The rage among pundits, journalists and policymakers these days is to believe that more government is better than less. And why not? In this time of economic chaos, finance ministers and central bankers around the world have appeared the only bulwark against complete financial collapse a slide-rule cavalry, armed with billions as bullets, rescuing banks, insurance companies and other corporate damsels in distress.
This whole mess began in the first place, we're told, because of too little government. Those crafty capitalists on Wall Street should have had a heavier dose of regulation to keep them in line. Even the whole concept of free, liberal economies has come under attack. Some observers have gone so far as to praise state-guided economies, like those of China or the Gulf emirates, where the government owns or controls large swaths of the economy, as superior to their laissez-faire counterparts. Columnist Joshua Kurlantzick wrote that these countries "have proven so successful that even before the crisis they caused world leaders to wonder if democratic capitalism might not be the best economic model after all." Americans, some contend, are only now waking up to the inherent dangers of the free market. As one Chinese blogger recently wrote: "The U.S. has realized the mistakes they made, and is learning from China's socialist experience in earnest." (See pictures of the global financial crisis.)
There is no doubt that government intervention is an absolute necessity when markets go horribly awry. After Japan's stock-and-real-estate bubble burst in the early 1990s, the economy staggered along for half a decade until the government finally stepped in to restructure the financial sector. During the Asian financial crisis of 1997-98, state action was crucial to rebuilding moribund banks and companies.
But the current love-in with the state will be short-lived. Every time there has been a perceived crisis of capitalism in recent decades, the government's economic role has swelled. But inevitably, this process gets thrown into reverse and the free market stages a rousing comeback. That's because governments can screw up economies just as effectively in fact, more effectively than free markets.
In Europe after World War II, for example, unfettered capitalism was practically a dirty phrase. One historian said those who believed in free enterprise were "a defeated party." With memories of the massive unemployment of the Great Depression still fresh, and the need to rebuild from the devastating war all-important, Europe moved toward a state-heavy "mixed" economic model. In the U.K., government leaders nationalized key industries and introduced national health care and other "welfare-state" programs. The "mixed" economy performed well for a while, but by the 1970s it had run into a wall. State-owned firms drained the national budget while inflation soared. In came Margaret Thatcher, who launched a wide-scale privatization of the British economy. The market was back. "It was becoming obvious to people," Thatcher once said, "that the socialist way meant accepting decline."
Similarly, many new leaders of the developing nations that emerged from colonial empires in the mid-20th century believed their poverty was rooted in free markets and leaned toward state control. In India, for example, Jawaharlal Nehru, its first Prime Minister, saw imperialism as an outgrowth of free capitalism; only the state, he figured, could be entrusted to improve the livelihoods of the poor. The result was the bizarre License Raj, a bewildering maze of regulation that hamstrung private enterprise. By 1990, the system had produced outdated, uncompetitive companies and a near bankrupt government. India only started to boom once intrusive state regulation was scrubbed away, in a bold reform effort led by Manmohan Singh (the current Prime Minister) beginning in 1991. "I've come to the conclusion that equity does not mean filing of more regulation of private enterprise," Singh once explained. "Those who create wealth must be given all possible encouragement." (See pictures of the recession of 1958.)
Then in the 1980s, as corporate America struggled to compete with a rising Japan, a chorus arose from some economists and business leaders that the U.S. had to ditch its free-market ways for Asia's "state-led" capitalist system. What America needed was to copy aspects of the bureaucracy-managed economy like its policy of providing state support to favored industries that seemed such a stunning success in Japan. The American government "can no longer afford not to give more positive guidance" to the economy, wrote Asia expert Ezra Vogel in his 1979 book Japan as Number One, "if our country is to continue to provide world leadership and an optimal quality of life for its own citizens." This view evaporated as well, once Japan's economy stumbled in the 1990s. It became clear that government had contributed to the country's problems by messing around with market forces. "The debate that's been settled is the one over the superiority of the Japanese model of bureaucratic-led economic growth," wrote a columnist in The Wall Street Journal. "The bureaucrats lost."
The current shift toward a more powerful state in the U.S. will never go as far as India's License Raj. But there is no reason to believe that this current crisis of capitalism won't end up the same way as all of the others with a renewal of confidence in the free market. Henry Paulson and some other officials in the Administration and Congress are right to at least be wary of further extensions of the state in the economy, such as the proposed bailouts of the Big Three. Regulation and state control may seem attractive at a time of crisis, but eventually it creates problems of its own, and people will crave the economic freedom they surrendered. Eventually, even nationalistic Chinese bloggers will figure that out.
With reporting by Lin Yang / Beijing