It is hard not to see the astonishing success of the Democratic Party in Tuesday’s election, at a time when the world is reeling from a massive and sudden economic downturn, as a watershed moment in an economic revolution that started some thirty years ago. Though voters have many motives and it would be wrong to ascribe all of the democratic success to the failing economy, clearly there is a strong sense of dissatisfaction with the failures of unregulated credit markets and unfettered markets in general. After years of success in which people saw the type of efficiency and growth free markets can bring, it is now becoming clearer that there are limits to the extent to which markets can answer all of society’s problems. It is quite possible, then, that we are about to enter a new era – an era in which the government takes a more active and interventionist role in the design and functioning of markets.
The world underwent a transformation of similar magnitude in the eighties after the economic malaise of the late seventies left citizens of the United States and Western Europe feeling that the weight of heavy government intervention in the economy was largely to blame. The seventies were characterized by heavy regulation in the United States and Europe and government ownership or control of major industries in many European and developing countries. The eighties saw a remarkable shift toward free markets and private ownership, not just in practice, but in public sentiment. And the market delivered. By the nineties, the freeing of markets, restraining of regulation and emphasizing private ownership became a pathway to heretofore unheard of level of growth and prosperity in the world. Many developing nations, most notably China and India, pursued these market based polices and saw astonishing growth. After decades of very little progress in the developing world, economists finally saw real results from market-based reforms. The so-called neo-liberal (in the economic sense) revolution had taken hold and its spread across the globe was akin to wildfire. The debate appeared to be over: free-market based capitalism was the superior form of economic organization. And in this new era of intertwined neo-liberal economies, we may have not always liked the consequences, but we became accustomed to live in a world of globalization.
To economists, that providing more freedom to markets, emphasizing private ownership and opening up to world trade should create efficiencies and growth was not surprising. One of the first lessons a student of economics learns is the efficiency of free and complete markets. But economists should not be surprised at the failures of markets. Failure to self-regulate, to provide equitable distribution of the proceeds of growth, and to provide public goods and deal with the challenges of global climate change are limitations of markets are well known in economics (though underemphasized in most curricula).
At this moment of renewed distrust in markets, we should not be too quick to dismiss the enormous progress humanity has made in the last decades of neo-liberal reforms. Millions of people have escaped abject poverty thanks to the growth experience of the developing world under such policies. The United States, for almost two decades, experienced unprecedented growth and prosperity – low unemployment, and low inflation, once though to be in fundamental conflict, have become the norm. But we should also not be naïve and believe that the current economic crisis is an aberration. The inability of markets to achieve efficient outcomes in the face of uncertainty, incomplete information and externalities is not a surprise, nor is the inability of markets to ensure equity.
What is called for at this moment and time is a careful re-evaluation of our markets and our polices, not based on either faith in, or fundamental distrust of, markets - but on economics. Despite the public perception, modern economics has made enormous strides in understanding the functioning of markets, and this understanding can guide us through a period of careful adjustments to the way that we create and regulate markets. To withdraw inside a protectionist and regulatory shell is not a viable way forward. Neo-liberalism is not dead, but is in need of a serious tune-up. Governments need to harness the power of markets to address the challenges of growing inequality, climate change and social upheaval. Economic growth is not the problem, but the only serious solution to the global challenges of poverty, inequality and climate change. We do not need to return to the seventies, but to move forward to a new era of market-led, but government directed economic growth.