Does planning explain prosperity?
Richard Fisher recently indicated that he was a fan of Ha-Joon Chang. He specifically cited this interview of Chang in the Financial Times:
Park Chung-hee had recently seized power in a military coup. Korea established a steel industry, a seemingly eccentric choice for a country without iron ore (it had to import it from Australia and Canada) or coking coal. Yet steel became a foundation of Korea’s industrial success. Chang believes that Park, though a dictator, made some smart choices and that the only countries to have prospered are those that ignored the siren call of free markets and comparative advantage – the idea that you stick to growing bananas if you’re a tropical island – and planned their escape from poverty.
I always found these statements to be rather annoying. One could also say that the only countries to have prospered were those that adopted free market policies. Indeed that statement would probably be more accurate, as economic prosperity is highly correlated with ranking on any free market index you choose. Of course all countries plan to some extent, so Chang’s statement is true, but uninteresting.
His studies consolidated his thinking. Countries, he argued, needed to develop their capabilities, just as a child’s potential is stretched in school. In 1955, for example, when General Motors alone was producing 3.5m cars, Japan had 11 or 12 manufacturers collectively producing 70,000. “From the short-term point of view, it was madness for Japan to try to develop an auto industry,” he says. “Except that the Japanese realised, ‘We will get nowhere if we stick to what we are already good at, like silk.'”Š”
So is the success of the Japanese auto industry due to planning? Well planning did occur, and the industry did become successful. For some people that constitutes a sort of proof. Like those who argue that Germany and Japan became rich because they lost WWII. How can you argue with that? On the other hand correlation doesn’t prove causation. Here’s how MITI planned the success of Honda, which was a motorcycle maker back in the 1950s:
Honda branched out into other industries in the late 1950s. In 1958 he brought out a successful electric generator, but, more important, considered entry into the automobile industry.
This was a time when the powerful Ministry of Trade and Industry (MITI) was trying to unite several small companies into a third large one to compete with Toyota and Nissan. MITI and the Department of Transportation tried to dissuade Honda from adding to the number of companies, but he persisted. The government and he were at odds ever thereafter. “Probably I would have been even more successful had we not had MITI, ” he said. “MITI was incapable of making automobiles, but I was.”
So was Honda a huge success because of wise planning at MITI? Or despite that planning? When I look around the world I see zero evidence that planning is necessary for development. Hong Kong became even richer than South Korea with a fairly low level of planning. Again, every country plans to some extent, so I’m not saying that Chang is wrong. Just that his observation is rather vacuous.
PS. Last time I looked Japan had 9 carmakers. Perhaps a few have dropped out since, but their huge success in the 1970s and 1980s occurred without the sort of consolidation that MITI preferred. Markets made Japan rich, and planning kept them at only 75% of US GDP/person, not the 100% that Hong Kong has achieved.
PPS. I very much like this comment by Chang:
“Unfortunately, a lot of economists wanted to make their subject a science. So the more what you do resembles physics or chemistry the more credible you become. The economics profession is like the Catholic clergy. In the old days, they refused to translate the Bible, so unless you knew Latin you couldn’t read it. Today, unless you are good at maths and statistics, you cannot penetrate the economic literature.”
And this one too:
“I was not trying to dismiss the importance of the internet revolution but I think its importance has been exaggerated partly because people who write about these things are usually middle-aged men who have never used a washing machine,” he replies. “It’s human nature to think that the changes you are living through are the most momentous, but you need to put these things into perspective. I brought up the washing machine to highlight the fact that even the humblest thing can have huge consequences. The washing machine, piped gas, running water and all these mundane household technologies enabled women to enter the labour market, which then meant that they had fewer children, had them later, invested more in each of them, especially female children. That changed their bargaining positions within the household and in wider society, giving women votes and endless changes. It has transformed the way we live.”
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1. January 2014 at 12:28
Finally!
I was waiting for someone to respond to Ha Joon Chang. Thank you Scott! With the progressive/statist/mercantilist intellectual revivial after 2008 its more important than ever that libertarians and “neoliberals” (have you noticed that word constantly used as a perjorative in heterodox economic blogs?) respond vigorously
1. January 2014 at 12:36
This is a smart and relevant piece from Ricardo Hausmann: http://www.project-syndicate.org/commentary/ricardo-hausmann-warns-that-advising-cities–states–and-countries-to-focus-on-their-economies–comparative-advantage-is-both-wrong-and-dangerous
1. January 2014 at 12:45
Great moments in juxtaposition;
‘His 23 Things, which claims that free markets don’t exist….’
with;
‘We have come to the Rice Boat, a Keralan restaurant specialising in south Indian cuisine. A 10-minute walk from Chang’s office [in Cambridge, UK]…. The food, despite the unpromising surroundings, turns out to be excellent.
‘Chang recommends chicken, lamb and tuna cutlets as a starter followed by Kerala red fish curry and the restaurant’s “famous” Kerala beef fry. “You can have beef here because they are Christians.” We also choose appam, a spongy pancake made with fermented rice and coconut milk, some chapattis, and a portion of Kerala boiled rice, which Chang explains is fluffier than the Basmati variety. I wonder if he’d like to join me for a beer. “I don’t drink at lunchtime because I’m very weak at alcohol like most Asians,” he says apologetically, ordering a sweet lassi instead. I decide not to let down the journalistic profession and select a bottle of Konrad 11, a sharp and tangy Czech lager.’
There might not be any such thing as a free lunch, but the economics is there for the taking.
1. January 2014 at 13:38
Ashok, Yes, and notice his example of a non-specialized economy is free trading The Netherlands, which refutes Chang’s whole argument.
1. January 2014 at 13:41
Scott,
Good point on the auto industry. MITI was well known for trying to discourage investment in the auto industry.
IMHO, tax rates are very important to growth…. especially tax rates on capital where asymmetric pre-tax returns result in expected after tax returns that are proportionately very low or even negative.
During Japan’s high growth period, nominal tax rates were very high but enforcement and compliance were very loose resulting in very low effective tax rates. This was an important enabling feature for high growth. Now, Japan’s confiscatory tax policy has driven most entrepreneurs out of the country or into cash businesses like restaurants and beauty parlors where tax avoidance is much easier.
1. January 2014 at 14:47
Joe Studwell had a better argument on it in his book than what I read from Chang. Basically, industrial policy can work as long as the supported companies still have to succeed in some part of the marketplace, and as long as you periodically cut off the tap to companies that aren’t making the cut. For example, the Chaebol in South Korea get a lot of attention, but the ones existing today largely aren’t the ones that originally started out in the 1960s and 1970s – most of them eventually died or got folded into other ones because they couldn’t do it in the export markets.
Just subsidizing them doesn’t help. You’ll get some development, like with Mexico and parts of Southeast Asia (Studwell focuses on places like Thailand and Malaysia), but you’ll also get a ton of incompetent industries with little incentive to innovate or grow – they just end up making the guys smart enough to get in on that rich.
You do tend to get stuff as long as most institutions are reasonably okay and you have a concentration of skill, firms, and technology in a particular area. That’s why northern California is a tech center despite some otherwise expensive and difficult policies. Planning can help with that if you’re a poor, mostly agrarian country.
1. January 2014 at 14:59
There was an interesting version of that in some of the Warsaw Pact countries under communism as well. A number of them would produce goods to sell for hard foreign currency, and you’d see a major disparity in quality between the goods planned to be sold abroad and the goods produced in the socialist market at home.
1. January 2014 at 18:19
Anyone who wishes to claim planning is inherently good need only look at the Tokyo financial market–“managed” to death by the Ministry of Finance. Or the Japanese land market. Or the Indian Permit Raj. Or …
Really, this guy fails the Krugman test–as in Krugman’s essay on comparative advantage when he points out economists think in models. What’s Chang’s model?
1. January 2014 at 18:37
“So was Honda a huge success because of wise planning at MITI? Or despite that planning?”
That’s a crucially important question.
The answer is that economic history (i.e. “empirical evidence”) cannot conclusively refute or reject either alternative. This is because to do so would imply that there are constant causes in human knowledge and action.
The subject matter of economics (human activity) changes over time in unpredictable ways because we learn in unpredictable ways, and knowledge of course affects what we do. Even if we merely thought about attempting to practically discover constant causal relations in human knowledge and actions, to answer the question above, we would invariably be implying that our knowledge is not constant, for we would have to be learning something that we did not know before. Not only that, but the changing, non-constant knowledge would also be unpredictable. To be able to predict our learning would imply that there is no point to doing any research to learn something new in the first place.
Clearly, any “empirical evidence” researcher, no matter how brilliant, is incapable of predicting what he will learn, before he learns it. In other words, the very fact that the researcher is engaging in predictive research research at all, is sufficient proof that what he is trying to do cannot in fact be done! I am just a random internet commenter, and yet I am able to know, and communicate to all of you, that the entire econometrics profession is a complete waste of time and money. This is why no econometrician has been able to find an “economics constant” akin to Planck’s constant, or the fine constant, or Hubble’s constant. They are trying to predict their own future learning, before they learn it!
1. January 2014 at 18:39
Edward:
“With the progressive/statist/mercantilist intellectual revivial after 2008 its more important than ever that libertarians and “neoliberals” (have you noticed that word constantly used as a perjorative in heterodox economic blogs?) respond vigorously”
This is a puzzling comment to read from you.
1. January 2014 at 18:40
One of the really interesting things we’ve learned recently is that when people have to choose between indoor plumbing and cellphones, they often choose cellphones. That says some interesting things about living standards and inflation.
1. January 2014 at 18:41
NGDPLT is a central plan.
Central banking is central planning in money.
There is an inconsistency on this blog. Central plans do not work, and yet central plans (NGDPLT) do work.
1. January 2014 at 19:29
Planning is bound to have a few successes, it greatly increases the variances of the outcome when a central planner intervenes in the market, usually badly but ever so often, just by chance, they will get a success. But really it is crazy to say with recent history that there has been too little central government planning in the world, just to take one example, is Chang not aware of the cultural revolution?
1. January 2014 at 22:41
Let me get this straight: Richard Fisher prefers a heavy dose of central panning for an economy—including picking winers—backed up by a central bank that keeps inflation at zero percent?
And did any of the Far East economies have zero inflation in their robust growth days?
Has Japan had zero inflation since 1992 (during Japan’s Great Stagnation)?
Has China had inflation in mid-single-digits for the last 20 years?
Danger, Will Robinson: Richard Fisher gets his vote back on the FOMC this year.
1. January 2014 at 23:33
Richard Fisher is an absolute disgrace
2. January 2014 at 06:23
Brett, Thanks for the info. It’s an open question as to whether planning does more good than harm. I remain skeptical.
Lorenzo, Good points.
Talldave, Good point.
ChrisA, Good point.
Ben, That surprised me too.
2. January 2014 at 07:08
Women had the vote in western U.S states in the 19th century. They certainly didn’t have washing machines.
2. January 2014 at 13:14
Edward,
” “neoliberals” (have you noticed that word constantly used as a perjorative in heterodox economic blogs?) ”
I have been suffering the same thing in Latin America. I respond vigorously that what their criticizing is neomercantilism. Must of the privatizations where done in monopoly.
Benjamin,
I’ve been reading yor book with Marcus. It can be a great companion for a freshman macro class.
3. January 2014 at 16:43
I think the problem is trying to say planning is good for an economy rather than the more descriptive “centralization and planning are a necessary part of industrialization”. Just look around. Can you find one industrial power that didn’t centralize? As the US industrialized in the 19th century it centralized. First is was the planning of state governments into things like the Erie Canal. Later is was national projects like the transcontinental railroad. Once Germany centralized in the 1800s under Bismark industrialization was rapid. Even the Soviet Union rapidly industrialized under strong central planning.
Of course America, like many economies, is a post-industrial economy. No surprise that the biggest pushes against the strong central state have come after 1980 when manufacturing employment began its death spiral. Countries can have great economic success without planning and centralization. But they won’t be industrial manufacturers.
At its heart economics isn’t a science; it’s storytelling. Economists prefer to weave a narrative that strike an emotional resonance.
3. January 2014 at 17:18
Benny, The US, Hong Kong and Switzerland all successfully industrialized without centralizing. These are three of the least centralized economies on the planet.
The transcontinental railroad and Eire canal played essentially no role in the US industrialization.
3. January 2014 at 21:43
I’m sorry Scott but that is crazy talk. America is less centralized than Somalia, Papua New Guinea, or Mali?
America industrialized with a plan. Don’t act like you are ignorant of this. It was a major plank of one of the two main political parties of the industrial era (hint).
4. January 2014 at 08:17
Benny, The Constitution is a plan. But when economists say “planning” they mean something like the Soviet economy, not capitalism. To say America industrialized “with a plan” is to say nothing. We industrialized “with” lots of things, that doesn’t mean those things played any role in causing industrialization.
If all Chang is saying is that the US had a constitution, then he is not saying very much. I take him as saying that we would not have industrialized if we had had a more laissez-faire policy regime in the 19th century, which seems crazy to me. We would have grown even faster.
5. January 2014 at 00:38
Sigh, what is seen is a steel industry, what is unseen is an industry that would probably have created more wealth and perhaps happiness. Yes if South Korea had less protection and guidance it would make fewer cars, but that is a good thing, that is the whole point, fewer cars more of other things.
By the way, perhaps of interest to you right now China is going though what I would actually consider something akin to “austerity” The new regime has made elaborate CCP dinners illegal(punishable by jail time), and public funding for things like gifts, parties and events have mostly disappeared. I work at a semi public school and the difference is night and day. This makes me more confident in my optimism about China’s future.
5. January 2014 at 07:03
Rob, Thanks for that info on China.
5. January 2014 at 15:07
Scott you have it backwards. If the US had a true laissez-faire system it never would have industrialized. Instead the US followed an industrial policy of removing indigenous people from the land and replacing them with more productive Europeans. This allowed the US to begin to export agricultural products overseas. The railroads and waterways they took to port were referred to as “internal improvements” by the Whig party (that is the answer you failed to find). Hardly small government, and without the government’s Heavy hand none of the industrialization of the 19th century would have happened. I’m not surprised that this is new to you. You only believe what makes you feel good. If economists like you fail to regard that as a “plan” that’s your problem.
5. January 2014 at 18:57
Benny, Saying something was called “internal improvements” doesn’t constitute an argument. Showing me that the US was not 100% laissez faire does not constitute an argument. (No country has ever been 100% laissez faire, and it would not be wise to be 100% laissez faire.) If you have a argument you are free to make it. But merely asserting that government planning is needed for industrialization is not an argument, it’s an act of blind faith.
Chang’s article was talking about planning in the sense of MITI, which the US did not do in the 1800s.