8:16 AM Jul 3, 1996

LIBERAL ORDER HASN'T DELIVERED

Geneva 3 July (Chakravarthi Raghavan) -- The palpable euphoria existing in international economic circles and among multilateral institutions concerning benefits of liberalisation and globalisation is unwarranted by evidence and dangerously misleading at policy level, according to Prof. Ajit Singh of the Economics Faculty of the Cambridge University.

According to Ajit Singh that the economic record of the industrial countries who have followed these liberalisation and globalization policies has been far from inspiring, and unless policy changes to achieve trend increase in economic growth is in place, the future of the liberal regime itself is in jeopardy and there will be public support for rising protection.

Ajit Singh's view are in a paper presented at a conference on "Full Employment without Inflation" in mid-may. The paper, along with others at the conference are in a forthcoming publication under the same title as the Conference, edited by Jonathan Michie & John Greve-Smith.

The Cambridge academic notes that there is now a remarkable consensus in international economic circles that liberalisation and globalisation are not only the order of the day but the wave of the future -- derived from inexorable technological forces connected with information and communication technology revolution, and that this will promote faster economic growth in rich and poor countries.

Such a consensus about the virtues of liberalisation and globalization not only encompass the (London) City and Wall Street, and institutions like the IMF and World Bank, "but surprisingly includes international organizations like the ILO and UNCTAD (in its 1996 report on Least Developed Countries) -- traditionally institutions less beholden to the free market and more concerned with social and developmental issues.

Countries are now being advised that if they do not follow the prescriptions for liberalisation, they risk being "marginalised" and left behind as African countries have been over last two decades, that the development debate is over and what developing countries require, in addition to integrating with the global economy, is to reduce the role of the state and enhance that of the market -- with the state role confined to providing a stable macro-economic environment and creating conditions for private enterprise and competitive markets to operate effectively.

But these propositions of orthodox economists and international organizations, Ajit Singh says, are seriously flawed, analytically and empirically, and the euphoria about the phenomenon misplaced.

"There is considerable evidence that the liberal economy has not delivered and unless the current strategy is fundamentally altered, the prospects for the world economy, for the people of the North as well as the South, are bleak."

Liberalisation and globalisation do not promote economic growth, but faster growth of production and employment are essential for sustaining the new liberal economic order, he adds.

The development debate, the Cambridge academic stresses, is far from over and there still exist valid alternative strategies for developing countries to follow. Liberalisation and globalisation have made the task of achieving fast long term economic growth in developing countries, as well as advanced ones more, rather than less difficult.

The paper devotes detailed attention to the experience of the advanced countries in drawing these conclusions -- since they have operated under a more or less free trade and capital market regime for 15 years.

Their economic record is far from comforting and, in short, the liberal economy has so far failed to deliver in important dimensions. The long-term trend growth of output and productivity since 1980s has been approximately half that of these countries during the 'illiberal and regulated' regime of the 1960s, and the deterioration in long-term economic growth has been across the board, rather than confined to a few countries. Not only has growth been slower in the 1980s and 1990s, it has also been more unstable and important variables have been subject to far greater fluctuations.

The most conspicuous failure of the liberal economy has been with respect to employment. Compared to the eight million unemployed in the OECD area in the 1970s, it was 35 million in 1994 and, if unemployment in the form of part-time work, short-time working and discouragement of job seekers seeking employment be taken into account, another 40-50% would be added to numbers of unemployed. While the US unemployment figures seem better, real wages in US have not increased over the last two decades and that for unskilled workers have fallen.

The silver lining is that the rate of inflation has fallen, and the economic policies of the 1980s and 1990s have contained price increases and brought inflation down to levels of the (post war) Golden Age.

While the rise in unemployment is often attributed to exogenous factors and role of technology, and it is argued that fast technological change has resulted in jobless growth, there is no evidence to support this contention, according to Singh. While the average rate of growth has been halved over this period, compared to the Golden Age, productivity growth has fallen even more sharply, and employment elasticity of growth has risen, not fallen. A one percent growth in GDP now results in greater increase in employment now than in the 1960s.

Thus, the reason for higher unemployment now is not 'jobless growth', but the much slower rate of economic growth. And since average productivity growth has fallen, rather than rising, pace of achieved technical progress has been lower rather than faster than before.

While on the supply side, the new information technology does provide an enormous potential for increasing production and productivity, this potential is not being realised due to the slow rate of growth of real demand and output over the last 15 years, Singh comments. As has been shown in several studies, those countries in East Asia that have grown very fast in recent periods are the only ones that have been able to use the new technology effectively.

As for the argument that the Golden Age growth was an exception, and that the historical trend is according to the current rates, Singh underlines that Golden Age growth was not due simply to chance and a favourable combination of circumstances, but rather the policies of social market economy -- involving cooperation at international level between nation states and at national level between workers, employers and government.

It is no argument, Ajit Singh says, that because the post-1980 growth is in line with long-term historical record of industrial countries, it is therefore satisfactory. The level and growth of economic activity during the 1980s and 1990s has not been sufficient to meet the needs of the people, and the mass unemployment and stagnant or slow growing real wages "constitute eloquent evidence of economic failure."

Why hasn't the liberal economic order delivered?

Orthodox economics suggests that openness of an economy can be a source of strength: it may enable a country to concentrate its relatively specialised resources in areas of production where world demand is highly income and price elastic, it may lead to diffusion of knowledge and ability to upgrade local factors of production. Also, (free) trade may lead to changes in income distribution and greater share of accumulation in national output and accelerate a Schumpeterian process of creative destruction.

But all these benefits need certain conditions that are ignored in conventional models. The most important is the role of the government, which is particularly important for developing countries, and question of coordination failures in the integrated international economy, important for both developed and developing countries.

Otherwise, some of the potential dynamic positive advantages of free trade could easily go in the opposite direction. A redistribution of income towards profits, instead of leading to higher rate of investment, may simply increase capitalist consumption or lead to capital flight. With incomplete and imperfect markets in developing countries, the role of government in monitoring and coordinating activities of entrepreneurs become critical to avoid negative outcomes, and increase the positive benefits.

But even if there are appropriate government policies at national level, the benefits of trade liberalisation may not materialise because of coordination failures at international level leading to low level equilibrium of world demand, output and employment.

As Keynes noted in relation to the post-war world, "...to suppose that there exists some smoothly functioning automatic mechanism of adjustment which preserves equilibrium if only we trust to matters of laissez faire is a doctrinaire delusion which disregards the lesson of historical experience without having behind the support of sound theory."

In the post-1980 period, with financial liberalisation, the problem of international coordination failures (and the problems of BOP surpluses and deficits between nation states) has become more serious. There is now much less economic cooperation between leading industrial nations -- US, Germany and Japan - than was the case when the US was the single hegemonic power able to foist its own design on everyone else.

Though there is still some intergovernmental cooperation, such as in the IMF, this has long been restricted to monitoring and disciplining the Third World, while leading industrial nations have been outside its discipline. International cooperation during the last 15 years has been limited to the minimum level necessary to stop the repetition of mutually destructive acts of the 1930s - competitive currency devaluations.

The increasingly globalized financial markets have in general worked in a "deflationary" way, penalizing governments that follow expansionary policies. But the markets have also been sometimes expansionary -- as in Latin America in the 1990s when there were huge portfolio inflows, spurred by the euphoria of the emerging markets, despite the clear evidence of huge current account deficits in countries like Mexico. This bubble finally burst in 1994 December, with real GDP falling in 1995 in Mexico by 10% and by 7% in Argentina.

Apart from these international coordination failures producing deflation, unfettered capital movements also provide enormous scope for destabilising speculation in turn leading to high volatility of both monetary and real variables. And fluctuations of financial variables affect real variables such as investment, both directly and indirectly. The overall uncertainty has also a negative effect on corporate inducements to invest. Despite the rise in profits and booming stock-markets of the 1980s, the trend rate of investment in industrial countries is half that of the Golden age.

Thus, the euphoria about the new liberal order and about liberalisation and globalisation is highly misplaced. The market-supremacy model of the 1980s and 1990s has not resulted in increased long-term economic growth, nor are these likely to do so in the foreseeable future.

Why then are all multilateral international organizations extolling the virtues of liberalisation and globalisation and telling developing countries that if they integrate fully into the world economy they would be rewarded by faster growth.

One possibility of rationality arises from these institutions attributing the record of developing countries of East Asia to implementation of liberalisation and globalisation. But a host of independent scholars have not brought out that relating the success of East Asia to liberalisation and globalisation is not valid.

The other reason may be the misplaced euphoria and false appreciation of economic reality -- an irrational behaviour by institutions of economic establishment explained by P. Krugman, in terms of the sociology of formation of conventional wisdom in relation to the mistaken euphoria of the 'Washington Consensus'.

The euphoria though is not only misplaced, but misleading and potential dangerous.

"This is because the future of the present liberal international economic regime depends on its ability to meet people's legitimate needs for remunerative jobs and productive work."

As John Hicks observed about the 1930s, the main reason which caused so much of liberal opinion in England to lose faith in Free Trade was the helplessness of older liberalism in the face of massive unemployment, and the possibility of using import restriction as an element in an active programme of fighting unemployment.

An alternative strategy of demand growth, with its own institutional requirements, is possible. It is not a strategy of reversion to Bretton Woods or other specific institutional arrangements of the Golden Age,

The Bretton Woods system relied heavily on the paramount hegemonic role of the US which no longer exists, even though the US is still a big player. And international cooperation among leading countries is now far more difficult, but no less essential if the world is to achieve a sustained trend increase in rate of growth and aggregate demand. Similarly, with respect to domestic regulation, more robust pay coordinating institutions are required to ensure continuing wage stability with sustained full employment.

But unlike the labour market flexibility approach, the demand growth strategy is a positive sum game benefiting the rich and poor countries. It will also contribute towards addressing some of the other unfavourable labour market developments in industrial countries.

Taking the "high road" to resolving the employment question is feasible, and international organizations should strive for this rather than taking the "low road" of labour market flexibility. The consolidation and survival of the liberal international economic order depends on taking this "high road". To do this, the freedom of unruly financial markets will need to be curbed.