[Noah Smith] Socialists of the world, be careful

By Bloomberg
  • Published : Aug 26, 2018 - 17:18
  • Updated : Aug 26, 2018 - 17:18

The economic collapse in Venezuela continues to be spectacular and horrifying. Thanks to hyperinflation, the stack of cash it takes to purchase vegetables is often larger than the vegetables themselves. Tens of millions of Venezuelans are going hungry, and dangerous weight loss is rampant, indicating that outright famine may be close. The country’s health system is in crisis. And all this is despite oil prices having doubled from their 2016 lows; if prices crash, expect the situation to worsen further.

Observing the disaster that is Venezuela, many free-market proponents are inclined to say that socialism always fails. To bolster their claim, they can also point to the Soviet Union, to North Korea, or to Vietnam and China before those countries implemented free-market reforms. Those self-described communist systems generated vast poverty and famine before most of them were scrapped.

But defenders of socialism have their own historical examples to cite. In both Europe and Latin America, government redistribution has helped to limit or reduce inequality. In rich countries, universal health care is the norm, with the US’ semiprivate system standing out in terms of inefficiency and excessive costs. Though one can quibble over the definition of the word “socialism,” there’s little question that the so-called social democracies of Denmark and Sweden offer some of the world’s highest living standards. Almost every developed country spends at least 30 percent of its gross domestic product through the government.

Given the ability of both free-marketers and socialists to produce competing anecdotes, we should stop thinking of government management of the economy in terms of -isms and ideologies. A better idea is to think about specific policies. Government can intervene in the economy in a number of different ways. It can levy taxes and redistribute wealth. It can provide public services like education or build infrastructure like roads. It can nationalize industries and own assets like real estate. It can regulate markets and implement price controls.

Most countries use all of these policies to some extent. But when considering a dramatic expansion of government’s role in the economy, it helps to look at historical examples of when each of these ideas was taken too far, or implemented in a harmful way. Importantly, we should think about government failures that didn’t involve violent revolutions or totalitarian regimes -- there are many cautionary tales of government overreach that never involved red-and-gold flags or dictatorships of the proletariat.

A classic example of overregulation was the License Raj in India. This was the term for a set of stringent licensing requirements placed on private businesses in the late 1940s by India’s first prime minister, Jawaharlal Nehru. Under the policy, private businesses had to get approval from about 80 different ministries in order to operate. Many believe that this thicket of red tape was responsible for India’s slow economic growth in the mid-20th century.

In the 1980s, India began to reform its economy, adopting more pro-business policies. Productivity growth accelerated. In 1991, the License Raj itself was dismantled by Prime Minister P.V. Narasimha Rao and replaced with a system that made it much easier to start a business. Restrictions on international trade and investment were also reduced. Since that time, India’s private sector has become much more dynamic, and growth has proceeded at a healthier rate.

When it comes to nationalization of industry, the UK provides a cautionary tale. After World War II, the UK nationalized industries like steel, coal, aviation, electricity, rail transport and some manufacturing. But the British economy lagged behind its continental European peers during the midcentury. Manufacturing and transportation especially stagnated. By the time Margaret Thatcher became prime minister in 1979, both France and Italy were richer in per capita terms than the country that had given birth to the Industrial Revolution.

Thatcher unleashed a wave of privatizations, along with other free-market policies. Britain never again became a manufacturing powerhouse, but its growth accelerated, and by 1997 it had caught up and passed France and Italy.

As for price controls, these are often implemented by developing countries when their economies are already in a state of inflationary collapse. But in the early 1970s, the US, the world’s leading industrial power, tried its own system of price controls under President Richard Nixon. In 1971, Nixon’s New Economic Policy imposed a 90-day freeze on prices and wages, as well as tariffs and policies to weaken the US dollar. Nixon also established government agencies, the Pay Board and the Price Commission, to extend price controls past the 90-day mark. Another price freeze followed in 1973.

These initiatives failed. Inflation dipped slightly after the first round of price controls, but then soared, and remained high in 1974.

Meanwhile, as basic economics would predict, there were gasoline shortages by the end of the decade.

These three examples of government overreach are only sketches. There are many historical subtleties that should be taken into account in any full and fair account of these episodes. In addition, lots of other things were going on at the time, some of which may have contributed to the poor economic performances of India, the UK and the US during their eras in government management. Certainly, these historical anecdotes don’t constitute proof that regulation, nationalization and price controls are always bad, or that free-market reforms will always produce better performance.

Instead, these are cautionary tales. They show that it’s possible for well-intentioned democracies, with their citizens’ best interests at heart, to implement government interventions that almost certainly leave those citizens worse off than before. Progressives and socialists hoping to use government to improve the economies of the 21st century should bear these examples in mind, and take great care that their own efforts don’t end up having similar effects.

Noah Smith
Noah Smith is a Bloomberg Opinion columnist. -- Ed.