8:53 AM Feb 27, 1996


Geneva 26 Feb (Chakravarthi Raghavan) -- The success of East Asian countries in rapid industrialization and development has been due to the major role played by governments of the region in promoting overall capital accumulation by enabling corporate profits through rents and dynamic interactions between profits and investment through 'selective industrial policies'.

The debate on the secret of the East Asian miracle, involving the orthodox neo-liberal school of economists of the World Bank, their consultants and academia, the economists of the UN Conference on Trade and Development, and the heterodox economists in the academia have focused on the resource allocation issue and the extent to which this was the result of free market forces or government intervention.

But several of the papers for the UNCTAD-sponsored meeting (29 Feb-1 March) at Kuala Lumpur on "East Asian Development: Lessons for a New Global Environment" in focusing on this issue suggest this argument about resource allocation has paid little attention to the capital accumulation questions, and particularly the role of governments in promoting investment and accelerating growth by this.

In terms of the conference and its papers, 'East Asia' has been used to cover a wider group of countries of the entire region including Japan, the first and second tier of Newly Industrializing economies of Far East and South-East Asia and the newly emerging market economies including China.

A paper by Yilmaz Akyuz and Charles Gore call 'The Investment-Profits nexus in East Asian Industrialization' argues that the success of East Asian industrialization has depended very much on role of government intervention in accelerating capital accumulation and growth and that the governments of these countries achieved this by animating the investment-profits nexus, that is, the dynamic interactions between profits and investment which arise because profits are simultaneously an incentive for investment, a source of investment and an outcome of investment.

The paper, with the avowed intention of shifting the terms of the debate on Far East miracle between the orthodox and heterodox economists on allocative efficiency issues, bases its argument on the central role of the capital accumulation process -- based on the experiences of Japan, and the first tier NIEs - Hong Kong, Korea, Singapore and Taiwan province of China. The argument rests on three propositions:

* high rates of investment played a major role in the exceptionally rapid growth of successful East Asian economies and this investment, after an initial period, was supported by high rates of domestic savings;

* the profits increasingly became the main source of savings and capital accumulation; and

* government policy accelerated the process of capital accumulation by creating rents and pushing profits over and above those that could be attained under free market policies.

Two papers by Cambridge academic, Ajit Singh analyses this argument, agrees that the UNCTAD economists have made out a good case but that it needs further research. It also notes that though the World Bank economists have apparently tried to close the chapter on the analysis of and lessons to be learnt from the East Asian miracle, the debate is by no means over and is even producing a degree of convergence in some areas between the orthodox and heterodox views, but also many unanswered questions and challenges to the orthodox view that increased role of free markets and private enterprise results in allocative efficiency and this automatically brings about structural changes and growth and welfare.

A separate paper by Chilean economist Gabriel Palma of the Cambridge University, that savings in an economy necessary for capital accumulation and investment is not voluntary or spontaneous but needs a governmental role of "both the whip and the carrot" and that the general failure in Latin America to progress as fast as East Asia has been due to the fact that domestic savings has gone into consumption and not in investments.

All the papers also bring out that while foreign capital can initially boost to savings, it is gross domestic savings that plays a key role, and any policy of precipitate and total, rather than measured and well-sequenced, "integration" into the world economy -- via trade, financial sector liberalisation and investments -- would not create the domestic capital formation and investment nexus needed for structural change and industrialization of the developing countries.

Another paper by Prof. Robert Rowthorn, also of Cambridge, that the 'flying geese' paradigm and route of foreign direct investment (FDI) by Transnational Corporations (TNCs) and their 'recycling of comparative advantage' in terms of technology transfer for structural change and industrialization may have a cooperative dimension but has also a conflictual dimension played down by the proponents.

These conflicts, within countries, between countries and between countries and TNCs would frequently overlap and in many cases would be simultaneously present and as countries progress from competition in offering labour-intensive products to sophisticated products, it results in a "growing fear of these countries and of their impact on the security and prosperity of workers in advanced economies."

The Akyuz-Gore paper point out that the literature on role of government in the growth process has concentrated on allocation issues and neglected accumulation issues. While protagonists on both sides have noted the investment role, it has been in terms of government role vs free market or the World Bank's "market-friendly" approach -- which uses the total factor productivity (TFP) growth -- measured as portion of growth not attributable to growth in quantity of factor inputs -- with variations attributed to economic policy, particularly openness and competition. While the Bank attributed the success of the high performance Asian Economies to the TFP, a number of other economists brought out that in fact many economies (on purchasing power parity basis) had much higher TFPs -- Bangladesh, Congo, Egypt and Pakistan for e.g.

The conflicting evidence on TFP, Akyuz-Gore paper argues, reflects the fact that in a world where new technology requires investment in capital stock, it is almost impossible to separate contribution to output growth of an increase in quantity of capital stock from that of technology and knowledge embedded in it.

But if the high investment levels in East Asia are taken seriously, the critical question is how to explain it and the relationship between rise in domestic savings and investment.

In the case of Japan (1950-1973), Korea, Taiwan, Hong Kong and Singapore, except in the case of Japan, foreign savings provided the initial boost. In the case of Japan, the US special procurement program accounting to about 30% of foreign currency receipts in early 1950s helped a self-sustained process of investment and growth generated by savings and export earnings. For Korea and Taiwan, initially bilateral and multilateral loans played a part; for Hong Kong it was transfer of funds by overseas Chinese and in Singapore capital inflows was in the form of FDI.

But however important initially these inflows, gross domestic savings rose to very high levels - in Japan from 24% in early 1950s to 36% in the 1960s and 40% in the 1970s; in Singapore from 10% of GDP in 1965 to 30% in the 1970s and 42% in the 1980s. In Korea and Taiwan from about 4% and 9% during 1956-1960, it rose rapidly to an average of 32% by the 1970s in Taiwan and 22% in the 1970s and 32% in the 1980s in Korea.

While rapid economic growth explains much of the increased domestic savings ratio, permitting as it did both rise in domestic savings and permitting rising consumption, income growth is not always translated into higher savings growth. For instance, the average savings rate in some of the Latin American NIEs failed to show a significant increase between 1960s and 1980s, despite a relatively rapid growth in per capita incomes.

Brazil, during 1968-1977, grew at average 7.4% a year, but its gross domestic savings remained stagnant around 20% of GDP and private savings around 16%.

While the World Bank (in East Asian Miracle) acknowledged East Asian NIEs adopting a host of measures to raise both savings and investment, it attributed this accumulation to "getting the fundamentals right" -- by controlling inflation to ensure financial repression is relatively mild as well as high public savings and prudential regulation of financial institutions.

However, the Akyuz-Gore paper argues that growth of corporate profits and savings was much more critical in making domestic consumption lag behind income growth and raising average rates of savings and investment.

In all these countries corporate savings accounted for a very large share of corporate investment and in East Asian NIEs it was not household but corporate savings. A notable exception is Singapore where house hold savings account for a large proportion of gross domestic investment. But this is the result of forced savings accumulated in the Central Provident Fund -- where the contribution rate originally set in 1955 at 5% of employees salary and a matching contribution from employer rose to 25% by mid-1980s and used for (employees) purchasing housing built by the public Housing Development Board or invested in government securities. At its peak in 1985, CPF contribution amounted to 36% of gross national savings or 15% of GNP.

In most East Asian NIEs, other profit-related income also contributed to rise in domestic savings. Personal savings and corporate profits in East Asia were linked to profits through the bonus system - tying a significant part of workers' pay to company profits.

Government policy played an important role in growth of corporate profits and savings. Fiscal instruments were used to supplement corporate profits and encourage retention to accelerate capital accumulation. Trade, financial and competition policies raised profits above levels that would have been attained under free market conditions, thus creating rents.

Fiscal instruments included various tax breaks and special depreciation allowances to encourage enterprises to retain and invest profits.

But State created rents were important. These rents were created through a mix of selective protection, controls over interest rates and credit allocation, managed competition including encouragement of mergers, coordination of capacity expansion, restrictions on entry into specific industries, screening of technology acquisition and promotion of cartels for specific purposes such as product standardization, specialization and exports.

Credit subsidies were essential for investment in new industries, as also credit rationing which could not merely be viewed as instrument for 'picking winners', but enabling rent creation and capital accumulation.

The rent creation through protection was linked to export performance.

Most of the fiscal instruments and rent-creations were focused in a deliberate concerted way on specific industries at particular moments in time -- they did not just reallocate given resources across various sectors, but made a significant addition to overall rate of accumulation.

This creation of rents, Akyuz and Gore argue, was central to the process of accelerating capital accumulation and growth and establishing new industries. It contradicted the theory of rent-seeking under inward-oriented-trade regimes developed in the 1970s and 1980s.

The reciprocity between government support and private sector performance entailed a faster rate of capital accumulation and growth -- not only because support was often provided in exchange for higher investment, but also because better export performance as a measure of quality of investment necessitated faster accumulation in order to raise competitiveness through adaptation of new technology, scale economies, learning and productivity growth.

But the East Asian economies were able to achieve these at relatively low levels of income inequality. Evidence using GINI coefficients indicate clearly that income distribution in East Asia has been more even than in Latin America. While the reason for this needs further research, the two authors suggest that part of the answer could lie in land ownership. In East Asia there is an absence of big land-ownership unlike in Latin America. Comparison of East Asian NIEs and Japan with a sample of eight developing countries (Argentina, Brazil, Egypt, India, Kenya, Mexico, the Philippines and Turkey) show a higher Gini coefficient of land ownership in the latter countries.

The debate on role of government in growth and development, Akyuz and Gore argue, continues to be ideologically polarized. The attempts to explain the sustained economic growth in NIEs by isolating economic conditions attributable to the government and those to the market "are misguided".

Government policy has contributed to the dynamism of the economy and accelerated the capital accumulation process by animating investment-profit nexus by creating rents and pushing profits over and above levels that could be attained under free market conditions. The isolation of allocation from capital accumulation process is artificial. Without impressive pace of capital accumulation in East Asia, it would have been impossible to improve so rapidly methods of production and quality of output, to diversify range of goods and services produced and compete successfully in world markets for manufactured goods.

The focus on investment, the authors add, is also vital to avoid the mistakes of the 1980s in which the bias of Structural Adjustment Programmes (SAPs) against accumulation resulted in policies which, in the name of more efficient resource allocation, almost invariably led to lower investment and growth.

Though the World Bank in its 1992 assessment of SAPs described the decline in investment as an 'investment pause', the continued depression of investment in many developing countries suggests that the adverse effects of SAPs have been long-lasting.

In his paper, "Whatever happened to Latin America's Savings?", Gabriel Palma, compares national savings rates in Latin America in all sectors, with those in East Asia, and points out that in Latin America household savings collapsed in the 1990s to about half their relative levels through most of the 1980s, both before and after the debt crisis -- to a level similar to what they were in the 1970s. Corporate savings returned in the 1990s to their pre-crisis level and government savings had a substantial improvement in the late 1980s.

This, Palma comments, is curious because so far the neo-liberal reforms do not seem to have made much of an impact on corporate savings, have brought down significantly the savings propensity of the household sector, and have made (in relative terms) the government the key savings agent of these economies.

A comparison of Latin America's savings rates with those of NICs shows not only that levels of national savings are totally different between the two regions, but also that the structures of national savings in both regions are almost exactly the opposite. In Latin America, between 1970 and 1980, both household and government savings decreased relative to corporate savings. This pattern changed significantly with the debt crisis of 1982, but in 1987 the structure of national savings had returned roughly to the pattern of 1980. Thereafter, however, there is a collapse of household savings, and a corresponding relative jump in house-hold consumption, and an increase of both government and corporate savings.

"The collapse of household savings," Palma comments, "seems to show that financial and trade liberalisation have increased the degree of household's inter-temporal substitution in consumption with disastrous effects on savings. On the one hand, atleast till the Mexican crisis, the proponents of reforms seem to have succeeded in presenting them as capable of increasing significantly the rate of growth of income; on the other, trade liberalisation increased substantially the amount of luxury consumption goods available in these economies, and financial liberalisation has lifted the borrowing constraints of households. The result was a boom in consumption and in household indebtedness."

This phenomenon is particularly important in that "it runs against the results predicted by those advocating financial reforms and financial 'deepening'... In fact by making credit too easily available for consumption purposes in the household sector, and increasing expectations of future incomes unrealistically these reforms seem to have reduced the household savings to such an extent that in many countries investment and economic growth have been seriously affected.