Welcome to ECON 372: Comparative Economic Systems By: Dr. Jacqueline Khorassani

1. Marietta College, Spring 2011 Welcome to ECON 372: Comparative Economic SystemsBy: Dr. Jacqueline Khorassani Week Seven Lecture Slides Source: Chapter 3 (pp 54-88) & Jackie

2. What is coming up? • Team 1 paper is on Japan, Sweden and France and is due on Monday, February 28 • Presentation: Monday, March 14 • Team 2 paper is on Germany, Russia & another country of their choice and is due on Monday, March 14 • Presentation: Monday, March 21 • Exam 2: Wednesday, March 16

3. On Monday, February 21 • Expect an ICA on last Wednesday’s class material + first 15 lecture slides from this week

4. Theoretical Foundations • Saint Simon (French--1800s) • Father of Constructivism • Social engineering • Advocate a social hierarchy in which each man shall be placed according to his capacity and rewarded according to his works. • Government has a spiritual or scientific role.

5. Theoretical Foundations • Marx and Engels (1800s) • Criticized Utopian socialist • Called for a more scientific and fundamental change in societies Engels Marx

6. Karl Marx • 1818-1883 • Born in Germany • Studies philosophy in Berlin • Radical journalist • Spent time in exile in London • Collaborated with Friedrich Engels to develop the MARXIAN WORLD VIEW

7. What influenced Marxian Theory? • German political philosophy • rational is real (as opposed to real is rational) • If the reality is not rational, it should be changed. • French political sociology • French revolution was a conflict between socioeconomic classes • Conflict between bourgeoisie (capitalists) and proletariat (workers) • Social classes and property ownership would disappear automatically and naturally  communism

8. What influenced the Marxian theory? 3. British political economy • David Ricardo’s labor theory of value • Classical economics • Value of a good = Price and it is determined by supply and demand forces • Ricardo (British, 1772-1823) • Value of a good is determined by the amount of socially necessary labor time it takes to produce it.

9. Marxian Theory • Land and capital are productive but do not contribute to the value of a good • Return to land is zero • Capital is the product of past labor • W= c + v + s • W = value of a good • c= value of fixed capital (measured by labor time to produce it) • v= value of variable capital (labor) • s= surplus value (created by workers but taken by capitalist (profit) exploitation)

10. Marxian Theory • Organic compositing of capital, q • q=c/(c+v) • q=dead capital/ (living + dead capital) • Firms compete to increase q (key assumption) • How can q go up? • Invest in creating more capital, c • Hold v (value of labor) constant or decrease it • Rate of exploitation, s’ • s’=s/v • How can it go up? • If v is constant and s (profit) goes up, exploitation goes up • Or, if s is constant and v goes down, exploitation goes up

11. Marxian Theory • Rate of profit, p’ • p’= s/(c+v) • p’=profit as a percentage of cost • If c rises and s and v are constant, p’ declines • Since competition among capitalist result in increased c then • Either capitalism is destroyed • Or need to drop v for p’ to stay the same or go up • Labor is worse off  class conflict rises and system collapses

12. But what Marx predicted did not happen in Germany • Capitalism did not collapse • Real wages were rising • So, Marxists came up with Revisionism • No drastic changes • Just gradual reform (via parliamentary democracy) to improve the welfare of workers.

13. Another reason why capitalism did not collapse? • Imperialism View • Advanced capitalist countries avoided class conflict by • engaging in conquest of less developed nations (especially African nations) • Got inexpensive raw material Lenin

14. Deficiencies in Marxian analysis (Can you thing of more?) • Applied mostly to the manufacturing rather than the service industry • Service industry is more labor intensive than manufacturing industry • Value of a good was determined based on supply side (cost) factors only. • Because profits depend on productivity of labor and productivity of labor depends on how happy he/she is, firms (owners of capital) would not have an incentive to maximize the exploitation of labor.

15. Marxism-Leninsim (1870-1924) Doctrine • The idea is that • workers in developed nations with colonies will not be exploited (due to ability of firms to make high profits because of their access to low cost of raw material in colonies) • But workers in less developed nations (China, Cuba..) with no colonies will be exploited by capital owners (firms). • Need dictatorship in those nations

16. More radical views • Anarchism & Syndicalism • State should be abolished (Anarchism = more violent ideas) • No government • Consistent with Utopian socialism and modern libertarianism • Any connections to communism? • Proudhon (French 1809-1865, the first individual to call himself an "anarchist“) • Says yes to this question

17. Any connections between Anarchism and Marxism? • Marx says no.

18. More on Syndicalism • Trade unions (workers) should run the society • Influenced Russian Bolshevik (Meaning "majority" in Russian) Party in Russia in 1917(revolution)) • Lenin (the main leader of the party) • Crushed the syndicalist uprising • In favor of state power

19. Other Views • Trotskyism • Leon Trotsky (Russian, 1879-1940) • A member of the Mensheviks Party (minority party split from the Bolsheviks in 1903). • True socialism must be achieved internationally (Can’t do it in isolation)

20. Other Views • Titoism • Marshall Titio (1892-1980) • Leader of Yugoslavia • Developed Worker-Management Market Socialism • Quasi – Syndicalist • One party • Little central planning • Market forces • Management appointed by workers

21. Other Views • Maoism • Mao (1893-1976) • Chinese Marxist military and political leader, who led the Chinese Communist Party • Emphasis on rural agricultural development • Moral incentives • But to succeed we need to destroyfirst • Cultural Revolution • we have to destroy an old system of production, an old ideology and old customs first.

22. The Theory of Economic Socialism(Page 66) • 1908 • EnricoBarone (1859-1924. Italian Economist) • Proposed a no -money (barter) economy • In which the state determines exchange rate (this for that) • Price = cost • No profit • Assumes that the cost of production, demand functions, capital stock are known by state • and state sets the price to force firms to minimize cost • and achieve competitive equilibrium result in all markets

23. The Theory of Economic Socialism • 1920 • Ludwig von Mises (1881-1973, Austrian ) • Barone’s plan is not practical • Need money • Insufficient incentives • Need profit • a major influence on the modern libertarian movement

24. The Theory of Economic Socialism • 1936 • Oskar Lange (Polish, 1904-1965). • Need a Central Planning Board (CPB) • Sets raw material, capital, and intermediate good prices (finds the efficient price by trial and error) • Sets the level of investment • Distributes social dividends (yield on capital and natural resources) • Consumer goods • Produced by state firms but sold in a free market • P = MC (efficient)

25. The Socialist Planning Controversy • 1940 • Friedrich Hayek (1899-1992, Austria) • the most influential members of the Austrian Schoolof Economics • Influenced by Mises • Lange did not address Mises’s criticism regarding motivation in Barone’s model • Cost minimization does not happen if there is no private ownership and profit motive • The state can not gather all information required for efficiency • In the system purposed by Barone technology will not advance

26. The Socialist Planning Controversy • János Kornai, (1928- Hungary) also criticized the Central Planning System • State owned firms may be • Subject to hard budget constraint in principle, and • Subject to soft budget constraint in practice • Can continue operating at loss • Can be inefficient • No incentive to minimize cost

27. The Socialist Planning Controversy • Proponents of central planning system respond to Kornai’s criticism • Pragmatic market socialism • Market economy + • Bureau of Public Ownership • To enforce hard budget constraint • To distribute profits to workers as a percentage of their wages

28. The Socialist Planning Controversy 2. Copy Japanese keiretsusystem • Group of tightly linked corporations + bank • Bank will impose hard budget constraint • Bank is state owned • Social dividends are distributed by a democratic political process 3. Copy socialist market economy of China • Town and village enterprises • Owned by local governments • Operate in free market • Have hard budget constraints

29. The Socialist Planning Controversy • Maurice Dobb (1900-1976) • Foremost Marxian economist of his generation in Britain. • Criticizes Lange’s CPB • Investment should not be set • It should be maximized • To increase economic growth • Economic growth is more important than efficiency • This policy was adopted by Stalin in 1928

30. The Socialist Planning Controversy • Recent thoughts on command economy • A democratic political system should plan the economy • Use modern information technology to maximize information and feedback to help plan better • Mixed economy (but closer to command). Planning is done by councils of consumers and worker

31. Central Planning in Soviet in 1920s • Five year plan broken into 5 one year plans • One year plan • Monthly production quotas for firms • By products of this system • Ratchet Effect • If a firm exceeded its quota, future quota will be higher • Had adverse effect on productivity • Illegal Activity • If near end of the month a firm is not meeting its quota, it will buy more inputs from illegal markets to increase production.

32. Input-Output Analysis (Page 70) • Developed by Leontief (1906-1999) • To plan production • To mathematically solve a general equilibrium model • Links the quantities of inputs to quantities of outputs • output of one firm is input of other firm

33. Hypothetical Input Output Table Transactions in a Three Sector Economy

34. Shortcomings of input-output model • Assumes constant return to scale • Always need 20 hours of labor to produce one chair • What if • technology improves and • labor productivity goes up? • Two inputs are not substitutable • 20 hours of labor + 2 screw drivers  1 chair • 25 hours of labor + 1 screw driver 0 chair

35. Participatory or Cooperative Economy • Labor–Management Economy • A third way of doing things • Characteristics • A board of workers hires managers • Income sharing • Your income may not only depend on your productivity but other workers’ productivity too. • Capital must be rented (not owned by workers) • Market or indicative planning (no command) • Note: indicative planning • planning based on forecasts done by various agencies • to minimize information asymmetry • to establish various targets (output, employment,…etc.) • Workers choose where to work

36. Participating or Cooperative Economy • Advantages • No class struggle • But…Can labor exploit management? • More equal distribution of income? • But…Can labor exploit management? • Increases worker motivation and productivity • Worker owners will make sure that there is a hard budget constraint

37. Participating or Cooperative Economy • Disadvantages • Tendency to hire fewer labor; why? • To maximize per capita income of workers • May supply less as price goes up P S Backward bending supply curve P3 P2 P1 Q2 Q Q1 Q3

38. Disadvantages ofParticipating or Cooperative Economy • Or, there may be an upward sloping supply curve that is very inelastic (quantity supplied is insensitive to changes in price) • Which supply is less elastic? • S • What does it mean? • Economic Growth? S P S’ P2 P1 Q2 Q Q’2 Q1

39. Disadvantages ofParticipating or Cooperative Economy 2. Tendencies to form monopolies • To maximize labor income 3. Tendencies to disregard externalities • To maximize labor income 4. Tendencies not to re-invest part of profits • To maximize current labor income • Result less growth

40. Recall • Marshall Titio (1892-1980) • Leader of Yugoslavia • Developed Worker-Management Market Socialism • How did it work? • There were monopolies • Low labor mobility • Unemployment rose • Output fell • Hyperinflation • Income inequality rose

41. But the capitalistic version of Cooperative Economy • Such as • Employee stock ownership plans • Profit sharing • Is still popular

42. Transition from socialism to capitalism • Began in 1989: The fall of Berlin Wall • http://www.youtube.com/watch?v=s5JdY8ENfVg&feature=PlayList&p=497C1FEC171B0B2A&playnext=1&playnext_from=PL&index=7

43. Steps (not necessarily in this order!!!) • Privatize state-owned enterprises • Replace command with market mechanism • Freeing prices • Dangers: • inflation, why? • Price ceiling and rationing is removed • Not enough output, high demand • Rise in unemployment, why? • Productivity matters; cost minimization matters • Rise in income inequality, why? • Productivity matters • Liberalize political system

44. Transition form socialism to capitalism • Difficulties • Undeveloped banking system • Undeveloped accounting system • Undeveloped stock market • No anti-trust laws monopolies • No corporate laws the rules of the game are not defined • Trade rapid increase in imports due to high domestic prices • Quick change (Shock therapy) has not been very successful • corruption, stagflation, underground activities • Gradual change has been more successful

46. When is the transition finished? • Different opinions • Mostly market economy; more than one political party; mostly private ownership of resources • When country faces the same problems as market economies • When country joins EU (if European) • When country joins WTO (China?)