BOOK REVIEW

The End of the Free Market
by
Ian Bremmer

FUTURECASTS online magazine
www.futurecasts.com
Vol. 12, No. 10, 10/1/10

Homepage

State capitalist nations:

 

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  That governments must play a leading role in national economies is a belief that is growing among ruling elites. The Credit Crunch recession and subsequent financial difficulties in the private relatively free market capitalist states have only strengthened that view.
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  Variations on the theme of state capitalism provide alternatives to private free market capitalism. The state capitalist approach is being adopted by an increasing number of nations, with China as the primary proponent.

  "In this system, governments use various kinds of state-owned companies to manage the exploitation of resources that they consider the state's crown jewels and to create and maintain large numbers of jobs. They use select privately owned companies to dominate certain economic sectors. They use so-called sovereign wealth funds to invest their extra cash in ways that maximize the state's profits. In all three cases, the state is using markets to create wealth that can be directed as political officials see fit. And in all three cases, the ultimate motive is not economic - maximizing growth - but political - maximizing the state's power and the leadership's chances of survival. This is a form of capitalism but one in which the state acts as the dominant economic player and uses markets primarily for political gain." (emphasis in original)

Real political freedom made encouraging advances with the demise of the Evil Empire and socialist autocracies, but autocratic systems remain in the majority and many democracies are too deeply flawed to provide real political freedom.

 

Authoritarian and autocratic systems are adjusting quite well to globalization and the internet.

 This development is not benign, Ian Bremmer asserts in "The End of the Free Market:: Who Wins the War Between States and Corporations?" State capitalism is a real threat to free markets and is becoming the dominant force in the global economy. China, Russia and the oil autocrats of the Persian Gulf are the primary state capitalist nations, but there are a host of lesser state capitalist nations as well.

  "[Public] wealth, public investment, and public ownership have made a stunning comeback. Governments dominate key domestic economic sectors. The oil companies they now own control three quarters of the world's crude-oil reserves. They use state-owned and favored privately owned companies to intervene in global markets for aviation, shipping, power generation, arms production, telecommunications, metals, minerals, petrochemical. and other industries. They own enormous investment funds that have quickly become vitally important sources of capital." (emphasis in original)

  Bremmer easily disposes of the intellectual one-world fantasies about triumphant democracy and the decline of nation states. Real political freedom made encouraging advances with the demise of the Evil Empire and socialist autocracies, but autocratic systems remain in the majority and many democracies are too deeply flawed to provide real political freedom.
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  Nor is the spread of democracy continuing. Indeed, for this generation, that spread seems to have run its course. Authoritarian and autocratic systems are adjusting quite well to globalization and the internet. Moreover, the nation state in all its forms remains the dominant form of political organization. Only the nation state enforces the rules of the game for its people and provides the infrastructure for their economic activities.
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 Rather than running roughshod over small countries, the biggest multinational corporations have absorbed major blows from developing nations.

  International organizations still have no power except that which nation states wish to bestow on them and provide. Nationalism remains alive and well around the world - much to the continuing discomfort of "one world" intellectual idealists. Rather than running roughshod over small countries, the biggest multinational corporations have absorbed major blows from developing nations. In recent decades both private corporations from emerging market states and corporations owned or influenced by the governments of developing nations have increasingly invaded the ranks of the world's largest and most influential corporations.

  "In other words, privately owned Western multinationals are in no danger of replacing the nation-state as the primary actors in international politics and global markets, because the state now owns and operates some of their largest competitors."

  Indeed,  sovereign wealth funds are often among the largest shareholders of the major multinationals. The Credit Crunch shifted financial decision making power massively from Wall Street to Washington and from other financial centers to national political capitals around the world.

  "[The] massive state-managed injections of capital were necessary to refloat a global economy unhinged by a massive failure to regulate international financial flows. Market advocates will now have to work that much harder to persuade skeptics that the world's richest states remain committed to free-market capitalism."

  The Credit Crunch recession is thus explained by Bremmer as a failure of regulation that permitted corporate and investment company managers to pursue short term results at the expense of the long term interests or their corporations and investors. After all, salaries and bonuses were based on making annual numbers.

  Yes, regulation failed. However, the primary causes of the Credit Crunch were the manifold ways in which government policies increasingly undermined market disciplines. Markets failed because government policies disabled the essential disciplinary functions of the markets and regulatory substitutes unsurprisingly were not up to the task of supplanting them.

  • Artificially low interest rates remove the essential disciplines of market interest rates;
  • government implicit and explicit credit guarantees create moral hazard that removes the fear of default from lenders, transforms creditors from credit market vigilantes to credit market enablers, and thus enables risky conduct with borrowed capital;
  • capital allocation schemes for the housing market fueled housing bubbles and subsequent housing inventory gluts;
  • tax advantages for debt capital create powerful incentives for the assumption of insane leverage as high as 30-to-1 or 40-to-1 or in the case of Fannie Mae and Freddie Mac, 50-to-1.

  Market disciplines are hardly perfect. There are always those who surrender to the temptation to roll the dice with borrowed money. However, market disciplines failed this time not just in particular instances but on a huge scale because government policies undermined them to such an extent that there was practically no discipline left.

"Are we on the verge of a new global struggle -- one that pits free-market capitalists and state capitalists in a battle to win over countries that might still tip either way? If so, who will win?"

  Bremmer raises the key question that FUTURECASTS has been raising for a decade already. How successful will state capitalism be? "Are we on the verge of a new global struggle -- one that pits free-market capitalists and state capitalists in a battle to win over countries that might still tip either way? If so, who will win?"
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  Bremmer defines state capitalism as "a system in which the state plays the role of leading economic actor and uses markets primarily for political gain." He carefully compares it to and contrasts it with mercantilism, which is also a system designed to build state wealth and power, but which frequently has no regard for the prosperity of the people.
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Mercantilism is akin to today's export forcing strategies for economic growth, but relied more on protectionist trade restraints, export subsidies, licensed monopolies, and imperialist control of foreign markets and governments.

 

Trade agreements have facilitated international trade and created the globalized markets that have spread prosperity broadly among all participating nations.

  Mercantilism was the dominant economic model from the early 16th century until the late 18th century when it was debunked by Adam Smith and David Hume. It is akin to today's export forcing strategies for economic growth, but relied more on protectionist trade restraints, export subsidies, licensed monopolies, and imperialist control of foreign markets and governments.
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  Mercantilism shattered on the rocks of corruption and political and bureaucratic imperatives (and the inherent ineptness of government and monopoly management). However, no nation has ever adopted anything remotely resembling pure free market capitalism. 

  "All have adopted some form of regulated free-market capitalist system. The debate now revolves around the relative merits of the Keynesian view that increased government spending and reduced interest rates can stimulate demand, minimize unemployment, and return a damaged economy toward its natural equilibrium."

  Keynesian policies clearly can achieve no such results. They failed in the 1970s and will similarly fail again during this next decade.

  Autocratic state capitalist systems generally employ more mercantilist methods to protect domestic commercial interests than are employed by governments of democratic free market nations. The damage such measures cause is epitomized by the infamous Smoot-Hawley tariff of 1930. (See, Great Depression: Summaries of Controversies and Facts. at Part I, "Causes and Cures.") Since then, trade agreements have facilitated international trade and created the globalized markets that have spread prosperity broadly among participating nations.
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  Nevertheless, major trading nations met Credit Crunch difficulties with a variety of mercantilist, state capitalist, industrial policy and similar wheezes. However, in free-market democracies, most of these measures are temporary and are being rapidly unwound - often at a profit for the governments. China, on the other hand, extended state control into new areas of its domestic economy. Protectionist burdens on commerce are much easier to impose and maintain in authoritarian state capitalist nations.
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  The U.S. and other democratic states are rushing to close barn doors. It remains to be seen whether the new regulatory regimes will be more beneficial or more burdensome and further diminish the power and influence of free market capitalist systems.

  The new federal financial reforms have tightened the grip of Congress on the supposedly independent Federal Reserve System making the System even more vulnerable to noxious political influences.

Even under the stresses of the Credit Crunch, recourse to protectionist policies was minimal and globalization was not under threat.

 

While there is generally a higher regard for the prosperity of the people than under the old mercantilist states, the primary purpose of state capitalism remains the acquisition of power and wealth for the ruling elite and those with political influence.

  Export-forcing strategies today reject wholesale protectionism. "Today, no one in charge in any of the world's leading industrial nations doubts the power of trade and investment to fuel prosperity in several countries at once." Even under the stresses of the Credit Crunch, recourse to protectionist policies was minimal and globalization was not under threat.

  "Mercantilism is dead, but its influence continues. Governments are again intervening in their economies to promote declared national interests, and they have found subtler and more effective ways to practice protectionism. Even states considered among the world's foremost advocates of trade liberalization and free-market capitalism refuse to yield ground on especially sensitive trade issues."

  Subsidies and tariff protectionism  are especially pernicious in the agricultural markets of the advanced nations. State capitalist nations justify their wider array of protectionist measures by referring to wealthy nation agricultural policies. However, state capitalist systems share many of the weaknesses of mercantilist systems precisely because of their greater dependence on a wide variety of protectionist and other mercantilist measures. While there is generally a higher regard for the prosperity of the people than under the old mercantilist states, the primary purpose remains the acquisition of power and wealth for the ruling elite and those with political influence.

  "As with mercantilism, state capitalists use markets to build state power. Forced to choose between protection of the rights of the individual, economic productivity, and the principle of consumer choice, on the one hand, and the achievement of political goals, on the other, state capitalists will choose the latter every time. They reason that if political survival doesn't depend on this choice today, it might tomorrow."

  There are no sharp borders among these categories, Bremmer emphasizes. Liberal capitalist systems are today predominantly mixed economies with government interventionist policies that vary in extent and type. (See, Scott, Concept of Capitalism.) Policies that favor exports and hinder imports vary in extent and type but are widely employed. On the other hand, state capitalist nations vary in the extent to which they obstruct, permit and facilitate their private market sectors.

  "That said, there are crucial differences among countries in how their governments regulate commercial activity and in their power to extend their influence."

  There have been major shifts in favor of free markets since the end of the cold war. Gains have been especially prominent among the European states that had been Soviet satellites. Among those attracted to and joining the European Union, developments have included political liberalization as well as economic liberalization.
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  However, China has confined liberalization to the economic sphere and retains extensive control and influence within its state capitalist system. (Russia has moved sharply back and forth, currently settling as a thugocratic state capitalist system.) Privatization has been beneficially extensive in such nations as India, Brazil, Turkey, South Korea and South Africa, where it has been accompanied to varying degrees by similarly beneficial reductions in subsidies, regulations and monopoly practices.
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  The IMF and World Bank have been influential in encouraging economic liberalization in developing nations. The advanced nations, too, shifted in varying extent in favor of economic liberalization. Nevertheless, it is still true that most nations have some elements of both economic models.
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Natural tendencies towards abuse of credit were not only freed of regulatory restraints but were actually favored by regulatory reforms and government policies.

  The Credit Crunch recession has stopped and even reversed the liberalizing movement in the U.S. and Europe. The recession discredited free market capitalism in many second world developing and third world undeveloped nations. After all, regulatory failures and a lack of regulation clearly played major roles in the recession. (The extent to which it was government policies that undermined the markets is being determinedly ignored.)
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  Natural tendencies towards abuse of credit were not only freed of regulatory restraints but were actually favored by regulatory reforms and government policies. In response, "policy makers and legislators in Europe and America have embarked on the largest state economic intervention since the 1930s." However, these interventions are designed to restore and sustain free markets, not to displace them. Whether or not the policies are wise is a separate question.

  "There is clear political consensus among U.S. lawmakers of both political parties that once the banking, automotive, and other troubled sectors and companies can safely be removed from the endangered species list, government should restore their independence and allow them to compete." (Of course, they now "compete" with the considerable advantage of taxpayer guarantees for their debt.)

There is thus a sharp distinction where the markets enable people to prosper and where markets are just tools to achieve the goals of the ruling elite.

  Japan is an advanced free market country that nevertheless has extensive government economic involvement, Bremmer points out. The Scandinavian states have extensive social welfare and wealth redistribution policies and labor market protections but nevertheless remain free trade and free market states and expect their companies to be competitive in international markets. France to varying degrees has favored government industrial policy interventions, but has nevertheless privatized many of its state-owned enterprises and the vast majority of French companies do business without direct government intervention.
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  There is thus a sharp distinction between systems where government may employ some state capitalist measures temporarily to deal with wars, economic contractions or panics or other emergencies and systems where government intervention is permanent, Bremmer emphasizes. There is thus a sharp distinction where the markets enable people to prosper and where markets are just tools to achieve the goals of the ruling elite.
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  State capitalism is pragmatic rather than ideological, and is risk averse as one would expect where maintaining domination of whole populations is the primary objective.

  "It's no accident that the two most internationally influential of them are China and Russia, countries that have only recently shed communism and embraced markets. Fear of chaos long predates communism in China, and a tradition of secrecy and centralized control has shaped Russian political life for centuries. It's little wonder, then, that when governments in Beijing and Moscow finally decided to welcome the increasingly free flow of ideas, information, people, money, goods, and services from beyond their borders, they would try their best to control these processes -- and to carefully micromanage the risks they create. - - - [This] organic relationship between state capitalism and autocracy is also visible within the Arab monarchies of the Persian Gulf, where personal, political, and commercial interests are tightly interwoven within royal families. It's also visible in energy-rich authoritarian states like Iran, Venezuela, and others."

  There is no temptation, however, to return to socialism. Ruling elites want control, but they want control over economies that are dynamic and innovative.

  "Those who practice state capitalism know, often from bitter personal experience, that command economies are bound to fail eventually, because governments can never direct supplies of scarce resources and attach values to goods and services as efficiently and intelligently as markets can. Instead of eliminating markets, they try to harness them for their own purposes."

  Singapore demonstrates that an autocratic government can rule in a free market state, but most autocracies opt for state capitalism.
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State capitalist methods:

  The "tools" of state capitalism generally include control over oil and other natural resource corporations, state owned enterprises, privately owned but publicly supported "national champions," and sovereign wealth funds.
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Russia's giant Gazprom natural gas monopoly controls 25% of Europe's supplies and almost all of Ukraine's.

 These elements are also found in predominantly free market states, but to a considerably lesser extent.. "In the United States, the Postal Service, Amtrak, and the Corporation for Public Broadcasting are all essentially state-run enterprises." However, state capitalist governments use such resources for political rather than economic purposes.
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  Three quarters of known oil reserves are owned by national oil companies. They finance many autocratic governments, including some of the most noxious despotisms. They are frequently grossly mismanaged. In such nations as Iran, Mexico and Venezuela, they are being run into the ground. In nations like Brazil, Algeria and Malaysia, however, management is professional and relatively free from government interference and thus the oil companies fare much better. Norway's nationally owned oil company is run like a private company.
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  In other instances, private multinational oil companies are hired to service the operations of state owned natural resource companies. In China, the national oil companies seek access to reserves abroad in competition with private multinationals. Russia's giant Gazprom natural gas monopoly controls 25% of Europe's supplies and almost all of Ukraine's. It is a tool of Russian foreign policy and has been used as a weapon in diplomatic disputes. Around the world, nations have been forcing private multinationals to surrender large interests in their local operations. However, they leave the multinationals with enough incentive to assure continued efficient management of the operations.

  "State capitalism pushes oil prices higher, and higher oil prices enrich the resource-rich governments that practice state capitalism. Their added wealth -- and their increased geopolitical importance for countries that need their energy supplies -- allow countries to behave more aggressively on the international stage.  - - - When prices fall, the risk arises that these same countries will face market-moving political instability -- and they will divert still larger shares of 'their' oil revenue toward spending projects meant to restore order."

  State owned enterprises are commonly found among other types of natural resource companies, public utilities, banks, and automotive manufacturers.
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  "National champions" are another tool of state capitalism. These are privately owned but often have substantial stakes held by government. They enjoy government backing for credit, obtaining contracts, arranging mergers and acquisitions, obtaining concessions and legal and regulatory advantages, and much more. In return, they support various government policies which, for all their advantages, will frequently get them into trouble.
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  Sovereign wealth funds feed off the torrent of dollars that flow out of the United States. The world is awash in dollars because of the monetary inflation in the U.S. and the balance of payments deficits that monetary inflation causes. The torrent of dollars is amassed in the growing reserves of balance of payments surplus nations.
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  Increasingly, these nations are not content with holding these reserves in low return U.S. sovereign debt instruments. Instead, they create sovereign wealth funds that make investments in a variety of assets, sometimes for political or diplomatic policy purposes rather than just for economic gain.

  The surge in U.S. monetary inflation thus increases the political strength and diplomatic influence of payments surplus nations, many of which are not particularly friendly to the U.S. or which are actively opposed to U.S. diplomatic objectives.

  Bremmer briefly reviews the wide range of political purposes that sovereign wealth funds can be used to support. The largest funds are found in state capitalist nations, most of which do not disclose their financial information.
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  Bremmer points out that sovereign wealth funds were just as heavily hit by Credit Crunch losses as their private counterparts. Estimates of size and recent earnings and losses are frequently just guesstimates. Estimates at the time of publication of this book put total sovereign wealth fund size as between $2.5 trillion and $4 trillion, and growing rapidly. Political management generally lacks the skills of professional management, and professional management in these funds - as in all state capitalist corporations - must always meet political objectives.

  "[However] they were chosen, those who manage these companies and institutions must ultimately answer to a political patron, someone who measures performance by how well it satisfies the state's political goals. Those that succeed are rewarded with generous state subsidies and a dominant -- and protected -- position within a particular economic sector, further tilting the playing field by allowing these companies to crowd out competition from privately owned foreign and domestic potential rivals that operate on a purely commercial basis. In the process, politics trumps efficiency, entrepreneurship, and innovations."

  Government management is inherently inept.

The challenge:

 

 

 

 

 

 

 

 

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  Western bailouts of "too big to fail" companies and banks don't mean that Western systems are changing into state capitalist systems.

    "[Their] number pales beside the number of state- and privately owned companies that received emergency funding from China's government or the number of factories, plants, and banks that the Russian government and loyal oligarchs have infused with new cash. In many cases, these political officials are throwing good money after bad."

  That's indeed what happens even for Western state capitalist entities. Fannie Mae and Freddie Mac are the state capitalist entities heavily involved in the Credit Crunch in the U.S., and they continue to hemorrhage tens of billions of dollars each quarter because their political masters refuse to wind them up.

  The influence of the oil price shocks during the 1970s is viewed in the conventional manner by Bremmer. Like so many others, he confuses cause and effect. He cites the Great Inflation of the 1970s as an example of the problems that state capitalist policies can cause for the Western advanced nations.

  In fact, it was the monetary inflation in the U.S. and the consequent balance of payments deficits that enabled OPEC's oil embargoes. With inflation and artificially low real interest rates, oil in the ground became more valuable than oil produced even at high 1970s prices. As soon as monetary policy austerity was instituted by Paul Volcker in 1980, real interest rates surged higher, oil prices collapsed and there could be no oil embargo in reaction to the Israeli incursion into Lebanon. Without U.S. monetary inflation, oil produced was worth more than oil in the ground - even at low 1980s prices,.

  Oil price inflation funded the Soviet Union's expanding influence and activity during the 1970s, Bremmer correctly points out. Monetary inflation in the U.S. weakens the U.S. and strengthens many of its adversaries.
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  Emerging market nations are quite comfortable with and are attracted to various aspects of state capitalism.  Bremmer explains that most of them have a history of direct government intervention in economic systems. Their current commitment to free market systems, such as they may be, often remain tentative.

  "Their political cultures predisposed them to the conviction that key economic sectors should remain under effective government management -- in part to avoid exploitation by U.S. and European capitalists."

  The institutional foundation for economic liberalization remains weak or absent in most emerging market nations. Rule of law, independent court systems, free press, and transparency requirements are often not supported or are actively opposed by government. Political factors matter at least as much as economic fundamentals.
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  The characteristics of state capitalism vary widely among such nations as Argentina, Venezuela, Ecuador, Bolivia and Vietnam. Bremmer provides interesting details pertinent to systems in China, Russia, Saudi Arabia, the United Arab Emirates, Egypt, Algeria, Ukraine, India, South Africa, Nigeria, Brazil, Indonesia and Malaysia. He discusses the varying economic and political impacts and the very real practical difficulties of establishing a liberal free market economy where none had existed before. With respect to Ukraine, he explains:

  "As in any country still struggling to build a dynamic economy from the ashes of communism, it's much easier to promise reform than to deliver it. The privatization of large state-owned enterprises can put large numbers of people out of work, leaving elected officials vulnerable to populist attacks from political rivals. The drafting of laws and regulations intended to promote economic growth and protect the fairness of market operations is subject to all kinds of pressures from powerful vested interests. Enforcement of regulations can be arbitrary. The judicial system remains vulnerable to coercion from both the political and business elites, and corruption is a constant problem."

"As long as oil prices are high enough to finance Russian state capitalism, the country will remain stable, but a lasting economic slowdown could force a day of political reckoning."

  Resource nationalism is relied upon by many state capitalist nations to sustain an otherwise dysfunctional state capitalist sector. Russia is a prime example.

  "After the creation of so many enormously powerful political and economic stakeholders, dismantling the current order would produce the kind of internal conflict that the Kremlin desperately wants to avoid. As long as oil prices are high enough to finance Russian state capitalism, the country will remain stable, but a lasting economic slowdown could force a day of political reckoning."

  After its experience during the 1980s, Russia has wisely accumulated vast financial reserves to meet such challenges, but natural resource states like Iran and Venezuela remain clueless.

  State capitalist elements in democratic nations are reinforced and preserved by internal politics, the natural desire of politicians to hold levers of power, and the powerful public employees unions that organize state controlled entities. In nations like India and Mexico, widespread public belief in socialist ideology remains sufficiently strong to obstruct market reforms and suppress the economy. On the other hand, democratic processes and checks and balances limit the extent to which democratic governments can use and abuse state capitalist entities.
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China:

 

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  However, it is China and the evident success of the Chinese model that gives state capitalism its ideological attractiveness and increasing international influence. China's rapid rise as a financial and regional military powerhouse based on its economic success creates a growing challenge to Western international policy.
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China is dependent on the prosperity of its broader economy for its financial resources.

  The Chinese system was accurately explained by Chinese Premier Won Jiabao.

  "The complete formulation of our economic policy is to give full play to the basic role of market forces in allocating resources under the macroeconomic guidance and regulation of the government. We have one important piece of experience of the past thirty years, that is to ensure that both the visible hand and the invisible hand are given full play in regulating the market forces."

  China is to a great extent a natural resources importer, not a natural resources exporter. It searches worldwide for secure sources of natural resources. Thus, it is dependent on the prosperity of its broader economy for its financial resources. The government thus actively facilitates the success of both its private capitalist and state capitalist sectors.

  "Since 1978, the Chinese Communist Party leadership has. by fits and starts, enabled market forces to shape the country's domestic economy and opened China to foreign trade and investment. In the process, it has leveraged its enormous population and low labor costs to become a fast-emerging economic powerhouse. But it has also created internal vulnerabilities that Mao Zedong-era bureaucrats could never have imagined. - - - The Chinese leadership's fear of anarchy is not abstract; it's a powerful force that prevents China's state capitalists from fully embracing free markets. Then again, why should Chinese leaders abandon a system that has profited them so handsomely?"

  Chinese leaders know that only market forces can assure the economic growth and prosperity that ensures popular political support and provides for China's growing influence and power. However, these market forces are directed primarily to serve the state's development goals and not merely private financial  interests. This is industrial policy writ large.

  "In other words, China isn't simply open for business. Its political elite embarked years ago on a strategy to engineer China's development, and it is using state-owned companies, sovereign wealth funds, and domestic political control to do it." (emphasis in original)

The success of the Chinese model is demonstrated by its accumulation of $2 trillion in foreign exchange.

  The government controls the banking system and banking practices, engages in macroeconomic planning and even in price controls, and maintains a massive state-owned companies sector. These businesses benefit from state subsidies, the active support of the Chinese government, and the ability to do business with the world's most noxious regimes.

  "[These] state-owned enterprises can do business in countries where Western multinationals can't go. The governments of Iran, Sudan, Burma, Zimbabwe, and others face U.S. and European pressure to change their political behavior. But China, which has never welcomed Western criticism of its own political system or human-rights practices, has the cash, the influence, and the willingness to do business to lock up investment contracts in all these places. Having invested in these countries, China then has a material interest in blocking U.S. and European efforts to pressure them."

  China now procures natural resources from sources world wide regardless of political orientation of the sources. It has one major natural resources export - rare earths. This market is tiny but these substances are increasingly essential for 21st century electronics. China supplies more than 90% of these essential substances. (Rare earths are available elsewhere, and it would not take much of a price increase to bring new sources on line.)
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  The success of the Chinese model is demonstrated by its accumulation of $2 trillion in foreign exchange.
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  Nationalism is very strong in China. Nationalism supports protectionist tendencies both formal and informal. Access to the Chinese market is always problematic for foreign companies once Chinese competitors are developed.
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  The Credit Crunch recession has led to a massive expansion of the state capitalist sector. State owned and controlled enterprises benefited from bailouts and stimulus spending and the state acquired major stakes in troubled private owned enterprises.

  "This state-capitalist model will rule the day for many years to come. because China's leaders believe it's the only system that can satisfy their long-term political needs. They know the private sector is indispensable for sustainable growth and that China's rise could not have happened and cannot continue without huge volumes of trade and foreign  investment. But the financial crisis only further persuaded them that enlightened state economic management will protect them from the natural excesses of free-market capitalism. That's why both the visible and invisible hands will continue to guide the country's twenty-first century development -- and why Western governments and companies will be negotiating with China's economic engineers for many years to come." (emphasis in original)

The challenge from China:

  China has become a "status quo power," according to Bremmer.
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  China is thus unlikely to become involved in serious military confrontation with the U.S. Wars are bad for business.

  "If its leadership's primary goal is to bolster its political control by generating prosperity for the Chinese people, why would it allow anything short of the most dire and immediate threat to its territorial integrity to ignite a military conflict that would sever its complex web of commercial ties with countries all over the world -- and, in particular, with its largest trading partners: the European Union, the United States, and Japan?"

  Is Bremmer guilty of wishful thinking here? History is full of expanding powers that did not allow commercial considerations to constrain military ambitions.

  As for Taiwan, China is making excellent headway through commercial ties to that island and thus has no need for a destructive conflict. Despite the impressive increase in China's military capabilities, it still has no means to project power beyond its region and is far short of American capabilities.

  China has claims to the entire South China Sea that it is preparing to enforce with military power. It also claims a significant section of northeast India. It is well to hope for the best but it is wise to be prepared for whatever China might ultimately do.

China and other developing states are cutting into U.S. political, economic, and cultural hegemony. "Washington has seen its great power advantages shrink, at least on a relative basis."

  Globalization has created commercial dependencies that are vulnerable. The U.S. uses commercial sanctions against noxious regimes. Russia cuts off fuel to Georgia and raises natural gas prices for Ukraine. Chinese consumers boycott French products in reaction to demonstrations in France involving China's Olympic torch. Muslims boycotted Danish products when a Danish cartoon insulted the prophet Mohammed. Thus, it is not surprising that China can and does use its commercial and state capitalist powers in ways that further its foreign power agenda. 
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  China's commercial and state capitalist activities often frustrate Western foreign policy objectives. China and other developing states are cutting into U.S. political, economic, and cultural hegemony. "Washington has seen its great power advantages shrink, at least on a relative basis."

  "If all these emerging powers embrace free-market capitalism, America might still hold a somewhat smaller piece of a much bigger pie. The risk for the United States -- and for free-market democracies generally -- is that distortions created by state capitalism will ensure that the pie isn't expanding quickly enough to accommodate all the new mouths it will soon be expected to feed. That will threaten not just standards of living, but eventually perhaps the security of the world's free-market democracies."

  There is still no reason to favor state capitalism over the free market, Bremmer points out, whatever the immediate successes of China's state capitalist model.

  "[Governments] use the tools provided by state capitalism to accomplish political goals, not to serve the public welfare. This system allows them to minimize the political risks they face by maximizing their control over activities that generate substantial amounts of wealth. That's not a formula for producing more efficient or more equitable economic performance." (emphasis in original)

  China responded to the Credit Crunch not just by expanding its state capitalist segment, but also by some further liberalization of its economy. It privatized urban housing ownership and spent heavily on infrastructure to facilitate economic activity. Nevertheless, in China and Russia, political bureaucrats dominate economic decision making in vital economic sectors like banking, communications and mass transportation that remain terribly inefficient.

  "[State] capitalism is burdened with its own brand of shortsighted, short-term thinking, especially when powerful players within the system have their own set of incentives for earning short-term rewards. The injection of hundreds of billions of dollars can kick-start any developing economy, but the problems that threaten future growth continue to metastasize."

Conclusion:

 

 

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  The primary challenge of state capitalist systems is not so much economic as political. Bremmer reviews a long list of horribles that might occur if the major state capitalist nations decide to use their economic muscle in ways that undermine fundamental Western interests. Already, the willingness of the state-capitalist nations to do business with the world's most noxious despots has brought the post-cold-war spread of democratic systems to a halt.
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  But state capitalist systems are inherently afflicted with far more weaknesses than free market systems. Corruption, rigidity, and placing political considerations ahead of economic considerations afflict autocratic systems more than democratic systems, and afflict the state capitalist segments of all economic systems more than the free market segments. (This can be seen most clearly with Fannie Mae and Freddie Mac.)
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Any enlargement of the G-7 must include state capitalist systems like China and Russia that have very different economic interests than the current G-7 advanced nations.

  The rise of major second world developing nations has rendered obsolete the G-7 advanced nations coordinating group. Nations like China, Russia, Brazil and India can no longer credibly be excluded.
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  On the other hand, the G-20 is not a practical substitute. It includes many minor economic powers and is in any event too large to ever reach significant agreements. However, any enlargement of the G-7 must include state capitalist systems like China and Russia that have very different economic interests than the current G-7 advanced nations. The major developing nations are also insisting on enlarged roles in existing international institutions like the IMF to reflect their growing economic power and contributions.
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  Clearly, China is the leading state capitalist power. Bremmer provides a brief outline of its impressive achievements and the equally impressive challenges to its economic and political system.

  "In the end, it's much more likely that the Chinese leadership will have to reconsider core assumptions about government's role in an economy than that the leaders in the United States will retreat fundamentally from free market principles."

  For the next few decades, the influence of growing state capitalist systems like China will increase. Bremmer believes this will strengthen nationalist and protectionist tendencies that will limit if not threaten globalization. Natural resource nationalism was already familiar prior to the Chinese transformation but is now increasing in scope. However, this succeeds only where it is easy enough to manage and easy enough to exploit for government bureaucrats to succeed at it. It is still the private sector that provides adaptability, innovation, and cutting edge expertise.
 &

Bremmer emphasizes the importance of continuing to make the case "that only genuinely free markets can generate broad, sustainable, long-term prosperity."

 

The protectionist interests that are always with us must be resisted so nations may prosper within an increasingly prosperous world.

  The superiority of free markets will continue to be broadly demonstrated by events, and Bremmer emphasizes the importance of continuing to make the case "that only genuinely free markets can generate broad, sustainable, long-term prosperity." For meeting current economic challenges, he offers a broad array of suggestions (some of which are of dubious value).
 &
  Above all, he correctly emphasizes, the protectionist interests that are always with us must be resisted so nations may prosper within an increasingly prosperous world. Trade liberalization policies must continue. Agricultural subsidies in the U.S. and EU are primary obstacles that should be removed. (Good luck!) Remaining U.S. restrictions on international trade and investments undermine the U.S. role as the champion of free market capitalism and globalization.
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  Trade relations with China are especially important. Disputes over China's mercantilist practices must be pursued properly and without threats of punitive actions that could undermine a commercial relationship that is in any event of great mutual advantage. A general breakdown of this relationship would amount to "mutually assured economic destruction." That threat alone creates a powerful incentive for both sides to manage their relationship carefully.
 &

  It is U.S. military strength that still provides an essential security umbrella for allied and friendly nations, deters cross-border adventures by the world's noxious despots, and keeps the sea lanes open for world commerce. Military strength thus continues to support U.S. soft power leadership as well as its hard power security interests.

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  Copyright 2010 Dan Blatt