Saturday, January 31, 2009

Bad Samaritans

This book serves as a counterweight to books that laud free markets and capitalism such as Thomas Friedman's Lexus and the Olive Tree (missed that one) and The Commanding Heights. There is very little to disagree with in the book and if the current financial crisis has not given pause to the virtues of free markets then this book might.

His main concern is that these books have rewritten history in such a manner that trumpets the successes of free markets without considering the evidence that countries such as England, Germany etc. engaged in heavy protection of its industries in order to become industrialized and thus rich. (His interpretation of history, that is.) His support of tarriffs is so unwavering that I wonder how he feels about Smoot-Hawley.

The major problem with this book is that it lacks any solid advice. Unlike the pro-free market books that dispense advice easily and freely - deregulate! privatize! - this book makes a more nuanced case for deregulation and free trade. This means that it is harder for a book that calls for a more balanced approach to give any practical advice.

Chang is a defender of infant industry protection using tariffs and government subsidies that are typically more "patient" then foreign capital or direct foreign investment. He believes that industrialization is the only way for any country to get rich by acquiring higher level skills which then feeds into a virtuous circle of higher education, skills, and high technology industries. This is a biased reading of the successes of the East Asian "miracle" countries. Malaysia has tried to develop a heavy-industry base using its automobile Proton. As far as I can tell it has not been very successful even though it has been more than 20 years in existence. Perhaps its failure is due to it not being sufficiently export-oriented but in any case Chang does not give any attention to the industries that countries have tried to use import substitution but had to abandon them eventually because it became a drain on its budget.

Unfortunately, the weakness with any prescription that calls for industry targeting is: which industry? I have no problem with industry targeting nor with government targeting a wide array of industries but there are no guarantees of success nor that the benefits of targeting and subsidies will exceed the costs.

There is no disagreement with me on the fact that calls for free trade is based more on ideology than evidence. However his references to the "unholy trinity of IMF, WB and WTO" is sometimes a little rankling - no doubt this is intended but the IMF has learned some lessons from the Asian financial crisis and the failure of Doha has actually been considered positive by economists such as Dani Rodrik. If the IMF and WB are guilty of anything it is that they respond too favorably to "trends" and "fads": education, corruption, privatization, liberalization without much apparent consideration of other factors of the country.

Likewise, his accusation that deregulation results in corruption e.g. Russia, is true there is also some evidence that regulations also promote corruption. It is true that in some cases corruption greases the wheels of capitalism (as he notes) but isn't the existence of corruption in these cases prima facie evidence for less regulation?

While "getting the balance right" which is a subtitle in one of the chapters is easy to say putting it into practice is a lot harder and dispensing this little statement as advice borders on flip. As such, I view Dani Rodrik et. al's attempts to put growth into practical terms using diagnostics of binding constraints as being a little ahead of its time. See here for some implementations as well.

Finally, the cheer of free markets have been dampened somewhat by the following books (including this one):
1. Charlton and Stiglitz's Fair Trade, Stiglitz's Globalization and its Discontents - criticism of free trade and globalization.
2. Jaffee and Lerner's Innovation and its Discontents which Chang cites which criticizes the patent system.
3. Michael Heller's Gridlock Economy which challenges that property rights is good for growth.

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