowin g will rais e interes t rate s an d thereb y "crow d out " privat e invest ment. The questio n tha t is overlooked i s whether th e net effec t o f crowding ou t ma y no t o n occasio n b e beneficia l fo r th e nation' s economic an d socia l well-being . If , fo r instance , th e ris e i n inter est rate s wer e t o mak e unprofitabl e th e newes t Disneylan d won derpark o r th e flotatio n o f bond s intende d t o financ e anothe r massive takeover , i n orde r t o assur e th e continuanc e o f a pro gram o f chil d vaccinatio n o r scientifi c research , coul d anyon e claim tha t th e countr y wa s th e lose r a s a result ? The problem , o f course , i s tha t w e hav e n o wa y o f easil y comparing th e respectiv e ne t socia l product s o f th e tw o sectors . Hence m y purpos e i s no t t o urg e obedienc e t o nonexisten t o r unreliable measuremen t techniques . I t is, rather, t o cal l attentio n

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to the fac t tha t th e privat e secto r ver y possibl y contain s a s muc h social por k a s th e publi c secto r contain s economi c pork . Th e difference i s tha t privat e por k i s justified i n term s o f it s privat e profits, wherea s publi c por k ha s n o suc h convenien t offset , sav e the vote s i t gain s it s sponsors . Bu t vote s d o no t ente r th e econo mists' calculus , whereas profit s do . This i s why, despit e it s skirt lifting, economic s i s i n fac t "political, " whethe r o r no t i t recog nizes th e fact . A last note o n budgets before widenin g m y lens . An approac h to economi c problem s tha t gav e ope n recognitio n t o th e institu tional need s o f a capitalis t socia l orde r woul d no t dismiss , o r minimize, th e "budget " problem . Th e volum e o f governmen t expenditures, whethe r thes e ar e finance d fro m taxatio n o r bor rowing, i s certainl y important , althoug h probabl y no t s o muc h as th e characte r o f thos e expenditures , fo r example , defense , "pork," infrastructure , education , o r health. An d I have no t eve n mentioned th e extremel y importan t consideratio n o f usin g bud get polic y t o stimulat e o r t o restrai n th e pac e o f economi c activ ity. Give n th e uncertaintie s tha t alway s surroun d prospectiv e rates o f privat e capita l accumulation , on e ca n never declar e wit h any high degree of certainty what th e "optimal " levels of govern ment spendin g woul d be . Nevertheless , I believ e tha t politica l economy ca n make one statement tha t economics could , but doe s not make . A societ y tha t gain s it s vitality fro m th e accumulatio n of private capita l will endanger it s well-being if it fails t o provid e for th e accumulatio n o f it s socia l capita l throug h th e investmen t operations o f it s public sector . Lik e zer o debt , zer o defici t woul d be a very dangerou s polic y t o pursue . Finally I retur n t o a consideratio n o f capitalis m a s a whol e t o widen stil l furthe r ou r perceptio n o f th e politica l aspect s o f it s

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economy an d it s economics. Here I start with a second look at th e market networ k tha t i s th e focu s fo r muc h economi c analysis — indeed, th e sine qua no n fo r it s existence. Markets ar e the institu tions tha t tur n th e acquisitiv e driv e agains t itself , a s buyers an d sellers ar e le d t o tak e opposin g action s i n respons e t o identica l stimuli. It is this oppositio n o f behaviors t o identical stimul i tha t confers upo n economic s it s extraordinar y systemi c properties , the envy o f al l social inquiry . Is there a political, a s well a s a strictly economi c aspec t t o thi s well-known attribut e o f markets ? I believ e ther e i s i n th e fac t that th e outcom e o f marke t behavio r ha s tw o aspects , on e muc h celebrated b y economics , the other noted , but no t give n its political importance. Th e aspec t tha t command s th e attentio n o f econ omists i s that marke t outcome s ca n be describe d a s "utilit y max imizing" wit h respec t t o th e actor s involved , a n outcom e fo r which n o suc h claim s ca n b e mad e wit h regar d t o Tradition - o r Command-oriented orders . Th e les s advertise d aspec t i s tha t these sam e market-determine d outcome s als o generat e "exter nalities"—that is , utility-lowerin g consequences . Thes e unwel come market outcome s rang e from suc h public side-effects a s th e smoke pollutio n "bads " tha t ar e produce d alon g wit h "goods, " to unwante d effect s o f th e productio n proces s o n th e well-bein g of producers , a famou s cas e bein g Ada m Smith' s warnin g tha t the market-guide d divisio n o f labor , althoug h ver y effectiv e i n reducing costs , would mak e laborer s "a s stupi d an d ignoran t a s it is possible fo r a human creatur e t o become." 6 To b e sure , externalitie s ar e develope d i n al l socia l forma tions—hunting-and-gathering tribe s a s wel l a s feuda l system s must mak e whateve r effort s the y ca n t o avoi d th e over-exploita tion o f thei r lands . What interest s u s here i s that th e universalit y and importanc e o f th e externalitie s generate d i n industria l capi -

Epilogue 20 3 talism requir e tha t it s market syste m b e considerabl y regulated . There i s no wa y o f protectin g th e member s o f a marke t societ y from th e pervasiv e an d ofte n dangerou s side-effect s o f thei r activities excep t b y th e impositio n o f socia l control s ove r th e market's dispositions—taxes , inducements , prohibitions , o r reg ulations—and ther e i s n o sourc e o f suc h protectiv e measure s other tha n recours e t o a publi c sector . Al l form s o f capitalisms , precisely becaus e the y depen d o n th e working s o f th e market , must als o depen d o n politica l interventio n int o thos e workings , although tha t fac t i s rarel y recognized , an d stil l mor e rarely , i f ever, celebrated. 7 I pas s nex t t o th e politica l elemen t tha t form s par t o f th e accumulation process . It is obvious tha t accumulation , lik e mar ket dynamics , rest s o n a bas e o f law s tha t provide s th e birt h certificate o f capita l itself . Bu t ther e i s a furthe r engagemen t with politic s beyon d th e protectio n o f privat e property . A s al l economists admit , i f th e proces s o f accumulatio n i s th e grea t constructive proces s withi n capitalism , i t is als o it s great decon structive force . Whe n accumulatio n falters , th e immediat e eco nomic consequenc e i s unemployment , insofa r a s a deceleratio n of investmen t typicall y lessen s th e need fo r th e existing comple ment o f workers . Doe s thi s deceleratio n als o hav e a politica l aspect? I t assuredl y doe s i n tha t unemploymen t entail s no t onl y a decreas e i n income payment s t o those affected , bu t a deteriora tion o f thei r socia l condition . I f tha t deterioratio n i s sufficientl y large, i t pose s a threa t no t onl y t o th e smoot h working s o f th e economy, bu t t o the stabilit y o f th e government , an d perhap s t o the socioeconomi c orde r itself . Thi s effec t become s increasingl y real a s automation bring s unemploymen t int o the offices o f mid dle management a s well a s to the factory floor. Is th e relie f o f thi s unemploymen t t o be considere d a n "eco-

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nomic" o r a "political " proble m fo r capitalism ? A s wit h marke t externalities, macro-economi c failure s ar e economi c insofa r a s they aris e fro m dysfunction s i n th e working s o f th e system , bu t they ar e politica l insofa r a s thei r relie f require s th e actio n o f th e public sector , whether thi s be a change i n th e quantit y o f money , the deficit , th e leve l o f tariffs , th e lengt h o f th e workda y o r workweek, an d s o on . Thu s th e macr o accumulatio n proces s imposes socia l externalitie s a s doe s th e micr o productio n o r dis tribution process , and i n both case s the onl y remedia l forc e i s th e use o f th e powers o f th e publi c realm . These argument s lea d t o wha t man y wil l conside r a n unwel come conclusion . I t i s tha t economic s i s o f necessit y political . One woul d thin k suc h a conclusio n obviou s o n considerin g tha t the institutions o f capitalis m ar e not onl y market s an d accumula tion, bot h o f whic h requir e politica l interventio n fo r thei r effec tive operation , bu t th e bifurcatio n o f politica l authorit y itsel f into tw o realms , on e "private " o r "economic" ; on e "public " o r "governmental." Thi s bifurcatio n doe s no t mea n tha t capitalis m is therefor e a nonpolitica l socia l formation . I t mean s tha t i t ha s two source s o f th e authorit y withou t whic h n o stratifie d socia l system ca n exist . One o f these , i t i s wort h repeating , i s th e continuanc e o f th e age-old dutie s o f government , wit h it s task s o f defens e an d justice and (unde r capitalism ) the provision o f social capital. 8 The second real m o f powe r lie s in th e econom y itself—no t merel y i n the property-oriente d natur e o f it s ver y existence , bu t i n it s reli ance o n publi c interventio n t o protec t th e large r formatio n fro m malfunctions tha t hav e thei r origin s i n th e working s o f th e mar ket an d th e accumulatio n process . Capitalis m i s therefor e no t only politica l i n it s origins , a s ar e al l socia l formations , bu t i t remains politica l i n it s dependenc y o n "government " t o assur e its continuing viability .

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5

My peroratio n i s self-evident . Th e ke y fo r capitalism' s futur e lies abov e al l els e i n th e cooperatio n o f th e sectors , an d thi s i n turn depend s o n th e mutua l regar d o f it s socia l classe s o n th e one hand, an d o f its public an d privat e leader s an d functionarie s on th e other . Whe n w e compar e th e prospect s fo r variation s o f capitalism aroun d th e world—Swedish , German , French , Ko rean, o r American—it seem s to me tha t th e relation o f th e publi c and privat e sector s is , mor e tha n an y othe r singl e factor , th e most importan t variabl e i n determinin g thei r respectiv e futures . I hardl y nee d t o ad d tha t wit h respec t t o thi s crucia l nee d t o cultivate a climat e o f mutua l regar d betwee n privat e an d publi c elites, and th e even more fundamenta l necessit y fo r a basic legitimacy t o b e accorde d b y th e publi c t o th e economi c function s o f government, th e United State s comes ou t ver y poorly . This feature o f low regar d i s surely ground s fo r uneas y expec tations with regar d t o capitalism's prospect s i n the United States . Yet I recal l th e quit e differen t climat e o f a n earlie r time—no t only th e Ne w Dea l Era , but Kenned y an d Truma n an d Johnson' s pre-Vietnam Wa r years . Tha t recollectio n give s m e reaso n t o hope tha t th e curren t moo d o f mindles s anti-governmentalis m may no t las t long . I mak e s o bol d a s t o thin k tha t Leonar d Sil k would hav e agree d wit h thi s conclusion , i f no t wit h al l o f th e argument tha t ha s precede d it . Th e questio n I mus t pu t t o m y professional associates , the economists , is whether the y wil l pla y a rol e in thi s sorel y neede d transformatio n o f understanding s b y making thei r stud y th e politica l econom y o f real-worl d capital ism, not th e economic s tha t i s only it s textbook shadow .

NOTES

Notes to Chapter 1 1. New t Gingrich , remark s a t th e Washingto n Researc h Grou p Sym posium, Novembe r 11 , 1994 , i n E d Gillespi e an d Bo b Schellhas , eds. , Contract with America (Ne w York : Times Books, 1995) , 189. 2. Dic k Armey , The Freedom Revolution (Washington , D.C. : Regnery , 1995)/ 193. Werne r Stark , The Contained Economy: An Interpretation of Medieval Economic Thought (Th e Papers o f th e Aquina s Societ y o f London, No . 26, London, 1956) . Reprinted i n Leonar d Sil k an d Mar k Silk , The Evolution of Capitalism (New York : Arno Press , 1972) , 18-193. 4. Ada m Smith , An Inquiry into the Nature and Causes of the Wealth of Nations (1776; 5th ed . 1789 ; reprin t Ne w York : Rando m House , 1937) , 13-14. 5. Ma x Weber , The Protestant Ethic and the Spirit of Capitalism, trans . Talcott Parson s (1904 ; reprint Ne w York : Scribners, 1958) . 6. Josep h A . Schumpeter, Capitalism, Socialism, and Democracy, 3rd ed . (New York : Harper, 1950) , 120-21 . 7. Kar l Mar x an d Friedric h Engels , The Communist Manifesto, trans . Samuel Moor e (1888 ; reprint Harmondsworth : Penguin , 1967) , 85. 8. Fo r a recen t versio n o f thi s poin t o f view , se e Armey , The Freedom Revolution, 49 . 9. Anatol y Dobrynin , In Confidence (New York : Time s Books , 1995) , 611. 10. Se e Sewery n Bialer , 'Th e Deat h o f Sovie t Communism/ ' Foreign Affairs 70 , no. 5 (Winter 1991-92) , 168. 11. Rober t G . Kaiser, Why Gorbachev Happened (New York : Simon an d Schuster, 1992) , 77. 12. Dobrynin , In Confidence, 636 . 13. Ibid., 633 . 207

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14. Se e Phili p Hanson , "Sovie t Economi c Reform : Perestroik a o r 'Catastroika?' " World Policy Journal VIII, no. 2 (Spring 1991) , 289-316. 15. Quote d i n Kaiser, Why Gorbachev Happened, 360. 16. Quote d i n Hanson, "Sovie t Economi c Reform, " 306 . Notes to Chapter 2 1. Figure s her e ar e take n fro m World Economic Survey (Ne w York : United Nations , 1992) , 1. 2. Se e article s b y Zv i Griliches , Dal e W . Jorgenson , Mancu r Olson , and Michae l J. Boskin in "Symposiu m o n th e Slowdow n i n Productivit y Growth," The Journal of Economic Perspectives (Fall 1988) , 9-97; an d Mar tin Neil Baily an d Rober t J. Gordon, "Th e Productivity Slowdown , Mea surement Issues , an d th e Explosio n o f Compute r Power, " Brookings Papers on Economic Activity 2 (1988), 347-431. 3. Financial Times, Nov. 17,1992 . 4. Aki o Mikuni , "Th e Collaps e i n Japanes e Financia l Markets, " Tokyo, September 1992 . 5. K . S . Courtis , "Wh y Japa n Wil l Com e Back, " The International Economy (September-October 1992) , 1. 6. Ala n Greenspan , remark s a t a pres s conference , America n Em bassy, Tokyo, Oct. 14 , 1992. 7. Ala n Greenspan , testimon y befor e th e Committe e o n Banking , Housing, an d Urba n Affairs , Unite d State s Senate, July 21 , 1992. 8. Se e Jeffrey E . Garten, A Cold Peace: America, Japan, Germany, and the Struggle for Supremacy (Ne w York : Times Books, 1992). Notes to Chapter 3 1. Ma x Weber , The Protestant Ethic and the Spirit of Capitalism, trans . Talcott Parsons (1904 ; reprint Ne w York : Scribners, 1958) , 181-82. 2. New t Gingrich , To Renew America (Ne w York : HarperCollins , 1995)/ 7/ 34, 433. Fo r a thorough expositio n o f thi s doctrine , se e Francis X. Sutton e t al., The American Business Creed (Cambridge, Mass : Harvar d Universit y Press, 1962) . 4. Thi s wa s th e vie w o f Willia m Feather , a publishin g executiv e an d contributor t o Nation's Business i n th e 1920s . Quote d i n Jame s W . Pro -

N o t e s t o C h a p t e r 3 20

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thro, The Dollar Decade (Baton Rouge : Louisian a Stat e Universit y Press , 1954)/ 435. Milto n Friedman , Capitalism and Freedom (Chicago: Universit y o f Chicago Press , 1962) , 133. 6. Thoma s J. Watson, Jr., interview wit h Leonar d Silk , Armonk, N.Y. , February 6 , 1965 . Quoted i n Leonar d S . Silk, "Th e Rol e o f th e Busines s Corporation i n the Econom y an d Society / i n Robert S . Smith an d Fran k T. deVyver , eds. , Economic Systems and Public Policy: Essays in Honor of Calvin Bryce Hoover (Durham, N . C : Duke Universit y Press , 1966) , 85. 7. Se e Who's Minding the Store? Th e Report of the Twentieth Century Fund Task Force on Market Speculation and Corporate Governance (Ne w York: Twentieth Centur y Fun d Press , 1992). 8. Intervie w wit h Leonar d Silk , quote d i n Silk , "Th e Rol e o f th e Business Corporatio n i n the Econom y an d Society, " 87. 9. Alexi s d e Tocqueville , Democracy in America (1835 ; reprint Garde n City, N.Y.: Doubleday, 1969) , 526. 10. Se e Ja y Fliegelman , "Authorizin g th e Declaration, " New York Times, July 4, 1993, E n . 11. Fo r th e socia l welfare version , se e John Rawls' s A Theory of Justice (Cambridge, Mass. : Harvard Universit y Press , 1971) . For th e libertaria n approach, se e th e wor k b y Rawls' s Harvar d colleagu e Rober t Nozick , Anarchy, State, and Utopia (New York: Basic Books, 1974). 12. Danie l W . Bromley , "Russia n Roulette : Plato , Smith , Hamilton , Madison, Marshall , an d Marx " (Unpublishe d paper , Universit y o f Wis consin, 1992) . 13. Jonatha n R . T . Hughes, The Governmental Habit Redux (Princeton , N.J.: Princeton Universit y Press , 1991) , 20-53. 14. Lincol n Steffens, Autobiography (Ne w York: Harcourt, Brace , Jovanovich, 1938) , 196. 15. Hughes , The Governmental Habit Redux, 91. 16. Herber t Hoover , campaig n speech , Madiso n Squar e Garden , Oc tober 31 , 1932 ; i n Willia m Sta r Myers , ed. , The State Papers and Other Public Writings of Herbert Hoover, vol. I I (Garde n City , N.Y. : Doubleday , Doran, 1934) , 428. 17. Se e Hughes, The Governmental Habit Redux, ch . 5. 18. Se e Leonard Silk , Nixonomics (Ne w York : Praeger, 1973) . 19. Academics , o f who m Michae l C . Jensen wa s th e mos t important , played a majo r rol e i n providin g th e rational e fo r th e takeove r boom ;

210 Note s t o Chapte r 4 see hi s 'Takeovers : folklor e an d science/ ' Harvard Business Review (No vember-December 1984) , 109-21 . 20. L . Willia m Seidman , Full Faith and Credit: The Great S&L Debacle and other Washington Sagas (Ne w York : Time s Books/Rando m House , 1993)21. Davi d A . Stockman, The Triumph of Politics: Why the Reagan Revolution Failed (Ne w York : Harper & Row, 1986) , 13. 22. Quote d i n Stanle y B . Greenberg, Middle Class Dreams: The Politics and Power of the New American Majority (Ne w York : Times Books , 1995) , 282-83. 23. Davi d Frum , Dead Right (Ne w York : Basic Books, 1994) , 188. 24. Roge r Pilon , "Freedom , Responsibility , an d th e Constitution : O n Recovering Ou r Foundin g Principles, " i n Davi d Boa z an d Edwar d H . Crane, eds. , Market Liberalism: A Paradigm for the 21st Century (Washing ton, D.C.: Cato Institution, 1993) , 27. 25. Michae l Lienesch , Redeeming America: Piety and Politics in the New Christian Right (Chape l Hill : Universit y o f Nort h Carolin a Press , 1993) , 120-21.

26. Gingrich , To Renew America, 7 , 8, yj. 27. Dic k Armey , The Freedom Revolution (Washington , D.C : Regnery , 1995)/ 1328. Gingrich , To Renew America, 67. 29. Armey , The Freedom Revolution, 34 , 311. 30. Ibid., 44,191-92. Notes to Chapter 4 1. See , for example , Ander s Aslun d "Eurasi a Letter : Ukraine's Turn around," Foreign Affairs (Septembe r 22,1995) . 2. Se e J . Melit z an d C . Waysand , "Th e Rol e o f Governmen t Ai d t o Firms Durin g th e Transitio n t o a Marke t Economy : Russi a 1992-94, " Center fo r Economi c Polic y Research , Septembe r 1994 . 3. Accordin g t o th e Financial Times (Jun e 27 , 1995) , "Th e Russia n Federation no w ha s 1. 7 time s mor e bureaucrat s tha n th e Sovie t Unio n had i n 1989 , despit e ther e bein g 13 0 millio n fewe r peopl e t o adminis ter . . . " 4. The Economist (Octobe r 7 , 1995 ) reports tha t o f th e 70,00 0 employ ees o f Goskomstat , six wer e engage d i n compilin g nationa l account s i n the home office .

Notes to Chapter 4 21 1 5. The Economist, July 22,1995. 6. Ne w Yor/ c Tzraes, August 1 , 1995. 7. K . P . OTrey , A Farewell to Arms: Russia's Struggle with Defense Conversion (New York : The Twentieth Centur y Fun d Press , 1995) , 20. 8. OTrey , A Farewell to Arms, 21 . 9. "Reconstructio n an d Developmen t o f the Industrial Secto r of Mon golia/' Th e Boston Consultin g Grou p (Boston : November 1992) . 10. Thi s conclusio n i s based o n regression s ru n o n Worl d Ban k dat a from th e Worl d Developmen t Repor t o f 199 3 (Washington , D.C. : Worl d Bank, 1993) . Income dat a ar e correcte d fo r purchasin g power . 11. Melit z an d Wa y sand, "Th e Rol e o f Governmen t Ai d t o Firms. " This figur e illustrate s dramaticall y ho w littl e valu e i s adde d t o ra w materials by th e inherite d industria l establishment . 12. Severa l commentator s hav e attribute d th e collaps e o f CME A trade t o th e collaps e o f th e paymen t system : Without a n internationall y acceptable mean s o f payment , firm s i n newl y separate d countrie s re fused t o trade . I doub t tha t th e paymen t regim e wa s th e fundamenta l problem, particularly sinc e intracountry trad e suffere d greatl y too . More important wa s th e fac t tha t th e outpu t o f mos t firm s coul d no t compet e internationally. Se e Jeffere y D . Sachs , "Crossin g th e Valle y o f Tear s i n Eastern Europe, " Challenge (September-October 1991) . Se e als o Richar d O'Brien an d Ingri d Iverson , "Th e Role s o f Incentive s an d Plannin g i n Market Oriente d Transformations, " i n Finance and the International Economy (Ne w York : Oxfor d Universit y Pres s fo r th e AME X Ban k Review , 1992).

13. Thes e figure s resul t fro m regressio n analysi s o f dat a fro m th e 1993 World Developmen t Report . 14. W . Wasterly , M . d e Melo , an d G . Ofer , "Service s a s a Majo r Source o f Growt h i n Russi a an d Othe r Forme r Sovie t States, " Policy Working Paper 1292 (Washington, D.C. : World Bank , Apri l 1994) . 15. S . Commande r an d R . Yemtso v argu e tha t unemploymen t i n Russia ha s remaine d quit e low—belo w 6 percent—because "[cjontrar y to Easter n Europea n experience[, ] Russia n firm s hav e no t operate d a s if governed ex-ant e b y a har d budge t constraint. " Tha t is , the y hav e expected subsidie s an d the y hav e receive d them . ("Russia n Unemploy ment: Magnitude , Characteristic s an d Dimensions, " Policy Research Working Paper 1426 [Washington , D.C. : Worl d Bank , Februar y 1995]) . Commander an d Yemtsov' s optimis m abou t th e Eastern Europea n expe rience i s tempered b y th e evidence . Against sign s o f substantia l restruc -

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turing (throug h 1993 ) i n th e Czec h an d Slova k Republic s an d som e restructuring i n Polan d an d Hungary , th e recor d fo r Bulgari a give s modest reaso n fo r optimis m an d fo r Romani a an d th e Forme r Sovie t Union, practicall y none . (B . Hoekman an d G . Poh l "Enterpris e Restruc turing i n Easter n Europe : Ho w Much ? Ho w Fast ? Where? " Policy Research Paper 1433 [Washington, D.C. : World Bank , Marc h 1995]) . 16. Joshu a Aizenma n an d Pete r Isard , "Resourc e Allocatio n Durin g the Transitio n t o a Marke t Economy : Polic y Implication s o f Suppl y Bottlenecks an d Adjustmen t Costs, " Working Paper 4366 (Cambridge , Mass.: National Burea u o f Economi c Research, May 1993) . 17. Michae l P . Dooley an d Pete r Isard , "Th e Role s o f Incentive s an d Planning i n Marke t Oriente d Transformations, " i n Finance and the International Economy. 18. Eri c Rice , "Managin g th e Transition : Enhancin g th e Efficienc y o f Eastern Europea n Governments, " Working Paper WPS 757 (Washington , D.C.: World Bank , Augus t 1991) . 19. See , fo r example , M . Boycko , A . Schleifer , an d R . W . Vishny , "Privatizing Russia " i n Brookings Papers on Economic Activity 2/1993 , and th e discussio n tha t follows . 20. Se e Kath y Krumm , Brank o Milanovic , an d Michae l Walton , "Transfers an d th e Transitio n Fro m Centra l Planning, " Finance and Development (Septembe r 1995) . The title, like the content s o f th e articl e an d of th e Worl d Ban k Workin g Pape r o n whic h i t i s based , pay s littl e attention t o the rol e of stat e firms i n administerin g th e transfer paymen t system. Thi s rol e i s crucia l becaus e par t o f th e pressur e t o sustai n firm s stems fro m thei r rol e a s provider s o f publi c good s an d transfers . B y focusing o n th e danger s o f excessiv e transfer s an d th e nee d t o observ e budget constraints , the articl e characteristicall y neglect s the institutiona l reforms tha t mus t accompan y stabilizatio n i f it is to work .

Notes to Chapter 5 1. Fo r estimate s o n China' s growt h rate , se e Dwight Perkins , "Com pleting China' s Mov e t o th e Market, " Journal of Economic Perspectives 8, 2 (Sprin g 1994) , 24-25 ; an d Rober t Mundell , "I s China' s Supergrowt h Sustainable?" The International Economy (July-August 1995) , 20. 2. Directorat e o f Intelligence , Centra l Intelligenc e Agency , "Th e Chi -

N o t e s t o C h a p t e r 7 21

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nese Econom y i n 199 1 an d 1992 : Pressur e t o Revisi t Refor m Mounts " (August 1992) , 11. 3. Wall Street Journal, May 24,1994 . 4. Gar y H . Jefferso n an d Thoma s G . Rawski , "Enterpris e Refor m i n Chinese Industry, " journal of Economic Perspectives 8, no. 2 (Spring 1994) , 64. 5. Cite d i n Perr y Link , "Th e Ol d Man' s Ne w China, " The New York Review of Books (June 9 , 1994), 32-33. 6. Ul i Schmetzer, "Lif e i n the New China, " The Brown journal of World Affairs, II , no. 1 (Winter 1994) , 165. 7. Polic y Impac t Pane l o n th e Futur e o f U.S.-Chin a Relations , Coun cil on Foreig n Relations , Release date d Ma y 11,1994 . 8. The Brown Journal of World Affairs, II , no. 1 (Winter 1994) , 169-73.

Notes to Chapter 6 1. Quote d i n Wall Street Journal, Jun e 8 , 1993 . Se e als o Bo b Davis , "Clinton's Get-Toug h Stanc e Wit h Japa n Signal s Ris e o f Revisionis t Thought," Wall Street Journal, June 14 , 1993. 2. Chalmer s Johnson , "Capitalism : Eas t Asia n Style, " Th e 199 2 Pan glaykim Memoria l Lectur e (Jakarta , Decembe r 15 , 1992). 3. See , fo r example , Eamon n Fingleton , "Japan' s Invisibl e Levia than," Foreign Affairs (March-April , 1995) , 69-85. 4. Cleveland Plain Dealer, July 13,1993 . 5. Se e Peter F . Drucker, "Th e End o f Japan, Inc. ? An Economi c Mono lith Fractures," Foreign Affairs (Sprin g 1993) . 6. Capita l goods— a statistica l categor y tha t include s manufacturin g machinery an d components—jumpe d fro m 4 3 percen t o f Japan' s ex ports i n 198 1 to 58 percent i n 1993 . During th e sam e period , th e propor tion o f export s accounte d fo r b y consume r durable s lik e cars , stereos , and washin g machine s droppe d fro m 2 8 percent t o 22 percent. New York Times, October 23 , 1994.

Notes to Chapter 7 1. Dic k Armey , The Freedom Revolution (Washington , D.C. : Regnery , 1995), 59-

214 Note s t o Chapte r 7 2. Th e ter m "socia l marke t economy " wa s coine d b y Germa n Chris tian Democrat s i n th e immediat e postwa r perio d t o conve y thei r ambi tion t o strik e a balanc e betwee n socia l protectio n an d marke t competi tion. Amon g politica l scientists , th e countrie s treate d her e ar e ofte n labelled "corporatist. " I prefe r "socia l marke t economy " becaus e it s connotations ar e broader , an d mor e substantive . (Th e ter m "corporat ism" emphasize s governmen t polic y an d forma l policy-makin g arrange ments.) Thoug h m y terminolog y i s different , m y conceptualizatio n o f the Norther n Europea n countrie s a s a distinct constellatio n o f advance d capitalist economie s draw s heavil y o n Pete r Katzenstein , Small States in World Markets (Ithaca : Cornel l Universit y Press , 1985) , an d Policy and Politics in West Germany (Philadelphia : Templ e Universit y Press , 1987) . My approac h i s als o deepl y indebte d t o th e wor k o f Davi d Soskic e an d Wolfgang Streeck . I t shoul d b e note d tha t ther e ar e importan t cross national variation s withi n bot h th e socia l welfar e an d fre e marke t cate gories, an d tha t ther e ar e man y countries , mos t notabl y Japa n an d France, that d o not fi t easil y int o either category . 3. Unio n densit y an d coverag e rate s ar e fro m OECD , Employment Outlook (Paris , July 1994) , ch. 5. 4. Th e exceptio n i s minimum-wag e legislation , whic h ha s playe d a relatively unimportan t rol e i n th e socia l marke t economie s fo r th e sim ply reaso n tha t virtuall y al l wage s ar e determine d b y collectiv e bar gaining. 5. Se e Gost a Esping-Andersen , The Three Worlds of Welfare Capitalism (Princeton: Princeto n Universit y Press , 1990). 6. OECD , Employment Outlook (Paris , Jul y 1993) , ch . 5 . Fo r furthe r discussion o f th e difference s betwee n th e Swedis h an d Germa n mode l variants, se e Pontusson , "Betwee n Neoliberalis m an d th e Germa n Model: Swedis h Capitalis m i n Transition, " i n Coli n Crouc h an d Wolf gang Streeck , eds. , Modern Capitalism or Modern Capitalisms? (London : Francis Pintner , forthcoming) . 7. Fo r a concis e revie w o f thi s literature , se e Pete r Hall , "Centra l Bank Independenc e an d Coordinate d Wag e Bargaining," German Politics and Society 31 (Spring 1994) . 8. Se e Wolfgang Streeck , "O n the Institutional Condition s o f Diversi fied Qualit y Production " i n Ego n Matzne r an d Wolfgan g Streeck , eds. , Beyond Keynesianism (Aldershot : Edwar d Elgar , 1991) . 9. Katzenstein , Small States in World Markets.

N o t e s t o C h a p t e r 8 21

5

10. Davi d Goodhart , The Reshaping of the German Social Market (Lon don: Institute fo r Publi c Policy Research , 1994) , 20. 11. OECD , Historical Statistics 1960-1993 (Paris , 1993). 12. Se e Pau l Pierson , Dismantling the Welfare State? (Cambridge : Cambridge Universit y Press , 1994) , an d "Th e Ne w Politic s o f th e Wel fare State, " World Politics (forthcoming) . 13. Se e OECD, Employment Outlook (Paris , July 1993) , ch. 5. 14. Al l figure s i n thi s sectio n ar e take n fro m OECD , Historical Statistics 1960-1993 (Paris , 1993) . My discussio n o f the effects o f international ization ha s bee n greatl y influence d b y th e wor k o f Geoffre y Garrett , most notabl y "Capita l Mobility , Trade , an d th e Domesti c Politic s o f Economic Policy, " International Organization 49 , no. 4 (Autumn 1995) . 15. I t shoul d b e note d tha t Keynesia n defici t spendin g ha s neve r been a distinctiv e featur e o f th e socia l marke t economies ; quit e th e contrary, thes e countries tende d t o pursue mor e restrictiv e fiscal policie s than France , Britain, an d th e United State s in the postwar era . 16. Jona s Pontusson , "Explainin g th e Declin e o f Europea n Socia l Democracy: Th e Role of Structura l Economi c Change, " World Politics 47, no. 4 (1995), 495-533-

Notes to Chapter 8 1. Dic k Armey , The Freedom Revolution (Washington : Regnery , 1995) , 294. 2. Memorandu m fo r Director s an d Chief s o f Wa r Departmen t Gen eral an d Specia l Divisio n an d Bureau s an d th e Commandin g General s of th e Majo r Command s fro m Genera l Eisenhower , Apri l 27 , 1946 , quoted i n Seymou r Melman , Pentagon Capitalism, The Political Economy of War (New York : McGraw-Hill, 1979) , Appendix A , 231-34 . 3. U.S . State Department Bulletin , vol . 44 (February 6,1961) . 4. Dwigh t D . Eisenhower , lette r t o Everet t E . Hazlett , The New York Times, March 17 , 1985, op-ed page . 5. Murra y L . Weidenbaum, Proceedings of the American Economic Association (December 1987) . 6. Herber t Scoville , MX: Prescription for Disaster (Cambridge , Mass. : MIT Press, 1981) , 56-57. 7. Thes e an d subsequen t figure s ar e take n largel y fro m th e U.S .

216 N o t e

s t o Chapte r 9

Arms Control an d Disarmamen t Agency , World Military Expenditures and Arms Transfers 1993-1994. (Washington, D.C : Februar y 1995) . 8. Etha n B . Kapstein , "America' s Arms-Trad e Monopoly/ ' Foreign Affairs 73 , 3 (May-June 1994) , 20-27. 9. Newsweek, Apri l 22 , 1991,19. 10. Jeffre y R . Gerlach , " A Post-Col d Wa r Militar y Budget, " i n Davi d Boaz an d Edwar d H . Crane , eds. , Market Liberalism: A Paradigm for the 21st Century (Washington , D.C : Cat o Institute, 1993) , 284. 11. New t Gingrich , To Renew America (Ne w York : HarperCollins , 1995), 186-87 . 12. Atlanta Journal-Constitution, Octobe r 15,1995 ; October 17,1995 . 13. E d Gillespi e an d Bo b Schellhas, eds., Contract With America (Ne w York: Times Books, 1995) , 107. 14. Economist (Jun e 4-10, 1994) , 18. 15. Ia n Anthony , e t al. , "Arm s Productio n an d Arm s Trade, " SIPRI Yearbook (Oxford: Oxfor d Universit y Press , 1994) , 493. Notes to Chapter 9 1. New t Gingrich , To Renew America (Ne w York : HarperCollins , 1995), 8. 2. Dic k Armey , The Freedom Revolution (Washington : Regner y Pub lishing, 1995) , 69, 68. 3. Quote d i n Michae l Lienesch , Redeeming America: Piety and Politics in the New Christian Right (Chape l Hill , N.C. : University o f Nort h Caro lina Press , 1993) , 109. 4. Se e Irvin g Kristol , "Th e Cultura l Revolutio n an d th e Capitalis t Future" (1992) , i n Neoconservatism: The Autobiography of an Idea (Ne w York: Th e Fre e Press , 1995) , 127-28 . Kristol , wh o regularl y encourage s business fol k t o fee l goo d abou t themselve s i n hi s contribution s t o th e Wall Street Journal's editorial page , also criticize s Smith fo r disrespectin g the capitalis t entrepreneur a s " a scheming , conniving , self-seeking , soul less person , alway s lookin g fo r way s t o conspir e wit h othe r business men t o defea t th e working s o f th e fre e marke t an d thereb y t o mak e illegitimate profits. " Almos t nowher e i n The Wealth of Nations, Kristo l laments, doe s th e "upright , honest , public-spirite d bourgeoi s business man mak e a n appearance. " Kristol , "Ada m Smit h an d th e Spiri t o f Capitalism" (1976) , in Neoconservatism, 283.

N o t e s t o th e Epilogu e 21

7

5. Ther e i s goo d evidenc e tha t developin g countrie s tha t tak e step s to decreas e economi c inequalit y experienc e stronge r growth . Se e Car l Tham an d Da g Ehrenpreis , "Th e Rol e o f th e Stat e an d Marke t i n Ad dressing Inequality an d Growth/ ' i n Uner Kirda r an d Leonar d Silk , eds., A World Fit For People: From Impoverishment to Empowerment (Ne w York : New Yor k University Press , 1995) , 75-86. 6. Douglas s C . North, "Economi c Performanc e throug h Time, " Priz e Lecture i n Economi c Scienc e i n Memor y o f Alfre d Nobel , Stockholm , December 9 , 1993. 7. Se e Kenneth E . Boulding, The Structure of a Modern Economy (Ne w York: New Yor k University Press , 1993) , 70-83 . 8. Se e Lawrenc e Mishe l an d Jare d Bernstein , The State of Working America, 1994-95 (Washington , D.C. : Economi c Polic y Institute , 1994) , 107-99. 9. Alber t Hirschman , Exit, Voice, and Loyalty: Responses to Decline in Firms, Organizations, and States (Cambridge , Mass. : Harvar d Universit y Press, 1970) , 16-17. Friedman's statemen t ca n be foun d i n Capitalism and Freedom (Chicago : University o f Chicag o Press , 1962) , 91. 10. Armey , The Freedom Revolution, 314 .

Notes to the Epilogue 1. Feli x Rohatyn , "Th e Budget : Who m Ca n Yo u Trust? " New York Review of Books, August 10 , 1995 , 49. I shal l ignor e fo r simplicity' s sak e the additiona l complicatio n o f "on-budget " an d "off-budget " expendi tures—the latte r includin g th e Socia l Securit y Trus t Fun d whic h actu ally turn s th e curren t "off-budget " accoun t fro m defici t t o surplus , although thi s wil l no t las t forever . Al l m y figure s concer n th e deficitar y budget. 2. Rober t Heilbrone r an d Pete r Bernstein , The Debt and the Deficit (New York : W. W. Norton, 1989) , 82-89. 3. Willia m D . Nordhaus , "Th e Federa l Budge t an d Nationa l Savin g Once Again? " Remark s prepare d fo r th e Annua l Meetin g o f th e Na tional Associatio n o f Busines s Economists , Sa n Francisco , California , September 11 , 1995, 2, 3. 4. Rober t Reischauer , quote d i n Th e Jerom e Lev y Institute , "Th e Levy Report, " Bar d College , August 1995 , 8.

218 N o t e

s t o th e Epilogu e

5. Se e Jame s K . Galbrait h an d Willia m Darrity , Jr. , " A Guid e t o th e Deficit," Challenge (July-August, 1995) , 5-12. Se e als o Ale x N . McLeod , "The Proble m i s Inflation-control , no t Spending-control, " Banc o Nazio nale Lavor o (Rome) , Quarterly Review (Jun e 1995) : 145-58. 6. Ada m Smith , An Inquiry into the Nature and Causes of the Wealth of Nations (1776 ; 5t h ed . 1789 ; reprin t Ne w York : Rando m House , 1937) , 7347. I consig n t o a footnot e a majo r proble m regardin g th e marke t mechanism fo r whic h I a m unabl e t o com e t o an y trustworth y conclu sion. I t concern s th e rapidl y growin g presenc e o f a worl d economy— a geographic entit y withou t definit e shape , wit h man y economi c center s but n o politica l center , compose d o f nationa l entitie s whos e economi c independence i s increasingl y expose d t o th e erosio n o f transnationa l market forces . Wha t remain s t o b e see n i s th e exten t t o whic h thi s ne w world-straddling aspec t o f capitalis m wil l als o erod e th e abilit y o f it s members t o cop e wit h externalitie s tha t affec t politica l entitie s othe r than thos e i n whic h the y arise—globa l warmin g o r immigratio n pres sures a s case s i n point . Thes e effect s o f "globalization " woul d see m t o require transnationa l redres s whic h lie s a s fa r beyon d th e gras p o f political econom y a s beyond tha t o f economics . 8. Ada m Smit h sai d tha t th e function s o f governmen t wer e three : (1) the defens e o f th e natio n fro m foreig n threats ; (2 ) the provisio n o f law , order, an d justice; and (3 ) "that o f erectin g an d maintainin g thos e publi c institutions an d thos e publi c works , which , thoug h the y ma y b e i n th e highest degre e advantageou s t o a grea t society , are , however, o f suc h a nature, tha t th e profi t coul d neve r repa y th e expens e t o an y individua l or smal l number o f individual s . . . " Wealth of Nations, 681.

INDEX

Accumulation, 203- 4 Afghanistan, 156,16 5 Africa, 18 7 Agricultural Adjustmen t Act , 42 Agriculture: in China , 83-8 4 Aizenman, Joshua , j$ American Medica l Associatio n (AMA), 18 1 AMEX Bank Review Priz e of 1992 , 75 Apollo moon mission , 1 4 Arab-Israeli war , 2 1 Armey, Dick, 2, 53, 54-56,167-68, 181; and industria l policy , 147 ; and so cial market economy , 128; and wel fare-state, 119-2 0 Arms control , 163-6 6 Arms trade , 155-58 , 162-6 6 Asia, 28 , 59,155, 186,18 7 Asset deflation , 2 6 Atomic bomb, 1 3 Australia, 87-88 ; and asse t deflation , 26; tax rate (1992) , 177 Austria, 119-20 ; and center-righ t shift , 134; and socia l market economy , 122,123,124, 125 , 137-38 Austrian Socia l Democrats, 13 4 Authoritarian model , 5 ; in China , 82 83, 92-9 3 Baker, James, 16 3 Balanced budge t amendment , 49-5 0 Bangladesh, 15 8 Bank o f Japan, 26 , 29 Banks: and social market economy, 121 Beggar-thy-neighbor economi c poli cies, 31 Beijing, 8 9 Belarus, 64

Belgium: and center-righ t shift , 134 ; government spendin g (1980S-90S) , 135; and socia l market economy , 120,124,137-38 Bell, Elliott V, 2 6 Benedict, Ruth , 9 9 Bennett, William , 5 2 Berlin Wall, 23 Bernstein, Peter , 19 6 Boeing Aircraft Corporation , 15 0 Bosnia, 16 2 Bourgeoisie: and capitalism , 12,16 8 Bradley Foundation , 5 2 Brazil, 15 8 Brezhnev, Leonid , 1 5 Bromley, Daniel W., 38-3 9 Brown, Harold , 15 1 Buchanan, Pat , yj, 18 4 Budget deficit , 28-29 , 1:t 4 Bulgaria, 21 2 n. 1 5 Bundesbank, 23 , 29 Burma, 15 8 Bush, George , 47-48; and arm s trade , 163 Bush administration , 46 ; and Gul f War, 163 ; military spending , 15 3 Business Week, 2 6 California: an d Propositio n 13 , 43 Calvinism, 9 Canada, 20 ; and asse t deflation , 26 ; tax rate (1992) , 177; and unemploy ment (1980S-90S) , 19 Capital, 19 1 Capitalism: an d accumulation , 203-4 ; and bourgeoisie , 12 , 168; and capi tal, 191 ; characteristics of , 10-11 ; and ethics , 7-11; future possibilitie s

219

220 Inde

x

Capitalism (Continued) for, 183-87 ; and markets , 190-91 , 202-3; meaning of , 33-35 ; models of, 4-7 ; and power , 192 ; public vs . public sector , 192-201 ; and reli gion, 167-68 ; use o f term, 189-90 ; vs. communism , 11-18 ; and worl d economy, 21 8 n. 7 Capitalism and Freedom (Friedman) , 35 Carnegie, Andrew, 4 0 Carter, Jimmy, 43; and militar y spend ing, 14 , 150; and M X missiles, 15152 Castro, Fidel, 15 9 Cato Institute, 5 2 Center fo r Defens e Trade , 16 4 Central America , 15 5 Central Europe , 15 4 Central Intelligenc e Agenc y (CIA) , 86 Chicago Tribune, 90 Chilton, David, 167-6 8 China, 57, 101,104,168,169,170,171; and arm s trade , 156,157-58 ; capitalist model in , 6; corruption in , 88-91; economy of , 81-88 ; human rights in , 91-96; and militar y spending, 155 ; subsidized energ y in, 68 Chinese Academ y o f Sciences , 90 Christian Democrats , 124,13 4 Christian Right , 53 , 168-69 Christopher, Warren , 9 1 Chrysanthemum and the Sword, The (Benedict), 99 Chubais, Anatoly, 17-1 8 Civil War, 42 Clinton, Bill, 48-49, yj, 182 ; and China, 94 , 95; and Contrac t Wit h America, 50 ; and Japan , 97 , 110, 112; and NAFTA , 184 ; presidential vetoes, 56 Clinton administration , 161 ; and arm s trade, 164 ; and industria l policy , 147-48; and Japan , 98 ; and militar y spending, 16 2 CMEA (Counci l o f Mutua l Economi c Assistance), 68 , 211 n. 1 2 Cold War , 10,101,109,111,177 ; an d arms trade , 156 ; history of , 13-15 ;

military spendin g after , 154-55 , 158-62 Collective bargaining, 21 4 n. 4; in Northern Europe , 137-38 ; and so cial market economy , 122-23 , 1 29 ~ 30 Colombia, 6 8 Commander, S. , 211 n. 1 5 Commerce Department , 50,148,16 4 Communism, 42 ; vs. capitalism, 11-1 8 Communist Manifesto, The (Marx), 11 Communist Party , Russian, 17 5 Confederate State s o f America , 19 4 Confucianism, 9 8 Congress, 184 ; and militar y spending , 161-62; and M X missile, 152-53; Republican takeover , 1 , 47, 147-48; and taxes , 177-78. See also House Republicans Constitution, 3 9 Contract Wit h America , 1-2 , 49-57 , 161, 162 . See also House Republi cans Convergence theory , 140-4 1 Corporate governance , 132-3 3 Corporate stat e model, 5 Corporations: an d socia l responsibil ity 35-3 7 Corporatism, 21 4 n. 2 Council o f Economi c Advisers, 97,15 0 Council o f Mutual Economi c Assis tance (CMEA) , 68, 211 n. 1 2 Council o n Foreig n Relations , 94 Courtis, Kenneth S. , 24-2 5 Cuba, 159 , 164; and arm s trade , 15 6 Cultural Revolution , 8 3 Cultural values , traditional, 16 7 Czech Republic , 60, 64, 212 n. 15 ; economic succes s in, 72, 77, 78 Danish Socia l Democrats, 13 3 Dayton peac e agreemen t (1995) , 164 Dead Right (Frum) , 52 Debt: private vs . public sector , 193-9 5 Declaration o f Independence, 3 8 Defense Department , 150,16 1 Defense sector , 67-68; in China , 8 6 Deficit spending , 21 7 n. 1 ; private vs . public sector , 195-20 1

Index 22 Democracy, 167-68 , 171 Democratic Party , 160,18 2 Deng Xiaoping, 9, 83, 84, 88, 89 Denmark: an d socia l market economy , 120,122,124, 137-3 8 Deposit Insuranc e Corporatio n (Ja pan), 11 3 Deregulation: i n Northern Europe , 135-39 Desert Storm , 16 0 De-valuing of America: The Struggle for Our Children and Our Culture, The (Bennett), 52 Dill, James B., 40 Dobbins militar y base, 16 0 Dobrynin, Anatoly , 14-1 5 Dooley, Michael P. , 75 Downsizing: in Japan, 114-1 5 Drexel Burnham Lambert , 4 5 East Asia, 74,168 ; and arm s trade , 15 6 Eastern Europe, 28, 59, y^, 83 , 92,17071; and economi c reconstruction , 173-76; and post-Col d Wa r mili tary spending , 154 ; and recessio n (1980S-1990S), 19-20 ; unemploy ment in , 211 n. 1 5 East Germany, 14 0 Economic inequality , 171-72 , 217 n. 5 Economist, 16 3 Education, 14,12 6 Egalitarianism, 145 ; in Northern Eu rope, 13 9 Egypt: an d arm s trade , 15 8 Eisenhower, Dwigh t D. : and militar y preparedness, 148-5 0 Eisenhower administration , 10 1 Employer organizations : and socia l market economy , 12 2 Employment: i n Germany , 138; in Great Britain, 133 ; in Japan, 131; and socia l market economy , 125 26. See also Unemployment Employment Ac t of 1946 , 42 Energy, subsidized , 68 , 211 n. 1 1 Engels, Friedrich, 11-1 2 Environmental issues , 182 ; in China , 90 Environmental Protectio n Agency , 5 1

1

Estonia, 60 , 64; economic succes s in , 78 Ethics: and capitalism , 7-1 1 Ethics an d Publi c Polic y Foundation , 52 Europe, 183,186 ; and Marshal l Plan , 37; and recessio n (1980S-90S) , 23; and unemploymen t (1980S-90S) , 19 European Community , 23 , 74,144-45 European Union , 144-4 5 Exit, and voice , 179,180 , 18 1 Fair Labor Standard s Act , 42 Federal Deposit Insuranc e Corpora tion (FDIC) , 42, 45 Federal Reserv e Board, ^, 11 3 Federal Reserv e System , 25 , 29, 41,193 Financial markets : internationalizatio n of, 141-4 2 Food an d Dru g Administration , 5 1 Forbes, Steve, 54, y/ Ford, Gerald , 43 , 151 Foreign investment : i n China , 8 5 Former Sovie t Bloc. See FSB Fortress America, 16 1 France, 20, 214 n. 2; and arm s trade , 157, 158; tax rate (1992) , 177; vs. Northern Europe , 127 , 215 n. 1 4 Freedom Revolution , 2 Free enterprise: vs. social responsibil ity/ 35-3 7 Free market, 21 4 n. 2 Free trade, 31. See also Trade; Trad e policy Friedman, Milton , 18 , 35, 46, 61,17 9 Frum, David , 5 2 FSB (Former Sovie t Bloc), 3-4,