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Do free markets still beat central planning?

By Andrew Sheng and Xiao Geng
Xiao Geng

In 1944, Friedrich A. Hayek suggested that the spontaneous order of markets was inherently superior to the supposedly dynamism-draining totalitarian order of communist or fascist regimes. The ensuing decades – when free-market economies thrived, and the Soviet Union’s centrally planned economy imploded – seemed to vindicate him. Then along came China.

The metrics of China’s phenomenal economic rise are well known: three decades of double-digit GDP growth; some 700 million people lifted out of poverty; an infrastructure boom; the emergence of innovative tech giants; and a comprehensive blueprint for continued (sustainable) growth and development.

China’s success has undermined the belief that free markets are the best development strategy for all, so much so that even the International Monetary Fund-long a leading proponent of free-market ideology-has reconsidered its own orthodoxy. But Chinese-style central planning still meets with disdain in the West, where observers disparage it for its alleged opacity and repressive nature.

But is China’s system really diametrically opposed to that of, say, the United States? In a word: no.

Economic recovery through subsidies

Despite its vocal support for free markets, the US government’s spending has risen steadily since 1970. In 2019, it stood at 35.7 percent of GDP, compared to 34.8 percent of GDP in China.

The COVID-19 crisis has accelerated this trend. Indeed, America owes its economic recovery largely to massive government intervention. Moreover, President Joe Biden’s administration is now pushing forward legislation – the American Jobs Plan and the American Families Plan – that would significantly increase the government’s economic role.

With both China and the US moving toward greater centralization of power over the economy, it is clear that common dichotomies like “state versus market” and “capitalism versus socialism” are overly simplistic. The two countries face many of the same challenges, beginning with ensuring that plutocratic elites are not making decisions at the expense of the masses.

Both the state and the market are social constructs. If markets order themselves spontaneously, based on self-interest, as Hayek observed, it may be that the growing bureaucracies in both socialist and capitalist countries order themselves according to vested interests. If this is true, it becomes vital to constrain those interests, in order to ensure that the state remains focused on delivering social goods.

As long as the US clings to its identity as a free-market system, it will struggle to address this challenge. Instead, what President Dwight Eisenhower warned against in his farewell address – the “acquisition of unwarranted influence” by the “military-industrial complex” – could continue unabated (though today it might be renamed the “military-industrial-tech-financial-media complex”).

Declining confidence in US institutions

This might go some way toward explaining why trust in US institutions is so low today. Of the 26 countries ranked in the 2020 Edelman Trust Barometer, the US ranked 18th for trust in NGOs, business, government, and media among the general population. In 2021, it ranked 21st.

By contrast, Chinese NGOs, business, government, and media together enjoyed the highest level of trust in 2020. While that level fell by ten percentage points (from 82 percent to 72 percent) in 2021, China remains in second place.

This probably reflects the fact that China has proven its ability to translate policy goals into concrete projects and programs, with visible benefits for the entire population, not just the elites. According to a recent study based on survey data from 2003 to 2016, “China’s poorer residents feel that government is increasingly effective at delivering basic health care, welfare, and other public services.”

To the German political scientist Sebastian Heilmann, China’s “unorthodox” policymaking – together with the Communist Party’s resilience – makes the country a “red swan”: a “deviant and unpredicted” challenge to the Western model of development. We would argue that China is not an aberration at all, and its success should not be shocking.

Bureaucracy hinders Beijing’s reforms

China has made the most of central planning to pursue an adaptive and experimental policymaking process, by which institutional structures are constantly updated to reflect new ideas and best practices, adapted to local conditions. As Jiang Xiaojuan recently pointed out, the “will at the top” is vital to progress, as it prevents deadlock on complex issues like climate change, where vested interests can easily block progress.

But this does not mean that policymaking in China is not collaborative. On the contrary, before making a major policy decision, China’s leaders consult with think tanks and academics to gain theoretical insight and visit local communities to learn about the situation on the ground. They then launch pilot programs to reveal and resolve practical implementation issues, thereby devising reforms and programs that can be adapted to more contexts.

To be sure, China’s approach is not immune to rent-seeking or the entrenchment of special privileges. The targeted application of policies and programs can engender fragmentation, waste, and excessive competition – all of which can undermine China’s quest to build an open, complex, and vibrant market economy.

Furthermore, as Jieun Kim and Kevin J. O’Brien have shown, the bureaucracy can actively resist progress, with local officials fearing, for example, that greater transparency could undermine their operational flexibility and prospects for promotion. But the same thing can happen if particular market actors gain too much influence. Overcoming such challenges requires agility, creativity, and political will.

Develop combinations

So, are free markets still superior to central planning? Well, it’s probably the wrong question.

Institutional arrangements are complex systems, shaped by history, geography, and culture. The objective should not be to identify a one-size-fits-all approach, but rather to devise the combination of characteristics that would deliver the greatest good for the greatest number of people, with the right checks and balances, in a particular country.

Here, China’s system of policy experimentation, implementation, and institutionalization of reform “algorithms” to support constant adaptation in a constantly changing environment has been a game changer for the country’s development. The proof is in the results.

Andrew Sheng, a distinguished fellow of the Asia Global Institute at the University of Hong Kong and a member of the UNEP Advisory Council on Sustainable Finance. Xiao Geng, Chairman of the Hong Kong Institution for International Finance, is a professor and Director of the Institute of Policy and Practice at the Shenzhen Finance Institute at The Chinese University of Hong Kong, Shenzhen.

Copyright: Project Syndicate, 2021.


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