Wednesday, March 25, 2009

Capitalism Beyond the Crisis

Amartya Sen, Harvard University
New York Review of Books, 3/26/09

2008 was a year of crises. First, we had a food crisis, particularly threatening to poor consumers, especially in Africa. Along with that came a record increase in oil prices, threatening all oil-importing countries. Finally, rather suddenly in the fall, came the global economic downturn, and it is now gathering speed at a frightening rate. The year 2009 seems likely to offer a sharp intensification of the downturn, and many economists are anticipating a full-scale depression, perhaps even one as large as in the 1930s. While substantial fortunes have suffered steep declines, the people most affected are those who were already worst off.

The question that arises most forcefully now concerns the nature of capitalism and whether it needs to be changed. Some defenders of unfettered capitalism who resist change are convinced that capitalism is being blamed too much for short-term economic problems—problems they variously attribute to bad governance (for example by the Bush administration) and the bad behavior of some individuals (or what John McCain described during the presidential campaign as "the greed of Wall Street"). Others do, however, see truly serious defects in the existing economic arrangements and want to reform them, looking for an alternative approach that is increasingly being called "new capitalism."

The idea of old and new capitalism played an energizing part at a symposium called "New World, New Capitalism" held in Paris in January and hosted by the French president Nicolas Sarkozy and the former British prime minister Tony Blair, both of whom made eloquent presentations on the need for change. So did German Chancellor Angela Merkel, who talked about the old German idea of a "social market"—one restrained by a mixture of consensus-building policies—as a possible blueprint for new capitalism (though Germany has not done much better in the recent crisis than other market economies).

Ideas about changing the organization of society in the long run are clearly needed, quite apart from strategies for dealing with an immediate crisis. I would separate out three questions from the many that can be raised. First, do we really need some kind of "new capitalism" rather than an economic system that is not monolithic, draws on a variety of institutions chosen pragmatically, and is based on social values that we can defend ethically? Should we search for a new capitalism or for a "new world"—to use the other term mentioned at the Paris meeting—that would take a different form?

The second question concerns the kind of economics that is needed today, especially in light of the present economic crisis. How do we assess what is taught and championed among academic economists as a guide to economic policy—including the revival of Keynesian thought in recent months as the crisis has grown fierce? More particularly, what does the present economic crisis tell us about the institutions and priorities to look for? Third, in addition to working our way toward a better assessment of what long-term changes are needed, we have to think—and think fast—about how to get out of the present crisis with as little damage as possible.

What are the special characteristics that make a system indubitably capitalist—old or new? If the present capitalist economic system is to be reformed, what would make the end result a new capitalism, rather than something else? It seems to be generally assumed that relying on markets for economic transactions is a necessary condition for an economy to be identified as capitalist. In a similar way, dependence on the profit motive and on individual rewards based on private ownership are seen as archetypal features of capitalism. However, if these are necessary requirements, are the economic systems we currently have, for example, in Europe and America, genuinely capitalist?

All affluent countries in the world—those in Europe, as well as the US, Canada, Japan, Singapore, South Korea, Australia, and others—have, for quite some time now, depended partly on transactions and other payments that occur largely outside markets. These include unemployment benefits, public pensions, other features of social security, and the provision of education, health care, and a variety of other services distributed through nonmarket arrangements. The economic entitlements connected with such services are not based on private ownership and property rights.

Also, the market economy has depended for its own working not only on maximizing profits but also on many other activities, such as maintaining public security and supplying public services—some of which have taken people well beyond an economy driven only by profit. The creditable performance of the so-called capitalist system, when things moved forward, drew on a combination of institutions—publicly funded education, medical care, and mass transportation are just a few of many—that went much beyond relying only on a profit-maximizing market economy and on personal entitlements confined to private ownership.

Underlying this issue is a more basic question: whether capitalism is a term that is of particular use today. The idea of capitalism did in fact have an important role historically, but by now that usefulness may well be fairly exhausted.

For example, the pioneering works of Adam Smith in the eighteenth century showed the usefulness and dynamism of the market economy, and why—and particularly how—that dynamism worked. Smith's investigation provided an illuminating diagnosis of the workings of the market just when that dynamism was powerfully emerging. The contribution that The Wealth of Nations, published in 1776, made to the understanding of what came to be called capitalism was monumental. Smith showed how the freeing of trade can very often be extremely helpful in generating economic prosperity through specialization in production and division of labor and in making good use of economies of large scale.

Those lessons remain deeply relevant even today (it is interesting that the impressive and highly sophisticated analytical work on international trade for which Paul Krugman received the latest Nobel award in economics was closely linked to Smith's far-reaching insights of more than 230 years ago). The economic analyses that followed those early expositions of markets and the use of capital in the eighteenth century have succeeded in solidly establishing the market system in the corpus of mainstream economics.

However, even as the positive contributions of capitalism through market processes were being clarified and explicated, its negative sides were also becoming clear—often to the very same analysts. While a number of socialist critics, most notably Karl Marx, influentially made a case for censuring and ultimately supplanting capitalism, the huge limitations of relying entirely on the market economy and the profit motive were also clear enough even to Adam Smith. Indeed, early advocates of the use of markets, including Smith, did not take the pure market mechanism to be a freestanding performer of excellence, nor did they take the profit motive to be all that is needed.

Even though people seek trade because of self-interest (nothing more than self-interest is needed, as Smith famously put it, in explaining why bakers, brewers, butchers, and consumers seek trade), nevertheless an economy can operate effectively only on the basis of trust among different parties. When business activities, including those of banks and other financial institutions, generate the confidence that they can and will do the things they pledge, then relations among lenders and borrowers can go smoothly in a mutually supportive way. As Adam Smith wrote:

When the people of any particular country have such confidence in the fortune, probity, and prudence of a particular banker, as to believe that he is always ready to pay upon demand such of his promissory notes as are likely to be at any time presented to him; those notes come to have the same currency as gold and silver money, from the confidence that such money can at any time be had for them.[1]

Smith explained why sometimes this did not happen, and he would not have found anything particularly puzzling, I would suggest, in the difficulties faced today by businesses and banks thanks to the widespread fear and mistrust that is keeping credit markets frozen and preventing a coordinated expansion of credit.


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