Wednesday, 11 August 2010

China (IV) - China and Western Economics

Paul Sweeney: Western economists believe that their model is superior because it is supposedly market-led, has better technology, better social structures, the rule of the law and better commercial applications, so says economist, Stephen King. He argues the contrary – that the West has dominated the world by rent-seeking and plundering the world’s physical, natural and human resources.

In a review of a book by King, “Losing Control: the emerging threat to the Western Prosperity,” FT columnist, Martin Wolf seems to concur with the author, stating that “Western policy makers do not understand how far the rise of emerging counties is changing the world. They suffer from the illusion they are in control of events. But events control them instead.” ... “Also important is the rise of “state capitalism”: governments, not markets are managing the outflow of capital from emerging countries, Wolf says.

A number of authors, economists and political commentators are now arguing that the world is changing rapidly, with the rise of Asia and the BRIC countries. Many policymakers have not yet realised the extent of the changes, which are well underway. Even the conservative Economist magazine this week (7th August) had a feature on increased state involvement in the economy and industrial policy. It warns, correctly, against political patronage using state assets. However, recognising the clear trend, it also set out its case for better state involvement in business and for industrial policy, with reasonable suggestions.

In the first blog I said that China, Asian, Russian and other major economies are not following the Western economic orthodoxy. Some are authoritarian states and all are highly critical of neo-liberal economics. They have a sceptical view of “free market” economics, which events have proven to be correct.

For example, the Russian state is backing a vertically integrated national champion in fertilisers. Andrei Sharonov, Former Deputy Economy Minister and banker said recently that “ideologically the state is interested in a national champion in the sector that can compete on a global level.” Russian holds one-third of world’s potash and wants to diversify from oil and gas and consolidate the industry which is predicted to grow at 2.4 per cent per annum to 2020, and also to safeguard food supplies.

For wild risk taking in the West, there is both a private big reward and then state bailout, which at present, looks as it will be permanently guaranteed and without significant behavioural change.

One aspect of the change is that many other states see an active role for state companies, which they may utilise in a mercantilist ways. Further, over time anyway, the role of the state and state activism in the economy waxes and wanes. It just seemed that privatisation and de-regulation was the order of the day, as it was for about 20 years. That has changed dramatically. The state is back in the market and thus the phase of privatisation and de-regulation is now on the wane (except in the minds of the Irish Cabinet, some in the Dept of Finance and the usual conservatives).

In fact nationalisation on a massive scale has taken place. Ironically, it occurred mainly in the West, where liberal economics dominated. This change has of course been re-active, unplanned, unanticipated and unprecedented. Yet the changes are worthy of study, particularly as the state apparatus often gets things wrong; reacts rather than acts; is slow to spot trends; and slower to see major changes.

Asian and BRIC policy-makers are especially critical of the supposed superiority of the neo-liberalism which they believe was at the root of the Crash of 2008 in the West. Embarrassingly, for free market fundamentalists, is that this is happening not long after many Western economists sneered at the Asian model after its crisis in 1997 (“Crony capitalism” it was dubbed, but from which Asia bounced back, in spite of IMF attempts to impose deep Washington Consensus policies on its economies – for which the IMF has been rightly criticised). And, as China is so large – it took over as the world’s largest exporter from Germany last year – it is already challenging the Western liberal orthodoxy on a large scale in practice, in many sectors and areas.

There are major implications for economic theory and for citizens worldwide if liberal economics and Western ideas cease to be dominant (not cease) in much of the world. Of course, there are differing views in the West, but even many social democratic parties, e.g. New Labour, did succumb to the siren calls of neo-liberalism, only to find their economies wrecked on its rocks. The collapse of the Soviet Union was supposed to lead to the universal adoption of liberal economic theory, within varietal frameworks of capitalism. To say that the programme is not going to plan is an understatement.

Another book on the subject is by Stefan Halper – with the unambiguous title “How China’s Authoritarian Model Will Dominate the Twenty-First Century.” In addition to the argument in the title, Halper also argues, as I did on the blog on China and Africa, that China is gaining influence by investment and cheap “no stings attached loans” (he does this in some detail). He says too that China has no qualms at doing business with nasty regimes either. (Did any of the imperial states and were they not nasty themselves?)

Twenty years ago it seemed that the state was on the defensive with Thatcher and Reagan breaking up the post-war consensus. Soviet Communism collapsed and the World Bank and the IMF were enforcing the “Washington Consensus” of privatisation and liberalisation on governments. Today, new and varying forms of state capitalism from Chinese to Mid Eastern and Russian varieties are on the ascendant.

And in the West, the state is now intervening in the economy on a scale perhaps even greater during the Second World War and its aftermath, nationalising and/or controlling banking, finance, the motor industry and also strengthening regulation. It is doing so reluctantly, without a real plan and is certain to make major errors, but may be involved for longer than it thinks. Then it may decide to remain consciously involved, and work to do so effectively.

Thus state intervention is not being undertaken in a considered, planned way, but in reaction to the near collapse the economy due to the excesses of liberal market economics, where de-regulation and a na├»ve belief that the market worked best on its own and that the perverse incentive structures in boardrooms led to apparently “great profits”. These views were so dominant that those who challenged them were largely unheard. Today the state is blundering its way in response and making many mistakes.

I hold that active state involvement in the economy has an important role, provided the form of governance is the best, especially for directly owned commercial enterprise, which must be at arms length.

I said that I would return to the idea of a new invigorated role for the Irish state companies, possibly emulating some aspects of Chinese strategy in my conclusion of this mini series on China. However, since them I have written on it in the Irish Times (link here) and so will not repeat the points made.

It was seen that 37 of the Fortune top 500 global companies in are Chinese companies, most of which are state controlled and many more are state owned or former companies.

For the first time a Chinese company entered the top ten world companies in turnover (not market cap) in 2008 at 10th. And last year, it rose to 7th place.

In the top 100 there is the China National Petroleum at 13th largest company in the world, Japan Post at 11th, Pemex (the Mexican state Petroleum Company) at 31st, Norway’s Statoil at 36th, France’s state-owned EDF at 57th largest company and Deutsch Telecom at 61st. And many more.

I just heard that Sany, one of the largest Chinese machinery groups, is to establish a manufacturing base near Cologne which will employ several hundred Germans making concrete pumps! It will also have and R&D unit, challenging German’s best engineering firms within its own heartland. It employs 60 there in a subsidiary already.

It was interesting that the Chinese sovereign wealth company was behind a possible bid for Liverpool last week. (Why, I don’t know, except that the team has a big following in Asia).

An active expansion of Irish commercial state owned companies into foreign markets, on their own or in partnership with Irish and indeed foreign, including Chinese firms, will add value. To sell them off is to take the Low Road. It would be deeply regrettable if McCarthy recommend this, but the Terms of Reference are as narrow as a boreen.

We also seriously need to clean up Irish entrepreneurship, reform its appalling corporate governance, shift its core focus from “shareholder value,” to a wider stakeholder basis; from short-termism; dull introspection; and to force many corporations to bring in fresh talent to their boards, within a framework of radical reform of Irish company law.

However, this reform of corporate governance has to include a reform of a) the way in which people are appointed to the boards of state companies too; b) the way in which their strategies are determined by government and by the elite civil servants in the major governing Departments. Civil servants should no longer have to worry about commercial companies day to day policy, except to ensure it is adhering to broad guidelines. These strategies should be more explicit.

This can be made more transparent for commercial state companies under a State Holding Company as Congress proposed in 2005 and which FG have adopted. Not alone will it set clearer objectives, give access to capital (and rapidly too), but also assist Ireland in a major investment programme outside the strictures of the Growth and Stability Pact. Eurostat has made clear determinations which would allow a commercial state holding company borrow and such would be outside the G&SP. It, with specialists, would be far able to assist in major investment strategies than civil servants do today, when a state company has major investment /divestment plan.

It has been seen in the series of blog posts that the Chinese state companies are being utilised strategically by their Government to spread their investment widely, sectorally and geographically; to buy technology through ownership and control; to control vast natural resources in many areas; to grow their state companies and generate wealth and employment; and to train Chinese management to the highest levels and in the widest areas of skills.

In a somewhat similar way, but on a lesser scale, and with no “imperial” ambitions, Irish State companies should be harnessed, with the private sector, to again play a major role in developing the Irish economy. Instead of the passive, small-scale approach, as has been the weak Government policy on state companies up to now, we could be bolder and more innovative. If FDI does begin to dry up, and with the appalling legacy of so many “leading” Irish private sector companies, the next government really do not have a choice but to take the High Road – the developmental road – with our state companies.

I have pointed out that Ireland has a major (private sector) enterprise deficit. We also know that the state has made major policy errors which have cost citizens and indeed many good businesses dearly and will continue to do so for many years. Ireland has had the biggest collapse in national income of a staggering 20 per cent (GNP) in just three years. Our economy has lost many years of income and wealth and many have suffered hugely. Much of this was avoidable.

But the gross errors made in both the private sector and in economic policy in the public sector have both emerged from the same root problem. This is the commitment to a delusional belief in the workings of markets on their own, without supervision, and to a turbo-version of shareholder value and destructive competition –  was competition, the more intense, not always good? – within the boards of Irish banks and other companies, boosted by perverse executive incentives. The former dominated and regrettably, still strongly influences the highest levels in the public sector and the latter was in the private sector, especially banking. If certain key public servants and public regulators had not been in awe of self-regulating markets and the apparent superiority of the private sector, the Crash of 2008 would have been far smaller.

There have been changes in bank regulation and at the Central Bank, but much more reform is required. Without major changes in attitudes, especially to a realistic view of markets and of what is the public interest by some top public policymakers /regulators, combined with major changes in company law and national and international regulation, the crisis will be prolonged and is likely to recur.


Paul Hunt said...

@Paul Sweeney,

You may be surprised to find that I, too, am in favour of an increased role for the state and the public sector in the economy. But where, I suspect, we would differ is that I would see the state as being the promoter and enforcer of efficiency-generating competition with effective regulation of monopoly activities, intrusive scrutiny of regulated businesses and swift and brutal punishment of market abuse.

The state's failure to pursue this role in the developed economies led to the crash of 2008; it wasn't a failure of markets.

I have commented on this in a discussion of your op-ed piece in the IT (to which you contributed):

In that thread you also mentioned being in favour of semi-state restructuring, but you failed to provide any indication of what this means (and there is little beyond some reform of governance and aspirations in your post here).

In this regard I raised some specific questions to which you chose not to respond. They remain relevant.

Brendan Quinn said...

I find it incredible the sentiments of more government intervention in the economy. This will end in even greater calamity. A civil servant dictating business decisions? Why do we think giving the government more power will in anyway correct the problems they created in the first place? The government is totally responsible for the current mess. Liberal ideology is not. China will not work in the long run. It will not dominate the 21st century with its current economic model. Wolf is wrong.

Antoin O Lachtnain said...

I really do not think that you can compare the state enterprise philosphy of mega-economies with major caches of natural resources to our local utility companies in our tiny, outwardly focused economy. The likes of Singapore and Finland are far more likely models.

It is worth saying that many of the good things in Irish state companies (work practices, industrial relations, pay, environmental stewardship and social responsibility) are not reflected closely in the state enterprises of the countries you mention.

Paul Hunt said...

@Paul S,

I realise you are very busy - indeed, you may be on leave, but I was a little surprised and disappointed that you (or any of the other contributors on this site who are often quick to dig into the minutiae) failed to respond to my queries on energy semi-state restructuring. Irrespective of any consideration of asset sales, major restructuring is required - as you have recognised. Unfortunately, given the primacy of EU law, unly 'second-best' solutions are available; but some are more 'second-best' than others.

Given that most of Ireland's monetary, fiscal and economic sovereignty has been transferred to Brussels and Frankfurt, I think it would make sense to focus on those areas where the limited sovereignty that remains may be exercised.

paul sweeney said...

Paul Hunt. I am on leave. One area I do think that the Review Group AKA the Privatisation Board should examine is the resturcturing of the state energy companies. Reading Leo Varadkar however, I am puzzelled. Competion is great - except for state companies. Is this because they are state companies or is competition is only good for private companies? Strange logic!
How would I restructure the state energy companies? I think it is too complex for me to make cogent suggestions. Antoin is correct on the value of these companies in a small island economy. I think that energy security is going to be the big issue for the next 50 years, and I would bear this in mind on such restructuring.
On Brendan Quinn's comment "I find it incredible the sentiments of more government intervention in the economy." I am inclined to almost agree, but to also thread carefully. Who would have believed that the 60 or so of the finest talented board members of Ireland's finest private "enterpises" (see TASC publication on Mapping) would destroy so much value in the private banks that they ruled over - around €66bn in so short a time AND almost bring down the entire economy! Calamity this is! Can the state do better? It has to!

Paul Hunt said...

@Paul S,

Apologies for intruding on your leave. I wish you a pleasant break from the daily round. These issues will still be alive on your return - and some other contributors may have views in the meantime.

Nat O`Connor said...

The Economist, in an article titled Leviathan Inc, has been thinking about State intervention too. In an editorial based more on anecdote than clear evidence, they argue that states should not engage in industrial policy, due to the inability of "bureaucrats" to pick winners. Instead, we should seek more labour flexibility and promote competition.

I don't agree, but at least they recognise the need for discussion of the future role of state intervention in the economy.

Paul Hunt said...

@Nat O'Connor,

I agree that The Economist has its 'party-line' but at least is making some attempt to address the phenomenon. However, when Paul Sweeney, one of the most vigorous and influential advocates of restructured and empowered state owned enterprises in Ireland finds that restructuring of the energy semi-states is too complex for him to make cogent suggestions we seem to have reached the end of the debate.

Grandstanding about 'low roads', 'fire-sales' and 'selling the family silver' is all well and good for some, but we need more substantive engagement on how these semi-states may be restructured in the public and national interest.