A recent article by Charitha Ratwatte in the daily “Financial Times”published by Wijeya newspapers provides interesting reading about Corporatism and State Capitalism. It also focuses on various aspects of the current Chinese Corporatist model
The writer describes facets of Chinese model in progress known as the “Beijing Consensus” and ponders about the future of Sri Lanka as the economic crisis worsens.
He also points to straws in the wind indicating the Country moving more towards State capitalism and pinpoints the flaws
As many of you know, Charitha Ratwatte a lawyer by profession has over 30 years experience as a Chief Executive Officer in boh government and private sectors. Ratwatte a former Secretary of the Finance ministry is currently the managing director of the Sri Lanka Business Development Centre.
I am reproducing Charitha Ratwatte’s insightful article on myBlog with due acknowledgement to the writer and the Financial Times.
Here it is Friends-DBS Jeyaraj
Will Sri Lanka Shift more Towards State Capitalism as Economic Crisis Worsens?
By Charitha Ratwatte
Benito Mussolini, the fascist ruler of Italy, during World War II, said that his brand of fascism ‘should be more appropriately called Corporatism, because it is a merger of state and corporate power’Compare this with the dictionary definition of capitalism: ‘A system in which a country’s business and industry are controlled and run for profit by private owners rather than by government’ in a liberal democratic governance environment.
Capital is privately owned and traded, the owners could decide on the best way to utilise it, using the foresight of entrepreneurs and innovative thinkers. Statism on the other hand is a system in which the government involvement in business and industry is overwhelming, but the system of government is democratic or at least not fascist.
It was Jean-Baptise Colbert, the Finance Minister of France ’s Louis the XIV, who first invented the statist idea of economic interventionism by the state, calling it dirigisme. Over time it has come to be an economic term designating an economy where the state power exerts strong directive influence, and even more, ownership or joint ownership of enterprises. It applies to mainly capitalist economies with strong economic participation by the government.
The shift of power to make decisions on the utilisation of capital from owners and innovators to state officials is the very antithesis of capitalism. Corporatism chokes off the dynamism that makes for engaging work, faster economic growth and greater opportunity and inclusiveness.
In a capitalist economy, the government’s obligation is to set the policy framework within which business and industry can operate subject to law, and by taxation, both direct and indirect, utilise funds raised by such taxation, in an open transparent and accountable manner to supply what economists describe as ‘public goods’ to the population at large.
Such ‘public goods’ are goods and services which are neither excludable – people cannot be prevented from using the goods or accessing the service – and are non rival in consumption – one person’s use does not reduce another’s ability to use it. Examples of such public goods and services would be a tsunami warning siren, a fireworks display open to the public, national security, etc
Whether corporatist or statist, state ownership of enterprises which could be run as private firms places a heavy toll on a country’s bureaucracy. The responsibility of managing such State-Owned Enterprises (SOE) is in most cases the responsibility of the country’s professional bureaucracy.
But in some cases, politicians appoint handpicked managers of their political thinking, to manage such enterprises and this leads to what is described as crony capitalism.
An SOE can be defined as a government owned or government controlled economic entity that generates the bulk of its revenues by selling goods and services to consumers. These are commercial enterprises of which the government controls management by virtue of its ownership stake.
The government may even hold a controlling share of the enterprise through departmental holdings or holdings of other SOEs or government controlled captive funds, like the EPF and the ETF.
Such SOEs are not a new idea; Britain ’s East India Company is one of the originals. Today the crisis of capitalism presently causing blight in the world’s economies has resulted in the emergence of the state as a major player in business.
The world’s 10 biggest oil and gas firms, measured by reserves, are all state owned. State capitalisms supporters argue that the system provides stability and growth.
Lee Kuan Yew’s Singapore is the poster boy for state capitalism with a human face. The People’s Republic of China, post Deng Xiaoping, is the much touted model for corporatism, just falling short of fascism by a whisker.
State capitalism can work well only when it is directed by a competent state – e.g. Singapore . Kleptocratic states rip off the system for the benefit of politicians and their cronies.
In Russia , a group described as ‘Bureau-garchs’ – a combination of bureaucrats and oligarchs, mostly ex-KGB types – have the Russian economy in a vicelike grip. A strong, effective and efficient bureaucracy is essential if the state is today to play an effective role. How many countries today have this?
SOEs or corporates in which the state has a controlling share have a very high profile in many of the world economies. Reflections of this are their corporate headquarters buildings which tower over the world capital cities.
In Beijing the China Central Television building towers over the city. In Kuala Lumpur it is the 88-storey Petronas twin towers. In Moscow the head office of the banker VTB dominates the skyline in the financial district. By its side stands the Sberbank tower. In Dubai is the Burj Khalifa tower. In Colombo we will soon have the Lotus Tower which will house the telecommunication regulator.
The greatest strength of the democratic capitalist model is the space provided in the system for what Schumpeter called ‘creative destruction’. This is a self-regenerating mechanism which allows uncompetitive industries to die and labour and capital to move on to more competitive areas.
Resources and ideas are free to recombine in new forms which will provide goods and services developing market demand requires. There is no artificial keeping alive of irrelevant enterprises by pumping scarce resources, mainly taxpayers’ money, which is the greatest weakness in corporatism and state capitalism.
Creative destruction and regeneration is as organic as human evolution, it sustains an ever expanding, evolving economic process.
It is when the evolution of creative destruction is interfered and tampered with that enterprises are artificially kept alive after they have lost their relevance and there is no demand for their products that the worst aspects of corporatism comes into play.
Public money is invested, political cronies are appointed to manage them and an unending downward spiral begins. State capitalists fear creative destruction. They cannot control it.
Government controlled entities develop cronies within the administration, decision making is skewered, decisions are taken not on economic logic or merit but just to sustain the cronies, the work force and dying businesses.
Taxpayers’ money is the oxygen, at tremendous cost to the taxpayers, who should be getting better services from their tax money, not have taxes being used to sustain rusting industries.
Corporatism at its worst
We saw this happening in the recent past, in the United States with its AIG scandal, the Detroit car companies requesting government assistance and the bail out of banks in the UK, with the Government virtually nationalising banks, in France with the Government rescuing Renault and the PSA Peugeot Citroen, in China with the China Investment Corporation, a sovereign wealth fund, buying shares of Chinese banks on the open market, in Sri Lanka with Pramuka Bank depositors being compensated for taking hazardous risks and the Government appointing managers to a host of financial institutions, all with taxpayers’ money, the trend is clear.
The ‘seen hand’ of the State in the takeover of underperforming enterprises and underutilised assets legislation is an example of corporatism at its worst. But, exceptionally, in the US the Detroit car manufacturers were later sold off at a profit, which was made much of by Clint Eastwood in a superb commercial for Chrysler at half time at the Super Bowl.
China case study
China is a useful case study. For two decades after Deng Xiaoping declared that getting rich was acceptable, China pushed through a series of costly reforms to extract production from the hands of the State, big Government corporations were broken up, reconfigured or closed.
Large industries were very cautiously privatised. Entrepreneurs known as Red Capitalists reigned supreme. They have even been made members of the Communist Party! Shares were sold on foreign stock markets, making them at least nominally subject to the rules of good governance.
Although China still remains a place where companies face heavy direct and indirect State control, there has been dramatic change as China has prospered and broader economic freedoms contributed to unprecedented economic growth and millions emerging out of poverty to the middle class.
While the reforms were being implemented, there was not much criticism from the Communist party and the bureaucracy. But once the economic crisis hit the Western economies, the critics came out into the open; there was an intense criticism of capitalism as industry after industry, which had been privatised, went back to the Government for help.
While banks collapse worldwide, China ’s banks’ share prices have held; analysts suspect that the country’s many sovereign funds have been buying bank shares in the open market to bolster them.
The Chinese Communist Party has realised that its citizens are the engines of sustainable economic growth. Premier Wen Jiabao has said that China ’s State capitalist economy is “unstable, unbalanced, uncoordinated and unsustainable”.
The current Chinese five-year plan makes it clear that the State must transfer wealth from China ’s largest State-owned companies to consumers to ensure that the country is no longer quite so vulnerable to economic shocks from the world economy.
Chinese leaders know that bureaucrats and cronies cannot innovate. The future lies in sectors such as information technology, alternative energy, bio engineering technology and nano technology – sectors which are, by definition, inherently driven by pioneering individual creative innovators, not bureaucratic cronies. Herein lies the lasting strength of democratic capitalism.
Human beings naturally want to improve life for themselves and their families. Free markets have proven time and again that they can empower virtually anyone with an innovative idea. Adam Smith’s ‘unseen hand,’ the self interest of every individual to improve himself, raises the prosperity of all. Except when the ‘seen hand’ of the state stifles and crowds out entrepreneurs and occupies the economic space.
‘Work in progress’
But this conflict in China is very much a ‘work in progress’. China ’s airlines are a case in point; a State monopoly carrier was broken up into three – Air China , China Eastern and China Southern to provide competitive services. There was limited success; coverage across China was dramatically expanded. But the worldwide downturn in aviation has led to all three airlines needing massive capital injections from the State.
The power sector in China presents a similar story; a single monopoly was unbundled in 2002, to foster competition. But when rising coal and oil prices caused pricing problems, the Government imposed a cap on prices; massive losses resulted in the government infusing huge cash injection into the companies, effectively increasing its domination of the companies.
China ’s car industry is also in crisis, even with huge foreign participation, carmakers are getting massive subsidies and grants are being made to encourage buyers of cars.
China was a statist economy which was partially reformed, which is returning to some aspects of Statism due to the economic crisis. However there are exceptions; ZTE China’s leading maker of microchips is one. Zhongxing Telecommunication Equipment Company (ZTE) is projected to be on par with Nokia and Samsung within a few years. It sells in 140 countries; revenues jumped 36% this year.
In 1985 the founder, an icon Red Capitalist, worked as an engineer in a factory owned by China ’s Aerospace Ministry, in the boom following Deng Xiaoping’s opening up of China ’s economy, the party allowed him to open a small State-owned factory. Now they operate like a private company.
At the Boao Forum for Asia, held on China ’s Hainan Island in April 2010, China ’s alternative to the World Economic Forum, the blossoming of China ’s State-owned enterprises was discussed.
The CEO of Tata Consultancy Services observed: “ China is faster in execution, because it is State-driven; they just go after it immediately.” But Professor Xiang Bing, Dean of the Cheung Kong Graduate School of Business in Beijing , said: “SOEs have a disadvantage, the curious mix of officialdom and business gives plenty of room for inefficiency, you have the misallocation of resources, time and money. Maintaining a good relationship with the Government may be more important for the executives than the success of the SOE.”
Sri Lankans know this well. But this Corporatist China model, also called the ‘Beijing Consensus’ of one party rule, an eclectic approach to free markets, a big role for State enterprises, observance of human rights and the rule of law not being a priority, as opposed to the Washington Consensus of an open liberal, good governance, enforceable property rights, private sector-oriented policy, is attractive to more and more emerging economies, not least because China supports them with aid, that comes without Western strings like lectures on good governance and human rights!
Ian Bremmer, President of the Eurasia Group, in his book ‘The End of the Free Market: Who Wins the War Between States and Corporations?’ says: “As China gains dominance on the world stage, more and more multinational corporations will have to rethink their assumptions about competing under its State capitalism model – one in which the Government is the principle economic driver.”
He also cautions that “the China State Capitalism model is robust… because … 1.3 billion people at a per capita income of $ 3,000 still have extraordinary productivity gains that they can wring out of the system.”
Bremmer also points out that “…you’re in a world system where the most important growing economy is not a mature, developed state with a commitment to the rule of law and strong institutions… It is an emerging market where political insecurities are the ultimate driver. Hence, state capitalism.”
Sri Lanka , a near command economy in which the private sector is deemed to be the engine of growth, will see more of recourse to State capitalist measures as the economic crisis hits. Given the recent actions of State-controlled captive funds and the placing of political nominees on leading ‘private sector’ boards, the indications are not positive.
Dr. Saman Kelegama of the Institute of Policy Studies, speaking at the launch of the ESCAP Survey for 2010, pointed out that the losses incurred by the CEB, CPC, SLTB, Postal Dept., Railways Dept., SriLankan Airlines and Mihin Air totalled Rs. 45 billion. This is almost 1% of GDP. The country simply cannot afford to continue this litany of inefficient, incompetent and loss-making State corporatism.
Capitalism, operating in an environment of an efficiently and transparently regulated market economy, in a liberal democratic model of governance, has one unique advantage over Corporatism, Statism or any other system. It is that Charles Darwin’s theory of the ‘Survival of the Fittest’ is allowed to operate without limitation.
Losers are allowed to lose out and disappear. Winners have the space to win well, fairly and squarely. There is no propping up of losers with taxpayers’ money, by corrupt politicians, because cronies are running or own the firms. Nor are winners suppressed, oppressed or expropriated, because political opponents own them or because of hallucinated social/political costs. What Schumpeter called ‘creative destruction’ takes place.
Certainly the protection of investors and workers rights according to ILO’s standards and international best practice, an effective safety net for the poor and the marginalised, the protection of patents, trademarks and copy right and the Rule of Law and not the rule of men is essential.
Seeds of destruction
There are two factors within corporatism that are the seeds of its own destruction. The first is the unavoidable tendency of the crony corporate elite to seek rent, i.e. corruption. The state cannot be its own umpire. It cannot self-regulate. Such states implode from within.
The second is that corporatism is taking root in countries which have serious flaws in governance. China ’s crony connections (guanxi) and corruption. Russia ’s nepotism and corruption and the overwhelming influence of the ex KGB ‘bureau-garchs’.
Transparency International rates China 75th in the 2011 Transparency Index, Russia at 143rd! The corrupt elitist victors are the takers. The People’s Bank of China estimates that from the mid 1990s to 2008, roughly 16,000 to 18,000 Chinese bureaucrats in State-owned corporates hijacked around $ 123 billion of people’s money!
Kishore Mahbubani, Dean of the Lee Kuan Yew School of Public Policy, at the National University of Singapore, recently wrote: “For all its flaws and defects, Capitalism remains the best system to improve human welfare.”
Mahbubani points out that what he terms as Western Capitalism, has today been discredited for three reasons. First, lack of good governance i.e. lack of strict regulation and supervision. Secondly, the benefits of Western capitalism were drawn by only a few – the 1%, of bankers and financial service providers that the Occupy Wall Street-ers were protesting against.
Thirdly, the Western capitalists failed to educate their populace on the fact ‘creative destruction’ was an essential ingredient of capitalism and that out sourcing and off shoring of labour intensive work to economies which provided cheap manpower was inevitable. The workers of the Western Capitalist countries would have to upgrade their skills to remain employable.
The bottom line is that you cannot introduce political criteria into commercial decisions, nor commercial criteria into political decisions. The twain cannot meet. As Rudyard Kipling famously said: “East is East, West is West and never the twain shall meet.”
The conjunction has to be at policy and regulatory level. As Daily FT Columnist W.A. Wijewardena quotes John Exter, the founder Governor of Sri Lanka’s Central Bank, “Eventually, the markets will win.”
When will the politicians learn?