The failure of neoliberalism

I’ve been reading Ha-joon Chang’s Bad Samaritans: The myth of free trade and the secret history of capitalism.  It’s amazing.

Its target is clear enough, but like any criminal enterprise it has a confusing array of names.  Europeans call it “liberalism”, Americans call it “neoliberalism”; I’ve also heard it called the Washington Consensus.  It’s the set of policies– free trade, eliminating tariffs, free movement of capital, privatization, safeguarding intellectual property, balancing budgets– that the IMF pushes on developing countries, and the Economist holds up as the self-evident standard for everyone.

Pretty obviously these are policies that rich First World companies like: they want to sell their products everywhere without restriction, they don’t want copycats, they hate when protectionist or nationalist governments get in their way.  But it’s also claimed that these policies will somehow promote development and prosperity; indeed, enthusiasts like Tom Friedman maintain that it’s “the only model on the rack”.

As Chang shows, it’s not.  It’s not how the First World developed.  It doesn’t produce prosperity and it doesn’t develop economies.

  • In the 1960s and 70s, under protectionist import substitution policies, the developing world grew at 3.0% annually.  In the 1980s and beyond, under neoliberalism, the rate was 1.7%.
  • Where neoliberalism was implemented earlier and more thoroughly, in Latin America, the contrast is even greater: 3.1% in the 1960s/70s; 1.7% in the 1990s; 0.6% in the 2000s.
  • Africa didn’t grow much in the ‘bad old days’ (1 to 2% a year), but it’s shrunk under neoliberalism.
  • Mexico grew at a rate of 3.1% under import substitution (1955-82); neoliberalism was a disaster, with growth rates from 0.1% (1980s) to 0.3% (2000s) to 1.8% (1990s).  The free trade agreement with the USA wiped out whole swaths of Mexican industry.

Most damningly, the policies the First World preaches to the rest of the world are completely the opposite of those it used in its own development.  Neoliberalism is climbing up the ladder, kicking it away, and advising those below to learn to fly.

  • The first nation to modernize, Britain, did so by state intervention, going back to the Tudor monarchs who pressed for the creation of a wool processing industry rather than shipping raw wool to the Netherlands.  Britain protected its industries with high tariffs on manufactured goods– 45-55% in 1821.  (It also prevented its colonies from developing manufactures.)
  • The United States was built on protectionism too; by 1820 average tariffs were 40%.  They were raised during the Civil War and stayed that way till WWI.  During this period it was the fastest growing country in the world, and had the highest tariffs.
  • France had something of a free trade policy in the 1800s (tariffs at about 20%).  Concluding after WWII that this had something to do with its economic underperformance, it reversed these policies, directing the economy through state-owned banks and nationalizing key industries; tariffs rose to 30%.  The strategy worked; France was a technological leader by the 1980s.
  • South Korea, Chang’s native country, was desperately poor in 1961, with a per capita income of $82 (less than Ghana).  Under heavy state direction, it achieved growth rates above 6% and its PCI today is $13,980.  Its growth slowed in the 1990s when it was forced to accept some IMF direction.
  • Japan developed after WWII under heavy state direction.  Imports were tightly limited; foreign ownership was banned in key industries, and where allowed, subject to restrictions (technology sharing, limited ownership, local contents requirements).
  • China is big enough to ignore the IMF and develop under its own protectionist regime.

Not only does protectionism work, it’s the only thing that does.  Naturally it doesn’t and shouldn’t last forever: once national industries are in good shape they can compete without government help.  But without protection and local control of investment, the nation won’t have national industries.

Chang goes on to show that state enterprises can work quite well; that free movement of capital was rightfully restricted by the First World during its own development; even that corruption and lack of democracy don’t in themselves prevent development (and tend to lessen once countries do become prosperous).

Intellectual property ‘rights’– actually demands by corporations– sound benign, but Chang points out that they are a great obstacle for developing nations, which cannot afford First World prices for pharmaceuticals, software, and textbooks.  Developing nations need to absorb a huge amount of new knowledge; copyright doesn’t benefit them, but stands in their way– it’s a luxury of rich nations.  And once again, it was only promoted by the First World long after they’d put away their own historical piracy.

Neoliberals have belatedly started to notice that their prescriptions don’t work as well as they should.  Their favorite explanation now is “culture”… some people, they say, just have the wrong values.  Chang neatly demolishes this by going back in time and showing that people’s complaints about poor people are always the same.  The Japanese were once described as lazy and emotional, and with “a quite intolerable personal independence”.  Koreans were dirty, sullen barbarians.  The Germans were “a dull and heavy people” who “never hurry”, unable to cooperate or receive new ideas, and prone to thievery.  Such observations are either simply wrong, or have nothing to do with whether nations can develop.

Despite the somewhat incendiary title, Chang isn’t against capitalism, trade, or globalization.  He simply wants the Second and Third Worlds today to have the same ability to control and encourage their own development that the First World nations enjoyed.

Chang has the best answer I’ve seen to David Ricardo’s old explanation of how poor nations ought to stick to whatever they have a relative advantage in… which generally ends up being resource extraction.  That is the best approach for maximizing current income.  But it fails if you want to increase your income beyond that point– if you want to develop, in other words.  To change those relative advantages– and perhaps create some absolute advantages– you have to sacrifice some current income (e.g., set tariffs to encourage native industries, or direct investment to future possibilities rather than current hot spots, or invest in R&D).