Abstract: In this paper, the author answered four major questions that outline the present and future key aspects of comparative economics and global economy from the perspective of New Structural Economics, including the role of Comparative Economic Systems in understanding and changing the world, institutional reform and policymaking, interpreting “innovation”, and answering the question of “distribution”.
In the conclusion section of the forthcoming book Routledge Handbook of Comparative Economic Systems, the editors Bruno Dallago and Sara Casagrande raised four major questions that outline the present and future key aspects of comparative economics and global economy, and brought together six leading contributors to reflect on these questions, in order to present the trajectory of comparative economics. I am honored to be one of the invited contributors and give the following answers:
I. THE ROLE OF COMPARATIVE ECONOMIC SYSTEMS IN UNDERSTANDING AND CHANGING THE WORLD
The purpose of economic study is to understand the nature and cause of a phenomenon so as to guide people to understand and change the world and ultimately promote social progress. As a sub-classification of modern economics, Comparative Economic Systems is built on the comparative study of the differences between socialist planned economic system and capitalist market economic system after the Second World War. At that time, the study deepened the understanding of the reasons for the poor performance of socialist planned economic system and provided theoretical support for the success of capitalist market economy.
From the 1980s to the 1990s, the former Soviet Union and Central and Eastern European countries, influenced by neoliberal thinking and guided by the Washington Consensus championed by mainstream macroeconomists, discarded their dysfunctional centrally planned economic system and transitioned to market economy. However, the outcomes of such a transformation were not satisfactory, with persisting economic meltdown and stagnation. At the same time, instead of embracing marketization, privatization, and macro-stabilization promoted by the Washington Consensus, socialist planned economies in East Asia, such as China, Vietnam, and Cambodia, have adopted a gradualist dual-track approach, i.e., the coexistence of market and planned systems. At that time, this "half-hearted" transition was considered the worst strategy that was doomed to undermine the economy. Surprisingly, however, those countries that adopted the gradualist dual-track transition all achieved stable and rapid development. The outcomes of these two distinct transition approaches underscore the failure of mainstream economic theory in explaining the transition of developing countries.
Comparative economics, with the inheritance from neoclassical economics, holds that financial repression, administrative allocation, state property rights, and soft budget constraints are all exogenous distortions from the socialist planned economy system compared to the ideal market depicted by neoclassical economists. But from a New Structural Economics (NSE) perspective, these distortions exist for a reason. These policies were introduced to support and subsidize those advanced capital-intensive industries important to the development of the economy that back then under the planning system had neither the needed capital nor the corresponding comparative advantage. And so, they are mutually reinforcing with national development strategies and thus endogenous. Such distortions are actually second-to-the-best arrangements within the restricted scope. If we force out these arrangements without addressing the root causes why we just couldn’t realize the best system, it could backfire at the economy instead.
Countries at different stages of development have different systems. In the eyes of neoclassical or new institutional economists, some of the systems of developing countries may seem distorted, but they actually are reasonable and endogenous. If the sub-discipline of comparative economics is to make a difference to real-world economic development and performance improvement, then economists will need to probe into the reasons behind these “distortions”, not just their implications. Only when we know the reasons can we address the problems and realize Pareto improvement.
II. COMPARATIVE ECONOMICS: IMPLICATIONS FOR SYSTEM CHANGE AND POLICYMAKING
Each country has its own combination of closely-connected formal and informal systems, making any change to them complicated and difficult on top of various non-economic challenges. Then, how should we perform comparative economic analysis in such a highly interdependent world to facilitate a better understanding of systemic change and policymaking that could translate into social progress?
NSE, guided by Marxian historical materialism, adopts neoclassical approaches. It believes that economic foundation determines superstructure including various system arrangements which reshape the economic foundation in turn. An economic system is composed of a series of interconnected elements including factor endowment, production pattern (including industrial pattern and technological pattern) and infrastructure; the superstructure, in the terms of new system economics, includes formal systems such as laws, rules and economic, social and political regimes, as well as informal systems including behavioral patterns, traditions, beliefs, values and ideologies. The production pattern is endogenous from the factor endowment of an economy, because endowment determines its comparative advantages at a given point in time and thus, the proper industrial and technological structures; different industries and technologies have different features and varied requirements on capital, technology and infrastructure, and so appropriate infrastructure and superstructure are necessary to unleash industrial and technological productivity. In one word, infrastructure and superstructure are endogenous from an economy’s production pattern which is determined by factor endowment structure at a certain point in time.
From a new structural economics point of view, a good economic system must have two basic elements: an effective market, and a supportive government. An effective market shapes a relative price for all factors via competition to reflect their relative scarcity to guide businesses in their choice of industries and technologies based on their competitive advantages. Government is the only institution with legitimate compulsory power, and a supportive government is tasked with addressing market failures that are unavoidable given the externality of innovation and as a result of coordinating the improvement of infrastructure and various systems. The government takes advantage of environmental factors in promoting sound structural transformation amid economic development.
Structural imbalance in the modern world economy where ideas, information and trade flow across countries comes from two main sources.
One is different rigidities as a result of different economic structures. Factor endowment structure changes at the fastest pace. When an economy has selected a proper combination of production pattern, infrastructure and superstructure based on its special endowment structure and runs under such ideal circumstance, it will see rapid growth and capital accumulation which will in turn reshape its capital endowment.
Change in the relative weight of capital in the endowment structure and comparative advantages will require corresponding changes in the production pattern, infrastructure and superstructure that are endogenous from the endowment structure; but changes with superstructure, especially informal systems including behavioral pattern, tradition, belief, value and ideology, progress at the slowest speed. Then, when capital, population, education, migration, foreign capital inflow or natural resources change and thus restructure factor endowment, structural distortions will emerge if production pattern, infrastructure and superstructure fail to evolve at the corresponding pace.
The second source of structural imbalance is improper government intervention in the production pattern under undue influence from misguided ideas. For example, after World War II, the mainstream idea held that for developing countries to catch up with their developed counterparts, they needed to boost their manufacturing and heavy industry first, but the factor endowment of developing economies just wasn’t sufficient enough to bolster the planned heavy industry boom which finally induced structural distortions.
For another example, neoliberalism in the 1980s believed that developing countries’ development must be based on a sound market economy system which however was not compatible at all with their economic foundation or industrial structures and was bound to cause structural imbalance.
Both types of structural imbalances disrupt the economy, if not social and political stability as well.
Structural imbalance of the first kind could be addressed as long as the government could lead proper reforms to restore efficiency, since all other conditions for such reforms are already met. But that of the second kind cannot be resolved unless we recognize the fact that many of the seemingly distorted second-order institutions in our economy are actually endogenous from the government’s intervention in the production pattern or superstructure. As mentioned above, these systems are suboptimal, and so it’s better to implement pragmatic strategies to avoid systematic risks before making any change to the superstructure, while working to create conditions for structural reforms at the lower level, in order to realize Pareto improvement.
For developing countries that inherit or introduce the systems of developed economies, they might be able to address such structural imbalances if they have an open-minded state leader, like some of those who steered the east Asian economies’ catchup with developed countries after WWII – they enjoyed much discretion in protecting their political regime with their talents and wisdoms, while taking advantage of such political stability to boost their economy which laid a solid foundation for the smooth running and reform of the superstructure.
Ⅲ. THE INTERPRETATION OF "INNOVATION" IN THE STUDY OF COMPARATIVE ECONOMIC SYSTEMS
Innovation is the most important driving force for economic growth, in particular the digital economy and AI revolution, which will accelerate industry and technological transformations. With the integration of economies and the need to better coordinate macro policies, the innovation environment – including technological innovation, organizational innovation, and social innovation – is increasingly significant and it highlights the significance of the economic system and its characteristics. Incremental innovation, breakthrough innovation, workforce mobility, and investment in human capital are priorities for countries. In what sense and how can the economic system support innovations in companies and countries? How can the study of comparative economic systems explain the different workings of markets and how can it support entrepreneurs and governments to seize opportunities for innovation to drive economic development?
Innovation embodied in rapid technological progress and industrial upgrading is the basis for structural changes in economic systems and economic transformation from a stagnant agricultural economy to a dynamic modern economy. Innovation means new or even groundbreaking inventions for a developed country whose technologies and industries have already been spearheading the world. Historical evidence shows that developed countries achieved an average annual per capita GDP growth of 2% through their own invention.
It should also work for developing countries, but inventions demand a huge amount of capital while incurring risks. Fortunately, developing countries, regardless of their economic system, have the advantages of latecomers which include lower opportunity cost of adopting the newest technology and convenience in absorbing mature technologies from advanced economies. No matter what kind of economic system a developing country adopts, to tap the above two potentials, enterprises must seize innovation opportunities according to the changes of comparative advantages in the market, and governments must help entrepreneurs to solve externalities and coordination problems, overcoming bottlenecks in infrastructure and related institution to reduce transaction costs and turn the comparative advantages from "potential" to "real".
Due to the constraints of available resources and implementation capacity, governments in developing countries with poor infrastructure and business environments need to play a facilitation role. One strategy is to invest in and build economic development zones and industrial parks where solid infrastructure and a good business environment are provided for industries with potential comparative advantages, to jumpstart rapid economic growth and provide the economic foundation for the improvement of infrastructure elsewhere and the reform and transformation of the superstructure. With this pragmatic approach, countries of any economic system are expected to achieve dynamic growth.
Given the advancement of AI and automation with robots replacing labor in most industries, developing countries should strive to transform their existing comparative advantage from "potential" to "real" as soon as possible. Developing countries should strive to achieve rapid economic growth and accumulate as much wealth and human capital as possible, improve infrastructure and reform their institutions to enable sufficient capital and a favorable environment when the time comes for full automation and robots to displace labor. Meanwhile, create new positions for displaced workers and remain competitive in a globalized world.
Ⅳ. THE ANSWER TO "DISTRIBUTION" IN THE STUDY OF COMPARATIVE ECONOMIC SYSTEMS
Inequalities between countries have decreased in recent years, but those within countries have increased. The current slowdown in social and intergenerational mobility, with businesses and the entire economic system trying to attract highly mobile capital, is putting labor at a disadvantage. At the same time, knowledge and professional skills become more important, diverging the workforce and putting low-skilled workers at a disadvantage. There has not been a systematic solution to the distribution problem. Could the study of comparative economic systems deal with these issues?
Promoting high-quality economic development, raising the income level of urban and rural residents, and narrowing the distribution gap are the requirements of common prosperity advocated by President Xi Jinping and are the dream of any country.
Countries with different economic systems may place different policy weights on efficiency and fairness due to values or ideologies. In new structural economics, the best way for a country to achieve dynamic, sustainable, and inclusive growth requires the following principles:
? Principle 1: Under the joint action of an efficient market and a capable government, develop the economy following comparative advantages, ensure market competition, and overcome the bottleneck of hard and soft infrastructure in technological innovation and industrial upgrading, to achieve both fairness and efficiency in the primary distribution.
? Principle 2: The state uses taxation for secondary distribution to further narrow the income distribution gap caused by inherited wealth, social network, and innate talent, and uses inheritance tax to reduce the intergenerational transmission of the gap between the rich and the poor. The value and ideology of the country determine the strength of the secondary distribution.
? Principle 3: Take social welfare undertakings as a means of tertiary distribution. Encourage mutual care and offer tax incentives for charitable donations.
In Principle 1, economic growth based on comparative advantages will minimize the production cost of enterprises. If the government can provide suitable software and hardware infrastructure and reduce transaction costs, enterprises will have the greatest competitiveness in domestic and international markets, which means the highest efficiency. More importantly, it creates the most employment and expands the fruits of economic development to the poor.
The low-income group mostly earns from labor, while the high-income group earns from capital returns, and this is one of the biggest differences between the two groups. Principle 1 accumulates capital fast but not the labor force, so wages rise fast, causing a rise in the relative price of labor to capital in favor of the working people.
In the rapid economic growth under Principle 1, there will also be rises in fiscal and tax revenue. Enterprises are self-sustaining in an open and competitive market, so there is no need for the government to protect or subsidize the enterprises, and then the increased revenue could be employed to solve the distribution issues. The government can use its available resources to stimulate and promote entrepreneurs’ technological innovation and industrial upgrading according to changes in comparative advantages, thereby creating more high-income jobs. It can also invest in education to improve the human capital of the poor, making them employable in higher-skilled jobs. Direct transfer through social welfare can also be provided to disadvantaged groups to mitigate the adverse distributional effects of individual endowments in wealth and ability.
Principle 3 is also desirable in the modern world. Due to rapid technological innovation and structural change, some technical and business geniuses are rapidly growing into the super-rich. Tax incentives should be provided to encourage philanthropic donations, which should also receive social recognition, for their own self-satisfaction and a better equal society.
Due to differences in the endowment structure and social culture of countries at different levels of development, their economic systems, and institutional arrangements are also different. The diversity of economic systems and institutional systems should be respected. People all over the world, no matter what economic system, share the dream of common prosperity. I do hope that the inherent drive for common prosperity and the competition among different economic systems will bring impetus to institutional reform and innovation for economic growth and social equity. The study of comparative economic systems will enhance our understanding of how economic systems work and contribute to the policy-making and institutional reform for development and equity in countries around the world.
The article was published on the Journal of Jiangnan University (Humanities and Social Sciences Edition). The views expressed herewith are the author’s own and do not represent those of CF40 or other organizations. It is translated by CF40 and has not been subject to the review of the author himself.
