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22 October 2008

Economic success is not just about financial markets

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(this is the first draft of an article that will be published in various International Newspapers: Any comments?)

As the world weathers the most significant global financial crisis since the Great Depression, it is understandable, and indeed essential, that efforts to restore confidence in the market have monopolized the attention of the world’s policymakers. Yet, in these trying times, it would be dangerous to lose sight of the large variety of factors beyond financial markets that over the longer term matter greatly for a country’s economic success. Indeed, the countries with a winning combination of strengths will be best prepared to ride out and emerge from the present economic storm.

Over the past three decades, the World Economic Forum has been measuring the set of factors, policies and institutions that determine the level of productivity of a country, a concept that we call competitiveness. These are the fundamental characteristics of national economies that will continue to matter greatly once the present crisis subsides and beyond. They range from basic factors to the most complex ones, and include the quality of the institutional environment, infrastructure, macroeconomic stability, health and primary education, higher education and training, goods market efficiency, labor market efficiency, financial market sophistication, technological adoption, market size, business sophistication and innovation.

Given that so many things matter for economic success, we should not draw the wrong conclusions from the present crisis. It has become fashionable to declare that it is “made in America”, and thus demonstrating a failure of the “laissez-faire” brand of Anglo-Saxon capitalism. Yet looking at the larger picture, despite the financial crisis the United States remains competitive because it is endowed with many other structural features that make its economy extremely productive, and which place it on a strong footing to ride out economic shocks. Specifically, the efficiency of the country’s markets, the sophistication of its business community, the strong capacity for technological innovation that exists within a first-rate system of universities and research centers, all contribute to making the United States a highly competitive economy. With regard to employment, its flexible labor markets mean that although companies in the US may be among the first to lay off workers during a downturn, they are also the first to start rehiring once the economy begins to recover.
All these positive features of the US economy lead to a very high rate of return to capital investment. According to University of Chicago economist Casey Mulligan, while the marginal product of capital after WWII averaged 7 to 8 percent (that is, each dollar of capital invested in the economy earned between 7 and 8 cents during the post war period), during 2007 and first half of 2008, the same marginal product was 10 percent, far above the historical average. Yes, the financial crisis is likely to affect the rest of the economy, but the overall competitiveness of the United States suggests that, once the financial crisis is over, the American economy is likely to retake a high growth path.
Considering the performance other very competitive countries, it is also clear that competitiveness is not a question of the specific brand of capitalism a country adheres to. The top-ranked countries in our most recent Global Competitiveness Report also include Switzerland, Denmark, Sweden and Singapore. Although these countries all take different approaches to social systems and regulation, each has managed to put into place a winning combination of factors that have made them highly productive and able to provide high and rising living standards for their citizens.

The lesson in all of this is that we should not lose sight of the forest through the trees. It is clear that better regulation and oversight of the financial sector are the order of the day. However, it would be disastrous if a general backlash to capitalism led policymaker to forget about other important issues and to back-peddle on structural reforms aimed at injecting greater flexibility and competition into labor, goods and services markets. This is salient in Europe, where countries such as Germany and France have been making tentative moves to free up their markets, reforms that will be so important for their longer-term economic performance.

It would be particularly disastrous in developing countries. After many years of negative growth, most sub-Saharan African economies started growing somewhere around 1995. The timid introduction of freer markets in post-socialist and post-war African economies led to positive growth rates over the past 12 years. This positive performance has reduced poverty rates at unprecedented rates. A worldwide backlash against free markets could put a sudden end to this positive process. And that would have catastrophic consequences on the poorest of the poor.

Jennifer Blanke, World Economic Forum
Xavier Sala-i-Martin, Columbia University

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Starting January 30, 2012, I decided to put the random (economic) thoughts that I was posting on Facebook, in a blog. In this site you will be able to read all Facebook notes going back to 2008, (without my Friend’s comments, unfortunately), but we will only maintain the new thoughts. If you want to check out the old comments, they are still posted on Facebook. If you want to comment on them, you have two options (1) Become a Facebook Subscriber. Since all the posts will also appear in Facebook, you will be able to comment there. (2) Comment on Twitter, as each post will also be announced in Twitter.